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UBS AGAnnual Report 2012 Our performance in 2012 Contents Letter to shareholders 2 6 Key figures 8 UBS and its businesses 10 Our Board of Directors 12 Our Group Executive Board 14 The making of UBS 1. Operating environment and strategy 18 Current market climate and industry drivers 21 Regulatory developments 24 Our strategy 32 Measurement of performance 35 Wealth Management 38 Wealth Management Americas 41 44 Global Asset Management 48 Retail & Corporate 50 Corporate Center 52 Regulation and supervision 55 Risk factors Investment Bank 2. Financial and operating performance 66 Critical accounting policies 70 Significant accounting and financial reporting structure changes 72 UBS results 84 Balance sheet 88 Off-balance sheet 92 Cash flows 94 Wealth Management 100 Wealth Management Americas 106 112 Global Asset Management 119 Retail & Corporate 123 Corporate Center Investment Bank 3. Risk, treasury and capital management 132 Risk management and control 136 Credit risk 154 Market risk 161 Operational risk 164 Treasury management 165 Liquidity and funding management Interest rate and currency management 172 174 Capital management 184 Basel 2.5 Pillar 3 4. Corporate governance, responsibility and compensation 222 Corporate governance 249 Corporate responsibility 263 Our employees 270 Compensation 5. Financial information 317 Consolidated financial statements 331 Notes to the consolidated financial statements 457 UBS AG (Parent Bank) 487 Additional disclosure required under SEC regulations (including industry guide 3) Appendix 509 UBS shares 510 511 Cautionary statement Information sources Annual Report 2012 Letter to shareholders Dear shareholders, 2012 was an important milestone in our firm’s history. We cele- brated our 150th anniversary and also began executing our strat- egy to position the bank for sustainable success amidst the on- going changes in our industry. Our anniversary gave us the opportunity to reflect on our strong heritage together with clients and other stakeholders around the globe, deepening existing rela- tionships and establishing new ones. UBS has a long tradition of adapting successfully to change while maintaining the qualities of excellence and client focus which have always been our hallmarks. 2012 was such a year of adaptation, during which we took deci- sive action to prepare the bank for the future. At the end of 2011, we defined a clear strategic direction for our firm designed to address the challenges of an operating and regu- latory environment that is fundamentally changing. Our strategy is shaped by the firm’s guiding principles that place our clients’ interests first and demands we aim for excellence in everything we do in order to deliver sustainable performance. We believe our capital strength, enhanced risk controls and efforts to drive opera- tional efficiency are also prerequisites for success in the changed environment. Our strategy focuses on our pre-eminent wealth management businesses and leading universal bank in Switzerland, comple- mented by Global Asset Management and the Investment Bank. In 2012, we made excellent progress in further building our industry- leading capital position and exceeded our targets for risk-weight- ed asset reduction. We continued to implement Group-wide cost reduction and efficiency measures, and strengthened our opera- tional risk controls significantly. In October, from a position of strength, we announced the acceleration of the implementation of our strategy in two crucial areas: significantly reducing the risk, complexity and balance sheet usage associated with our Invest- ment Bank’s activities; and implementing firm-wide programs to enhance operational excellence and efficiency. We are pleased that our actions have been well received by our clients, shareholders and bondholders. As the world’s leading wealth management firm we consider capi- tal strength to be crucial for future success and, on a Basel III fully applied basis, we believe we are the best-capitalized global bank. Our fully applied Basel III common equity tier 1 ratio¹ increased by 310 basis points to end the year at 9.8%, already very close to our regulator’s minimum 2019 requirement of 10%. On a phase-in basis, our Basel III common equity tier 1 ratio¹ increased 460 basis points to 15.3%. Another notable achievement during the year was the successful issuance of USD 4 billion of Basel III-compliant, low-trigger, loss-absorbing capital bonds. Reducing risk-weighted assets and our balance sheet size is crucial to our plans to further strengthen our capital ratios. We reduced our Basel III fully applied risk-weighted assets significantly, finishing the year 32% lower than at the end of 2011. We were particularly effective in reducing risk-weighted assets in the Investment Bank and our Legacy Port- folio. The vast majority of the reductions achieved in our Invest- ment Bank and in our Legacy Portfolio resulted from sales and other reductions of exposures. Over the year we reduced our bal- ance sheet by CHF 158 billion, which we expect will lower our funding costs in future. We maintained our strong liquidity and funding positions, ending 2012 with a Basel III estimated pro-for- ma liquidity coverage ratio of 113% and an estimated pro-forma net stable funding ratio of 108%. Both ratios are comfortably above the regulatory requirements of 100%. Our increased finan- cial strength allowed us the flexibility to execute our strategy, pro- vided reassurance for our clients, shareholders and other stake- holders, and enabled us to address issues of the past, both those specific to UBS and others that apply to the industry as a whole. Maintaining cost discipline and ensuring we operate as effectively as possible is also critical to the long-term success of the firm. As previously announced, we are targeting total cost savings of CHF 5.4 billion, including incremental cost savings of CHF 3.4 billion in addition to the CHF 2 billion cost-savings program announced in August 2011. In 2012, we continued to make progress in reduc- ing our underlying cost base, and have achieved CHF 1.4 billion of effective run-rate cost-reductions since mid-2011, excluding for- eign exchange movements and the increase in legal expenses in 2012. Over the next three years we expect to make significant investments that will enable us to serve our clients with greater agility, improving quality and speed to market. Strong operational risk controls enable us to deploy appropriate levels of risk in order to better serve our clients and generate sus- tainable financial performance. During the year we strengthened these controls further and stepped up our efforts to reinforce a culture of accountability and responsibility. Nevertheless, there is no room for complacency and we will remain vigilant to ensure that the appropriate checks and balances are in place. As a result of our success in building our capital ratios and our efforts to re- 1 The pro-forma Basel III information is not required to be presented because Basel III requirements were not in effect on 31 December 2012. Such measures are non-GAAP financial measures as defined by SEC regulations. We nevertheless include information on the basis of Basel III requirements because they are effective as of 1 January 2013 and significantly impact our RWA and eligible capital. The calculation of our pro-forma Basel III RWA combines existing Basel 2.5 RWA, a revised treatment for low-rated securitization exposures that are no longer deducted from capital but are risk-weighted at 1250%, and new model-based capital charges. Some of these new models require final regulatory approval and therefore our pro-forma calculations include estimates (discussed with our primary regulator) of the effect of these new capital charges which will be refined as models and the associated systems are enhanced. 2 Axel A. Weber Chairman of the Board of Directors Sergio P. Ermotti Group Chief Executive Officer 3 Annual Report 2012 Letter to shareholders duce costs and operational risks we will be better able to focus our energies and resources on driving growth in our businesses. In 2012, we made substantial progress towards achieving our strategic objectives and recorded a resilient underlying perfor- mance. However, our overall results for the year were affected by the costs involved in shaping the business for future success and in connection with litigation and regulatory matters to address issues from the past, including the settlements reached in relation to LIBOR. Consequently, we reported a pre-tax loss of CHF 1,774 million and a net loss attributable to UBS shareholders of CHF 2,511 million. Diluted earnings per share for the year were nega- tive CHF 0.67. Adjusted for the effects of own credit, restructur- ing charges, goodwill impairments, and credits related to changes in benefit and pension plans, we recorded a pre-tax profit of CHF 3.0 billion. We made solid progress across all businesses in 2012. Notably, our Wealth Management business continued to see success in the fastest growing global markets while adapting to the new cross- border paradigm. Together, our wealth management businesses attracted strong net new money inflows totaling almost CHF 47 billion, an increase of over CHF 11 billion on 2011 and an illustra- tion of our clients’ trust. Wealth Management Americas contin- ued to make strong progress and achieved a record pre-tax profit of USD 873 million, an increase of 40% on 2011. Our Retail & Corporate business delivered a resilient pre-tax performance and continued to regain market share. It performed exceptionally well in relation to net new business volume growth, which reached almost 5%, and recorded deposit inflows of CHF 14 billion, in- cluding the highest net new client assets for retail clients in Swit- zerland since 2001. Global Asset Management achieved an in- creased pre-tax profit in a difficult year for the asset management industry, as it delivered stronger investment performance to its clients. The Investment Bank beat our targets in relation to risk- weighted asset and balance-sheet reductions, allowing the firm to reach its current industry-leading capital ratios. It performed well in many of its traditional areas of competitive strength, expanding in equity and debt capital markets and global syndicated finance. Its foreign exchange business continued to benefit from the in- vestments we made in cutting edge e-trading systems, enabling it to grow volumes significantly. As a result of our achievements in 2012, particularly in relation to capital, and as a sign of confidence in our continued ability to execute our strategy in a disciplined manner, we are recommend- ing a 50% increase in our dividend for our shareholders for 2012 to CHF 0.15 per share. As a firm, we believe that it is important that we play an active and constructive role within the communities in which we do business. Throughout 2012, our employee volunteering and com- munity affairs programs contributed to a wide variety of commu- nity-based projects around the world. We remained focused on supporting education and entrepreneurship alongside efforts to promote sustainable business practices, including environmental practices. In 2012, we supported educational and entrepreneur- ship activities around the world, investing over CHF 40 million. A large part of this investment was allocated to the new UBS Inter- national Center of Economics in Society at the University of Zu- rich, which we set up to commemorate the firm’s 150th anniver- sary. The center facilitates top-quality international economic research that examines interrelationships between society and the economy and promotes the transfer of knowledge. On the envi- ronmental front, we continue to take our responsibilities very seri- ously and are pleased to report that we met our ambitious CO2 emissions reduction target. External experts from the most signifi- cant climate change-focused investors’ initiative, the Carbon Dis- closure Project, ranked UBS as the industry leader in the banking sector and among the top 10 companies worldwide for our mea- sures to combat climate change. Shareholders can also help us to achieve our environmental ambitions by opting to read our finan- cial publications electronically through our Investor Relations website instead of taking delivery of printed copies. 4 During the year, the Board of Directors ensured that UBS re- mained focused on its priorities. It successfully oversaw the con- tinued implementation of our strategy designed to create a firm that will thrive in the new banking environment. It ensured that we made progress in addressing the issues of the past while driving measures to reinforce a culture of accountability and responsibility. It also continued to engage in dialogue with stakeholders on a broad range of issues important to the firm and its future. Together with the bank’s management, the Board initiated in-depth discussions with our larger sharehold- ers to gain a better understanding of their views with regard to improving the firm’s compensation plans and disclosures. As part of this report, you will see we took this feedback into ac- count in developing our best practice compensation structures for 2012. We believe the changes we implemented better align the interests of our shareholders, bondholders, regulators and other stakeholders with those of the firm, specifically its need to continue executing its strategy successfully going forward. To strengthen our corporate governance, we have established an integrated shareholder portal which will be operational from the end of March 2013. Our registered shareholders will be able to use the portal to issue instructions for the exercise of their voting rights after having provided a written appointment of an independent proxy. In addition, the Board has decided that the firm will no longer act as a corporate proxy and will no longer represent the voting rights carried by deposited shares at the next annual general meeting. In other Board-related developments, Wolfgang Mayrhuber has announced his decision not to stand for re-election to the Board of Directors at the firm’s Annual General Meeting (AGM) of Shareholders on 2 May 2013. We would like to express our grat- itude to Wolfgang for his dedication and commitment to UBS and the valuable expertise he brought to the firm as a member of the Board of Directors, Chair of the Corporate Responsibility Committee and member of the Human Resources and Compen- sation Committee. The Board has announced that it will nomi- nate Reto Francioni for election to the Board at the AGM in May. Reto has been Chief Executive Officer of the Deutsche Börse AG since 2005. Prior to this he was President and Chairman of the SWX Group in Zurich and is an internationally acknowledged expert with a long track record in international capital markets and banking. Subject to his election at the AGM, we believe Reto Francioni will further strengthen the Board bringing his unique experience and insights to the firm. Ultimately the firm’s success rests upon the endeavors of all our employees. We would both like to take this opportunity to thank our employees for their continued hard work, dedication and professionalism throughout what was a challenging year. In 2012, our employees continued to put our clients’ interests first while adapting to and implementing the transformation of the firm. Through their efforts we made demonstrable progress in executing our strategy, putting our firm in a far stronger position than it was a year ago. We are convinced our strategy is the right one for UBS, and are determined to maintain our track re- cord of successful execution in 2013 for the benefit of all our stakeholders. 14 March 2013 Yours sincerely, UBS Axel A. Weber Chairman of the Board of Directors Sergio P. Ermotti Group Chief Executive Officer 5 Annual Report 2012 Key figures CHF million, except where indicated Group results Operating income Operating expenses Operating profit / (loss) from continuing operations before tax Net profit / (loss) attributable to UBS shareholders Diluted earnings per share (CHF) 1 Key performance indicators 2, balance sheet and capital management, and additional information Performance Return on equity (RoE) (%) Return on tangible equity (%) 3 Return on risk-weighted assets, gross (%) 4 Return on assets, gross (%) Growth Net profit growth (%) 5 Net new money growth (%) 6 Efficiency Cost / income ratio (%) Capital strength BIS tier 1 capital ratio (%) 7 FINMA leverage ratio (%) 7 Balance sheet and capital management Total assets Equity attributable to UBS shareholders Total book value per share (CHF) 8 Tangible book value per share (CHF) 8 BIS core tier 1 capital ratio (%) 7 BIS total capital ratio (%) 7 BIS risk-weighted assets 7 BIS tier 1 capital 7 Additional information Invested assets (CHF billion) 9 Personnel (full-time equivalents) Market capitalization 10 As of or for the year ended 31.12.12 31.12.11 31.12.10 25,443 27,216 (1,774) (2,511) (0.67) (5.2) 1.6 12.0 1.9 N/A 1.6 106.5 21.3 6.3 1,259,232 45,895 12.25 10.52 19.0 25.2 192,505 40,982 2,230 62,628 54,729 27,788 22,482 5,307 4,138 1.08 9.1 11.9 13.7 2.1 (44.5) 1.9 80.7 15.9 5.4 1,416,962 48,530 12.95 10.36 14.1 17.2 240,962 38,370 2,088 64,820 42,843 31,994 24,650 7,345 7,452 1.94 18.0 24.7 15.5 2.3 N/A (0.8) 76.9 17.8 4.5 1,314,813 43,728 11.53 8.94 15.3 20.4 198,875 35,323 2,075 64,617 58,803 1 Refer to “Note 8 Earnings per share (EPS) and shares outstanding” in the “Financial information” section of this report for more information. 2 For the definitions of our key performance indicators, refer to the “Measure- ment of performance” section of this report. 3 Net profit attributable to UBS shareholders before amortization and impairment of goodwill and intangible assets / average equity attributable to UBS shareholders less average goodwill and intangible assets. 4 Based on Basel 2.5 risk-weighted assets for 2012. Based on Basel II risk-weighted assets for 2011 and 2010. 5 Not meaningful and not included if either the reporting period or the com- parison period is a loss period. 6 Group net new money includes net new money for Retail & Corporate and excludes interest and dividend income. 7 Capital management data is disclosed in accordance with the Basel 2.5 framework for 31 December 2012 and 31 December 2011, and in accordance with the Basel II framework for 31 December 2010. Refer to the “Capital management” section of this report for more information. 8 Refer to the “Capital management” section of this report for more information. 9 In 2012, we refined our definition of invested assets. Refer to “Note 35 Invested assets and net new money” in the “Financial information” section of this report for more information. Group invested assets includes invested assets for Retail & Corporate. 10 Refer to the appendix “UBS shares” of this report for more information. 6 Corporate information The legal and commercial name of the company is UBS AG. The company was formed on 29 June 1998, when Union Bank of Switzerland (founded 1862) and Swiss Bank Corporation (founded 1872) merged to form UBS AG. UBS AG is incorporated and domiciled in Switzerland and operates under Swiss Company Law and Swiss Federal Banking Law as an Aktien gesellschaft, a corporation that has issued shares of common stock to investors. The addresses and telephone numbers of our two registered offices are: Bahnhofstrasse 45, CH-8001 Zurich, Switzerland, phone +41-44-234 11 11; and Aeschenvorstadt 1, CH-4051 Basel, Switzerland, phone +41-61-288 50 50. UBS AG shares are currently listed on the SIX Swiss Exchange and the New York Stock Exchange. Contacts Switchboards For all general queries. Zurich +41-44-234 1111 London +44-20-7568 0000 New York +1-212-821 3000 Hong Kong +852-2971 8888 www.ubs.com/contact Investor Relations UBS’s Investor Relations team supports institu- tional, professional and retail investors from our offices in Zurich and New York. UBS AG, Investor Relations P.O. Box, CH-8098 Zurich, Switzerland sh-investorrelations@ubs.com www.ubs.com/investors Hotline +41-44-234 4100 New York +1-212-882 5734 Fax (Zurich) +41-44-234 3415 Media Relations UBS’s Media Relations team supports global media and journalists from offices in Zurich, London, New York and Hong Kong. Shareholder Services UBS’s Shareholder Services team, a unit of the Company Secretary office, is responsible for the registration of the global registered shares. www.ubs.com/media Zurich +41-44-234 8500 mediarelations@ubs.com London +44-20-7567 4714 ubs-media-relations@ubs.com New York +1-212-882 5857 mediarelations-ny@ubs.com Hong Kong +852-2971 8200 sh-mediarelations-ap@ubs.com Office of the Company Secretary The Company Secretary receives queries on compensation and related issues addressed to members of the Board of Directors. UBS AG, Shareholder Services P.O. Box, CH-8098 Zurich, Switzerland sh-shareholder-services@ubs.com Hotline +41-44-235 6202 Fax +41-44-235 3154 US Transfer Agent For all global registered share-related queries in the US. Computershare 480 Washington Boulevard Jersey City, NJ 07310-1900, USA sh-relations@melloninvestor.com www.bnymellon.com/shareowner/equityaccess UBS AG, Office of the Company Secretary P.O. Box, CH-8098 Zurich, Switzerland Calls from the US +866-541 9689 Calls from outside the US +1-201-680 6578 sh-company-secretary@ubs.com Fax +1-201-680 4675 Hotline +41-44-234 3628 Fax +41-44-234 6603 Corporate calendar Imprint Publication of the first quarter 2013 report Tuesday, 30 April 2013 Publisher: UBS AG, Zurich and Basel, Switzerland | www.ubs.com Language: English | SAP-No. 80531E Annual General Meeting Thursday, 2 May 2013 Publication of the second quarter 2013 report Tuesday, 30 July 2013 Publication of the third quarter 2013 report Tuesday, 29 October 2013 © UBS 2013. The key symbol and UBS are among the registered and unregistered trademarks of UBS. All rights reserved. Printed in Switzerland on chlorine-free paper with mineral oil-reduced inks. Paper production from socially responsible and ecologically sound forestry practices. 7 Annual Report 2012 UBS and its businesses We draw on our 150-year heritage to serve private, institutional and corporate clients worldwide, as well as retail clients in Switzerland. Our business strategy is centered on our pre-eminent global wealth management businesses and our leading universal bank in Switzerland. Together with a client-focused Investment Bank and a strong, well-diversified Global Asset Management business, we will expand our premier wealth management franchise and drive further growth across the Group. Headquartered in Zurich and Basel, Switzerland, we have offices in more than 50 countries, including all major financial centers, and approximately 63,000 employees. UBS AG is the parent company of the UBS Group (Group). Under Swiss company law, UBS AG is organized as an Aktiengesellschaft, a corporation that has issued shares of common stock to investors. The operational structure of the Group comprises the Corporate Center and five business divisions: Wealth Management, Wealth Management Americas, the Investment Bank, Global Asset Manage- ment and Retail & Corporate. Wealth Management provides comprehensive financial services to wealthy private clients around the world – except those served by Wealth Management Americas. Its clients benefit from the entire spectrum of UBS resources, ranging from investment manage- ment to estate planning and corporate finance advice, in addition to specific wealth management products and services. An open product platform provides clients with access to a wide array of products from third-party providers that complement our own product lines. Wealth Management Americas provides advice-based solutions through financial advisors who deliver a fully integrated set of products and services specifically designed to address the needs of ultra high net worth and high net worth individuals and fami- lies. It includes the domestic US business, the domestic Canadian business and international business booked in the US. The Investment Bank provides a range of products and services in equities, fixed income, foreign exchange and commodities to cor- porate and institutional clients, sovereign and government bod- ies, financial intermediaries, alternative asset managers and UBS’s wealth management clients. The Investment Bank is an active par- ticipant in capital markets flow activities, including sales, trading and market-making across a range of securities. It provides finan- cial solutions to its clients, and offers advisory and analytics ser- vices in all major capital markets. Starting with reporting for the first quarter of 2013, it offers investment banking and capital markets, research, equities, for- eign exchange, precious metals and tailored fixed income services in rates and credit through its two business units, Corporate Client Solutions and Investor Client Services. Global Asset Management is a large-scale asset manager with businesses diversified across regions, capabilities and distribution channels. It offers investment capabilities and styles across all major traditional and alternative asset classes including equities, fixed income, currencies, hedge funds, real estate, infrastructure and private equity that can also be combined into multi-asset strategies. The fund services unit provides professional services, including fund set-up, accounting and reporting for traditional investment funds and alternative funds. 8 Retail & Corporate provides comprehensive financial products and services to our retail, corporate and institutional clients in Switzer- land and maintains a leading position in these client segments. It constitutes a central building block of our universal bank model in Switzerland, delivering growth to our other businesses. It sup- ports them by cross-selling products and services provided by our asset-gathering and investment banking businesses, by referring clients to them and by transferring private clients to Wealth Man- agement due to increased client wealth. The Corporate Center provides control functions for the business divisions and the Group in such areas as risk control, legal and compliance as well as finance including treasury services, fund- ing, balance sheet and capital management. The Corporate Center – Core Functions provides all logistics and support func- tions including information technology, human resources, corpo- rate development, Group regulatory relations and strategic initia- tives, communications and branding, corporate real estate and administrative services, procurement, physical and information security, offshoring as well as Group-wide operations. It allocates most of its treasury income, operating expenses and personnel associated with these activities to the businesses based on capital and service consumption levels. The Corporate Center also en- compasses certain centrally managed positions, including the SNB StabFund option, the Legacy Portfolio and, starting with re- porting for the first quarter of 2013, non-core businesses previ- ously part of the Investment Bank. 9 Annual Report 2012 Our Board of Directors The Board of Directors (BoD) is our most senior body. Under the leadership of the Chairman, it determines the strategy of the Group based upon the recommendations of the Group Chief Executive Officer (Group CEO). It exercises ultimate supervision of management and is responsible for the appointment and dismissal of all Group Executive Board (GEB) members, the Company Secretary and the Head of Group Internal Audit as well as supervising and setting appropriate risk management and control principles for the firm. With the exception of its current Chairman, Axel A. Weber, all members of the BoD are independent. 1 5 9 2 6 10 3 7 11 4 8 12 10 1 Axel A. Weber Chairman of the Board of Directors, Chairperson of the Governance and Nominating Committee and member of the Corporate Responsibility Committee 2 Isabelle Romy Member of the Audit Committee and the Governance and Nominating Committee 3 David Sidwell Senior Independent Director, Chairperson of the Risk Committee and member of the Governance and Nominating Committee 4 Beatrice Weder di Mauro Member of the Audit Committee and Corporate Responsibility Committee 5 William G. Parrett Chairperson of the Audit Committee and member of the Corporate Responsibility Committee 6 Wolfgang Mayrhuber Chairperson of the Corporate Responsibility Committee and member of the Human Resources and Com pensation Committee 7 Michel Demaré Independent Vice Chairman, member of the Audit Committee and the Governance and Nominating Commit- tee 8 Axel P. Lehmann Member of the Governance and Nominating Committee and the Risk Committee 9 Ann F. Godbehere Chairperson of the Human Resources and Compensation Committee and member of the Audit Committee 10 Rainer-Marc Frey Member of the Human Resources and Compensation Committee and the Risk Committee 11 Joseph Yam Member of the Corporate Responsibility Committee and the Risk Commit- tee 12 Helmut Panke Member of the Human Resources and Compensation Committee and the Risk Committee 11 Annual Report 2012 Our Group Executive Board The management of the firm is delegated by the Board of Directors to the Group Executive Board. Under the leadership of the Group Chief Executive Officer, the Group Executive Board has executive management responsibility for the Group and its businesses. It assumes overall responsibility for the development of the Group and business division strategies and the implementation of approved strategies. 1 5 9 2 6 10 3 7 11 4 8 12 1 Sergio P. Ermotti Group CEO 2 Lukas Gähwiler CEO UBS Switzerland and CEO Retail & Corporate 3 Ulrich Körner Group Chief Operating Officer and CEO UBS Group Europe, Middle East and Africa 4 Philip J. Lofts Group Chief Risk Officer 5 Robert J. McCann CEO Wealth Management Americas and CEO UBS Group Americas 6 Jürg Zeltner CEO UBS Wealth Management 7 Tom Naratil Group CFO 8 Chi-Won Yoon CEO UBS Group Asia Pacific 9 Andrea Orcel CEO Investment Bank 10 John A. Fraser Chairman and CEO Global Asset Management 11 Markus U. Diethelm Group General Counsel 13 Annual Report 2012 The making of UBS UBS has played a pivotal role in the development and growth of Switzerland’s banking tradition since the firm’s origins in the mid-19th century. In 2012, the year of our 150th anniversary, we accelerated our strategic transformation of the firm to create a business model that is better adapted to the new regulatory and market circumstances and that we believe will result in more consistent and high-quality returns. The origins of the banking industry in Switzerland can be traced back to medieval times. This long history may help explain the widespread impression, reinforced in popular fiction, that Swit- zerland has always possessed a strong financial sector. In reality, the size and international reach of the Swiss banking sector we know today is largely a product of the second half of the 20th century, strongly influenced by two banks: Union Bank of Swit- zerland and Swiss Bank Corporation (SBC), which merged to form UBS in 1998. At the time of the merger, both banks were already well-estab- lished and successful in their own right. 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Bank in Winterthur. SBC marked its centenary in 1972 with celebrations in honor of its founding forebear, the Basler Bank- verein. The historical roots of Paine-Webber, acquired by UBS in 2000, go back to 1879, while S.G. Warburg, the central pillar upon which UBS’s Investment Bank was built, commenced operations in 1946. In the early 1990s, SBC and Union Bank of Switzerland were both commercial banks operating mainly out of Switzerland. The banks shared a similar vision: to become a world leader in wealth management, a successful global investment bank and a top-tier global asset manager, while remaining an important commercial and retail bank in their home market of Switzerland. tive culture, its meritocracy and its team-oriented approach. O’Connor brought state-of-the-art risk management and deriva- tives technology to SBC, and in 1992 SBC moved to fully acquire O’Connor. In 1994, SBC added to its capabilities when it ac- quired Brinson Partners, a leading US-based institutional asset management firm. The next major milestone was in 1995, when SBC acquired S.G. Warburg, the British merchant bank. The deal helped SBC fill a stra- tegic gap in its corporate finance, brokerage, and research capabili- ties and, most importantly, brought with it an institutional client franchise that remains crucial to our equities business to this day. Union Bank of Switzerland, the largest and best-capitalized Swiss bank of its time, pursued these goals primarily through a strategy of organic growth. In contrast, SBC, then the third-larg- est Swiss bank, grew through a combination of partnership and acquisition. In 1989, SBC started a joint venture with O’Connor, a leading US derivatives firm noted for its dynamic and innova- The 1998 merger of SBC and Union Bank of Switzerland into the firm we know today created a world-class wealth manager and the largest universal bank in Switzerland, complemented by a strong investment bank and a leading global institutional asset manager. In 2000, UBS grew further with the acquisition of PaineWebber, establishing the firm as a significant player in the US. 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(cid:49)(cid:111)(cid:37)(cid:81)(cid:80)(cid:80)(cid:81)(cid:84)(cid:2)(cid:8)(cid:2)(cid:35)(cid:85)(cid:85)(cid:81)(cid:69)(cid:75)(cid:67)(cid:86)(cid:71)(cid:85) (cid:19)(cid:27)(cid:27)(cid:20) (cid:19)(cid:27)(cid:27)(cid:25) (cid:19)(cid:27)(cid:26)(cid:24) (cid:19)(cid:27)(cid:27)(cid:26) (cid:19)(cid:27)(cid:22)(cid:20)(cid:2) (cid:50)(cid:67)(cid:75)(cid:80)(cid:71)(cid:14)(cid:2)(cid:57)(cid:71)(cid:68)(cid:68)(cid:71)(cid:84)(cid:14)(cid:2)(cid:44)(cid:67)(cid:69)(cid:77)(cid:85)(cid:81)(cid:80)(cid:2)(cid:8)(cid:2)(cid:37)(cid:87)(cid:84)(cid:86)(cid:75)(cid:85) (cid:19)(cid:27)(cid:25)(cid:22)(cid:2)(cid:50)(cid:67)(cid:75)(cid:80)(cid:71)(cid:57)(cid:71)(cid:68)(cid:68)(cid:71)(cid:84)(cid:14)(cid:2)(cid:43)(cid:80)(cid:69)(cid:16) (cid:20)(cid:18)(cid:18)(cid:18) (cid:19)(cid:27)(cid:25)(cid:27) (cid:19)(cid:27)(cid:25)(cid:25) 15 Annual Report 2012 Since 2000, UBS has established a strong footprint in the Asia- Pacific region and the emerging markets based on a presence in many of these countries going back decades. Our new global reach found expression through our new global UBS brand identity, intro- duced in 2003. The firm’s progress was evident in 2006, the most successful year in its history. However, in 2007 the effects of the global fi- nancial crisis started to be felt across the financial industry. This crisis had its origins in the securitized financial product business linked to the US residential real estate market. Between the third quarter of 2007 and the fourth quarter of 2009, UBS incurred significant losses on these assets. The firm responded with deci- sive action designed to reduce risk exposures and stabilize its busi- nesses, including raising capital on multiple occasions. More recently, UBS continued to improve its capital strength to meet new and enhanced industry-wide regulatory requirements. Our position as one the world’s best-capitalized banks, together with our stable funding and sound liquidity positions, provide us with a solid foundation for our success. In October 2012, from this position of strength, we announced a significant acceleration in the implementation of our strategy. This announcement under- lined our commitment to transform UBS into a less capital- and balance-sheet-intensive business that is more focused on serving clients and more capable of maximizing value for shareholders. We are well prepared for the future with a clear strategy and a solid financial foundation. ➔ Refer to www.ubs.com/history for more detailed information on UBS’s 150 years of history Our 150th anniversary: an occasion to build and deepen relationships In 2012, we celebrated our firm’s 150th anniversary, marking the occasion by redoubling efforts to enhance our social and charitable commitments around the world. Throughout our anniversary year, we connected with thousands of our clients worldwide through celebra- tions in Switzerland and at our major business locations. All business regions organized and undertook events and other activities focused on our employees. In October 2012, a global volunteering recognition program gave awards to individual employees and groups of employees for outstanding community involvement. In Switzerland, our anniversary activities leveraged existing marketing and sponsor- ship programs such as our collaboration with Switzerland Tourism, the UBS KeyClub bonus program and the UBS Kids Cup, which had nearly 100,000 participants in 2012. On 25 June 2012, we distributed more than one million vouchers to clients and the general public for boat trips on Swiss lakes. We also launched a key education initiative in April 2012 as part of our anniversary celebrations. Consisting of six sub-proj- ects, the UBS Education Initiative centers on the UBS International Center of Economics in Society at the University of Zurich. The initiative will enable the creation of up to five professorships in coming years, starting in 2013, to stimulate cutting-edge international research into the economic sector. Other sub-projects go beyond academia. One example is Explore-it, which aims to encourage school children’s interest in science and technology. We also sup- port Young Enterprise Switzerland, an initiative which helps school children learn how the business world works. Other organizations we work with include Genilem, which helps young entrepre- neurs and start-up companies to establish their businesses, and KMU Next, an organization for entrepreneurs who are planning their succession. As part of a lifelong learning project, we aim to support employees of all age groups on their career paths. UBS is also continuing to invest in the next generation of talented individuals with the creation of 150 extra apprenticeships over the next five years and 150 extra internships over the next three years. To convey these initiatives and events to our stakeholders, we launched a special 150th anniversary microsite. We also distributed a 38-page UBS history brochure entitled “150 years of banking” to our employees, pensioners and clients world- wide, and we published additional feature articles on UBS’s history that appeared in our internal media. Our activities throughout 2012 signaled our optimism and confidence in the future. For the remainder of 2013 and beyond, we will continue to build on our heritage by strengthening and deepening our business relationships, and by helping the commu- nities in which we live and work through long-lasting and valuable programs. ➔ Refer to the corporate responsibility section for more information on UBS’s social and charitable commitments 16 Operating environment and strategy Operating environment and strategy Current market climate and industry drivers Current market climate and industry drivers Global stock markets rebounded strongly in 2012, supported by confidence-boosting measures in Europe and expansive monetary policy. However, the macroeconomic environment worsened, especially in Europe, as the sovereign debt crisis spilled over to eurozone core countries in the second half of the year. The resulting eurozone recession weakened global economic activity. Subdued recovery despite expansive monetary measures While a series of interventions from central banks gave confi- dence to stock markets over the year, the macroeconomic envi- ronment in Europe deteriorated, especially in the second half of 2012, as the unresolved sovereign debt and banking crisis spread beyond peripheral countries and began to affect core countries such as France and Germany. The situation worsened with public spending in eurozone countries contracting as a result of the nec- essary fiscal consolidation of public finances and as a decline in consumers’ expenditure reduced the pace of economic activity. At the same time, the macroeconomic environment and stricter reg- ulatory requirements prompted banks to speed up deleveraging, putting an additional dampening effect on economic growth. In the US, some sectors of the economy, especially housing and the labor market showed signs of improvement, predominantly in the second half of the year. However, overall economic perfor- mance remained lackluster and continued to be subject to uncer- tainty primarily surrounding fiscal policy, despite a last-minute compromise at the turn of the year to avoid the fiscal cliff. Emerging economies remained the global drivers of growth, but their improvement, particularly China’s, lagged behind that of previous recoveries, as structural advantages that benefited emerging economies in the past are gradually fading. Further- more, growth in emerging countries was also slowed by spillover effects from recessionary developments in Europe and the slow recovery of the US. In addition, China was negatively affected by uncertainty surrounding domestic political developments prior to the formation of its new government. Euro crisis persists In 2012, the European sovereign debt crisis continued to be among the most significant factors influencing the global economy, de- spite a series of policy actions aimed at resolving it. At the beginning of 2012, the rating agency Standard & Poor’s downgraded the credit ratings of nine eurozone governments, including France and Austria, both previously AAA-rated coun- tries. Shortly afterwards, Standard & Poor’s also downgraded the rating of the European Financial Stability Facility (EFSF). Measures initiated by the European Central Bank (ECB) to calm markets, such as the second tranche of its longer-term refinancing opera- tion, only resulted in short-term relief. The unresolved sovereign debt and banking crises in peripheral countries threatened to af- 18 fect larger nations like Italy and Spain, and as a result more fun- damental measures were introduced aimed toward a sustainable crisis resolution. In June, the European Stability Mechanism (ESM) was granted additional powers, which provided the ESM with the flexibility to purchase government bonds directly in the pri- mary market as well as to recapitalize banks directly. In Septem- ber, the ECB announced the technical framework for its outright monetary transactions program that allows the ECB unlimited purchases of government bonds, provided the issuing countries meet certain conditions regarding their economic policies associ- ated with the EFSF / ESM. The economic environment in Greece deteriorated during 2012 and at the end of the first quarter, the eurozone finance ministers agreed on a further rescue package, which included a writedown of 53% of the face value of Greek government bonds. This measure proved insufficient to stabilize the economic situa- tion in Greece, making a further support program necessary, which was agreed at the end of the year. Toward the end of the year, financial conditions in Europe im- proved and sovereign credit default swap spreads narrowed sig- nificantly. Nevertheless, the financial stability of the eurozone continues to be fragile, and significant challenges lie ahead, in- cluding large-scale bond issuance in Spain during 2013. The Swiss economy, despite outperforming its European peers, was also affected by recessionary tendencies in the euro- (cid:38)(cid:71)(cid:88)(cid:71)(cid:78)(cid:81)(cid:82)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:81)(cid:72)(cid:2)(cid:85)(cid:81)(cid:88)(cid:71)(cid:84)(cid:71)(cid:75)(cid:73)(cid:80)(cid:2)(cid:23)(cid:15)(cid:91)(cid:71)(cid:67)(cid:84)(cid:2)(cid:37)(cid:38)(cid:53)(cid:2)(cid:85)(cid:82)(cid:84)(cid:71)(cid:67)(cid:70)(cid:85)(cid:2) (cid:81)(cid:72)(cid:2)(cid:85)(cid:71)(cid:78)(cid:71)(cid:69)(cid:86)(cid:71)(cid:70)(cid:2)(cid:71)(cid:87)(cid:84)(cid:81)(cid:92)(cid:81)(cid:80)(cid:71)(cid:2)(cid:69)(cid:81)(cid:87)(cid:80)(cid:86)(cid:84)(cid:75)(cid:71)(cid:85) (cid:37)(cid:38)(cid:53)(cid:2)(cid:85)(cid:82)(cid:84)(cid:71)(cid:67)(cid:70)(cid:85)(cid:2)(cid:10)(cid:79)(cid:81)(cid:80)(cid:86)(cid:78)(cid:91)(cid:2)(cid:67)(cid:88)(cid:71)(cid:84)(cid:67)(cid:73)(cid:71)(cid:2)(cid:75)(cid:80)(cid:2)(cid:68)(cid:82)(cid:85)(cid:11) (cid:19) (cid:20)(cid:14)(cid:23)(cid:18)(cid:18) (cid:20)(cid:14)(cid:18)(cid:18)(cid:18) (cid:19)(cid:14)(cid:23)(cid:18)(cid:18) (cid:19)(cid:14)(cid:18)(cid:18)(cid:18) (cid:23)(cid:18)(cid:18) (cid:2)(cid:2)(cid:2)(cid:2)(cid:18) (cid:18) (cid:19) (cid:18) (cid:20) (cid:17) (cid:19) (cid:18) (cid:19) (cid:18) (cid:20) (cid:17) (cid:22) (cid:18) (cid:19) (cid:18) (cid:20) (cid:17) (cid:25) (cid:18) (cid:19) (cid:18) (cid:20) (cid:17) (cid:18) (cid:19) (cid:19) (cid:19) (cid:18) (cid:20) (cid:17) (cid:19) (cid:19) (cid:19) (cid:18) (cid:20) (cid:17) (cid:22) (cid:19) (cid:19) (cid:18) (cid:20) (cid:17) (cid:25) (cid:19) (cid:19) (cid:18) (cid:20) (cid:17) (cid:18) (cid:19) (cid:20) (cid:19) (cid:18) (cid:20) (cid:17) (cid:19) (cid:20) (cid:19) (cid:18) (cid:20) (cid:17) (cid:22) (cid:20) (cid:19) (cid:18) (cid:20) (cid:17) (cid:25) (cid:20) (cid:19) (cid:18) (cid:20) (cid:17) (cid:18) (cid:19) (cid:21) (cid:19) (cid:18) (cid:20) (cid:17) (cid:19) (cid:19)(cid:47)(cid:37)(cid:18)(cid:18)(cid:19)(cid:65)(cid:71) (cid:50)(cid:81)(cid:84)(cid:86)(cid:87)(cid:73)(cid:67)(cid:78) (cid:53)(cid:82)(cid:67)(cid:75)(cid:80) (cid:43)(cid:86)(cid:67)(cid:78)(cid:91) (cid:43)(cid:84)(cid:71)(cid:78)(cid:67)(cid:80)(cid:70) (cid:40)(cid:84)(cid:67)(cid:80)(cid:69)(cid:71) (cid:41)(cid:71)(cid:84)(cid:79)(cid:67)(cid:80)(cid:91) (cid:41)(cid:84)(cid:71)(cid:71)(cid:69)(cid:71) (cid:19)(cid:2)(cid:35)(cid:72)(cid:86)(cid:71)(cid:84)(cid:2)(cid:19)(cid:22)(cid:2)(cid:53)(cid:71)(cid:82)(cid:86)(cid:71)(cid:79)(cid:68)(cid:71)(cid:84)(cid:2)(cid:20)(cid:18)(cid:19)(cid:19)(cid:14)(cid:2)(cid:80)(cid:81)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:75)(cid:88)(cid:71)(cid:2)(cid:23)(cid:15)(cid:91)(cid:71)(cid:67)(cid:84)(cid:2)(cid:37)(cid:38)(cid:53)(cid:2)(cid:82)(cid:84)(cid:75)(cid:69)(cid:71)(cid:85)(cid:2)(cid:69)(cid:81)(cid:87)(cid:78)(cid:70)(cid:2)(cid:68)(cid:71)(cid:2)(cid:81)(cid:68)(cid:85)(cid:71)(cid:84)(cid:88)(cid:71)(cid:70)(cid:2)(cid:72)(cid:81)(cid:84)(cid:2)(cid:41)(cid:84)(cid:71)(cid:71)(cid:69)(cid:71)(cid:16)(cid:2) zone, given its strong economic links. As a consequence, eco- nomic growth in Switzerland declined to 1% in 2012, from 1.9% in 2011. the implementation of the Volcker Rule in the US, for which sev- eral key elements have yet to be fully defined. Outlook for 2013 While long-term structural issues such as high debts across ad- vanced economies and unbalanced growth models in emerging economies remain unsettled, 2013 could mark the dawn of the post-crisis era. We expect global economic growth to increase modestly to 3.0% in 2013 from 2.7% in 2012. In the US, head- winds of private sector deleveraging are receding and recession in several of the peripheral eurozone countries is expected to be less significant than previously projected. However, considerable un- certainties related to the debt crisis, fiscal austerity and wide- spread deleveraging remain, potentially resulting in only slightly positive growth in the eurozone in 2013. As we expect global in- flationary pressures to remain limited, monetary policy in ad- vanced economies will probably remain accommodative. Industry drivers Despite strong share price performance within the financial indus- try during the year, banks faced a number of challenges. Regulatory developments remain the main driver behind structural changes in the industry Regulators and legislators in 2012 continued to put pressure on the financial industry to become simpler and more transparent, more risk-averse and less leveraged. The year was characterized on one hand by progress in implementing existing regulations, such as Ba- sel III and recovery and resolution planning. The year was also char- acterized on the other hand by new, far-reaching reform proposals such as the recommendations of the European Commission’s High- level Expert Group on reforming the structure of the EU banking sector. These suggested, amongst others, that deposit-taking op- erations should be separated from large trading activities at Euro- pean banks. Discussions on the issue are ongoing in Europe, and the European Commission may propose legislation in 2013. Over the course of 2012, the financial industry continued to adjust to new, stricter capital and liquidity rules related to Basel III, which became effective in Switzerland on 1 January 2013. Over time, these rules may lead to a fundamental change in the finan- cial industry’s structure, discouraging many investment banking and trading strategies. As a consequence, financial institutions are expected to focus even more on fee-generating business that re- quires less capital and funding, with increased competition in these businesses also likely to put pressure on returns. Despite progress in the implementation of many regulatory initiatives in 2012, the financial industry continued to face regu- latory uncertainties on multiple fronts that weigh on the growth appetite and earning power of the sector. Examples include dis- crepancies in the way Basel III has been incorporated into na- tional rules and its postponed implementation in a number of participating countries. Uncertainty also remains with regard to Macroeconomic environment impacting the industry The macroeconomic environment remained extremely challenging for the financial industry. While top-line growth was constrained by stricter regulatory requirements, especially around capital and liquid- ity standards, the prevailing low-yield environment and flat yield curve put further pressure on net interest margins and revenues. Ad- ditionally, credit demand was low, also as a result of spillover effects following the overall economic downturn. The weak revenue envi- ronment prompted the industry to focus on increasing operational efficiency, resulting in widespread cost-saving initiatives, which in- cluded personnel reductions, branch optimization, and other mea- sures to realign cost structures with the subdued revenue levels. From funding challenge to capital challenge in the eurozone While obtaining sufficient medium- and long-term funding to maintain a cost-efficient and balanced liquidity and funding posi- tion was a key challenge in 2011, a series of central bank mea- sures, such as the ECB’s longer-term refinancing operation, have somewhat eased funding pressure on EU banks. In 2012, the challenge was rather meeting minimum capital requirements de- fined by regulators and policy makers. For example the European Banking Authority required banks to build up additional capital buffers to reach a level of 9% core tier 1 capital ratio by the end of June 2012. Following this recommendation an EU-wide recapi- talization exercise was initiated to close the capital requirements of certain banks. This exercise resulted in an increase in banks’ capital positions in Europe of more than EUR 115 billion by means of multiple recapitalization measures. The majority of the required recapitalization was achieved through direct capital measures, which included the issuance of new ordinary shares, the payment of dividends in shares, retained earnings and the conversion of hybrid capital into common capital. Further measures included a reduction of risk-weighted assets, for instance through the dis- posal of assets and continued deleveraging. 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In this context, Switzerland’s bilateral withholding tax agreements with the United Kingdom and Austria came into force on 1 Janu- ary 2013. Under these agreements, residents of both countries can have their existing banking relationships in Switzerland retrospec- tively treated as declared either by making a one-time tax payment or by disclosing their accounts. Future investment income and capital gains of residents of Austria and the United Kingdom with undisclosed accounts in Switzerland will be subject to a final with- holding tax, with Switzerland transferring the proceeds to the re- spective authorities. While additional withholding tax negotiations between Switzerland and other EU countries are ongoing, Switzer- land’s bilateral tax treaty with Germany was rejected by the Ger- man Bundesrat in November 2012 and a specially appointed me- diation committee within the German parliament was unable to reach agreement on the treaty in December 2012. Furthermore, the Swiss Federal Council announced the overall direction regarding the new financial integrity strategy (Weiss- geldstrategie), which foresees that by implementing enhanced due diligence requirements, banks and other financial intermedi- aries should be prevented from accepting assets that are not tax- compliant. Pressure on client confidentiality will have an impact on the business of banks serving cross-border clients, particularly in Swit- zerland. As a consequence, the financial services industry will need to adapt to new client demands, rethink its cross-border value propositions and make significant efforts to ensure opera- tional readiness and compliance. This is likely to be a challenge, particularly for smaller banks, and is expected to lead to further consolidation in the sector. 20 Regulatory developments In 2012, many regulatory initiatives, launched following the 2007–2009 financial crisis, progressed toward implementation. In particular, changes to capital adequacy and banking ordinances to implement the “too-big-to-fail” law and Basel III in Switzerland were finalized and entered into force on 1 January 2013. Regulatory developments in Switzerland The Swiss “too-big-to-fail” (TBTF) law, a revision of the Swiss banking law, or Bankengesetz, was adopted on 30 September 2011. Related changes to Swiss capital adequacy and banking ordinances were issued on 1 June 2012, which also supported the implementation of Basel III. Following the revision of the Capital Adequacy Ordinance, Swiss banks have to comply with the Basel III-related requirements based on a transitional timetable, accord- ing to which requirements are phased in from 1 January 2013 and will take effect on a fully applied basis on 1 January 2019. On top of the Basel III requirements, specific TBTF rules apply for systemically relevant banks in Switzerland (currently defined as UBS and Credit Suisse by the Swiss National Bank). These institu- tions will have to fulfill the following capital requirements: (i) a minimum of 4.5% of risk-weighted assets (RWA) in the form of Basel III common equity tier 1 (CET1) capital, (ii) a buffer of 8.5% composed of a minimum of 5.5% of RWA in the form of Basel III CET1 capital and up to 3% of RWA in the form of high-trigger loss-absorbing capital, which can also be substituted by Basel III CET1 capital, and (iii) a progressive component that depends on the total exposure and market share of the bank and that should be fulfilled with low-trigger loss-absorbing capital. We expect our requirement for this progressive component in 2019 to fall to 4.5% from 6.0% due to our planned reduction in balance sheet size related to the accelerated implementation of our strategy announced in October 2012 and the resulting reduction in total exposure. We expect this to reduce our total capital requirement to 17.5% by 2019. Furthermore, the Capital Adequacy Ordinance introduces a new minimum leverage ratio. The leverage ratio requirement is set at a level of 24% of the minimum capital ratio requirement for the capital base, the buffer capital and the progressive component. Based on our expected total capital requirement of 17.5%, we estimate that this leverage ratio will be approximately 4.2% as of 1 January 2019. In addition, systemically relevant banks are required to produce recovery plans and resolution planning materials, including an emer- gency plan which demonstrates how systemically important func- tions in Switzerland are to be maintained in the event of impending insolvency. UBS submitted the plans and planning materials to the Swiss Financial Market Supervisory Authority (FINMA) in 2012. UBS was also required to submit initial recovery and resolution planning documentation to authorities in the UK, the US and Germany. Under the new Swiss TBTF regulation, systemically relevant banks are eligible for a capital rebate on the progressive compo- nent if they take actions that facilitate recovery and resolvability beyond the minimum requirements to ensure the integrity of sys- temically important functions in the case of impending insolvency. The regulation does not specify what actions would be sufficient to justify a rebate or the magnitude of any rebate, both of which would be determined by FINMA. Finally, with the revision of the Capital Adequacy Ordinance, a mechanism for activating a countercyclical capital buffer was intro- duced. If activated, banks would be required to fulfill additional capital requirements of up to 2.5% of RWA on some or all risk ex- posures in Switzerland in the form of Basel III CET1 capital. The Swiss National Bank can, after consulting with FINMA and inform- ing the Federal Department of Finance, formally propose the activa- tion of the buffer to the Federal Council, which decides on its activa- tion on a case-by-case basis, depending on credit growth and the systemic risk situation in Switzerland. In February 2013, following such a proposal by the Swiss National Bank, the Federal Council decided to activate the countercyclical capital buffer with respect to mortgage loans financing residential property located in Switzer- land. The buffer has been set at 1% of associated RWA. Banks in Switzerland must fulfill this additional requirement by 30 September 2013. The effect of the activation of the countercyclical buffer on our capital requirements is not material. A further important development in Switzerland was FINMA’s decision to apply a bank-specific multiplier for banks using the internal ratings-based (IRB) approach when calculating RWA for Swiss residential mortgages. The purpose of the multiplier is to reduce the difference in RWA between the IRB and the standard- ized approach as well as to improve resilience to periods of stress in the Swiss real estate market. This multiplier is designed to be applied to new and renewed mortgages starting on 1 January 2013 and as a result, the entire Swiss residential mortgage port- folio will become subject to this multiplier over several years. Starting 1 January 2013, we apply a multiplier to the portfolio, phasing in the effect over the next seven years. Assuming no change in the portfolio size or other characteristics, we expect this multiplier to result in increased RWA of CHF 2–3 billion each year from 2013 through 2019. With regard to the Basel III liquidity framework, the Group of Governors and Heads of Supervision, the oversight body of the Basel Committee on Banking Supervision, announced a summary of amendments to the liquidity coverage ratio (LCR). These revi- 21 Operating environment and strategy Operating environment and strategy Regulatory developments sions include a broadening of the range of assets eligible as high- quality liquid assets as well as some amendments to the assumed outflow rates to reflect actual experience in periods of stress more accurately. In addition, banks were given more time to build up re- quired liquidity as the implementation of the LCR will be staggered, starting at 60% in 2015 and rising in annual steps to meet the 100% minimum standard by 2019. The impact of these changes on UBS will depend on whether and to what degree FINMA makes corresponding changes to its Basel III liquidity ratio rules. ➔ Refer to the “Our strategy” and the “Risk, treasury and capital management” sections of this report for more information In a referendum in March 2013, the Swiss cantons and voters accepted an initiative to give shareholders of Swiss listed compa- nies more influence over board and management compensation. The Federal Council must issue an ordinance within one year of the vote, and parliament must subsequently enact legislation to imple- ment the requirements of the constitutional provisions. It will only be possible to assess the impact of the vote on UBS once concrete legislation and implementation measures are in place. UBS, togeth- er with the Swiss Business Federation, will play a constructive part in the process of developing implementation measures, with the aim of maintaining Switzerland’s competitiveness as an interna- tional business location. A number of key initiatives continue to be delayed in the EU In 2012, the European Commission initiated a number of regula- tory initiatives, forming part of the EU response to the 2007–2009 financial crisis. Key new legislative proposals included (i) a pro- posal for a banking union, which includes a single supervisory mechanism that would provide the ECB with supervisory powers over large EU banks, (ii) the Crisis Management Directive, which addresses recovery and resolution of banks and investment firms, and (iii) the Undertakings for Collective Investment in Transferable Securities V Directive, which provides new requirements for de- positaries and fund managers. An agreement was reached on the European Markets Infrastruc- ture Regulation, which fulfills the G20’s commitment to clear stan- dardized over-the-counter (OTC) derivative contracts through a central counterparty and to report derivative transactions to trade repositories. However, political agreement on the Capital Require- ments Directives IV, implementing Basel III in the EU, was not reached before the end of 2012. Therefore, the implementation of Basel III is being delayed in the EU. In addition, the review of the Markets in Financial Instruments Directive was another high priority dossier on which no political agreement was reached in 2012. The financial transaction tax is another topic likely to shape the political agenda in 2013. Following an agreement among Austria, Belgium, Estonia, France, Germany, Greece, Italy, Portugal, Slova- kia, Slovenia and Spain to implement such a tax, the European Commission published its legislative proposal in February 2013. The text will now be discussed in the Council, while the Parlia- ment will provide a non-binding opinion. Furthermore, in October 2012, the European Commission’s High-level Expert Group on re- forming the structure of the EU banking sector issued its recom- mendations in the so-called Liikanen report, including the manda- tory separation of significant trading activities. The European Commission may now decide whether to legislate on further structural reforms of the banking sector following these recom- mendations. In the UK, work continues on the recommendations of the Independent Commission on Banking (ICB), which pro- posed in particular the ring-fencing of large retail operations in the UK. To give effect to the ICB’s recommendations, on 4 Febru- ary 2013 the Financial Services (Banking Reform) Bill was intro- duced in the country’s parliament. In the US significant progress was made on the implemen- tation of Dodd-Frank Developments in US regulatory initiatives related primarily to rule- making stemming from the Dodd-Frank Act passed in July 2010. Regulators made significant progress and many rules were issued in final form during 2012. 22 UBS AG registered as a swap dealer in the US at the end of 2012 enabling the continuation of swaps business with US per- sons. Regulations issued by the Commodity Futures Trading Commission (CFTC) impose substantial new requirements on registered swap dealers for clearing, trade execution, transac- tion reporting, recordkeeping, risk management and business conduct. The CFTC has granted time-limited relief to initially limit the scope of new requirements to transactions with US per- sons. Certain of the CFTC’s regulations, including those relating to swap data reporting, recordkeeping, compliance and supervi- sion, are expected to apply to UBS AG globally once this time- limited relief expires. Application of these requirements to UBS’s swaps business with non-US persons will present a substantial implementation burden, will likely duplicate or conflict with le- gal requirements applicable to UBS outside of the United States and may place UBS at a competitive disadvantage to firms that are not CFTC-registered swap dealers. The Securities and Ex- change Commission (SEC) is expected to propose rules for the extraterritorial application of its regulation of securities-based swaps in the first half of 2013, and to require registration of securities-based swap dealers in the US following adoption of such rules. SEC regulation of securities-based swaps may pre- sent similar risks to CFTC rules. Another key topic remains the Volcker Rule, which would pro- hibit banking entities from engaging in proprietary trading, sub- ject to permitted exceptions, including market-making, hedging and underwriting activities. The rule would also limit banking en- tities from investing in hedge funds, private equity funds and other similar “covered funds” except under limited circumstanc- es, and broadly limit investments and other trans actional activities between banks and covered funds. The two-year transition period to comply with the Volcker Rule’s prohibition commenced in July 2012. US regulators proposed regulations to further implement the Volcker Rule, and additional regulations are expected in the first half of 2013. It is unclear if the next issuance of Volcker regu- lations will be proposed or final. Depending on the nature of the final rules, as well as the manner in which they are implemented, the Volcker Rule could have a substantial impact on market liquid- ity and the economics of market-making. We are not able to esti- mate the effect of the implementation of the Volcker Rule compli- ance program on permitted trading activities until regulations, including the required metrics, are finalized and these required metrics are calculated and calibrated. The regulation of foreign banking organizations within the US became a key Dodd-Frank Act topic at the end of 2012. The Federal Reserve Board issued proposed rules for foreign banking organizations in the US (under sections 165 and 166 of Dodd- Frank Act) that include (i) a requirement for an intermediate hold- ing company to hold US subsidiary operations, (ii) risk-based capital and leverage requirements, (iii) liquidity requirements (both substantive and procedural), (iv) single-counterparty credit limits, (v) risk management and risk committee requirements, (vi) stress test requirements, including public disclosure of the results, (vii) a debt-to-equity limit, and (viii) a framework for early reme- diation of financial weaknesses. Requirements differ based on the overall size of the foreign banking organization and the size of its US-based assets. UBS will be subject to the most stringent requirements based on the current size of its global and US op- erations. The Dodd-Frank Act and the Foreign Account Tax Compliance Act both require UBS to look at the activities conducted through all legal entities across the UBS Group to determine the applicabil- ity of the rules. These regulatory regimes impose registration and ongoing reporting obligations. UBS will need to implement a comprehensive compliance program to address these require- ments, which will extend to all business divisions and legal enti- ties, not just those based in the US. Other important regulations in the US include mortgage lend- ing and consumer finance reform as well as changes to the re- quirements for financial advisors. Finally, while initial proposals on Basel III rules were issued for consultation in June 2012 in the US, final rules are still pending and implementation is being delayed beyond the internationally agreed timetable. 23 Operating environment and strategy Operating environment and strategy Our strategy Our strategy We are committed to providing clients with superior financial advice and solutions while generating attractive and sustainable returns for shareholders. Our strategy centers on our Wealth Management and Wealth Management Americas businesses and our leading universal bank in Switzerland, supported by our Global Asset Management business and our Investment Bank. Our strategy builds on the strengths of all of our businesses. It focuses our efforts on areas in which we excel and seeks to capitalize on the compelling growth prospects in the businesses and regions in which we operate. Acceleration of our strategic transformation Since presenting our strategy at our Investor Day in November 2011, we have successfully executed on our plans to improve our already strong capital position and reduce Basel III risk-weighted assets (RWA) and costs. Just over one year into the transformation of our firm, our Basel III capital ratios remain among the highest in our peer group, and we have reduced Basel III RWA 1 by 35%. Furthermore, we are on track with our CHF 2.0 billion cost reduc- tion program announced in August 2011. In October 2012, from this position of strength, we announced a significant acceleration in the implementation of our strategy. 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(cid:68)(cid:67)(cid:85)(cid:75)(cid:85)(cid:2)(cid:67)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:91)(cid:71)(cid:67)(cid:84)(cid:15)(cid:71)(cid:80)(cid:70)(cid:14)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:52)(cid:57)(cid:35)(cid:2)(cid:72)(cid:81)(cid:84)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:48)(cid:81)(cid:80)(cid:15)(cid:69)(cid:81)(cid:84)(cid:71)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:46)(cid:71)(cid:73)(cid:67)(cid:69)(cid:91)(cid:2)(cid:50)(cid:81)(cid:84)(cid:86)(cid:72)(cid:81)(cid:78)(cid:75)(cid:81)(cid:2)(cid:89)(cid:81)(cid:87)(cid:78)(cid:70)(cid:2)(cid:74)(cid:67)(cid:88)(cid:71)(cid:2)(cid:84)(cid:71)(cid:82)(cid:84)(cid:71)(cid:85)(cid:71)(cid:80)(cid:86)(cid:71)(cid:70)(cid:2)(cid:67)(cid:82)(cid:82)(cid:84)(cid:81)(cid:90)(cid:75)(cid:79)(cid:67)(cid:86)(cid:71)(cid:78)(cid:91)(cid:2) (cid:37)(cid:42)(cid:40)(cid:2)(cid:19)(cid:18)(cid:23)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:14)(cid:2)(cid:89)(cid:74)(cid:75)(cid:78)(cid:71)(cid:2)(cid:72)(cid:81)(cid:84)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:36)(cid:67)(cid:80)(cid:77)(cid:2)(cid:75)(cid:86)(cid:2)(cid:89)(cid:81)(cid:87)(cid:78)(cid:70)(cid:2)(cid:74)(cid:67)(cid:88)(cid:71)(cid:2)(cid:68)(cid:71)(cid:71)(cid:80)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:24)(cid:22)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:16) This announcement underlined our commitment to transform our Group into a less capital- and balance-sheet-intensive business that is more focused on serving clients and capable of maximizing value for shareholders. We are transforming our Investment Bank, focusing on its traditional strengths in advisory, research, equities, foreign exchange and precious metals, and we are taking addi- tional action to reduce costs and improve efficiency across the Group. We are exiting certain business lines, predominantly those in fixed income, that have been rendered less attractive by changes in regulation and market developments. After transferring the non-core businesses and positions to be exited to the Corporate Center, we have retained limited credit and rates trading in our Investment Bank, along with structured financing capabilities, to support its solutions-focused businesses. Our leading equities and foreign exchange businesses, including our emerging markets for- eign exchange capabilities, continue to be cornerstones of our Investment Bank’s services. We have not significantly altered our advisory and capital markets businesses, but have reorganized our existing business functions to better serve our clients. As a result of the abovementioned transfers and additional RWA reductions, our Investment Bank started 2013 operating with approximately CHF 64 billion of Basel III RWA, within its target RWA of CHF 70 billion or less. We are convinced that our new Investment Bank is capable of delivering returns well in excess of its cost of capital, and we are targeting a pre-tax return on attributed equity of greater than 15% starting in 2013 in this division. (cid:19)(cid:41)(cid:53)(cid:18)(cid:20)(cid:18)(cid:65)(cid:71) Our Corporate Center is tasked with managing non-core as- sets, previously part of the Investment Bank, in the most value- accretive way for shareholders. These diversified assets will be re- ported within our “Non-core and Legacy Portfolio” unit within the Corporate Center from the first quarter of 2013. At the end of 2012, this portfolio represented approximately CHF 105 billion in Basel III RWA, which we aim to reduce progressively to ap- proximately CHF 25 billion by the end of 2017. As a result, we are targeting Group RWA of less than CHF 200 billion on a fully ap- plied Basel III basis by the end of 2017. 1 The pro-forma Basel III information is not required to be presented because Basel III requirements were not in effect on 31 December 2012. Such measures are non-GAAP financial measures as defined by SEC regula- tions. We nevertheless include information on the basis of Basel III requirements because they are effective as of 1 January 2013 and significantly impact our RWA and eligible capital. The calculation of our pro-forma Basel III RWA combines existing Basel 2.5 RWA, a revised treatment for low-rated securitization exposures that are no longer deducted from capital but are risk-weighted at 1250%, and new model-based capital charges. Some of these new models require final regulatory approval and therefore our pro-forma calculations include estimates (discussed with our primary regulator) of the effect of these new capital charges, which will be refined as models and the associated systems are enhanced. 24 400 300 200 100 0 (cid:19)(cid:36)(cid:38)(cid:19)(cid:18)(cid:20)(cid:65)(cid:71) Maintaining cost discipline is critical to our long-term success and is a key element of the cost reduction plans we announced in October 2012. To this end, we announced measures to achieve additional annual costs savings of CHF 3.4 billion by 2015 that include reducing our Investment Bank’s complexity and size, im- proving organizational effectiveness, primarily in our Corporate Center, and introducing lean front-to-back processes across our Group. These savings come in addition to the CHF 2.0 billion an- nual cost reduction program that we announced in 2011 and ex- pect to complete by the end of 2013. As a consequence of our measures to support the long-term efficiency of our firm, we ex- pect our headcount to be around 54,000 in 2015 compared with approximately 63,000 at the end of 2012. Our investment in these initiatives is reflected in restructuring charges of CHF 258 million in the fourth quarter of 2012 and expectations of further incremental charges of approximately CHF 1.1 billion in 2013, CHF 0.9 billion in 2014 and CHF 0.8 billion in 2015. Our efficiency programs will free up resources to make invest- ments over the next three years to support growth across our firm and enable us to service our clients with greater agility and effec- tiveness, improving quality and speed to market. These investments are expected to reach CHF 1.5 billion over the next three years. 2013 and 2014 will be key years of transition for our Investment Bank and our Group as we work through our plans to restructure our businesses and reduce our cost base. As a result, during these years we expect our Group to deliver a return on equity in the mid- single digits as we transform our business. We believe the changes we are making will enable us to deliver improved returns and thus we have set a Group return on equity target of more than 15% from 2015 onwards. We are also targeting a Group cost / income ratio of 60% to 70% from 2015 onwards. We are well prepared for the future with a clear strategy and a solid financial foundation. We are firmly committed to returning capital to our shareholders and plan to continue our program of progressive returns to shareholders with a proposed 50% increase in dividends to CHF 0.15 per share for the financial year 2012. Once we have achieved our capital targets, we are aiming for a total payout ratio of 50%, consisting of a baseline dividend and supplementary returns. We intend to set a baseline dividend at a sustainable level, taking into account normal economic fluctua- tions. The supplementary capital returns will be balanced with our need for investment and any buffer we choose to maintain for a more challenging economic environment or other stress scenari- os. Through the successful implementation of our strategy, we believe we can sustain and grow our business and maintain a prudent capital position. Our business divisions Our Wealth Management business provides comprehensive finan- cial services to high net worth and ultra high net worth individuals in over 40 countries. We will continue to strengthen Wealth Man- agement’s industry-leading position, particularly in growth mar- kets such as Asia-Pacific and the emerging markets. This will en- (cid:35)(cid:80)(cid:80)(cid:87)(cid:67)(cid:78)(cid:2)(cid:82)(cid:71)(cid:84)(cid:72)(cid:81)(cid:84)(cid:79)(cid:67)(cid:80)(cid:69)(cid:71)(cid:2)(cid:86)(cid:67)(cid:84)(cid:73)(cid:71)(cid:86)(cid:85)(cid:19) (cid:41)(cid:84)(cid:81)(cid:87)(cid:82)(cid:2)(cid:86)(cid:67)(cid:84)(cid:73)(cid:71)(cid:86)(cid:85)(cid:28) (cid:36)(cid:67)(cid:85)(cid:71)(cid:78)(cid:2)(cid:43)(cid:43)(cid:43)(cid:2)(cid:37)(cid:39)(cid:54)(cid:19)(cid:2)(cid:84)(cid:67)(cid:86)(cid:75)(cid:81)(cid:2)(cid:72)(cid:87)(cid:78)(cid:78)(cid:91)(cid:2)(cid:67)(cid:82)(cid:82)(cid:78)(cid:75)(cid:71)(cid:70) (cid:37)(cid:81)(cid:85)(cid:86) (cid:17)(cid:75)(cid:80)(cid:69)(cid:81)(cid:79)(cid:71)(cid:2)(cid:84)(cid:67)(cid:86)(cid:75)(cid:81) (cid:52)(cid:71)(cid:86)(cid:87)(cid:84)(cid:80)(cid:2)(cid:81)(cid:80)(cid:2)(cid:71)(cid:83)(cid:87)(cid:75)(cid:86)(cid:91)(cid:20) 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We are de- veloping our business model as a dynamic wealth manager with investment management capabilities at its core. We are trans- forming our European operating model to reflect our clients’ con- verging needs, to increase efficiency and to anticipate the chang- ing regulatory environment in this market. Our clients continue to benefit from our global research, superior investment advice and solutions, execution competencies and access to global financial markets. To this end, and with the ultimate goal of improving our clients’ investment performance, our Chief Investment Officer or- ganization synthesizes the research and expertise of our global network of economists, strategists, analysts and investment spe- cialists from across all business divisions and asset classes. Wealth Management aims to achieve a net new money growth rate of 3% to 5%, a gross margin of 95 to 105 basis points and a cost / in- come ratio of 60% to 70%. Wealth Management Americas provides advice-based solu- tions through financial advisors who deliver a fully-integrated set of products and services to individuals and families mainly in the 25 Operating environment and strategy Operating environment and strategy Our strategy United States and Canada. We remain committed to our client- focused and advisor-centric strategy and consider ourselves uniquely positioned to serve high net worth and ultra high net worth individuals and families in the world’s largest wealth mar- ket. We believe the long-term growth prospects of wealth man- agement are attractive in the Americas, with our target high net worth and ultra high net worth markets expected to be the fast- est-growing segments in terms of invested assets. We will con- tinue our strategic banking initiatives, including mortgage and securities-based lending initiatives, to ensure continued growth in balances from our target client base. Our Wealth Management Americas business targets a net new money growth rate of 2% to 4%, a gross margin of 75 to 85 basis points and a cost / income ratio of 80% to 90%. Our Investment Bank is among the global market leaders in its core businesses of advisory, research, equities, foreign exchange and precious metals. We will continue to invest in these areas and compete to increase market share. In order to align the delivery of our services and the execution of our strategy with the needs of our core clients, the Investment Bank has been reorganized into two segments, Corporate Client Solutions and Investor Client Ser- vices, effective from the beginning of 2013. Corporate Client So- lutions includes all advisory and solutions businesses and execu- tion for corporate, financial institutions and sponsor clients. Investor Client Solutions includes execution, distribution and trad- ing for institutional investors, and will provide support to our Group’s wealth management businesses. We aim to capitalize on attractive opportunities in less capital-intensive businesses by fo- cusing on delivering best-in-class expertise, solutions-led advisory, thought leadership and global execution capabilities. Operating with under CHF 70 billion of Basel III RWA and less than CHF 200 billion of funded assets, our Investment Bank aims to deliver a pre-tax return on attributed equity in excess of 15%, with a cost / income ratio of 65% to 85%. Our Global Asset Management business is a large-scale asset manager with businesses well-diversified across regions, capabili- ties and distribution channels. We work closely with our clients in pursuit of their investment goals with long-term performance as our focus. The diversification of our business places us in a good position to benefit from shifting market dynamics and provides a solid foundation for capturing industry growth opportunities aris- ing from savings and pensions growth. We will continue investing in our fast-growing passive capabilities and expanding our strong third-party institutional business while also expanding third-party wholesale distribution and remaining committed to delivering dis- tinctive products and solutions to the clients of our Group’s wealth management businesses. We also continue to expand our suc- cessful alternatives platform, building on our established positions in real estate and fund of hedge funds businesses. These mea- sures will support us as we seek to deliver a net new money growth rate of 3% to 5%, a gross margin of 32 to 38 basis points and a cost / income ratio of 60% to 70% in Global Asset Manage- ment. Retail & Corporate maintains a leading position across its cli- ent segments in Switzerland and constitutes a central building block of our universal bank model in Switzerland. We aim to provide comprehensive financial products and services to our re- tail, corporate and institutional clients in Switzerland. We will continue to enhance the range of life cycle products and services we offer our clients, while capitalizing on additional growth op- portunities in advisory and execution. From a financial perspec- tive, we expect this business to continue to provide a stable and substantial source of profits and funding for our Group and to generate revenue growth opportunities for other businesses within our Group. Our Retail & Corporate business aims to achieve new business volume growth of 1% to 4%, a net inter- est margin of 140 to 180 basis points and a cost / income ratio of 50% to 60%. 26 UBS Switzerland UBS is the preeminent universal bank in Switzerland, the only country where we operate and maintain leading positions in all five of our business areas of retail, wealth management, corporate and institutional banking, asset manage- ment and investment banking. We are fully committed to our home market as our leading position in Switzerland is crucial in terms of profit stability, sustain- ing our global brand and growing our global core business. Drawing on our network of around 300 branches and our 4,700 client-facing staff, comple- mented by state-of-the-art electronic and mobile banking services and customer service centers open to our clients around the clock seven days a week, we are able to reach approximately 80% of Swiss wealth, one in three households, one in three wealthy individuals and almost half of all Swiss companies. Euromoney and The Banker, two of the world’s leading financial markets magazines, acknow- ledged our preeminent position in Switzerland with their prestigious “Best Bank in Switzerland 2012” and “Bank of the Year 2012 in Switzerland” awards, respectively. We strive to be the strongest bank in Switzerland and our unique universal bank model is central to our success. Our dedicated Swiss management team has representatives from all five business areas and ensures we apply a consistent approach to the market when offering our full range of banking products, expertise and services. Our cross-divisional management approach allows us to utilize our existing resources efficiently, promotes cross-divisional thinking and enables seamless collaboration across all business areas. As a result, we are in a unique position to serve our clients efficiently with a comprehensive range of banking products and services to fit their needs. We are able to differentiate ourselves by leveraging our strengths across all segments while ensuring stability and continuity throughout the client’s life cycle. Our universal bank model has proven itself to be highly effective in Switzerland and consistently provides a substantial part of the Group’s revenues. Given the strength of the economy and the stable political environment in Switzerland, the country remains an attractive financial market. This inherent stability and growth has been the basis for UBS Switzerland’s success and its contribution to the Group’s financial performance. Thanks to our universal bank model, broad client base and seamless multi-channel offering, we are well-positioned to capture future market growth and to strengthen our leading position in our home market. 27 Operating environment and strategy Operating environment and strategy Our strategy UBS – leading the way on Basel III Our position as one the world’s best-capitalized banks under Basel III, together with our stable funding and sound liquidity positions, provides us with a solid foundation for our success. We have a proven track record of Basel III RWA reduction, surpassing our 2012 Basel III RWA targets ahead of schedule. At the end of 2012, our Basel III pro-forma common equity tier 1 (CET1) ratio was 15.3% calculated on a phase-in basis and 9.8% on a fully applied basis, while our Basel 2.5 capital ratio was 21.3%, giving us one of the highest capital ratios in our peer group. We are committed to continuing to improve these ratios through a combination of retained earnings and efforts to reduce Basel III RWA. By the end of 2012, our pro-forma fully applied Basel III RWA had decreased to CHF 258 billion, a reduction of 35% from the level recorded at the end of the third quarter of 2011, prior to our announcing our strategy at our Investor Day in November of that year. Our goal of reducing Basel III RWA to less than CHF 200 billion by 2017 means that we plan to operate with less than half of the Basel III RWA we had at the end of September 2011. We are targeting fully applied Basel III CET1 ratios of 11.5% and 13% in 2013 and 2014, respectively. By achieving our targets, we will exceed the regulatory requirements both under FINMA and Basel Committee on Banking Supervision rules. We believe this will provide even greater comfort to our clients and further increase confidence in the firm. Our progress towards meeting FINMA’s capital requirements, which are stricter than Basel Committee on Banking Supervision requirements, was evidenced in February and again in August 2012 by our issuance of Basel III-compliant tier 2 loss-absorbing notes in a nominal amount of USD 2 billion on each occasion. These issuances qualify as tier 2 capital under Basel III rules and as progressive capital buffer in compliance with the “too-big-to- fail” law under Swiss regulations for systemically important banks, and contribute to our targeted loss-absorbing capital. For 2012, the significant changes we made to our compensation framework included the introduction of a deferred contingent (cid:36)(cid:67)(cid:85)(cid:71)(cid:78)(cid:2)(cid:43)(cid:43)(cid:43)(cid:2)(cid:115)(cid:2)(cid:37)(cid:67)(cid:82)(cid:75)(cid:86)(cid:67)(cid:78)(cid:2)(cid:84)(cid:67)(cid:86)(cid:75)(cid:81)(cid:85) (cid:54)(cid:67)(cid:84)(cid:73)(cid:71)(cid:86)(cid:75)(cid:80)(cid:73)(cid:2)(cid:67)(cid:2)(cid:19)(cid:21)(cid:7)(cid:2)(cid:72)(cid:87)(cid:78)(cid:78)(cid:91)(cid:2)(cid:67)(cid:82)(cid:82)(cid:78)(cid:75)(cid:71)(cid:70)(cid:2)(cid:37)(cid:39)(cid:54)(cid:19)(cid:2)(cid:84)(cid:67)(cid:86)(cid:75)(cid:81)(cid:2)(cid:75)(cid:80)(cid:2)(cid:20)(cid:18)(cid:19)(cid:22) (cid:43)(cid:80)(cid:2)(cid:7) (cid:36)(cid:67)(cid:85)(cid:71)(cid:78)(cid:2)(cid:43)(cid:43)(cid:43) (cid:82)(cid:74)(cid:67)(cid:85)(cid:71)(cid:15)(cid:75)(cid:80) (cid:36)(cid:67)(cid:85)(cid:71)(cid:78)(cid:2)(cid:43)(cid:43)(cid:43) (cid:72)(cid:87)(cid:78)(cid:78)(cid:91)(cid:2)(cid:67)(cid:82)(cid:82)(cid:78)(cid:75)(cid:71)(cid:70) (cid:96)(cid:19)(cid:16)(cid:22) (cid:96)(cid:18)(cid:16)(cid:20) (cid:96)(cid:19)(cid:23)(cid:16)(cid:21) (cid:96)(cid:19)(cid:21)(cid:16)(cid:19) (cid:96)(cid:19)(cid:21)(cid:16)(cid:24) (cid:96)(cid:19)(cid:19)(cid:16)(cid:26) (cid:96)(cid:19)(cid:18)(cid:16)(cid:25) (cid:96)(cid:19)(cid:18)(cid:16)(cid:18) (cid:96)(cid:19)(cid:21)(cid:16)(cid:18)(cid:124) (cid:96)(cid:19)(cid:16)(cid:22) (cid:96)(cid:18)(cid:16)(cid:20) (cid:96)(cid:27)(cid:16)(cid:26)(cid:124) (cid:96)(cid:19)(cid:19)(cid:16)(cid:23)(cid:124) (cid:96)(cid:26)(cid:16)(cid:26)(cid:124) (cid:96)(cid:27)(cid:16)(cid:21)(cid:124) (cid:96)(cid:24)(cid:16)(cid:20) (cid:96)(cid:24)(cid:16)(cid:25) (cid:96)(cid:25)(cid:16)(cid:23) (cid:19) (cid:19) (cid:16) (cid:27) (cid:16) (cid:18) (cid:21) (cid:19) (cid:19) (cid:16) (cid:20) (cid:19) (cid:16) (cid:19) (cid:21) (cid:20) (cid:19) (cid:16) (cid:21) (cid:16) (cid:19) (cid:21) (cid:20) (cid:19) (cid:16) (cid:24) (cid:16) (cid:18) (cid:21) (cid:20) (cid:19) (cid:16) (cid:27) (cid:16) (cid:18) (cid:21) (cid:20) (cid:19) (cid:16) (cid:20) (cid:19) (cid:16) (cid:19) (cid:21) (cid:19) (cid:19) (cid:16) (cid:27) (cid:16) (cid:18) (cid:21) (cid:19) (cid:19) (cid:16) (cid:20) (cid:19) (cid:16) (cid:19) (cid:21) (cid:20) (cid:19) (cid:16) (cid:21) (cid:16) (cid:19) (cid:21) (cid:20) (cid:19) (cid:16) (cid:24) (cid:16) (cid:18) (cid:21) (cid:124) (cid:124) (cid:20) (cid:19) (cid:16) (cid:27) (cid:16) (cid:18) (cid:21) (cid:20) (cid:19) (cid:16) (cid:20) (cid:19) (cid:16) (cid:19) (cid:21) (cid:21) (cid:19) (cid:18) (cid:20) (cid:86) (cid:71) (cid:73) (cid:84) (cid:67) (cid:86) (cid:22) (cid:19) (cid:18) (cid:20) (cid:86) (cid:71) (cid:73) (cid:84) (cid:67) (cid:86) (cid:19)(cid:41)(cid:53)(cid:18)(cid:22)(cid:18)(cid:65)(cid:71) (cid:46)(cid:81)(cid:89)(cid:15)(cid:86)(cid:84)(cid:75)(cid:73)(cid:73)(cid:71)(cid:84)(cid:2)(cid:78)(cid:81)(cid:85)(cid:85)(cid:15)(cid:67)(cid:68)(cid:85)(cid:81)(cid:84)(cid:68)(cid:75)(cid:80)(cid:73)(cid:2)(cid:69)(cid:67)(cid:82)(cid:75)(cid:86)(cid:67)(cid:78)(cid:2) (cid:42)(cid:75)(cid:73)(cid:74)(cid:15)(cid:86)(cid:84)(cid:75)(cid:73)(cid:73)(cid:71)(cid:84)(cid:2)(cid:78)(cid:81)(cid:85)(cid:85)(cid:15)(cid:67)(cid:68)(cid:85)(cid:81)(cid:84)(cid:68)(cid:75)(cid:80)(cid:73)(cid:2)(cid:69)(cid:67)(cid:82)(cid:75)(cid:86)(cid:67)(cid:78)(cid:19) (cid:37)(cid:81)(cid:79)(cid:79)(cid:81)(cid:80)(cid:2)(cid:71)(cid:83)(cid:87)(cid:75)(cid:86)(cid:91)(cid:2) (cid:19)(cid:2)(cid:38)(cid:71)(cid:68)(cid:86)(cid:2)(cid:75)(cid:85)(cid:85)(cid:87)(cid:71)(cid:70)(cid:2)(cid:67)(cid:85)(cid:2)(cid:82)(cid:67)(cid:84)(cid:86)(cid:2)(cid:81)(cid:72)(cid:2)(cid:55)(cid:36)(cid:53)(cid:111)(cid:85)(cid:2)(cid:20)(cid:18)(cid:19)(cid:20)(cid:2)(cid:70)(cid:71)(cid:72)(cid:71)(cid:84)(cid:84)(cid:71)(cid:70)(cid:2)(cid:69)(cid:81)(cid:79)(cid:82)(cid:71)(cid:80)(cid:85)(cid:67)(cid:86)(cid:75)(cid:81)(cid:80)(cid:2)(cid:82)(cid:84)(cid:81)(cid:73)(cid:84)(cid:67)(cid:79)(cid:85)(cid:16) (cid:22)(cid:18)(cid:18) (cid:21)(cid:18)(cid:18) (cid:20)(cid:18)(cid:18) (cid:19)(cid:18)(cid:18) (cid:2)(cid:2)(cid:2)(cid:2)(cid:18) 28 UBS – leading the way on Basel III capital plan, under which employees will forfeit deferred compensation balances if a 7% Basel III CET1 ratio level is breached or if a non-viability event occurs during the five-year period after the award date. These new high-trigger loss-absorb- ing instruments will be counted towards our tier 2 capital by our primary regulator. Over the next five years, we could build approximately 100 basis points of such high-trigger loss-absorb- ing capital from this program. Our Investment Bank started 2013 with approximately CHF 64 billion in Basel III RWA. Having fully adapted its business to Basel III, it will continue to operate with RWA of less than CHF 70 billion. In line with our strategy to deploy capital efficiently, RWA will continue to grow both in our wealth management busi- nesses and in Retail & Corporate as we deliver attractive lending and mortgage opportunities to our clients. The non-core assets previously in our Investment Bank have been transferred to our Corporate Center, where they will be reported from the first quarter of 2013 within our Non-core and Legacy Portfolio unit. Our Corporate Center is tasked with managing these diversified assets in the most value-accretive way for shareholders and within the same robust oversight structure that has successfully supported our RWA reduction in our Legacy Portfolio. In total, our Corporate Center manages approximately CHF 105 billion of pro-forma Basel III RWA in our Non-core and Legacy Portfolio unit. We aim to reduce these to around CHF 85 billion by the end of 2013, CHF 55 billion by the end of 2015 and CHF 25 billion by the end of 2017. In addition to our leading position on capital ratios, our liquidity and funding positions are strong and will be further enhanced as we work to improve our leverage ratio. Our estimated pro-forma regulatory Basel III liquidity coverage ratio (LCR) of 113% and estimated pro-forma net stable funding ratio (NSFR) of 108% at the end of 2012 (both based on current regulatory guidance) exceeded our future minimum regulatory requirement of 100% for both LCR and NSFR for 2019 and 2018, respectively. Our pro-forma FINMA Basel III leverage ratio on a phase-in total capital requirement basis was 3.6% at the end of 2012 compared with an estimated target requirement of 4.2% on 1 January 2019. We have a stable mix of funding sources that is well-diversified by market, product and currency, with client deposits providing the single largest source of funding for our firm. We plan to reduce our Group’s funded balance sheet by around a third by the end of 2015 from approximately CHF 900 billion at the end of the third quarter of 2012. This smaller funded balance sheet will improve our leverage ratios substantially and increase the proportion of deposits as a funding source. Reducing our balance sheet will also lower our funding requirements, enabling us to continue buying back debt selectively, following our cash tender offer in February 2013 in which we bought back approximately CHF 5 billion in certain outstanding bonds. In addition, we expect our FINMA total capital requirement in 2019 to fall to 17.5% from 19% due to our planned decrease in total exposure. 29 Operating environment and strategy Operating environment and strategy Our strategy Basel III / “too-big-to-fail” at a glance The Basel III global regulatory rules were agreed upon by the Basel Committee on Banking Supervision between 2010 and 2011, mainly in response to the 2007 to 2009 financial crisis. Swiss banks are required to comply with the Basel III-related requirements, as implemented by the revised Capital Adequacy Ordinance, based on a transitional timetable. The capital requirements under the Basel III framework are being phased in from 1 January 2013 and will take effect on a fully applied basis on 1 January 2019. The changes made by the Basel III framework will have an increasing impact on the calculation of our phase-in capital ratios during this transition period, mainly due to the deduction of deferred tax assets on net operating losses, the inclusion of the effects of changes to the accounting standard relating to pension liabilities and the phasing out of hybrid tier 1 capital instruments for the calcula- tion of common equity. Further, tier 2 capital instruments that are not compliant with Basel III will be gradually excluded from phase-in total capital. Systemically relevant banks in Switzerland (currently UBS and Credit Suisse) have to comply with the so-called “too-big-to-fail” (TBTF)-specific rules, which come on the top of the Basel III requirements. This means that we have to fulfill stricter regulatory requirements than most other banks in the world. Key Basel III elements: – Increased quality of regulatory capital base – New capital buffers including capital conservation buffer and countercyclical buffer – Enhanced risk coverage with stricter market and counter- party credit risk requirements – Minimum leverage ratio requirement to constrain excess leverage, independent of risk levels – Increased liquidity requirements such as liquidity coverage ratio and net stable funding ratio Key regulatory requirements for us on a Basel III fully applied basis1: Capital and buffers 2 We have total projected minimum capital requirements of 17.5% to 19.0% 3, consisting of the following elements: 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(cid:68)(cid:67)(cid:78)(cid:67)(cid:80)(cid:69)(cid:71)(cid:2)(cid:85)(cid:74)(cid:71)(cid:71)(cid:86)(cid:2)(cid:84)(cid:71)(cid:78)(cid:67)(cid:86)(cid:71)(cid:70)(cid:2)(cid:86)(cid:81)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:67)(cid:69)(cid:69)(cid:71)(cid:78)(cid:71)(cid:84)(cid:67)(cid:86)(cid:71)(cid:70)(cid:2)(cid:75)(cid:79)(cid:82)(cid:78)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:67)(cid:86)(cid:75)(cid:81)(cid:80)(cid:2)(cid:81)(cid:72)(cid:2)(cid:81)(cid:87)(cid:84)(cid:2)(cid:85)(cid:86)(cid:84)(cid:67)(cid:86)(cid:71)(cid:73)(cid:91)(cid:2)(cid:67)(cid:80)(cid:80)(cid:81)(cid:87)(cid:80)(cid:69)(cid:71)(cid:70)(cid:2)(cid:75)(cid:80)(cid:2)(cid:49)(cid:69)(cid:86)(cid:81)(cid:68)(cid:71)(cid:84)(cid:2)(cid:20)(cid:18)(cid:19)(cid:20)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2) (cid:84)(cid:71)(cid:85)(cid:87)(cid:78)(cid:86)(cid:75)(cid:80)(cid:73)(cid:2)(cid:84)(cid:71)(cid:70)(cid:87)(cid:69)(cid:86)(cid:75)(cid:81)(cid:80)(cid:2)(cid:75)(cid:80)(cid:2)(cid:86)(cid:81)(cid:86)(cid:67)(cid:78)(cid:2)(cid:71)(cid:90)(cid:82)(cid:81)(cid:85)(cid:87)(cid:84)(cid:71)(cid:16)(cid:2)(cid:57)(cid:71)(cid:2)(cid:71)(cid:90)(cid:82)(cid:71)(cid:69)(cid:86)(cid:2)(cid:86)(cid:74)(cid:75)(cid:85)(cid:2)(cid:86)(cid:81)(cid:2)(cid:84)(cid:71)(cid:70)(cid:87)(cid:69)(cid:71)(cid:2)(cid:81)(cid:87)(cid:84)(cid:2)(cid:86)(cid:81)(cid:86)(cid:67)(cid:78)(cid:2)(cid:69)(cid:67)(cid:82)(cid:75)(cid:86)(cid:67)(cid:78)(cid:2)(cid:84)(cid:71)(cid:83)(cid:87)(cid:75)(cid:84)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:86)(cid:81)(cid:2)(cid:19)(cid:25)(cid:16)(cid:23)(cid:7)(cid:2)(cid:68)(cid:91)(cid:2)(cid:20)(cid:18)(cid:19)(cid:27)(cid:16)(cid:2) (cid:53)(cid:91)(cid:85)(cid:86)(cid:71)(cid:79)(cid:75)(cid:69)(cid:67)(cid:78)(cid:78)(cid:91)(cid:2)(cid:84)(cid:71)(cid:78)(cid:71)(cid:88)(cid:67)(cid:80)(cid:86)(cid:2)(cid:68)(cid:67)(cid:80)(cid:77)(cid:85)(cid:2)(cid:67)(cid:84)(cid:71)(cid:2)(cid:71)(cid:78)(cid:75)(cid:73)(cid:75)(cid:68)(cid:78)(cid:71)(cid:2)(cid:72)(cid:81)(cid:84)(cid:2)(cid:67)(cid:2)(cid:69)(cid:67)(cid:82)(cid:75)(cid:86)(cid:67)(cid:78)(cid:2)(cid:84)(cid:71)(cid:68)(cid:67)(cid:86)(cid:71)(cid:2)(cid:81)(cid:80)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:82)(cid:84)(cid:81)(cid:73)(cid:84)(cid:71)(cid:85)(cid:85)(cid:75)(cid:88)(cid:71)(cid:2)(cid:68)(cid:87)(cid:72)(cid:72)(cid:71)(cid:84)(cid:2)(cid:75)(cid:72)(cid:2)(cid:86)(cid:74)(cid:71)(cid:91)(cid:2)(cid:86)(cid:67)(cid:77)(cid:71)(cid:2)(cid:67)(cid:69)(cid:86)(cid:75)(cid:81)(cid:80)(cid:85)(cid:2)(cid:86)(cid:74)(cid:67)(cid:86)(cid:2) (cid:72)(cid:67)(cid:69)(cid:75)(cid:78)(cid:75)(cid:86)(cid:67)(cid:86)(cid:71)(cid:2)(cid:84)(cid:71)(cid:69)(cid:81)(cid:88)(cid:71)(cid:84)(cid:91)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:84)(cid:71)(cid:85)(cid:81)(cid:78)(cid:88)(cid:67)(cid:68)(cid:75)(cid:78)(cid:75)(cid:86)(cid:91)(cid:2)(cid:68)(cid:71)(cid:91)(cid:81)(cid:80)(cid:70)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:79)(cid:75)(cid:80)(cid:75)(cid:79)(cid:87)(cid:79)(cid:2)(cid:84)(cid:71)(cid:83)(cid:87)(cid:75)(cid:84)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:85)(cid:2)(cid:86)(cid:81)(cid:2)(cid:71)(cid:80)(cid:85)(cid:87)(cid:84)(cid:71)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:75)(cid:80)(cid:86)(cid:71)(cid:73)(cid:84)(cid:75)(cid:86)(cid:91)(cid:2)(cid:81)(cid:72)(cid:2)(cid:85)(cid:91)(cid:85)(cid:86)(cid:71)(cid:79)(cid:75)(cid:69)(cid:67)(cid:78)(cid:78)(cid:91)(cid:2) (cid:75)(cid:79)(cid:82)(cid:81)(cid:84)(cid:86)(cid:67)(cid:80)(cid:86)(cid:2)(cid:72)(cid:87)(cid:80)(cid:69)(cid:86)(cid:75)(cid:81)(cid:80)(cid:85)(cid:2)(cid:75)(cid:80)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:69)(cid:67)(cid:85)(cid:71)(cid:2)(cid:81)(cid:72)(cid:2)(cid:75)(cid:79)(cid:82)(cid:71)(cid:80)(cid:70)(cid:75)(cid:80)(cid:73)(cid:2)(cid:75)(cid:80)(cid:85)(cid:81)(cid:78)(cid:88)(cid:71)(cid:80)(cid:69)(cid:91)(cid:16)(cid:2)(cid:2)(cid:2)(cid:2)(cid:21)(cid:2)(cid:37)(cid:67)(cid:80)(cid:2)(cid:68)(cid:71)(cid:2)(cid:85)(cid:87)(cid:68)(cid:85)(cid:86)(cid:75)(cid:86)(cid:87)(cid:86)(cid:71)(cid:70)(cid:2)(cid:68)(cid:91)(cid:2)(cid:36)(cid:67)(cid:85)(cid:71)(cid:78)(cid:2)(cid:43)(cid:43)(cid:43)(cid:2)(cid:37)(cid:39)(cid:54)(cid:19)(cid:2)(cid:69)(cid:67)(cid:82)(cid:75)(cid:86)(cid:67)(cid:78)(cid:16) – 4.5% Basel III common equity tier 1 (CET1) capital – 8.5% capital buffer (5.5% Basel III CET1 capital and up to 3% high-trigger loss-absorbing capital4) – 4.5% to 6.0% 3 projected low-trigger loss-absorbing capital as a progressive buffer, depending on our total exposure and market share in Switzerland. In addition, the Swiss National Bank5 (SNB) can (after consulting with FINMA and informing the Federal Department of Finance) 30 (cid:19)(cid:41)(cid:53)(cid:18)(cid:23)(cid:18) Basel III / “too-big-to-fail” at a glance formally propose the activation of a countercyclical buffer of up to 2.5% Basel III CET1 capital, to be applied to RWA on some or all risk exposures in Switzerland. The proposal must be made to the Federal Council, which decides on its activation on a case-by-case basis, depending on credit growth and the systemic risk situation in Switzerland. In February 2013, following such a proposal by the SNB, the Federal Council decided to activate the countercyclical capital buffer in Switzer- land with respect to mortgage loans financing residential property located in Switzerland. The buffer has been set at 1% of associated Basel III RWA. Banks in Switzerland must fulfill this additional requirement by 30 September 2013. The effect of the activation of the countercyclical buffer on our capital require- ments is not material. (cid:37)(cid:67)(cid:78)(cid:69)(cid:87)(cid:78)(cid:67)(cid:86)(cid:75)(cid:80)(cid:73)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:40)(cid:43)(cid:48)(cid:47)(cid:35)(cid:2)(cid:36)(cid:67)(cid:85)(cid:71)(cid:78)(cid:2)(cid:43)(cid:43)(cid:43)(cid:2)(cid:78)(cid:71)(cid:88)(cid:71)(cid:84)(cid:67)(cid:73)(cid:71)(cid:2)(cid:84)(cid:67)(cid:86)(cid:75)(cid:81) (cid:49)(cid:87)(cid:84)(cid:2)(cid:40)(cid:43)(cid:48)(cid:47)(cid:35)(cid:2)(cid:36)(cid:67)(cid:85)(cid:71)(cid:78)(cid:2)(cid:43)(cid:43)(cid:43)(cid:2)(cid:78)(cid:71)(cid:88)(cid:71)(cid:84)(cid:67)(cid:73)(cid:71)(cid:2)(cid:84)(cid:67)(cid:86)(cid:75)(cid:81)(cid:2)(cid:89)(cid:67)(cid:85)(cid:2)(cid:21)(cid:16)(cid:24)(cid:7)(cid:2)(cid:81)(cid:80)(cid:2)(cid:21)(cid:19)(cid:2)(cid:38)(cid:71)(cid:69)(cid:71)(cid:79)(cid:68)(cid:71)(cid:84)(cid:2)(cid:20)(cid:18)(cid:19)(cid:20) (cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:2)(cid:69)(cid:67)(cid:82)(cid:75)(cid:86)(cid:67)(cid:78) (cid:50)(cid:74)(cid:67)(cid:85)(cid:71)(cid:15)(cid:75)(cid:80)(cid:2)(cid:37)(cid:39)(cid:54)(cid:19)(cid:2) (cid:13)(cid:2) (cid:78)(cid:81)(cid:85)(cid:85)(cid:15)(cid:67)(cid:68)(cid:85)(cid:81)(cid:84)(cid:68)(cid:75)(cid:80)(cid:73)(cid:2)(cid:69)(cid:67)(cid:82)(cid:75)(cid:86)(cid:67)(cid:78) (cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:2)(cid:71)(cid:90)(cid:82)(cid:81)(cid:85)(cid:87)(cid:84)(cid:71)(cid:19) (cid:124)(cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:2)(cid:43)(cid:40)(cid:52)(cid:53)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:85)(cid:2)(cid:13)(cid:2)(cid:67)(cid:70)(cid:76)(cid:87)(cid:85)(cid:86)(cid:79)(cid:71)(cid:80)(cid:86)(cid:85)(cid:124) = (cid:40)(cid:43)(cid:48)(cid:47)(cid:35) (cid:36)(cid:67)(cid:85)(cid:71)(cid:78)(cid:2)(cid:43)(cid:43)(cid:43)(cid:2) (cid:78)(cid:71)(cid:88)(cid:71)(cid:84)(cid:67)(cid:73)(cid:71)(cid:2) (cid:84)(cid:67)(cid:86)(cid:75)(cid:81) = (cid:37)(cid:42)(cid:40)(cid:2)(cid:22)(cid:22)(cid:16)(cid:20)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:31)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:22)(cid:18)(cid:16)(cid:18)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2) (cid:13)(cid:2) (cid:37)(cid:42)(cid:40)(cid:2)(cid:22)(cid:16)(cid:20)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:37)(cid:42)(cid:40)(cid:2)(cid:19)(cid:14)(cid:20)(cid:19)(cid:24)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:31)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:19)(cid:14)(cid:20)(cid:25)(cid:19)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2) (cid:115)(cid:2) (cid:37)(cid:42)(cid:40)(cid:2)(cid:23)(cid:23)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) = (cid:21)(cid:16)(cid:24)(cid:7) (cid:38)(cid:71)(cid:70)(cid:87)(cid:69)(cid:86)(cid:75)(cid:80)(cid:73)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:21)(cid:25)(cid:23)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:28)(cid:2)(cid:70)(cid:71)(cid:84)(cid:75)(cid:88)(cid:67)(cid:86)(cid:75)(cid:88)(cid:71)(cid:85)(cid:2)(cid:10)(cid:37)(cid:42)(cid:40)(cid:2)(cid:21)(cid:21)(cid:20)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:11)(cid:14)(cid:2)(cid:84)(cid:71)(cid:82)(cid:87)(cid:84)(cid:69)(cid:74)(cid:67)(cid:85)(cid:71)(cid:2)(cid:67)(cid:73)(cid:84)(cid:71)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:85)(cid:2)(cid:69)(cid:81)(cid:88)(cid:71)(cid:84)(cid:71)(cid:70)(cid:2)(cid:68)(cid:91)(cid:2)(cid:71)(cid:78)(cid:75)(cid:73)(cid:75)(cid:68)(cid:78)(cid:71)(cid:2) (cid:80)(cid:71)(cid:86)(cid:86)(cid:75)(cid:80)(cid:73)(cid:2)(cid:67)(cid:73)(cid:84)(cid:71)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:85)(cid:2)(cid:87)(cid:80)(cid:70)(cid:71)(cid:84)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:36)(cid:67)(cid:85)(cid:71)(cid:78)(cid:2)(cid:43)(cid:43)(cid:2)(cid:72)(cid:84)(cid:67)(cid:79)(cid:71)(cid:89)(cid:81)(cid:84)(cid:77)(cid:2)(cid:10)(cid:37)(cid:42)(cid:40)(cid:2)(cid:20)(cid:19)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:11)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:81)(cid:86)(cid:74)(cid:71)(cid:84)(cid:2)(cid:72)(cid:67)(cid:69)(cid:86)(cid:81)(cid:84)(cid:85)(cid:2)(cid:10)(cid:37)(cid:42)(cid:40)(cid:2)(cid:20)(cid:20)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:11) 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(cid:67)(cid:80)(cid:70)(cid:2)(cid:67)(cid:73)(cid:71)(cid:80)(cid:69)(cid:91)(cid:2)(cid:86)(cid:84)(cid:67)(cid:80)(cid:85)(cid:67)(cid:69)(cid:86)(cid:75)(cid:81)(cid:80)(cid:85)(cid:11)(cid:2)(cid:87)(cid:80)(cid:86)(cid:75)(cid:78)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:36)(cid:67)(cid:85)(cid:71)(cid:78)(cid:2)(cid:43)(cid:43)(cid:43)(cid:2)(cid:70)(cid:71)(cid:386)(cid:80)(cid:75)(cid:86)(cid:75)(cid:81)(cid:80)(cid:2)(cid:74)(cid:67)(cid:85)(cid:2)(cid:68)(cid:71)(cid:71)(cid:80)(cid:2)(cid:386)(cid:80)(cid:67)(cid:78)(cid:75)(cid:92)(cid:71)(cid:70)(cid:16) (cid:124) Leverage ratio (non-risk-based) As of 1 January 2013, FINMA has established a new FINMA Basel III minimum leverage ratio for systemically important banks (FINMA Basel III leverage ratio). The ratio consists of three components (capital base, buffer capital and progressive component) and is broadly calculated by dividing the relevant capital basis by IFRS assets, based on a capital adequacy scope of consolidation, adjusted for replacement value netting and other adjustments, including off-balance sheet items. The leverage ratio requirement is set at a level of 24% of the minimum capital ratio requirement for the capital base, the buffer capital and the progressive component. As a result, the minimum leverage ratio applying to us will depend on our future total capital requirements and vice versa. Two possible outcomes could be as follows: – 4.2% assuming total capital requirements of 17.5%3 – 4.6% assuming total capital requirements of 19.0%3 Liquidity 6 – The liquidity coverage ratio (LCR) ensures that banks hold sufficient high-quality liquid assets to survive short-term (30-day) severe general market and firm-specific stress. Under Basel III, the LCR will be phased in gradually, starting at 60% in 2015 and rising in annual steps to meet the 100% minimum standard by 2019. – The net stable funding ratio (NSFR), intended for preventing liquidity mismatch, assigns a required stable funding factor to assets (representing the illiquid part of the assets) and assigns all liabilities an available stable funding factor (representing the stickiness of a liability) in order to ensure that banks are not overly reliant on short-term funding and have sufficient long-term funding for illiquid assets. The NSFR is expected to become fully effective with a minimum requirement of 100% on 1 January 2018. ➔ Refer to the “Regulatory developments” section of this report (cid:19)(cid:41)(cid:53)(cid:18)(cid:24)(cid:18) for more information on Basel III and TBTF rules 1 All numbers are valid from 1 January 2019, except where indicated. 2 All percentage amounts are expressed in terms of risk-weighted assets. 3 We expect our requirement for the progressive buffer in 2019 to fall to 4.5% from 6.0% due to our planned reduction in balance sheet related to the accelerated implementation of our strategy announced in October 2012 and the resulting reduction in total exposure. We expect this to reduce our total capital requirement to 17.5% by 2019. Systemically relevant banks are eligible for a capital rebate on the progressive buffer if they take actions that facilitate recovery and resolvability beyond the minimum re- quirements to ensure the integrity of systemically important functions in the case of impending insolvency. 4 This can be substituted by Basel III CET1 capital. 5 The countercyclical buffer can not only be triggered by the Swiss National Bank but by any regulator for the credit risk in its jurisdiction. 6 The final implementation of these rules is subject to the interpretation of national supervisors. 31 Operating environment and strategy Operating environment and strategy Our strategy Measurement of performance Performance measures Key performance indicators Our key performance indicators (KPI) framework focuses on key drivers of total shareholder return, which measures the total re- turn of a UBS share in terms of both the dividend yield and the capital appreciation of the share price. The KPI framework is re- viewed by our senior management on a regular basis to ensure that it is always aligned with changing business conditions. The KPI are disclosed consistently in our quarterly and annual report- ing to facilitate comparison of our performance over the reporting periods. The Group and business divisions are managed based on this KPI framework, which emphasizes risk awareness, effective risk and capital management, sustainable profitability, and client fo- cus. Both Group and business division KPI are taken into ac- count in determining variable compensation of executives and personnel. ➔ Refer to the “Compensation” section for more information on performance criteria for compensation In addition to the KPI, we also disclose performance targets. These performance targets may include the KPI as well as addi- tional balance sheet and capital management performance mea- sures to track the achievements of our strategy. The performance targets are outside the scope of our KPI framework. ➔ Refer to the the discussion about the “Acceleration of our strategic transformation” in the “Our Strategy” section for more information on performance targets The Group and business division KPI are explained in the “Group / business division key performance indicators” table. In keeping with our focus on the key performance metrics of growth, profitability and efficiency, we made the following en- hancements to the KPI framework in 2012: – We introduced two new KPI for our Retail & Corporate busi- ness division. “Net new business volume growth (%)” mea- sures our success in expanding Retail & Corporate’s business volume from lending to clients, as well as acquiring client as- sets. “Net interest margin (%)” measures Retail & Corporate’s ability to generate net interest income in relation to the aver- age loan volume. While this measure is currently under struc- tural pressure given the continued low interest environment, it is supported by active management of the balance sheet and pricing measures. – For the Wealth Management Americas business division, we implemented a new KPI “Share of recurring revenue (%)”. – We replaced our “Net new money (CHF billion)” KPI with “Net new money growth (%)”, as we consider the rate of growth a more meaningful measurement of performance in terms of net new money than a measurement of absolute change. This new KPI applies to the Group as well as our Wealth Management, Wealth Management Americas and Global Asset Management business divisions. Client / invested assets reporting We report two distinct metrics for client funds: – The measure “client assets” encompasses all client assets man- aged by or deposited with us, including custody-only assets. – The measure “invested assets” is more restrictive and includes only client assets managed by or deposited with us for invest- ment purposes. Of the two, invested assets is our central measure and includes, for example, discretionary and advisory wealth management port- folios, managed institutional assets, managed fund assets and wealth management securities or brokerage accounts. It excludes all assets held for custody-only purposes, as we only administer the assets and do not offer advice on how these assets should be invested. Non-bankable assets (for example, art collections) and deposits from third-party banks for funding or trading purposes are excluded from both measures. Net new money in a reported period is the amount of invested assets that are entrusted to us by new or existing clients less those withdrawn by existing clients or clients who terminated their rela- tionship with us. Negative net new money means that there are more outflows than inflows. Interest and dividend income from invested assets is not counted as net new money inflow. However, in Wealth Management Americas we also show net new money including interest and dividend income in line with the historical 32 t n e m e g a n a M h t l a e W t n e m e g a n a M s a c i r e m A h t l a e W t n e m t s e v n I k n a B t e s s A l a b o G l t n e m e g a n a M e t a r o p r o C & l i a t e R p u o r G Group / business division key performance indicators Key performance indicators Definition Net profit growth (%) Pre-tax profit growth (%) Cost / income ratio (%) Return on equity (RoE) (%) Return on attributed equity (RoaE) (%) Return on assets, gross (%) Return on risk-weighted assets, gross (%) FINMA leverage ratio (%) Change in net profit attributable to UBS shareholders from continuing operations between current and comparison periods / net profit attributable to UBS shareholders from continuing operations of comparison period Change in business division performance before tax between current and comparison periods / business division performance before tax of comparison period Operating expenses / operating income before credit loss (expense) or recovery Net profit attributable to UBS shareholders on a year-to-date basis (annualized as applicable) / average equity attributable to UBS shareholders (year-to-date basis) Business division performance before tax on a year-to-date basis (annualized as applicable) / average attributed equity (year-to-date basis) Operating income before credit loss (expense) or recovery on a year-to-date basis (annualized as applicable) / average total assets (year-to-date basis) Operating income before credit loss (expense) or recovery on a year-to-date basis (annualized as applicable) / average risk- weighted assets (year-to-date basis) BIS tier 1 capital / average adjusted assets as per definition by the Swiss Financial Market Supervisory Authority (FINMA) BIS tier 1 ratio (%) BIS tier 1 capital / BIS risk-weighted assets Net new money growth (%) Net new money for the period (annualized as applicable) / invested assets at the beginning of the period Gross margin on invested assets (bps) Operating income before credit loss (expense) or recovery (annualized as applicable) / average invested assets Net new business volume growth (%) Net interest margin (%) Share of recurring revenue (%) Impaired loans portfolio as a % of total loans portfolio, gross (%) Net new business volume (i.e. total net inflows and outflows of client assets and loans) for the period (annualized as applicable) / business volume (i.e. total of client assets and loans) at the beginning of the period Net interest income on a year-to-date basis (annualized as applicable) / average loans (year-to-date basis) Total recurring fees and net interest income / total operating income Impaired loans portfolio, gross / total loans portfolio, gross Average VaR (1-day, 95% confidence, five years of historical data) Value at Risk (VaR) expresses maximum potential loss measured to a 95% confidence level, over a 1-day time horizon and based on five years of historical data 33 Operating environment and strategy Operating environment and strategy Our strategy US methodology customary in that market. Market and currency movements, as well as fees, commissions and interest on loans charged, are excluded from net new money as are the effects of any acquisition or divestment of a UBS subsidiary or business. Re- classifications between invested assets and custody-only assets as a result of a change in the service level delivered are generally treated as net new money flows; however, where such change in service level directly results from a new externally-imposed regula- tion, the one-time net effect of the implementation is reported as an asset reclassification without net new money impact. The In- vestment Bank does not track invested assets and net new money. However, when a client is transferred from the Investment Bank to another business division, this produces net new money even though client assets were already with UBS. When products are managed in one business division and sold by another, they are counted in both the investment management unit and the distribution unit. This results in double counting with- in our total invested assets, as both units provide an independent service to their respective client, add value and generate revenues. Most double counting arises when mutual funds are managed by Global Asset Management and sold by Wealth Management and Wealth Management Americas. The business divisions involved count these funds as invested assets. This approach is in line with both finance industry practices and our open architecture strategy, and allows us to accurately reflect the performance of each indi- vidual business. Overall, CHF 172 billion of invested assets were double-counted as of 31 December 2012 (CHF 183 billion as of 31 December 2011). In the course of implementing the new KPI “Net new business volume growth (%)” for Retail & Corporate, we refined our defi- nition of invested assets and client assets for Retail & Corporate. Assets from third-party banks and brokers are no longer counted as client assets and pension fund assets are no longer counted as invested assets. Retail & Corporate client assets were restated as of 31 December 2011 from CHF 848 billion to CHF 333 billion and the Group’s invested assets were restated from CHF 2,167 billion to CHF 2,088 billion. ➔ Refer to “Note 35 Invested assets and net new money” in the “Financial information” section of this report for more information Seasonal characteristics Our main businesses may show seasonal patterns. The Investment Bank’s revenues have been affected in some years by the seasonal characteristics of general financial market activity and deal flows in investment banking. Other business divisions may also be im- pacted by seasonal components, such as annual income tax pay- ments which, for example, arise in the second quarter in the US, asset withdrawals that tend to occur in the fourth quarter and by lower client activity levels related to the summer and end-of-year holiday seasons. Changes to key performance indicators in 2013 With effect from the first quarter of 2013, we will replace “BIS tier 1 ratio (%)” and “FINMA leverage ratio (%)” at Group level with “Basel III common equity tier 1 capital ratio (%)” and “FINMA Basel III leverage ratio (%)” respectively. “Basel III common equity tier 1 capital ratio (%)” will be shown on a phase-in and fully applied basis. The information provided on a fully applied basis does not consider the effects of the transition period from 2013 to 2019, during which new capital deductions are phased in and ineligible capital instruments are phased out. “FINMA Basel III leverage ratio (%)” will consider total capital, which includes Basel III common equity tier 1 capital on a phase-in basis and loss-absorbing capital, divided by total exposure, which is equal to IFRS assets, based on a capital adequa- cy scope of consolidation, adjusted for replacement value netting and other adjustments, including off-balance sheet items. The above changes are intended to align our KPI framework to the new Basel III requirements, which are effective from 1 January 2013. Group / business division key performance indicators Key performance indicators Definition Basel III common equity tier 1 capital ratio (%) (Fully applied 1 / Phase-in) Basel III common equity tier 1 capital / Basel III risk-weighted assets p u o r G FINMA Basel III leverage ratio (%) Total capital / IFRS assets, based on a capital adequacy scope of consolidation, adjusted for replacement value netting and other adjustments, including off-balance sheet items 1 The information provided on a fully applied basis does not consider the effects of the transition period from 2013 to 2019, during which new capital deductions are phased in and ineligible capital instruments are phased out. 34 Wealth Management With a presence in over 40 countries, Wealth Management provides wealthy private clients with investment advice and solutions to fit their individual needs. Business With more than CHF 820 billion of invested assets at the end of 2012, Wealth Management provides comprehensive financial ser- vices to wealthy private clients around the world – except those served by Wealth Management Americas. Our clients benefit from the entire spectrum of UBS resources, ranging from investment management solutions to wealth planning and corporate finance advice, in addition to the specific offerings outlined below. An open product platform provides clients with access to a wide array of products from third-party providers that complement our own product lines. Strategy and clients Our objective is to be the pre-eminent wealth manager globally, providing superior investment advice and solutions to private clients, particularly in the high net worth (generally considered to be, among other factors, clients with CHF 2 million to CHF 50 million in investable assets) and ultra high net worth (gener- ally considered to be, among other factors, clients with more than CHF 50 million in investable assets) spaces. In addition, we provide wealth management solutions, products and services to financial intermediaries. The wealth management business has long-term growth prospects and we expect the wealth management market to grow faster than the gross domestic product in all regions of the globe despite the current macro economic environment. From a client segment perspective, the global ultra high net worth mar- ket, including family offices, has the highest growth potential, followed by the high net worth market. Our broad client base and strong global footprint put us in an excellent position to take advantage of the substantial growth opportunities this ex- pected wealth creation presents. In the key onshore locations in which we are expanding, our Wealth Management business benefits from our established local Investment Bank and Global Asset Management business relationships. We continue to build on our integrated client service model, bundling capabilities across the Group to identify investment op- portunities in all market conditions and tailor solutions to individu- al client needs. Our global booking centers give us a strong local presence that enable us to book client assets in multiple locations. In Asia Pacific we aim to accelerate our growth. We continue to focus on Hong Kong and Singapore – the leading financial centers in the region – as well as on a selective presence in the major onshore markets, such as Japan and Taiwan. We continue to invest in our local presence in China to support us in capturing long-term growth opportunities. In the emerging markets, we focus on Brazil, Mexico, Israel, Turkey, Russia and Saudi Arabia. As many of our clients from emerging markets prefer to book their assets in established fi- nancial centers, we are strengthening our coverage for them through our booking centers in the US, the UK and Switzer land. In Europe, we combined our European offshore and onshore businesses to reflect the converging needs of clients in the region. This reorganization enables us to leverage our extensive Swiss product offering, while creating economies of scale and helping us to deal more efficiently with increased regulatory and fiscal requirements. Our growth ambition is underpinned by an estab- lished European footprint in all major booking centers. In Switzerland, our wealth management operations’ close collaboration with our retail, corporate, asset management and Invested assets by client domicile(cid:15) In %, except where indicated Total: CHF 821 billion (cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:71)(cid:70)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:85)(cid:2)(cid:68)(cid:91)(cid:2)(cid:69)(cid:78)(cid:75)(cid:71)(cid:80)(cid:86)(cid:2)(cid:89)(cid:71)(cid:67)(cid:78)(cid:86)(cid:74)(cid:124)(cid:2) (cid:43)(cid:80)(cid:2)(cid:7)(cid:14)(cid:2)(cid:71)(cid:90)(cid:69)(cid:71)(cid:82)(cid:86)(cid:2)(cid:89)(cid:74)(cid:71)(cid:84)(cid:71)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:71)(cid:70) (cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:28)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:26)(cid:20)(cid:19)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) As of 31.12.12 21 9 46 (cid:35)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:20) (cid:19)(cid:21) Americas Asia Pacific 24 Europe, Middle East and Africa Switzerland (cid:23)(cid:23) (cid:30)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:19)(cid:2)(cid:79)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:37)(cid:42)(cid:40)(cid:2)(cid:19)(cid:115)(cid:23)(cid:2)(cid:79)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2) (cid:37)(cid:42)(cid:40)(cid:2)(cid:23)(cid:115)(cid:19)(cid:18)(cid:2)(cid:79)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2)(cid:2) (cid:32)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:19)(cid:18)(cid:2)(cid:79)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2)(cid:2) (cid:20)(cid:20) (cid:19)(cid:18) 1BD014_e (cid:19)(cid:36)(cid:38)(cid:18)(cid:19)(cid:23)(cid:65)(cid:71) 35 Operating environment and strategy Operating environment and strategy Our strategy investment banking businesses gives us the foundation to ex- pand our business, and provides our clients access to investment insight and research, products, capital markets and execution as well as to advisory capabilities. Our extensive branch network, including over 100 wealth management offices, fosters referrals from the Swiss corporate and retail client base as well as retail clients’ development to our wealth management operations as their wealth increases. We aim to build on our position as market leader in the ultra high net worth segment, which remains one of our biggest growth contributors, by focusing on our clients’ individual goals and providing them with access to the infrastructure offered to our institutional clients – for example, direct access to the Invest- ment Bank’s trading platforms. Also, within this segment, our Global Family Office Group provides this highly sophisticated cli- ent group with dedicated institutional coverage and global execu- tion via dedicated specialist teams from both Wealth Manage- ment and the Investment Bank. Our Global Financial Intermediaries (Global FIM) business sup- ports more than 2,500 financial intermediaries in all major finan- cial centers as a strategic business partner, offering professional investment advisory services, a global banking infrastructure and tailored solutions that enable them to advise their end-clients more effectively. Organizational structure Wealth Management is headquartered in Switzerland, with a presence in over 40 countries and approximately 200 wealth management and representative offices, half of which are outside Switzerland. As of the end of 2012, Wealth Management em- ployed roughly 16,200 people worldwide, of whom approximate- ly 4,100 were client advisors. The Wealth Management business unit is governed by executive, operating and risk committees and is primarily organized along regional lines with the business areas Asia Pacific, Europe, Global Emerging Markets, Switzerland and Global Ultra High Net Worth. Our business is supported by the Chief Investment Officer and a global Investment Products & Ser- vices unit as well as central functions. Competitors Our major global competitors include Credit Suisse, Julius Bär, HSBC, Deutsche Bank, JP Morgan and Citigroup. In the European domestic markets, we primarily compete with the private banking operations of such large local banks as Barclays in the UK, Deutsche Bank in Germany and Unicredit in Italy. The private banking franchises of HSBC, Citigroup and Credit Suisse are our main competitors in Asia Pacific. Products and services Financial markets have changed fundamentally over the last few years and are characterized by a high degree of uncertainty and volatility. In these difficult market conditions our clients have be- come increasingly focused on protecting their assets and expect strong advisory support for their investment decisions. We are, therefore, continuing to develop our business model as a dynam- ic wealth manager with investment management capabilities at its core. This implies active relationships between our highly qual- ified client advisors and their clients. Systematic client profiling, suitable and well-performing investment ideas, portfolio moni- toring and fast, focused communication are critical for our cli- ents’ success. To this end, and with the ultimate goal of improv- ing our clients’ investment performance, our global Chief Investment Office synthesizes the research and expertise of our global network of economists, strategists, analysts and invest- ment specialists from across all business divisions and asset class- es. They are present in many locations around the globe, closely monitoring financial developments as they occur. This enables us (cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:71)(cid:70)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:85)(cid:2)(cid:68)(cid:91)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:2)(cid:69)(cid:78)(cid:67)(cid:85)(cid:85)(cid:124)(cid:2) (cid:43)(cid:80)(cid:2)(cid:7)(cid:14)(cid:2)(cid:71)(cid:90)(cid:69)(cid:71)(cid:82)(cid:86)(cid:2)(cid:89)(cid:74)(cid:71)(cid:84)(cid:71)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:71)(cid:70) (cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:71)(cid:70)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:85)(cid:2)(cid:68)(cid:91)(cid:2)(cid:69)(cid:87)(cid:84)(cid:84)(cid:71)(cid:80)(cid:69)(cid:91)(cid:124)(cid:2) (cid:43)(cid:80)(cid:2)(cid:7)(cid:14)(cid:2)(cid:71)(cid:90)(cid:69)(cid:71)(cid:82)(cid:86)(cid:2)(cid:89)(cid:74)(cid:71)(cid:84)(cid:71)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:71)(cid:70) (cid:35)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2) 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(cid:49)(cid:86)(cid:74)(cid:71)(cid:84)(cid:85) (cid:19)(cid:36)(cid:38)(cid:18)(cid:19)(cid:21)(cid:65)(cid:71) (cid:19)(cid:16)(cid:18)(cid:18) (cid:18)(cid:16)(cid:25)(cid:23) (cid:18)(cid:16)(cid:23)(cid:18) (cid:18)(cid:16)(cid:20)(cid:23) (cid:18)(cid:16)(cid:18)(cid:18) (cid:19)(cid:16)(cid:18)(cid:18) (cid:18)(cid:16)(cid:25)(cid:23) (cid:18)(cid:16)(cid:23)(cid:18) (cid:18)(cid:16)(cid:20)(cid:23) (cid:18)(cid:16)(cid:18)(cid:18) to deliver insights faster and to bring local knowledge to our in- vestment process. Using their analyses, the Chief Investment Of- ficer establishes a UBS house view, which is vetted by our exter- nal partner network of some of the most successful money managers around the globe. arrangements to the current legal and regulatory environment. These include switching fund and structured product holdings within our discretionary mandates into holdings that do not carry distribution fees and designing a new flat-fee offering for advi- sory clients. Our Investment Products & Services unit ensures our offerings are consistently adapted to market conditions by aligning our dis- cretionary and advisory products with our Chief Investment Offi- cer’s house view. Clients receive investment proposals directly re- lated to this view, as well as solutions for alternative scenarios if they have different views on market trends. Those who opt for a discretionary mandate delegate the management of their assets to a team of professional portfolio managers. Clients who prefer to be actively involved in the management of their assets can choose an advisory mandate, in which investment professionals provide analysis and monitoring of portfolios, together with tailor- made proposals to support investment decisions. Our clients can also trade the full range of financial instruments from single secu- rities, such as equities and bonds, to various investment funds, structured products and alternative investments. Additionally, we offer structured lending, corporate finance and wealth-planning advice on client needs such as funding for education, inheritance and succession. Wealth Management’s products are aimed at delivering per- formance in various market scenarios and are developed from a wide range of sources including Investment Products & Services, Global Asset Management, the Investment Bank and third par- ties, as we operate with an open product platform. By aggregat- ing private investment flows into institutional-size flows, we are in a position to offer our Wealth Management clients access to investments that would otherwise only be available to institu- tional clients. Our integrated client service model allows client advisors to analyze our clients’ financial situation, and develop and imple- ment systematic, tailored investment strategies. These strategies are regularly reviewed and are based on individual client profiles, which comprise all important investment criteria, including a giv- en client’s life cycle needs, risk appetite and performance expecta- tions. We continuously train our client advisors and provide them with ongoing support to ensure they present the best discretion- ary and advisory solutions to our clients. We have also launched a number of initiatives to further im- prove our product offering, to enhance our solutions and to better align our fund and manager selection process and fee As a global, integrated firm, we provide our clients with the investment advice, solutions and tools across all asset classes that best fit their individual needs. 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relationships through its financial advisors, who deliver a fully integrated set of wealth management solutions designed to address the needs of high net worth and ultra high net worth individuals and families. Business Wealth Management Americas is the leading wealth manager in the Americas in terms of financial advisor productivity and invested assets, and includes the domestic US and Canadian businesses as well as international business booked in the US. On 31 December 2012, the business division had USD 843 billion in invested assets. Strategy and clients Our goal is to be the best wealth management business in the Americas. As we continuously strive to achieve this, we must be both client-focused and advisor-centric. We deliver a fully inte- grated set of advice-based wealth management solutions and banking services through our financial advisors in key metropoli- tan markets to meet the needs of our target client segments: high net worth clients (USD 1 million to USD 10 million in investable assets) and ultra high net worth clients (more than USD 10 million in investable assets), while also serving the needs of the core af- fluent (USD 250,000 to USD 1 million in investable assets). We are committed to providing high-quality advice to our clients across all their financial needs by employing the best professionals in the industry, delivering the highest standard of execution, and run- ning a streamlined and efficient business. We believe we are uniquely positioned to serve high net worth and ultra high net worth investors in the world’s largest wealth market. With a network of over 7,000 financial advisors and USD 843 billion in invested assets, we are large enough to be relevant, but focused enough to be nimble, enabling us to combine the advantages of large and boutique wealth managers. We aim to differentiate ourselves from competitors and be a trusted and leading provider of financial advice and solutions to our clients by (cid:41)(cid:71)(cid:81)(cid:73)(cid:84)(cid:67)(cid:82)(cid:74)(cid:75)(cid:69)(cid:67)(cid:78)(cid:2)(cid:82)(cid:84)(cid:71)(cid:85)(cid:71)(cid:80)(cid:69)(cid:71)(cid:2)(cid:75)(cid:80)(cid:2)(cid:77)(cid:71)(cid:91)(cid:2)(cid:79)(cid:67)(cid:84)(cid:77)(cid:71)(cid:86)(cid:85)(cid:124)(cid:2) (cid:2) (cid:37)(cid:67)(cid:80)(cid:67)(cid:70)(cid:67)(cid:2)(cid:22)(cid:2)(cid:81)(cid:72)(cid:386)(cid:69)(cid:71)(cid:85)(cid:28)(cid:2) (cid:37)(cid:67)(cid:78)(cid:73)(cid:67)(cid:84)(cid:91)(cid:14)(cid:2)(cid:47)(cid:81)(cid:80)(cid:86)(cid:84)(cid:71)(cid:67)(cid:78)(cid:14)(cid:2)(cid:54)(cid:81)(cid:84)(cid:81)(cid:80)(cid:86)(cid:81)(cid:14)(cid:2)(cid:56)(cid:67)(cid:80)(cid:69)(cid:81)(cid:87)(cid:88)(cid:71)(cid:84) (cid:35)(cid:46)(cid:35)(cid:53)(cid:45)(cid:35) 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(cid:55)(cid:84)(cid:87)(cid:73)(cid:87)(cid:67)(cid:91)(cid:2)(cid:19)(cid:2)(cid:81)(cid:72)(cid:386)(cid:69)(cid:71)(cid:28)(cid:2) (cid:47)(cid:81)(cid:80)(cid:86)(cid:71)(cid:88)(cid:75)(cid:70)(cid:71)(cid:81) (cid:20)(cid:36)(cid:38)(cid:18)(cid:19)(cid:18)(cid:65)(cid:71) (cid:56)(cid:67)(cid:80)(cid:69)(cid:81)(cid:87)(cid:88)(cid:71)(cid:84)(cid:2)(cid:10)(cid:37)(cid:35)(cid:48)(cid:11)(cid:28)(cid:2)(cid:19)(cid:2)(cid:81)(cid:72)(cid:386)(cid:69)(cid:71) (cid:47)(cid:81)(cid:80)(cid:86)(cid:84)(cid:71)(cid:67)(cid:78)(cid:2)(cid:10)(cid:37)(cid:35)(cid:48)(cid:11)(cid:28)(cid:2)(cid:19)(cid:2)(cid:81)(cid:72)(cid:386)(cid:69)(cid:71) (cid:54)(cid:81)(cid:84)(cid:81)(cid:80)(cid:86)(cid:81)(cid:2)(cid:10)(cid:37)(cid:35)(cid:48)(cid:11)(cid:28)(cid:2)(cid:19)(cid:2)(cid:81)(cid:72)(cid:386)(cid:69)(cid:71) enabling our financial advisors to leverage the full resources of UBS, including unique access to wealth management research, a global Chief Investment Office, and solutions from our asset- gathering businesses and the Investment Bank. These resources are augmented by our commitment to an open architecture and our partnerships with many of the world’s leading third-party in- stitutions. Moreover, our wealth management offerings are com- plemented by banking, mortgage and financing solutions that enable us to provide advice on both the asset and liability sides of our clients’ financial balance sheets. We believe the long-term growth prospects of the wealth management business are attractive in the Americas, with high net worth and ultra high net worth expected to be the fastest growing segments in terms of invested assets in the region. In 2012, our strategy and focus led to an improvement in financial results, retention of high-quality financial advisors and net new money growth. Building on this progress, we aim for continued growth in our business by developing our financial advisors’ focus toward advice-based solutions, leveraging the global capabilities of UBS to clients by partnering with the Investment Bank and Global Asset Management, and delivering banking and lending services that complement our wealth management solutions. We also plan to continue investing in improved platforms and tech- nology, while remaining disciplined on cost. We expect these ef- forts to enable us to achieve higher levels of client satisfaction, strengthen our client relationships, and lead to greater revenue productivity among our financial advisors and a more profitable business. Organizational structure Wealth Management Americas consists of branch networks in the US, Puerto Rico and Canada, with 7,059 financial advisors as of 31 December 2012. Most corporate and operational functions of the business division are located in the Wealth Management Americas home office in Weehawken, New Jersey. In the US and Puerto Rico, Wealth Management Americas op- erates through direct and indirect subsidiaries of UBS AG. Securi- ties and operations activities are conducted primarily through two registered broker-dealers, UBS Financial Services Inc. and UBS Fi- nancial Services Incorporated of Puerto Rico. Our banking services in the US include those conducted through the UBS AG branches and UBS Bank USA, a federally-regulated bank in Utah, which provides Federal Deposit Insurance Corporation (FDIC)-insured deposit accounts, collateralized lending services, mortgages and credit cards. Canadian wealth management and banking operations are conducted through UBS Bank (Canada). Competitors Wealth Management Americas competes with national full-ser- vice brokerage firms, domestic and global private banks, regional broker-dealers, independent broker-dealers, registered invest- ment advisors, trust companies and other financial services firms offering wealth management services to US and Canadian private clients, as well as foreign non-resident clients seeking wealth management services within the US. Our main competitors in- clude the wealth management businesses of Bank of America, Morgan Stanley and Wells Fargo. Products and services Wealth Management Americas offers clients a full array of solu- tions that focus on the individual financial needs of each client. Comprehensive planning supports clients through the various stages of their lives, including education funding, charitable giv- ing, estate strategies, insurance, retirement and trusts and foun- dations with corresponding product offerings for each stage. Our advisors work closely with internal consultants in areas such as wealth planning, portfolio strategy, retirement and annuities, al- ternative investments, managed accounts, structured products, (cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:71)(cid:70)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:85)(cid:2)(cid:68)(cid:91)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:2)(cid:69)(cid:78)(cid:67)(cid:85)(cid:85)(cid:124)(cid:2) (cid:43)(cid:80)(cid:2)(cid:7)(cid:14)(cid:2)(cid:71)(cid:90)(cid:69)(cid:71)(cid:82)(cid:86)(cid:2)(cid:89)(cid:74)(cid:71)(cid:84)(cid:71)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:71)(cid:70) (cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:71)(cid:70)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:85)(cid:2)(cid:68)(cid:91)(cid:2)(cid:69)(cid:78)(cid:75)(cid:71)(cid:80)(cid:86)(cid:2)(cid:89)(cid:71)(cid:67)(cid:78)(cid:86)(cid:74)(cid:124)(cid:2) (cid:43)(cid:80)(cid:2)(cid:7)(cid:14)(cid:2)(cid:71)(cid:90)(cid:69)(cid:71)(cid:82)(cid:86)(cid:2)(cid:89)(cid:74)(cid:71)(cid:84)(cid:71)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:71)(cid:70)(cid:2) (cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:28)(cid:2)(cid:55)(cid:53)(cid:38)(cid:2)(cid:26)(cid:22)(cid:21)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:35)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2) (cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:18)(cid:2) (cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:19)(cid:2) (cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:20) (cid:35)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:20) (cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:28)(cid:2) (cid:55)(cid:53)(cid:38)(cid:2)(cid:25)(cid:21)(cid:26)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2)(cid:2) (cid:55)(cid:53)(cid:38)(cid:2)(cid:25)(cid:23)(cid:24)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2)(cid:2) (cid:55)(cid:53)(cid:38)(cid:2)(cid:26)(cid:22)(cid:21)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2) (cid:19)(cid:18)(cid:18) (cid:2)(cid:25)(cid:23) (cid:2)(cid:23)(cid:18) (cid:2)(cid:20)(cid:23) (cid:2)(cid:2)(cid:2)(cid:18) (cid:27) (cid:20)(cid:27) (cid:20)(cid:25) (cid:26) (cid:20)(cid:21) (cid:22) (cid:26) (cid:20)(cid:26) (cid:20)(cid:26) (cid:26) (cid:20)(cid:21) (cid:23) (cid:26) (cid:20)(cid:27) (cid:21)(cid:19) (cid:24) (cid:20)(cid:18) (cid:24) (cid:21)(cid:20) (cid:20)(cid:23) (cid:19)(cid:20) (cid:21)(cid:19) (cid:30)(cid:2)(cid:55)(cid:53)(cid:38)(cid:2)(cid:19)(cid:2)(cid:79)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:55)(cid:53)(cid:38)(cid:2)(cid:19)(cid:115)(cid:23)(cid:2)(cid:79)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2) (cid:55)(cid:53)(cid:38)(cid:2)(cid:23)(cid:115)(cid:19)(cid:18)(cid:2)(cid:79)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2)(cid:2) (cid:32)(cid:2)(cid:55)(cid:53)(cid:38)(cid:2)(cid:19)(cid:18)(cid:2)(cid:79)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2)(cid:2) (cid:35)(cid:69)(cid:69)(cid:81)(cid:87)(cid:80)(cid:86)(cid:85)(cid:17)(cid:79)(cid:81)(cid:80)(cid:71)(cid:91)(cid:2)(cid:79)(cid:67)(cid:84)(cid:77)(cid:71)(cid:86)(cid:85) (cid:36)(cid:81)(cid:80)(cid:70)(cid:85) (cid:55)(cid:36)(cid:53)(cid:2)(cid:79)(cid:87)(cid:86)(cid:87)(cid:67)(cid:78)(cid:2)(cid:72)(cid:87)(cid:80)(cid:70)(cid:85) (cid:39)(cid:90)(cid:86)(cid:71)(cid:84)(cid:80)(cid:67)(cid:78)(cid:2)(cid:79)(cid:87)(cid:86)(cid:87)(cid:67)(cid:78)(cid:2)(cid:72)(cid:87)(cid:80)(cid:70)(cid:85) (cid:39)(cid:83)(cid:87)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85) (cid:49)(cid:86)(cid:74)(cid:71)(cid:84)(cid:19) (cid:19)(cid:2)(cid:43)(cid:80)(cid:69)(cid:78)(cid:87)(cid:70)(cid:71)(cid:85)(cid:2)(cid:85)(cid:86)(cid:84)(cid:87)(cid:69)(cid:86)(cid:87)(cid:84)(cid:71)(cid:70)(cid:2)(cid:82)(cid:84)(cid:81)(cid:70)(cid:87)(cid:69)(cid:86)(cid:85)(cid:14)(cid:2)(cid:67)(cid:78)(cid:86)(cid:71)(cid:84)(cid:80)(cid:67)(cid:86)(cid:75)(cid:88)(cid:71)(cid:2)(cid:75)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:79)(cid:71)(cid:80)(cid:86)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:386)(cid:70)(cid:87)(cid:69)(cid:75)(cid:67)(cid:84)(cid:91)(cid:2)(cid:75)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:79)(cid:71)(cid:80)(cid:86)(cid:85)(cid:16) (cid:19)(cid:36)(cid:38)(cid:18)(cid:21)(cid:20)(cid:65)(cid:71) (cid:19)(cid:36)(cid:38)(cid:18)(cid:21)(cid:21)(cid:65)(cid:71) 39 (cid:19)(cid:16)(cid:18)(cid:18) (cid:18)(cid:16)(cid:25)(cid:23) (cid:18)(cid:16)(cid:23)(cid:18) (cid:18)(cid:16)(cid:20)(cid:23) (cid:18)(cid:16)(cid:18)(cid:18) Operating environment and strategy Operating environment and strategy Our strategy banking and lending, equities and fixed income. Clients also ben- efit from our dedicated Wealth Management Research team, which provides research guidance to help support our clients’ in- vestment decisions. Our offerings are designed to meet a wide variety of invest- ment objectives, including wealth accumulation and preservation, income generation and portfolio diversification. To address the full range of our clients’ financial needs, we also offer competitive lending and cash management services such as securities-backed lending, the resource management account, FDIC-insured depos- its, mortgages and credit cards. Additionally, our Corporate Employee Financial Services unit provides a comprehensive, personalized stock benefit plan and related services to many of the largest US corporations and their executives. For corporate and institutional clients, we offer a ro- bust suite of solutions, including equity compensation, adminis- tration, investment consulting, defined benefit and contribution programs and cash management services. Our clients can choose asset-based pricing, transaction-based pricing or a combination of both. Asset-based accounts have ac- cess to both discretionary and non-discretionary investment advi- sory programs. Non-discretionary advisory programs enable the client to maintain control over all account transactions, while cli- ents with discretionary advisory programs direct investment pro- fessionals to manage a portfolio on their behalf. Depending on the type of discretionary program, the client can give investment discretion to a qualified financial advisor, a team of our invest- ment professionals or a third-party investment manager. Sepa- rately, mutual fund advisory programs are also offered, whereby a financial advisor works with the client to create a diversified port- folio of mutual funds guided by a research-driven asset allocation framework. For clients who favor individual securities, we offer a broad range of equity and fixed income instruments. In addition, qual- ified clients may take advantage of structured products and al- ternative investment offerings to complement their portfolio strategies. All of these solutions are supported by a dedicated markets execution group. This group partners with the Investment Bank and Global Asset Management in order to access the resources of the entire firm as well as third-party investment banks and asset management firms. 40 Investment Bank The Investment Bank provides corporate, institutional and wealth management clients with expert advice, innovative solutions, outstanding execution and comprehensive access to the world’s capital markets. We offer investment banking and capital markets, research, equities, foreign exchange, precious metals and tailored fixed income services in rates and credit through our two business units, Corporate Client Solutions and Investor Client Services. Business and clients In October 2012, we announced a significant acceleration of the implementation of our strategy presented in November 2011. As part of this acceleration, starting from first quarter 2013 the In- vestment Bank has been reorganized into two distinct business units, Corporate Client Solutions and Investor Client Services, in order to align the delivery of our services and the execution of our strategy with the needs of our clients. Corporate Client Solutions includes all advisory and financing solutions businesses, origination, structuring and execution, in- cluding equity and debt capital markets in service of corporate, financial and sponsor clients. Investor Client Services includes execution, distribution and trading for institutional investors and provides support to Corpo- rate Client Solutions and UBS’s wealth management businesses. It comprises our equities businesses, including prime brokerage, cross-asset class research capabilities and our foreign exchange franchise, precious metals, rates and credit businesses. The Inves- tor Client Services unit also provides distribution and risk manage- ment capabilities required to support all of our businesses. Our organizational model and strategy have been shaped to focus on the long-term strategic relationship with our clients, who will benefit from an integrated, solutions-led approach, combined with deep market insight, intellectual capital and global coverage and execution. Strategy We believe that current industry trends and the impact of the new regulatory environment reflect secular changes in our industry, which require a fundamental adjustment of our business mix and scale. Therefore the strategic transformation of our business will differentiate our franchise by satisfying our clients’ needs thanks to our focus on superior advice and execution. In this context we have re-focused our rates and credit platform while we continue to strengthen our advisory, capital markets, equities and foreign exchange businesses. The changes we have made will capitalize on our traditional strengths, while our clients will continue to ben- efit from our expertise, intellectual capital and global execution capabilities. To ensure the successful execution of our strategy, we will continue to invest in technology and hire talent selectively in key areas across the business. To support our goal of earning attractive returns on capital, and to contribute to the improvement of the Group as a whole, we have decided to exit products and services in our fixed-income businesses that are capital-intensive, exhibit higher operational complexity and are not required for serving the clients of our Cor- porate Client Solutions franchise or our wealth management cli- ents. Consistent with the accelerated implementation of our strate- gy, the scope of our advisory and capital markets businesses re- mains unchanged, including our debt capital markets franchise. However, the existing business functions are being reorganized to focus on those industries and geographies that offer the best op- portunities. Our foreign exchange business, including our emerg- ing markets foreign exchange offering and our precious metals business, will continue to be a cornerstone of our services. 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(cid:19)(cid:2)(cid:86)(cid:67)(cid:84)(cid:73)(cid:71)(cid:86)(cid:85)(cid:2)(cid:67)(cid:85)(cid:85)(cid:87)(cid:79)(cid:71)(cid:2)(cid:69)(cid:81)(cid:80)(cid:85)(cid:86)(cid:67)(cid:80)(cid:86)(cid:2)(cid:40)(cid:58)(cid:2)(cid:84)(cid:67)(cid:86)(cid:71)(cid:85)(cid:16) 41 (cid:19)(cid:36)(cid:38)(cid:18)(cid:23)(cid:18)(cid:65)(cid:71) Operating environment and strategy Operating environment and strategy Our strategy our capital markets business on the basis of an intermediation model, much like in our equities and foreign exchange platforms. While we have transferred to the Corporate Center with the aim of exiting the most complex and capital-intensive products, we retain a comprehensive offering targeted at the clients of our core business. A franchise organized around intermediation will be well positioned to capture new trends in fast-changing markets which are posing challenges to traditional business models. At the end of 2012 the Investment Bank, including the busi- nesses we intend to exit, had pro-forma Basel III RWA of CHF 131 billion, representing a decrease of CHF 81 billion since the end of 2011. The accompanying reduction in our funded bal- ance sheet was CHF 163 billion, a reduction of approximately 37% during 2012. As a result of the strategic changes and additional risk-weighted assets reductions, the Investment Bank started 2013 operating with approximately CHF 64 billion of pro-forma Basel III RWA. Operating with under CHF 70 bil- lion of Basel III RWA and less than CHF 200 billion of funded assets, our Investment Bank aims to deliver a pre-tax return on attributed equity in excess of 15%, with a cost / income ratio of 65% to 85%. As part of our strategy, we will continue to invest in technol- ogy while optimizing internal efficiencies: we have a comprehen- sive and targeted technology plan based on a long-term portfolio approach across businesses aiming at enhancing the effective- ness of our platform for clients. Our technology investment is focused on change-the-bank programs mainly in our Institutional Client Services business, while we continue to simplify all our platforms across business areas. These structural changes will also lower our operating costs substantially by 2015 as part of a Group-wide effort to increase efficiency. Alongside the business exits, we are undertaking spe- cific initiatives to simplify our product portfolio and production processes, achieve leaner front-to-back processes, and operate with a reduced real-estate footprint. ➔ Please refer to the discussion about the “Acceleration of our strategic transformation” in the “Our strategy” section of this report for more information Organizational structure As of the end of 2012, we employed approximately 15,900 per- sonnel in over 30 countries. We operate through branches and subsidiaries of UBS AG. Securities activities in the US are conduct- ed through UBS Securities LLC, a registered broker-dealer. Significant recent acquisitions In February 2013, after receiving the required regulatory approv- als from the Brazilian government, UBS finalized its acquisition of Link Investimentos, a Brazilian financial services firm. UBS entered into an agreement to acquire Link Investimentos in 2010, in order to strengthen our commitment to the emerging markets by pro- viding wealth management and investment banking services to private and institutional clients in Brazil, one of the world’s fastest growing economies. Competitors Our Investment Bank’s strategy and scope is unique, but other competing firms are active in many of the businesses and markets in which we still participate. For our leading equities, foreign ex- change and corporate advisory businesses, our main competitors remain the major global investment banks, including Bank of America / Merrill Lynch, Barclays Capital, Citigroup, Credit Suisse, Deutsche Bank, Goldman Sachs, JP Morgan Chase and Morgan Stanley. Products and services Corporate Client Solutions This business unit includes client coverage, advisory, debt and eq- uity capital market solutions and financing solutions for corpo- rate, financial institution and sponsor clients. Corporate Client Solutions works closely with Investor Client Services in the distri- bution and risk management of capital markets products. With a presence in all major financial markets, Corporate Client Solutions is managed by region and is organized on a matrix of country, industry sector and product banking professionals. Its main busi- ness lines are as follows: – The advisory group provides bespoke solutions to our clients’ most-complex strategic problems. This includes mergers and acquisitions advice and execution, as well as refinancing, spin- offs, exchange offers, leveraged buyouts, joint ventures, take- over defense, corporate broking and other advisory services. – Equity capital markets offers equity capital-raising services, as well as related derivative products and risk management solu- tions. The services include managing initial public offerings, follow-ons including rights issues and block trades, equity- linked transactions and other strategic equities solutions. – Debt capital markets helps corporate and financial institution clients in raising debt capital including investment grade and emerging market bonds, high-yield bonds, subordinated debt and hybrid capital. We also provide leveraged capital services, which include event-driven (acquisition, leveraged buy-out) loans, bonds and mezzanine financing. All debt products are provided alongside risk management solutions, including de- rivatives in close collaboration with our foreign exchange, rates and credit businesses. – Financing solutions works seamlessly in serving corporate and investor clients across the globe by providing customized solu- tions across asset classes via a wide range of financing capa- bilities including structured financing, real estate finance, spe- cial situations group and corporate lending, which aims to support our advisory-driven businesses. 42 Investor Client Services The businesses in Investor Client Services, which include our equi- ties business and our foreign exchange, rates and credit business, provide a comprehensive distribution platform with enhanced cross-asset delivery as well as specialist skills to our corporate, in- stitutional and wealth management clients. Equities We are one of the world’s largest equities houses and a leading participant in the primary and secondary markets for cash equities and equity derivatives. We provide a full front-to-back product suite globally, including financing, execution, clearing and custo- dy services. Our franchise employs a client-centric approach to serve hedge funds, asset managers, wealth management advi- sors, financial institutions and sponsors, pension funds, sovereign wealth funds and corporations globally. We distribute, structure, execute, finance and clear cash equity and equity derivative prod- ucts. Our research franchise provides in-depth investment analysis on companies, sectors, regions, macroeconomic trends, public policy and asset-allocation strategies. The main business lines of the equities unit are as follows: – Cash equities provides clients with liquidity, investment advisory, trade execution and consultancy services, together with compre- hensive access to primary and secondary markets, corporate management and subject matter experts. We offer full-service trade execution for single stocks and portfolios, including capital commitment, block trading, small cap execution and commission management services. In addition, we provide clients with a full suite of advanced electronic trading products, direct market ac- cess to over 150 venues worldwide, including low-latency execu- tion, innovative algorithms and pre, post and real–time analytical tools. Our broker and intermediary services franchise offers exe- cution and price improvement to retail wholesalers. – Equity derivatives provides a full range of flow and structured products, convertible bonds and strategic equity solutions with global access to primary and secondary markets. The franchise enables clients to manage risk and meet funding requirements through a wide range of listed, OTC, securitized and fund- wrapped products. We create and distribute structured prod- ucts and notes for institutional and retail investors with invest- ment returns linked to companies, sectors and indices across multiple asset classes, including commodities. – Financing services provides a fully-integrated platform for hedge fund clients, including prime brokerage, capital intro- duction, clearing and custody, synthetic financing and securi- ties lending. In addition, we execute and clear exchange–trad- ed derivatives across equities, fixed income and commodities in more than 60 markets globally. Foreign exchange, rates and credit This unit consists of our premier foreign exchange franchise and our market-leading precious metals business, as well as our rates and credit businesses. These businesses support the execution, distribution and risk management related to corporate and insti- tutional client businesses, and also meet the needs of private wealth management clients via targeted intermediaries. The main business lines are as follows: – Foreign exchange provides a full range of G10 and emerging markets currency and precious metals services globally. We are a leading foreign exchange market-maker in the professional spot, forwards and options markets. We provide clients world- wide with first-class execution facilities (voice, electronic, algo- rithmic) coupled with premier advisory and structuring capa- bilities when tailored solutions best fit our clients’ positioning, hedging or liquidity management. Our presence in physical and non-physical precious metals markets has endured for al- most a century. UBS’s award-winning teams provide quality, security and competitive pricing supported by a client-centric, one-stop shop approach that offers trading, investing and hedging across the spectrum of gold-, silver-, platinum- and palladium-related offerings. – Rates and credit encompasses sales and trading in a selected number of credit and rates products, such as standardized rates-driven products, interest-rate swaps and medium-term notes as well as government and corporate bonds. Our offer- ing includes market-making capabilities in areas required to support our franchises in foreign exchange, equities, and our corporate and investor client base. 43 Operating environment and strategy Operating environment and strategy Our strategy Global Asset Management Global Asset Management is a large-scale asset manager with businesses well diversified across regions, capabilities and distribution channels. We serve third-party institutional and wholesale clients and the clients of UBS’s wealth management businesses with a broad range of investment capabilities and styles across all major traditional and alternative asset classes. Business Global Asset Management’s investment capabilities encompass equities, fixed income, currency, hedge funds, real estate, infra- structure and private equity. We also enable clients to invest in a combination of different asset classes through multi-asset strate- gies. Our fund services unit is a global fund administration busi- ness. Invested assets totaled CHF 581 billion and assets under administration by fund services were CHF 410 billion on 31 De- cember 2012. Global Asset Management is a leading fund house in Europe, the largest mutual fund manager in Switzerland and one of the largest fund of hedge funds and real estate investment managers in the world. Strategy We offer a broad range of investment capabilities and styles across all major traditional and alternative asset classes. Over the past few years we have developed our indexed (or passive) capa- bilities, including exchange-traded funds, to meet growing de- mand for these strategies from both institutional and individual investors. Around one-fifth of our invested assets now fall into this category. We continue to expand our successful alternatives platform, building on our established positions in real estate and fund of hedge funds businesses. The current environment and near-term outlook are character- ized by market uncertainty, investor risk appetite that remains vul- nerable to macro-economic developments, and low interest rates. The diversification of our business places us in a good position to benefit from shifting market dynamics and provides a solid foun- dation for capturing industry growth opportunities. We work closely with our clients in pursuit of their investment goals with long-term performance as our focus. We continue to expand our strong third-party institutional business while also growing third-party wholesale distribution. We also remain com- mitted to delivering distinctive products and solutions to the cli- ents of UBS’s wealth management businesses. The long-term outlook for the asset management industry re- mains good, with three main drivers indicating inflows into the industry: (i) the global economic downturn in recent years has reduced the assets of both working and retired people, thus in- creasing future savings requirements; (ii) governments are con- tinuing to reduce support for pensions and benefits leading to a (cid:36)(cid:87)(cid:85)(cid:75)(cid:80)(cid:71)(cid:85)(cid:85)(cid:2)(cid:85)(cid:86)(cid:84)(cid:87)(cid:69)(cid:86)(cid:87)(cid:84)(cid:71) 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need for greater private provision; and (iii) emerging markets are becoming an ever more important asset pool. Organizational structure BlackRock, JP Morgan Asset Management and Goldman Sachs Asset Management. Most of our other competitors are more re- gional or local niche players that focus mainly on one asset class, particularly in the real estate, hedge fund, infrastructure or private equity investment areas. The “Business structure” chart shows the investment, distribution and support structure of the business division. We employ around 3,800 personnel in 24 countries, and have our principal offices in London, Chicago, Frankfurt, Hartford, Hong Kong, New York, Paris, Singapore, Sydney, Tokyo and Zurich. Significant recent acquisitions and business transfers – In December 2012, Global Asset Management announced the sale of its book of Canadian domestic business to Fiera Capital Corporation. The transaction was completed in January 2013. – In January 2012, the Jersey-based fund services business was transferred from Wealth Management to Global Asset Manage- ment. – In October 2011, Global Asset Management completed the acquisition of the ING Investment Management Limited busi- ness in Australia. This initially operated as a subsidiary of UBS Global Asset Management (Australia) Ltd and, following the sale of parts of the business, was fully integrated during 2012. – In October 2010, UBS increased its holding in UBS Real Estate Kapitalanlagegesellschaft mbH (KAG), a Global Asset Manage- ment joint venture with Siemens in Munich, Germany, to 94.9% from 51.0%. Competitors Our competitors include global firms with wide-ranging capabili- ties, such as Fidelity Investments, AllianceBernstein Investments, Clients and markets Global Asset Management serves third-party institutional and wholesale clients, and the clients of UBS’s wealth management businesses. As shown in the “Invested assets by channel” chart, at 31 December 2012 approximately 68% of invested assets orig- inated from third-party clients, including institutional clients (e.g. corporate and public pension plans, governments and their cen- tral banks) and wholesale clients (e.g. financial intermediaries and distribution partners). A further 32% originated from UBS’s wealth management businesses. Products and services Global Asset Management’s business lines are: traditional invest- ments (equities, fixed income and global investment solutions); alternative and quantitative investments; global real estate; in- frastructure and private equity; and fund services. Revenues and key performance indicators are reported according to these business lines and a breakdown is shown in the “Invested assets by business line” chart. The investment teams operate in a boutique-like structure and the “Investment capabilities and services” chart illustrates their distinct offerings. These can be delivered in the form of segre- gated, pooled and advisory mandates, along with a very large range of registered investment funds, exchange-traded funds and (cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:71)(cid:70)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:85)(cid:2)(cid:68)(cid:91)(cid:2)(cid:69)(cid:74)(cid:67)(cid:80)(cid:80)(cid:71)(cid:78) (cid:43)(cid:80)(cid:2)(cid:7)(cid:14)(cid:2)(cid:71)(cid:90)(cid:69)(cid:71)(cid:82)(cid:86)(cid:2)(cid:89)(cid:74)(cid:71)(cid:84)(cid:71)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:71)(cid:70) (cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:71)(cid:70)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:85)(cid:2)(cid:68)(cid:91)(cid:2)(cid:68)(cid:87)(cid:85)(cid:75)(cid:80)(cid:71)(cid:85)(cid:85)(cid:2)(cid:78)(cid:75)(cid:80)(cid:71) 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across all major asset classes. – Equities offers a wide spectrum of investment strategies with varying risk and return objectives. These are delivered by dis- tinct investment teams, each with dedicated research and portfolio construction resources, which are organized around regional capabilities and styles: global, US, Europe, APAC & emerging markets, growth, and structured beta & indexing. Strategies include core, unconstrained, long-short, small cap, sector, thematic, indexed, rules-based and other specialized strategies. – Fixed income offers a diverse range of global, regional and lo- cal market-based investment strategies. Its capabilities include single-sector strategies such as government and corporate bond portfolios, multi-sector strategies such as core and core plus bond, and extended sector strategies such as high yield and emerging market debt. In addition to this suite of tradi- tional fixed income offerings, the team also manages uncon- strained fixed income, currency strategies and customized so- lutions. – Global investment solutions offers active asset allocation, cur- rency, multi-manager, structured solutions, risk advisory and strategic investment advisory services. It manages a wide array of regional and global multi-asset investment strategies across the full investment universe and risk / return spectrum, struc- tured portfolios, convertible bonds and absolute return strate- gies. Through its risk management and strategic investment advisory services, the team supports clients in a wide range of investment-related functions. – Alternative and quantitative investments has two primary busi- ness lines – Alternative Investment Solutions (AIS) and O’Connor. AIS offers a full spectrum of hedge fund solutions and advisory services including multi-manager strategies. O’Connor is a key provider of single-manager global hedge funds. – Global real estate actively manages real estate investments globally and regionally within Asia Pacific, Europe and the US, across the major real estate sectors. Its capabilities are focused on core and value-added strategies but also include other strategies across the risk / return spectrum. – Infrastructure and private equity manages direct infrastruc- ture investment and multi-manager infrastructure and private equity strategies for both institutional and high net worth investors. Infrastructure asset management manages direct investments in core infrastructure assets globally. Alternative Funds Advisory (AFA) infrastructure and AFA private equity construct broadly diversified fund of funds portfolios across the infrastructure and private equity asset classes, respec- tively. – Fund services, our global fund administration business, offers a comprehensive range of flexible solutions including fund set- up, reporting and accounting for traditional investment funds, managed accounts, hedge funds, private equity funds and other alternative structures. 46 Distribution Our capabilities and services are distributed through our regional business structure (Americas, Asia Pacific, Europe and Switzer- land) as detailed in the “Business structure” chart. A breakdown of invested assets across these regions is shown in the “Invested assets by region” chart. Through regional distribution, we are able to leverage the full resources of our global investment platforms and functions to provide clients with relevant investment management products and services, client servicing and reporting at a local level. We also have a dedicated global sovereign markets group to deliver an integrated approach to this client segment and ensure that sovereign institutions receive the focused advisory, invest- ment and training solutions they require. (cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:71)(cid:70)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:85)(cid:2)(cid:68)(cid:91)(cid:2)(cid:84)(cid:71)(cid:73)(cid:75)(cid:81)(cid:80)(cid:19) (cid:43)(cid:80)(cid:2)(cid:7)(cid:14)(cid:2)(cid:71)(cid:90)(cid:69)(cid:71)(cid:82)(cid:86)(cid:2)(cid:89)(cid:74)(cid:71)(cid:84)(cid:71)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:71)(cid:70) (cid:35)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2) (cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:18)(cid:2) (cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:19)(cid:2) (cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:20) (cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:28)(cid:2) (cid:37)(cid:42)(cid:40)(cid:2)(cid:23)(cid:23)(cid:27)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2)(cid:2) (cid:37)(cid:42)(cid:40)(cid:2)(cid:23)(cid:25)(cid:22)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2)(cid:2) (cid:37)(cid:42)(cid:40)(cid:2)(cid:23)(cid:26)(cid:19)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:2) (cid:19)(cid:18)(cid:18) (cid:2)(cid:25)(cid:23) (cid:2)(cid:23)(cid:18) (cid:2)(cid:20)(cid:23) (cid:2)(cid:2)(cid:2)(cid:18) (cid:21)(cid:21) (cid:20)(cid:18) (cid:19)(cid:24) (cid:21)(cid:19) (cid:21)(cid:21) (cid:19)(cid:26) (cid:20)(cid:18) (cid:20)(cid:27) (cid:21)(cid:21) (cid:19)(cid:27) (cid:20)(cid:18) (cid:20)(cid:26) (cid:35)(cid:79)(cid:71)(cid:84)(cid:75)(cid:69)(cid:67)(cid:85) (cid:35)(cid:85)(cid:75)(cid:67)(cid:2)(cid:50)(cid:67)(cid:69)(cid:75)(cid:386)(cid:69) (cid:39)(cid:87)(cid:84)(cid:81)(cid:82)(cid:71)(cid:14)(cid:2)(cid:47)(cid:75)(cid:70)(cid:70)(cid:78)(cid:71)(cid:2)(cid:39)(cid:67)(cid:85)(cid:86)(cid:14)(cid:2)(cid:35)(cid:72)(cid:84)(cid:75)(cid:69)(cid:67) (cid:53)(cid:89)(cid:75)(cid:86)(cid:92)(cid:71)(cid:84)(cid:78)(cid:67)(cid:80)(cid:70) (cid:19)(cid:36)(cid:38)(cid:18)(cid:22)(cid:20)(cid:65)(cid:71) (cid:19)(cid:2)(cid:54)(cid:74)(cid:71)(cid:2)(cid:84)(cid:71)(cid:73)(cid:75)(cid:81)(cid:80)(cid:67)(cid:78)(cid:2)(cid:85)(cid:82)(cid:78)(cid:75)(cid:86)(cid:2)(cid:75)(cid:85)(cid:2)(cid:82)(cid:84)(cid:75)(cid:79)(cid:67)(cid:84)(cid:75)(cid:78)(cid:91)(cid:2)(cid:68)(cid:67)(cid:85)(cid:71)(cid:70)(cid:2)(cid:81)(cid:80)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:69)(cid:78)(cid:75)(cid:71)(cid:80)(cid:86)(cid:2)(cid:85)(cid:71)(cid:84)(cid:88)(cid:75)(cid:69)(cid:75)(cid:80)(cid:73)(cid:2)(cid:78)(cid:81)(cid:69)(cid:67)(cid:86)(cid:75)(cid:81)(cid:80)(cid:16) (cid:19)(cid:16)(cid:18)(cid:18) (cid:18)(cid:16)(cid:25)(cid:23) (cid:18)(cid:16)(cid:23)(cid:18) (cid:18)(cid:16)(cid:20)(cid:23) (cid:18)(cid:16)(cid:18)(cid:18) 47 Operating environment and strategy Operating environment and strategy Our strategy Retail & Corporate As the leading retail and corporate banking business in Switzerland, our goal is to deliver comprehensive financial products and services to our retail, corporate and institutional clients, provide stable and substantial profits for the Group and create revenue opportunities for other businesses within the Group. Business Strategy and clients Our Retail & Corporate business unit provides comprehensive fi- nancial products and services to our retail, corporate and institu- tional clients in Switzerland, and maintains a leading position in these client segments. As shown in the “Business mix” chart, Re- tail & Corporate generates stable profits which contribute sub- stantially to the overall financial performance of the Group. We are amongst the leading players in the retail and corporate loan market in Switzerland, with a highly collateralized lending portfo- lio of CHF 137 billion on 31 December 2012, as shown in the “Loans, gross” chart. This portfolio is managed conservatively, focusing on profitability and credit quality rather than market share. Our Retail & Corporate unit constitutes a central building block for the universal bank model of UBS Switzerland. It supports our other business divisions by referring clients to them and assisting retail clients to build their wealth to a level at which we can trans- fer them to our Wealth Management unit. Together, these actions contribute significantly to Group profitability. Furthermore, Retail & Corporate leverages the cross-selling potential of products and services provided by our asset-gathering and investment banking businesses. In addition, Retail & Corporate manages a substantial part of our Swiss infrastructure and Swiss banking product plat- form, which are both leveraged by our other businesses. We aspire to be the bank of choice for retail clients in Switzerland by delivering value-added services. Currently, we serve every third Swiss household. Our distributional network comprises nearly 300 branches, 1,250 automated teller machines including self- service terminals, and four customer service centers as well as state-of-the-art electronic and mobile banking services. In order to further improve our clients’ experience, we continue to invest in our distribution network by refurbishing our branches and add- ing new functionalities to our electronic and mobile banking ser- vice offering. Moreover, we are continuously refining our suite of life-cycle-based products to provide our clients with tailored solu- tions to meet their particular needs in their different stages of life. With regard to execution, we ensure a client-focused and efficient sales process. Our size in Switzerland and the diversity of businesses we op- erate put us in an advantageous position to serve all our clients’ complex financial needs in an integrated and efficient way. We aim to be the main bank of corporate and institutional clients ranging from small and medium-size enterprises to multination- als, and from pension funds and commodity traders to banks and insurers. We serve almost one in two Swiss companies, including more than 85% of the 1,000 largest Swiss corporations, as well as one in three pension funds in Switzerland, including 75 of the (cid:36)(cid:87)(cid:85)(cid:75)(cid:80)(cid:71)(cid:85)(cid:85)(cid:2)(cid:79)(cid:75)(cid:90) (cid:43)(cid:80)(cid:2)(cid:7)(cid:14)(cid:2)(cid:71)(cid:90)(cid:69)(cid:71)(cid:82)(cid:86)(cid:2)(cid:89)(cid:74)(cid:71)(cid:84)(cid:71)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:71)(cid:70)(cid:2) (cid:40)(cid:81)(cid:84)(cid:2)(cid:86)(cid:74)(cid:71)(cid:2)(cid:91)(cid:71)(cid:67)(cid:84)(cid:2)(cid:71)(cid:80)(cid:70)(cid:71)(cid:70)(cid:2)(cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:20) (cid:20)(cid:26) (cid:19)(cid:22) 48 (cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:28)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:21)(cid:14)(cid:25)(cid:23)(cid:24)(cid:2)(cid:79)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:46)(cid:81)(cid:67)(cid:80)(cid:85)(cid:14)(cid:2)(cid:73)(cid:84)(cid:81)(cid:85)(cid:85) (cid:43)(cid:80)(cid:2)(cid:7)(cid:14)(cid:2)(cid:71)(cid:90)(cid:69)(cid:71)(cid:82)(cid:86)(cid:2)(cid:89)(cid:74)(cid:71)(cid:84)(cid:71)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:71)(cid:70)(cid:2) (cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:28)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:19)(cid:21)(cid:25)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:19) (cid:52)(cid:71)(cid:69)(cid:87)(cid:84)(cid:84)(cid:75)(cid:80)(cid:73)(cid:2)(cid:75)(cid:80)(cid:86)(cid:71)(cid:84)(cid:71)(cid:85)(cid:86) (cid:52)(cid:71)(cid:69)(cid:87)(cid:84)(cid:84)(cid:75)(cid:80)(cid:73)(cid:2)(cid:72)(cid:71)(cid:71)(cid:85) (cid:35)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:20) (cid:26) (cid:22) (cid:19) (cid:25)(cid:20) (cid:23)(cid:26) (cid:48)(cid:81)(cid:80)(cid:15)(cid:84)(cid:71)(cid:69)(cid:87)(cid:84)(cid:84)(cid:75)(cid:80)(cid:73)(cid:2)(cid:75)(cid:80)(cid:69)(cid:81)(cid:79)(cid:71) (cid:19)(cid:22) (cid:53)(cid:71)(cid:69)(cid:87)(cid:84)(cid:71)(cid:70)(cid:2)(cid:68)(cid:91)(cid:2)(cid:84)(cid:71)(cid:85)(cid:75)(cid:70)(cid:71)(cid:80)(cid:86)(cid:75)(cid:67)(cid:78)(cid:2)(cid:82)(cid:84)(cid:81)(cid:82)(cid:71)(cid:84)(cid:86)(cid:91)(cid:20) (cid:53)(cid:71)(cid:69)(cid:87)(cid:84)(cid:71)(cid:70)(cid:2)(cid:68)(cid:91)(cid:2)(cid:69)(cid:81)(cid:79)(cid:79)(cid:71)(cid:84)(cid:69)(cid:75)(cid:67)(cid:78)(cid:17)(cid:75)(cid:80)(cid:70)(cid:87)(cid:85)(cid:86)(cid:84)(cid:75)(cid:67)(cid:78)(cid:2)(cid:82)(cid:84)(cid:81)(cid:82)(cid:71)(cid:84)(cid:86)(cid:91)(cid:21)(cid:2) (cid:53)(cid:71)(cid:69)(cid:87)(cid:84)(cid:71)(cid:70)(cid:2)(cid:68)(cid:91)(cid:2)(cid:85)(cid:71)(cid:69)(cid:87)(cid:84)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85) (cid:53)(cid:71)(cid:69)(cid:87)(cid:84)(cid:71)(cid:70)(cid:2)(cid:68)(cid:91)(cid:2)(cid:73)(cid:87)(cid:67)(cid:84)(cid:67)(cid:80)(cid:86)(cid:71)(cid:71)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:81)(cid:86)(cid:74)(cid:71)(cid:84)(cid:2)(cid:69)(cid:81)(cid:78)(cid:78)(cid:67)(cid:86)(cid:71)(cid:84)(cid:67)(cid:78) (cid:55)(cid:80)(cid:85)(cid:71)(cid:69)(cid:87)(cid:84)(cid:71)(cid:70)(cid:2)(cid:78)(cid:81)(cid:67)(cid:80)(cid:85) (cid:19)(cid:2)(cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:2)(cid:75)(cid:80)(cid:69)(cid:78)(cid:87)(cid:70)(cid:71)(cid:85)(cid:2)(cid:78)(cid:71)(cid:85)(cid:85)(cid:2)(cid:86)(cid:74)(cid:67)(cid:80)(cid:2)(cid:19)(cid:7)(cid:2)(cid:85)(cid:71)(cid:69)(cid:87)(cid:84)(cid:71)(cid:70)(cid:2)(cid:68)(cid:91)(cid:2)(cid:69)(cid:67)(cid:85)(cid:74)(cid:16)(cid:2)(cid:2)(cid:2)(cid:2)(cid:20)(cid:2)(cid:23)(cid:25)(cid:7)(cid:2)(cid:67)(cid:88)(cid:71)(cid:84)(cid:67)(cid:73)(cid:71)(cid:2)(cid:78)(cid:81)(cid:67)(cid:80)(cid:2)(cid:86)(cid:81)(cid:2)(cid:88)(cid:67)(cid:78)(cid:87)(cid:71)(cid:2)(cid:68)(cid:67)(cid:85)(cid:71)(cid:70)(cid:2)(cid:81)(cid:80)(cid:2)(cid:78)(cid:67)(cid:86)(cid:71)(cid:85)(cid:86)(cid:2)(cid:69)(cid:84)(cid:71)(cid:70)(cid:75)(cid:86)(cid:2) (cid:84)(cid:71)(cid:88)(cid:75)(cid:71)(cid:89)(cid:16)(cid:2)(cid:2)(cid:2)(cid:2)(cid:21)(cid:2)(cid:23)(cid:26)(cid:7)(cid:2)(cid:67)(cid:88)(cid:71)(cid:84)(cid:67)(cid:73)(cid:71)(cid:2)(cid:78)(cid:81)(cid:67)(cid:80)(cid:2)(cid:86)(cid:81)(cid:2)(cid:88)(cid:67)(cid:78)(cid:87)(cid:71)(cid:2)(cid:68)(cid:67)(cid:85)(cid:71)(cid:70)(cid:2)(cid:81)(cid:80)(cid:2)(cid:78)(cid:67)(cid:86)(cid:71)(cid:85)(cid:86)(cid:2)(cid:69)(cid:84)(cid:71)(cid:70)(cid:75)(cid:86)(cid:2)(cid:84)(cid:71)(cid:88)(cid:75)(cid:71)(cid:89)(cid:16) (cid:19)(cid:36)(cid:38)(cid:18)(cid:20)(cid:20)(cid:65)(cid:71) (cid:19)(cid:36)(cid:38)(cid:18)(cid:20)(cid:19)(cid:65)(cid:71) largest 100. We strive to further expand and leverage our trans- action banking capabilities (e.g. payment and cash management services, custody solutions, trade and export finance). In addi- tion, we plan to increase our presence and grow in the com- modities trade finance business. Combining the universal bank approach with our local market expertise across all Swiss regions enables us to optimize our client service by providing access to all UBS capabilities. As the leading retail and corporate banking business in Swit- zerland, we understand the importance of our role in supporting the needs of our clients. We have successfully implemented structures and processes to simplify our service commitments across the business, including streamlining our processes, reduc- ing the administrative burden on our client advisors and enhanc- ing their long-term productivity without compromising our risk standards. Organizational structure The Retail & Corporate unit is a core element of UBS Switzerland’s universal bank delivery model, which allows us to extend the ex- pertise of the entire bank to our Swiss retail, corporate and insti- tutional clients. Switzerland is the only country where we operate in retail, corporate and institutional banking, wealth and asset management as well as investment banking. To ensure consistent delivery throughout Switzerland, the Swiss network is organized into ten geographical regions. Dedicated management teams in the regions and in the branches derived from all business areas are responsible for executing the universal bank model, fostering cross-divisional collaboration and ensuring that the public and clients have a uniform experience based on a single corporate image and shared standards of service. Competitors In the Swiss retail banking business, our competitors are Raif- feisen, the cantonal banks, Credit Suisse, Postfinance, and other regional and local Swiss banks. In the Swiss corporate and institutional business, our main competitors are Credit Suisse, the cantonal banks and foreign banks in Switzerland. Products and services Our retail clients have access to a life cycle-based comprehensive offering, comprising easy-to-understand products including cash accounts, payments, savings and retirement solutions, in- vestment fund products, residential mortgages, a bonus pro- gram and advisory services. We provide financing solutions to our corporate clients, offering access to equity and debt capital markets, syndicated and structured credit, private placements, leasing and traditional financing. Our transaction banking offers solutions for payments and cash management services, trade and export finance, receivable finance, as well as global custody solutions to institutional clients. Close collaboration with our client-centric Investment Bank is a key building block in our uni- versal bank strategy that enables us to offer capital market prod- ucts, foreign exchange products, hedging strategies (currency, interest rates, and commodities) and trading (equities and fixed income, currencies and commodities), as well as to provide cor- porate finance advice in fields such as mid-market mergers and acquisitions, corporate succession planning and real estate. We also cater to the asset management needs of institutional clients by offering portfolio management mandates, strategy execution and fund distribution. 49 Operating environment and strategy Operating environment and strategy Our strategy Corporate Center The Corporate Center enables UBS to operate cohesively and effectively by providing and managing support and control functions for the business divisions and the Group. Objectives The Corporate Center provides the business divisions with Group- level control in the areas of finance, risk, legal and compliance, and Group-wide shared service functions comprising support and logistics functions. We strive to maintain effective corporate gov- ernance processes, including compliance with relevant regula- tions, ensuring an appropriate balance between risk and return. The Corporate Center also encompasses certain centrally man- aged positions, including the SNB StabFund option and the Lega- cy Portfolio. In 2012, the Group-wide shared service functions in the Corpo- rate Center – Core Functions, comprising information technology, human resources, corporate development, Group regulatory rela- tions and strategic initiatives, communications and branding, cor- porate real estate and administrative services, procurement, physi- cal security as well as information security and offshoring, were extended by the integration of all Group-wide operations under the leadership of the Group Chief Operating Officer (Group COO). The Corporate Center – Legacy Portfolio encompasses certain centrally managed positions, including the SNB StabFund option and a portfolio of legacy assets. It is overseen by a committee consisting of the Group Chief Executive Officer, Group Chief Fi- nancial Officer and the Group Chief Risk Officer. Starting with reporting for the first quarter of 2013, non-core businesses previ- ously part of the Investment Bank will also be reported in the Corporate Center – Legacy Portfolio. As a result, from 2013 this unit will be known as Corporate Center – Non-core and Legacy Portfolio. At the end of 2012, there were 25,255 employees across all Corporate Center functions. The majority of the treasury income, operating expenses and personnel associated with the activities within Corporate Center – Core Functions are re-allocated to the business divisions for which the respective services are performed. In 2012, the Corporate Center focused on increasing opera- tional efficiency, optimizing organizational design related to the accelerated implementation of our strategy announced in Octo- ber 2012 and responding to the evolving regulatory environment. We implemented a new integrated approach to governing regula- tory and strategic change initiatives and introduced a new Opera- tional Risk Control Framework that encompasses all control re- quirements, front-to-back responsibilities and strengthens the supervisory framework. Overall, the integrated structure helps us to maintain independent control functions and a core platform from which we continually create synergies and enhance share- holder value. Organizational structure Corporate Center – Core Functions consists of the control func- tions Group Finance, Group Risk, and Group General Counsel, in addition to the shared services functions. Group Chief Financial Officer The Group Chief Financial Officer (Group CFO) is responsible for ensuring transparency in, and assessment of, the financial perfor- mance of UBS Group and its business divisions, for UBS Group’s financial reporting, forecasting, planning and controlling process- es. He also provides advice on financial aspects of strategic proj- ects and transactions. The Group CFO has management responsi- bility over the divisional and the UBS Group financial control functions. The Group CFO is responsible for the management and control of UBS’s tax affairs and for treasury and capital manage- ment, including management and control of funding and liquidity risk and UBS’s regulatory capital ratios. After consultation with the Audit Committee of the Board of Directors (BoD), the Group CFO makes proposals to the BoD regarding the standards for account- ing adopted by UBS and defines the standards for financial report- ing and disclosure. Together with the Group Chief Executive Of- ficer (Group CEO), the Group CFO provides external certifications 50 under sections 302 and 404 of the Sarbanes-Oxley Act 2002, and, in coordination with the Group CEO, manages relations with ana- lysts and investors. Group Chief Operating Officer The Group COO manages the shared service functions of the Group, including the management and control of Group-wide operations, information technology, human resources, corporate development, Group regulatory relations and strategic initiatives, communications and branding, corporate real estate and admin- istrative services, procurement, physical as well as information security and offshoring. In addition, the Group COO supports the Group CEO in developing our strategy and addressing regulatory and strategic issues. The Group COO also oversees the business and strategic planning of shared services. Group Chief Risk Officer The Group Chief Risk Officer (Group CRO) develops and imple- ments principles and appropriate independent control frame- works for credit, market, country and operational risks within the Group. In particular, the Group CRO formulates and implements the frameworks for risk capacity and appetite, risk measurement, portfolio controls and risk reporting, and has management re- sponsibility over the divisional and Group risk control functions. He implements the risk control mechanisms as determined by the BoD, the BoD Risk Committee or the Group CEO. In addition, the Group CRO approves transactions, positions, exposures, portfolio limits and provisions in accordance with the delegated risk con- trol authorities, and monitors and challenges the firm’s risk-tak- ing activities. Group General Counsel The Group General Counsel (Group GC) is responsible for legal and compliance matters, policies and processes, and for manag- ing the legal and compliance function for the UBS Group. The Group GC is responsible for reporting legal and compliance risks and material litigation, for managing litigation and special and regulatory investigations, and for ensuring that we meet relevant legal requirements and regulatory standards in the conduct of our business. The Group GC also assumes responsibility for establish- ing a Group-wide management and control process for our rela- tionship with regulators, in close cooperation with the Group CRO and the Group CFO where relevant, and for maintaining the relationships with our key regulators with respect to legal and compliance matters. 51 Operating environment and strategy Operating environment and strategy Regulation and supervision Regulation and supervision The Swiss Financial Market Supervisory Authority (FINMA) is UBS’s home country regulator and consolidated supervisor. As a financial services provider with a global footprint, we are also regulated and supervised by the relevant authorities in each of the jurisdictions in which we conduct business. The following sections describe the regulation and supervision of our business in Switzerland and the regulatory and supervisory environments in the US and the UK, our next two largest areas of operation. Regulation and supervision in Switzerland The Swiss Federal Law on Banks and Savings Banks of 8 Novem- ber 1934, as amended (Banking Act), and the related Swiss Fed- eral Ordinance on Banks and Savings Bank of 17 May 1972, as amended (Banking Ordinance), provide the legal basis for banking in Switzerland. Based on the license obtained under this frame- work, we may engage in a full range of financial service activities, including retail banking, commercial banking, investment bank- ing and asset management in Switzerland. The Banking Act, Banking Ordinance and the Financial Market Supervision Act of 22 June 2007, as amended, establish a framework for supervision by FINMA, empowering it to issue its own ordinances and circular letters, which contribute to shaping the Swiss legislative frame- work for banks. In 2010, the Swiss Federal Council and FINMA incorporated the enhancements to the Basel Capital Accord issued by the Basel Com- mittee on Banking Supervision on 13 July 2009 (so-called Basel 2.5) into the Capital Adequacy Ordinance of 29 September 2006 (and related circular letters). The enhanced ca pital adequacy rules became effective on 1 January 2011. In autumn 2011, the Swiss Parliament amended the legal framework for banks to address the lessons learned from the financial crisis and, in particular, the “too-big-to- fail” issue. The amended sections are applicable to the largest Swiss banks, including UBS, and contain specific capital requirements and provisions to ensure that systemically relevant functions can be maintained in case of insolvency. In addition, and in line with global requirements, we are required to produce and update recovery and resolution plans aimed at increasing the firm’s resilience further in the case of a crisis, and provide FINMA and other regulators with information on how the firm could be resolved in the event of an unsuccessful recovery. These new sections entered into force on 1 March 2012. Switzerland implemented the Basel III Accord by means of a complete review of the Capital Adequacy Ordinance and related FINMA rules. In addition, a number of other amendments have been made to the Banking Ordinance and the Capital Adequacy Ordi- nance, which came into effect on 1 January 2013. ➔ Refer to the “Capital management” section of this report for more information about capital requirements The Federal Act of 10 October 1997 on the Prevention of Mon- ey Laundering in the Financial Sector defines a common standard for due diligence obligations to prevent money laundering for the whole financial sector. The legal basis for the investment funds business in Switzer- land is the Swiss Federal Act on Collective Investment Schemes (Collective Investment Schemes Act) of 23 June 2006, which came into force on 1 January 2007. FINMA, as supervisory author- ity for investment funds in Switzerland, is responsible for the authorization and supervision of the institutions and investment funds subject to its control. In our capacity as a securities broker and as an issuer of shares listed in Switzerland, we are governed by the Federal Act on Stock Exchanges and Securities Trading of 24 March 1995. FINMA is the competent supervisory authority with respect to securities brokering. FINMA fulfills its statutory supervisory responsibilities through the instruments of licensing, regulation, monitoring, and enforce- ment. Generally, prudential supervision in Switzerland is based on a division of tasks between FINMA and authorized audit firms. Under this two-tier supervisory system, FINMA has the responsibil- ity for overall supervision and enforcement measures while the authorized audit firms carry out official duties on behalf of FINMA. The responsibilities of external auditors encompass the audit of financial statements, the review of banks’ compliance with all prudential requirements and on-site audits. We are classified as a “big bank” due to our size, complexity, organization and business activities, as well as our importance to the financial system. As a big bank, we are subject to more rigor- ous supervision than other banks. We are directly supervised by the FINMA group “Supervision of UBS,” which is supported by teams specifically monitoring investment banking activities, risk management, as well as solvency and capital aspects. Supervisory tools include numerous meetings with management and informa- tion exchange encompassing all control and business areas, inde- pendent assessments through review activities, and a regular ex- change of views with internal audit functions, external auditors and important host supervisors. In recent years, FINMA has imple- mented the recommendations issued by the Financial Stability Board and the Basel Committee on Banking Supervision, and complemented the Supervisory College with the UK Financial Ser- vices Authority (FSA) and the Federal Reserve Bank of New York (FRBNY), established in 1998 to promote supervisory cooperation and coordination, with a General Supervisory College – including more than a dozen of UBS host regulatory agencies – and a Crisis 52 Management College (which is also attended by representatives from the Swiss National Bank [SNB] and the Bank of England). The SNB contributes to the stability of the financial system through macro-prudential measures and monetary policy, provid- ing also liquidity to the banking system. It does not exercise any banking supervision and is not responsible for enforcing banking legislation, but works together with FINMA in the following areas: (i) assessment of the soundness of systemically important banks, (ii) regulations that have a major impact on the soundness of banks, including liquidity, capital adequacy and risk distribution provisions, where they are of relevance for financial stability, and (iii) contingency planning and crisis management. FINMA and the SNB exchange information and share opinions about the sound- ness of the banking sector and systemically important banks, and are authorized to exchange information and documents that are not publicly accessible if they require these in order to fulfill their tasks. With regard to systemically important banks, the SNB may also carry out its own enquiries and request information directly from the banks. In addition, the SNB has been tasked by parlia- ment with the designation of systemically relevant banks and their systemically relevant functions in Switzerland. ➔ Refer to the “Regulatory developments” and “Risk factors” sections of this report for more information Regulation and supervision in the US Our operations in the US are subject to a variety of regulatory re- gimes. We maintain branches in several states, including Con- necticut, Illinois, New York and Florida. These branches are li- censed either by the Office of the Comptroller of the Currency or the state banking authority of the state in which the branch is located. Each US branch is subject to regulation and examination by its licensing authority. We also maintain state and federally chartered trust companies and other limited purpose banks, which are regulated by state regulators or the Office of the Comp- troller of the Currency. In addition, the Board of Governors of the Federal Reserve System exercises examination and regulatory au- thority over our state-licensed US branches. Only the deposits of our subsidiary bank located in the state of Utah are insured by the Federal Deposit Insurance Corporation. The regulation of our US branches and subsidiaries imposes restrictions on the activities of those branches and subsidiaries, as well as prudential restrictions on their operations, such as limits on extensions of credit to a single borrower, including UBS subsidiaries and affiliates. The licensing authority of each state-licensed US branch of UBS AG has the authority, in certain circumstances, to take pos- session of the business and property of UBS located in the state of the office it licenses. Such circumstances generally include vio- lations of law, unsafe business practices and insolvency. As long as we maintain one or more federal branches, the Office of the Comptroller of the Currency also has the authority to take pos- session of all the US operations of UBS under broadly similar cir- cumstances, as well as in the event that a judgment against a federally licensed branch remains unsatisfied. This federal power may pre-empt the state insolvency regimes that would otherwise be applicable to our state-licensed branches. As a result, if the Office of the Comptroller of the Currency exercised its authority over the US branches of UBS pursuant to federal law in the event of a UBS insolvency, all US assets of UBS would generally be ap- plied first to satisfy creditors of these US branches as a group, and then made available for application pursuant to any Swiss insolvency proceeding. In addition to the direct regulation of our US banking offices, because we operate US branches, we are subject to oversight regulation by the Board of Governors of the Federal Reserve System under various laws (including the International Banking Act of 1978 and the Bank Holding Company Act of 1956). On 10 April 2000, UBS was designated a “financial holding com- pany” under the Bank Holding Company Act of 1956. Financial holding companies may engage in a broader spectrum of activi- ties than bank holding companies or foreign banking organiza- tions that are not financial holding companies, including under- writing and dealing in securities. To maintain our financial holding company status, (i) the Group, our US subsidiary feder- ally chartered trust company and our US subsidiary bank located in Utah are required to meet certain capital ratios, (ii) our US branches, our US subsidiary federally chartered trust company, and our US subsidiary bank located in Utah are required to meet certain examination ratings, and (iii) our subsidiary bank in Utah is required to maintain a rating of at least “satisfactory” under the Community Reinvestment Act of 1997. A major focus of US governmental policy relating to financial institutions in recent years has been fighting money laundering and terrorist financing. Regulations applicable to UBS and our subsidiaries impose obligations to maintain effective policies, procedures and controls to detect, prevent and report money laundering and terrorist financing, and to verify the identity of their clients. Failure to maintain and implement adequate pro- grams to combat money laundering and terrorist financing could have serious consequences, both in legal terms and in terms of our reputation. In the US, UBS Securities LLC and UBS Financial Services Inc., as well as our other US-registered broker-dealer entities, are subject to regulations that cover all aspects of the securities business, in- cluding: sales methods, trade practices among broker-dealers, use and safekeeping of clients’ funds and securities, capital structure, record-keeping, the financing of clients’ purchases, and the con- duct of directors, officers and employees. These entities are regulated by a number of different govern- ment agencies and self-regulatory organizations, including the Securities and Exchange Commission (SEC) and the Financial In- dustry Regulatory Authority (FINRA). Each entity is also regulated by some or all of the following: the New York Stock Exchange (NYSE), the Municipal Securities Rulemaking Board, the US De- partment of the Treasury, the Commodities Futures Trading Com- mission and other exchanges of which it may be a member, de- pending on the specific nature of the respective broker-dealer’s business. In addition, the US states, provinces and territories have 53 Operating environment and strategy Operating environment and strategy Regulation and supervision local securities commissions that regulate and monitor activities in the interest of investor protection. These regulators have a variety of sanctions available, including the authority to conduct admin- istrative proceedings that can result in censure, fines, the issuance of cease-and-desist orders or the suspension or expulsion of the broker-dealer or its directors, officers or employees. FINRA is dedicated to investor protection and market integrity through effective and efficient regulation and complementary compliance and technology-based services. FINRA covers a broad spectrum of securities matters, including: registering and educat- ing industry participants, examining securities firms, writing rules, enforcing those rules and the federal securities laws, informing and educating the investing public, providing trade reporting and other industry utilities, and administering a dispute resolution fo- rum for investors and registered firms. It also performs market regulation under contract for the NASDAQ Stock Market, the NYSE, the American Stock Exchange and the Chicago Climate Exchange. The SEC’s mission is to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation. The SEC oversees the key participants in the securities world, includ- ing securities exchanges, securities brokers and dealers, invest- ment advisors, and mutual funds. The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act) impacts the financial services indus- try by addressing, among other issues, the following: (i) systemic risk oversight, (ii) bank capital standards, (iii) the liquidation of fail- ing systemically significant financial institutions, (iv) OTC deriva- tives, (v) the ability of deposit-taking banks to engage in proprie- tary trading activities and invest in hedge funds and private equity (the so-called Volcker rule), (vi) consumer and investor protection, (vii) hedge fund registration, (viii) securitization, (ix) investment ad- visors, (x) shareholder “say on pay,” and (xi) the role of credit-rat- ing agencies. Many of the provisions of the Dodd-Frank Act will affect the operation of UBS’s US banking operations as well as our non-banking entities. The details of the legislation and its impact on UBS’s operations depend on the final regulations being adopt- ed by various agencies and oversight boards. Regulation and supervision in the UK Our operations in the UK are mainly regulated by the FSA, which establishes a regime of rules and guidance governing all relevant aspects of financial services businesses. UBS AG, London Branch is regulated by both the FSA and FINMA. The FSA has established a risk-based approach to supervision and has a wide variety of supervisory tools available to it, includ- ing regular risk assessments, on-site inspections (which may relate to an industry-wide theme or be firm-specific) and the ability to commission reports by skilled persons (who may be the firm’s au- ditors, IT specialists, lawyers or other consultants as appropriate). The FSA also has an extremely wide set of sanctions which it may impose under the Financial Services and Markets Act 2000, broadly similar to those available to US regulators. Some of our subsidiaries and affiliates are also regulated by the London Stock Exchange and other UK securities and commodities exchanges of which we are a member. We are also subject to the requirements of the UK Panel on Takeovers and Mergers, where relevant. Financial services regulation in the UK is conducted in accor- dance with EU directives which require, among other things, compliance with certain capital adequacy standards, client pro- tection requirements and conduct of business rules (such as the Markets in Financial Instruments Directive). These directives apply throughout the EU and are reflected in the regulatory regimes of the various member states. The UK government has committed to changing the current regulatory structures, including splitting responsibility for pru- dential regulation and conduct of business regulation and the replacement of the FSA with new regulatory bodies, namely the Prudential Regulation Authority (reporting to the Bank of Eng- land) and the Financial Conduct Authority (the legal continua- tion of the FSA). This split will take effect in early 2013, formal- izing the existing internal separation of supervisory responsibility for prudential and conduct business regulation, implemented in April 2012. ➔ Refer to the “Regulatory developments” and “Risk factors” ➔ Refer to the “Regulatory developments” and “Risk factors” sections of this report for more information sections of this report for more information 54 Risk factors Certain risks, including those described below, may impact our ability to execute our strategy and affect our business activities, financial condition, results of operations and prospects. Because the business of a broad-based international financial services firm such as UBS is inherently exposed to risks that become apparent only with the benefit of hindsight, risks of which we are not pres- ently aware or which we currently do not consider to be material could also impact our ability to execute our strategy and affect our business activities, financial condition, results of operations and prospects. The sequence in which the risk factors are pre- sented below is not indicative of their likelihood of occurrence or the potential magnitude of their financial consequences. Regulatory and legislative changes may adversely affect our business and ability to execute our strategic plans Fundamental changes in the laws and regulations affecting finan- cial institutions could have a material and adverse effect on our business. In the wake of the 2007–2009 financial crisis and the continuing instability in global financial markets, regulators and legislators have proposed, have adopted, or are actively consider- ing, a wide range of changes to these laws and regulations. These measures are generally designed to address the perceived causes of the crisis and to limit the systemic risks posed by major financial insti tutions. They include the following: – significantly higher regulatory capital requirements; – changes in the definition and calculation of regulatory capital; – changes in the calculation of risk-weighted assets (RWA); – the introduction of a more demanding leverage ratio; – new or significantly enhanced liquidity requirements; – requirements to maintain liquidity and capital in jurisdictions in which activities are conducted and booked; – limitations on principal trading and other activities; – new licensing, registration and compliance regimes; – limitations on risk concentrations and maximum levels of risk; – taxes and government levies that would effectively limit balance sheet growth or reduce the profitability of trading and other ac- tivities; – a variety of measures constraining, taxing or imposing addi- tional requirements relating to compensation; – adoption of new liquidation regimes intended to prioritize the preservation of systemically significant functions; – requirements to adopt structural and other changes designed to reduce systemic risk and to make major financial institutions easier to manage, restructure, disassemble or liquidate; and – requirements to adopt risk governance structures at a local jurisdiction level. A number of measures have been adopted and will be imple- mented over the next several years; some are subject to legislative action or to further rulemaking by regulatory authorities before final implementation. As a result, there is a high level of uncer- tainty regarding a number of the measures referred to above, in- cluding whether (or the form in which) they will be adopted, the timing and content of implementing regulations and interpreta- tions and / or the dates of their effectiveness. Notwithstanding attempts by regulators to coordinate their ef- forts, the measures adopted or proposed differ significantly across the major jurisdictions, making it increasingly difficult to manage a global institution. The absence of a coordinated approach, more- over, disadvantages institutions headquartered in jurisdictions that impose relatively more stringent standards. Switzerland has ad- opted capital and liquidity requirements for its major international banks that are the strictest among the major financial centers. This could disadvantage Swiss banks such as UBS when they compete with peer financial institutions subject to more lenient regulation or with unregulated non-bank competitors. Regulatory and legislative changes in Switzerland In September 2011, the Swiss parliament adopted the “too-big- to-fail” law to address the issues posed by large banks. The law became effective on 1 March 2012. Accordingly, Swiss regulatory change efforts have generally proceeded more quickly than those in other major jurisdictions, and the Swiss Financial Market Super- visory Authority (FINMA), the Swiss National Bank (SNB) and the Swiss Federal Council are implementing requirements that are sig- nificantly more onerous and restrictive for major Swiss banks, such as UBS, than those adopted or proposed by regulatory au- thorities in other major global financial centers. The provisions of the revised banking ordinance and capital adequacy ordinance implementing the Swiss “too-big-to-fail” law became effective on 1 January 2013. These ordinances implement capital requirements that increase or decrease in proportion to UBS’s (i) market share in Switzerland and (ii) total exposure, a met- ric that measures balance sheet size. This could in effect result in higher or lower capital adequacy requirements than the 19% of Basel III RWA that has been publicly discussed. As we have previ- ously announced, our total capital requirements are expected to fall to 17.5% reflecting the planned decrease in total exposure as part of the acceleration of our strategy announced in October 2012. Actions and interpretations of governmental authorities may affect the calculation of our capital ratios and increase our effective capital requirements. For example, we expect approxi- mately CHF 2–3 billion to be added to our RWA each year from 2013 through 2019 as a result of FINMA’s decision to apply a 55 Operating environment and strategy Operating environment and strategy Risk factors bank-specific multiplier for banks using the internal ratings-based approach when calculating RWA for Swiss retail mortgages. In addition, a 1% countercyclical buffer on RWA arising from Swiss residential mortgages will be effective from September 2013. The new banking and capital adequacy ordinances also con- tain, among other things, provisions regarding emergency plans for systemically important functions, recovery and resolution plan- ning and intervention measures that may be triggered when cer- tain capital thresholds are breached. Those intervention levels may be set at higher capital levels than under current law, and may depend upon the capital structure and type of buffer capital the bank will have to issue to meet the specific Swiss require- ments. If we are not able to demonstrate that our systemically relevant functions in Switzerland can be maintained even in case of a threatened insolvency, FINMA may impose more onerous require- ments on us. Although the actions that FINMA may take in such circumstances are not yet defined, we could be required directly or indirectly, for example, to alter our legal structure (e.g. to sepa- rate lines of business into dedicated entities, with limitations on intra-group funding and certain guarantees), or in some manner to further reduce business risk levels. The law also provides that the largest banks will be eligible for a capital rebate if they take actions that facilitate recovery and resolvability beyond ensuring that the systematically important functions are maintained in case of insolvency. Such actions would likely include an alteration of the legal structure of a bank group in a manner that would insu- late parts of the group from exposure to risks arising from other parts of the group, thereby making it easier to dispose of certain parts of the group in a recovery scenario, or to liquidate or dispose of certain parts of the group in a resolution scenario, without necessarily adversely affecting other parts. Due to recent changes in Swiss regulatory requirements, and due to liquidity requirements imposed by certain other jurisdic- tions in which we operate, we have been required to maintain substantially higher levels of liquidity overall than had been our usual practice in the past. Like increased capital requirements, higher liquidity requirements make certain lines of business, par- ticularly in the Investment Bank, less attractive and may reduce our overall ability to generate profits. Regulatory and legislative changes outside Switzerland Regulatory and legislative changes in other locations in which we operate may subject us to a wide range of new restrictions both in individual jurisdictions and, in some cases, globally. Some of these regulatory and legislative changes may subject us to requirements to move activities from UBS AG branches into subsidiaries. Such “subsidiarization” can create operational, capi- tal and tax inefficiencies, increase our aggregate credit exposure to counterparties as they transact with multiple UBS AG affiliates, expose our businesses to higher local capital requirements, and potentially give rise to client and counterparty concerns about the credit quality of the subsidiary. Such changes could also nega- tively impact our funding model and severely limit our booking flexibility. For example, we have significant operations in the UK and use UBS AG’s London branch as a global booking center for many types of products. We are being required by the UK Finan- cial Services Authority and by FINMA to increase very substantially the capitalization of our UK bank subsidiary, UBS Limited, and expect to be required to change our booking practices to reduce or even eliminate our utilization of UBS AG London branch as a global booking center for the ongoing business of the Investment Bank. In addition, the UK Independent Commission on Banking has re commended structural and non-structural reforms of the banking sector, most of which have been endorsed by the UK government. Key measures proposed include the ring-fencing of retail activities in the UK, additional common equity tier 1 capital requirements of up to 3% of RWA for retail banks, and the issu- ance of debt subject to “bail-in” provisions. The applicability and implications of such changes to offices and subsidiaries of foreign banks are not yet entirely clear, but they could have a material effect on our businesses located or booked in the UK. The adoption of the Dodd-Frank Act in the US will also affect a number of our activities, as well as those of other banks. The implementation of the Volcker Rule as of July 2012, for example, is one reason for our exiting equities proprietary trading business segments within the Investment Bank. For other trading activity, we expect that we will be required to implement a compliance regime, including the calculation of detailed metrics for each trading book, and may be required to implement a compliance plan globally. Depending on the nature of the final rules, as well as the manner in which they are implemented, the Volcker Rule could have a substantial impact on market liquidity and the eco- nomics of market-making activities. The Volcker Rule also broad- ly limits investments and other transactional activities between banks and covered funds. The proposed implementing regula- tions both expand the scope of covered funds and provide only a very limited exclusion for activities of UBS outside the US. If ad- opted as proposed, the regulations could limit certain of our ac- tivities in relation to funds, particularly outside the US. Moreover, at the end of 2012, the Federal Reserve issued proposed rules for foreign banking organizations in the US (sections 165 and 166 of Dodd-Frank Act) that include (i) a requirement for an intermedi- ate holding company to hold US subsidiary operations, (ii) risk- based capital and leverage requirements, (iii) liquidity require- ments (both substantive and procedural), (iv) single-counterparty credit limits, (v) risk management and risk committee require- ments, (vi) stress test requirements, including public disclosure of the results, (vii) a debt-to-equity limit, and (viii) a framework for early remediation of financial weaknesses. The proposal would impose different requirements based on the overall size of the foreign banking organization and the size of its US-based assets. If the rules are adopted as proposed, UBS would be subject to the most stringent requirements based on the current size of its glob- al and US operations. In addition, in 2009 the G20 countries committed to require all standardized over-the-counter (OTC) derivative contracts to be traded on exchanges or trading facilities and cleared through cen- 56 tral counterparties by the end of 2012. This commitment is being implemented through the Dodd-Frank Act in the US and corre- sponding legislation in the European Union and other jurisdic- tions, and will have a significant impact on our OTC derivatives business, primarily in the Investment Bank. For example, we ex- pect that, as a rule, the shift of OTC derivatives trading to a cen- tral clearing model will tend to reduce profit margins in these products, although some market participants may be able to off- set this effect with higher trading volumes in commoditized prod- ucts. Although we are preparing for these thematic market changes, they are likely to reduce the revenue potential of certain lines of business for market participants generally, and we may be adversely affected. UBS AG registered as a swap dealer in the US at the end of 2012 enabling the continuation of swaps business with US per- sons. Regulations issued by the Commodity Futures Trading Com- mission (CFTC) impose substantial new requirements on regis- tered swap dealers for clearing, trade execution, transaction reporting, recordkeeping, risk management and business con- duct. The CFTC has granted time-limited relief to initially limit the scope of new requirements to transactions with US persons. Cer- tain of the CFTC’s regulations, including those relating to swap data reporting, recordkeeping, compliance and supervision, are expected to apply to UBS AG globally once this time-limited relief expires. Application of these requirements to UBS’s swaps busi- ness with non-US persons will present a substantial implementa- tion burden, will likely duplicate or conflict with legal require- ments applicable to UBS outside of the United States and may place UBS at a competitive disadvantage to firms that are not CFTC-registered swap dealers. The Securities and Exchange Com- mission (SEC) is expected to propose rules for the extraterritorial application of its regulation of securities-based swaps in the first half of 2013, and to require registration of securities-based swap dealers in the US following adoption of such rules. SEC regulation of securities-based swaps may present similar risks to CFTC rules. The effect on business booked or conducted by UBS in whole or in part outside the US cannot yet be determined fully because many of the regulations that must be adopted to implement the Dodd-Frank Act have not yet been finalized. In many instances, UBS provides services on a cross-border ba- sis. Efforts in the European Union (EU) to harmonize the regime for third-country firms to access the European market may have the effect of creating new barriers that adversely affect our ability to conduct business in these jurisdictions from Switzerland. For in- stance, the proposed harmonization of third-country access provi- sions under the revised European MiFID II/MiFIR framework would make it materially more difficult for UBS to service wealth manage- ment clients in Europe. As these requirements are still being devel- oped and revised, the effect on our business with clients domiciled or booked in the EU is difficult to predict. Resolution and recovery; bail-in We are currently required to produce recovery and resolution plans in the US, UK, Switzerland and Germany and are likely to face similar requirements for our operations in other jurisdictions, including our operations in the EU as a whole as part of the pro- posed EU Recovery and Resolution Directive. Resolution plans may increase the pressure for structural change if our analysis identi- fies impediments that are not acceptable to regulators. Such structural changes may negatively impact our ability to benefit from synergies between business units, and if they include the creation of separate legal entities may have the other negative consequences mentioned above with respect to “subsidiariza- tion”. In addition a number of jurisdictions, including Switzerland, the US, the UK and the EU, have implemented or are considering implementing changes that would allow resolution authorities to convert debt into equity in a so-called “bail-in”. The scope of bail- in authority and the legal mechanisms that would be utilized for the purpose are subject to a great deal of development and inter- pretation. Depending upon the outcome, bail-in authority may have a significant effect on UBS’s funding costs. The planned and potential regulatory and legislative develop- ments in Switzerland and in other jurisdictions in which we have operations may have a material adverse effect on our ability to execute our strategic plans, on the profitability or viability of certain business lines globally or in particular locations, and in some cases on our ability to compete with other financial institu- tions. They are likely to be costly to implement and could also have a negative impact on our legal structure or business model. Finally, the uncertainty related to or the implementation of leg- islative and regulatory changes may have a negative impact on our relationships with clients and our success in attracting client business. Our capital strength is important in supporting our strategy, client franchise and competitive position Our capital position, as measured by the BIS tier 1, core and total capital ratios and the common equity tier 1 ratio under Basel III requirements, is determined by (i) RWA (credit, non-counterparty related, market and operational risk positions, measured and risk-weighted according to regulatory criteria) and (ii) eligible capital. Both RWA and eligible capital are subject to change. Eli- gible capital would be reduced if we experience net losses or losses through the other comprehensive income account, as de- termined for the purpose of the regulatory capital calculation, which may also render it more difficult or more costly for us to raise new capital. Eligible capital can also be reduced for a num- ber of other reasons, including certain reductions in the ratings of securitization exposures, adverse currency movements affecting the value of equity, prudential adjustments that may be required due to the valuation uncertainty associated with certain types of positions, and changes in the value of certain pension fund assets recognized in other comprehensive income. RWA, on the other hand, are driven by our business activities and by changes in the risk profile of our exposures. For instance, substantial market 57 Operating environment and strategy Operating environment and strategy Risk factors volatility, a widening of credit spreads (the major driver of our value-at-risk), adverse currency movements, increased counter- party risk, a deterioration in the economic environment, or in- creased operational risk could result in a rise in RWA. Any such reduction in eligible capital or increase in RWA could materially reduce our capital ratios. The required levels and calculation of our regulatory capital and the calculation of our RWA are also subject to changes in regula- tory requirements or their interpretation. We are subject to regula- tory capital requirements imposed by FINMA, under which we have higher RWA than would be the case under the Basel III guidelines as adopted by the Bank for International Settlements. The changes in the calculation of RWA under Basel III and FINMA requirements (such as the revised treatment of certain securitization exposures under the Basel III framework) have significantly increased the level of our RWA and, therefore, have adversely affected our capital ra- tios. We have announced plans to reduce RWA very substantially and to mitigate the effects of the changes in the RWA calculation. However, there is a risk that we will not be successful in pursuing our plans, either because we are unable to carry out fully the ac- tions we have planned or because other business or regulatory de- velopments to some degree counteract the benefit of our actions. In addition to the risk-based capital requirements, we are subject to a minimum leverage ratio requirement for systemically important banks introduced by FINMA. The leverage ratio operates separately from the risk-based capital requirements, and, accordingly, under certain circumstances could constrain our business activities even if we are able to satisfy the risk-based capital requirements. Changes in the Swiss requirements for risk-based capital or leverage ratios, whether pertaining to the minimum levels re- quired for large Swiss banks or to the calculation thereof (includ- ing changes of the banking law under the “too-big-to-fail” mea- sures), could have a material adverse effect on our business and could affect our competitive position internationally compared with institutions that are regulated under different regimes. We may not be successful in executing our announced strategic plans In October 2012, we announced a significant acceleration in the implementation of our strategy. The strategy includes transform- ing our Investment Bank to focus it on its traditional strengths, very significantly reducing Basel III RWA and further strengthening our capital position, and significantly reducing costs and improv- ing efficiency across the Group. There is a risk that we will not be successful in pursuing our plans, including because we are unable to carry out fully the actions we have planned, or that even if we are able to implement our strategy as planned its effects may dif- fer from those intended. As part of our strategy, we are exiting certain business lines, predominantly those formerly in the fixed income area of our In- vestment Bank that have been rendered less attractive by changes in regulation and market developments. Our Corporate Center is tasked with managing down the non-core assets previously in the Investment Bank in the most value-accretive way for shareholders. As we wind down these positions and those in the Legacy Portfo- lio previously transferred to Corporate Center, we will incur losses if exit values are lower than the carrying values of these positions. This could be the result of market price declines or illiquid or vola- tile market conditions, or the result of other institutions seeking to dispose of similar assets contemporaneously. These same factors may make it impossible or inadvisable for us to effect the wind- downs and the corresponding reduction in RWA and balance sheet size as quickly as we have planned. We also announced that we intend to achieve incremental cost savings of CHF 3.4 billion above the CHF 2 billion cost savings program announced in August 2011 as a result of the actions we are taking in the Investment Bank and through further Group- wide efficiency measures. The success of our strategy and our ability to reach certain of the targets we have announced depends heavily on the effectiveness of the cost-saving and efficiency mea- sures we are able to carry out. As is often the case with major cost-reduction and efficiency programs, our plans involve signifi- cant risks. Included among these are the risks that restructuring costs may be higher and may be recognized sooner than we have projected and that we may not be able to identify feasible cost- saving opportunities at the level of our savings objective that are also consistent with our business goals. In addition, when we implement our cost-saving and efficiency programs we may expe- rience unintended consequences such as the loss or degradation of capabilities that we need in order to maintain our competitive position and achieve our targeted returns. Our reputation is critical to the success of our business Our reputation is critical to the success of our strategic plans. Dam- age to our reputation can have fundamental negative effects on our business and prospects. Reputational damage is difficult to reverse, and improvements tend to be slow and difficult to mea- sure. This was demonstrated in recent years as our very large loss- es during the financial crisis, the US cross-border matter and other events seriously damaged our reputation. Reputational damage was an important factor in our loss of clients and client assets across our asset-gathering businesses, and contributed to our loss of and difficulty in attracting staff, in 2008 and 2009. These devel- opments had short-term and also more lasting adverse effects on our financial performance, and we recognized that restoring our reputation would be essential to maintaining our relationships with clients, investors, regulators and the general public, as well as with our employees. More recently, the unauthorized trading inci- dent announced in September 2011, and our involvement in the LIBOR scandal also adversely affected our reputation. Any further reputational damage could have a material adverse effect on our operational results and financial condition and on our ability to achieve our strategic goals and financial targets. ➔ Refer to the “Certain items affecting our results in 2011” sidebar in our annual report for 2011 for more information on the unauthorized trading incident 58 Material legal and regulatory risks arise in the conduct of our business charges associated with legal, regulatory and similar matters to remain at elevated levels at least through 2013. The nature of our business subjects us to significant regulatory oversight and liability risk. As a global financial services firm operating in more than 50 countries, we are subject to many different legal, tax and regulatory regimes. We are involved in a variety of claims, disputes, legal proceedings and government investigations in jurisdictions where we are active. These pro- ceedings expose us to substantial monetary damages and legal defense costs, injunctive relief and criminal and civil penalties, in addition to potential regulatory restrictions on our business- es. The outcome of most of these matters, and their potential effect on our future business or financial results, is extremely difficult to predict. We continue to be subject to government inquiries and inves- tigations, and are involved in a number of litigations and disputes, which arose out of the financial crisis of 2007–2009. We are also subject to a large number of claims, disputes, legal proceedings and government investigations unrelated to the financial crisis, and expect that our ongoing business activities will continue to give rise to such matters in the future. Potentially material matters to which we are currently subject include claims relating to US RMBS and mortgage loan sales, Swiss retrocessions, LIBOR-relat- ed matters and the Banco UBS Pactual tax indemnity. In December 2012, we announced settlements totaling approx- imately CHF 1.4 billion in fines by and disgorgements to US, UK and Swiss authorities to resolve LIBOR-related investigations with those authorities. UBS Securities Japan Co. Ltd. also pled guilty to one count of wire fraud relating to the manipulation of certain benchmark interest rates. The settlements do not resolve investi- gations by other authorities or civil claims that have been or may in the future be asserted by private and governmental claimants with respect to submissions for LIBOR or other benchmark interest rates. The extent of our financial exposure to these remaining mat- ters is extremely difficult to estimate and could be material. The LIBOR-related settlements starkly illustrate the much-in- creased level of financial risk now associated with regulatory matters and regulatory enforcement in major jurisdictions, par- ticularly in the US and UK. These very large amounts were as- sessed, and the guilty plea of a UBS subsidiary was required, in spite of our full cooperation with the authorities in their investi- gations, as a result of which we were granted conditional leni- ency or conditional immunity with respect to certain benchmark interest rates by antitrust authorities in a number of jurisdictions including the US and Switzerland. We understand that, in deter- mining the consequences to UBS, the US authorities took into account the fact that UBS has in the recent past been determined to have engaged in serious misconduct in a number of other matters. As a result of this history and regulatory perception, UBS’s level of risk with respect to regulatory enforcement may be greater than that of peer institutions. Considering our overall exposures and the current regulatory and political climate affecting financial institutions, we expect UBS is determined to address the issues that have arisen in the above and other matters in a thorough and constructive manner. We are in active dialogue with our regulators concern- ing the actions that we are taking to improve our operational risk management and control framework. Ever since our losses in 2007 and 2008, we have been subject to a very high level of regulatory scrutiny and to certain regulatory measures that con- strain our strategic flexibility. While we believe that we have remediated the deficiencies that led to the material losses dur- ing the 2007–2009 financial crisis, the unauthorized trading incident announced in September 2011 and the LIBOR-related settlements, the effects of these matters on our reputation and relationships with regulatory authorities have proven to be more difficult to overcome. For example, following the unau- thorized trading incident FINMA informed us that we would not be permitted to undertake acquisitions in our Investment Bank unit (unless FINMA granted an exception), and that material new business initiatives in that unit would be subject to FINMA oversight. Although we have significantly enhanced our opera- tional risk management and control framework in general and specifically addressed the deficiencies highlighted by the unau- thorized trading incident in particular, these special restrictions have not been withdrawn by FINMA to date, pending indepen- dent confirmation of the effectiveness of these enhancements to FINMA’s satis faction. As this example illustrates, difficulties associated with our relationships with regulatory authorities have the potential to adversely affect the execution of our busi- ness strategy. ➔ Refer to “Note 23 Provisions and contingent liabilities” in the “Financial information” section of this report for more information on litigation, regulatory and similar matters Performance in the financial services industry is affected by market conditions and the macroeconomic climate The financial services industry prospers in conditions of economic growth; stable geopolitical conditions; transparent, liquid and buoyant capital markets and positive investor sentiment. An eco- nomic downturn, continued low interest rates or a severe finan- cial crisis can negatively affect our revenues and ultimately our capital base. A market downturn and weak macroeconomic conditions can be precipitated by a number of factors, including geopolitical events, changes in monetary or fiscal policy, trade imbalances, natural disasters, pandemics, civil unrest, war or terrorism. Be- cause financial markets are global and highly interconnected, even local and regional events can have widespread impacts well beyond the countries in which they occur. A crisis could develop, regionally or globally, as a result of disruptions in emerging mar- kets as well as developed markets that are susceptible to macro- economic and political developments, or as a result of the failure of a major market participant. We have material exposures to a 59 Operating environment and strategy Operating environment and strategy Risk factors number of these markets, both as a wealth manager and as an investment bank. Moreover, our strategic plans depend more heavily upon our ability to generate growth and revenue in the emerging markets, causing us to be more exposed to the risks associated with them. The ongoing eurozone crisis and the unresolved US fiscal issues demonstrate that macroeconomic and political developments can have unpredictable and destabilizing effects. Adverse developments of these kinds have affected our businesses in a number of ways, and may continue to have fur- ther adverse effects on our businesses as follows: – a general reduction in business activity and market volumes, as we have experienced in the last two years, affects fees, com- missions and margins from market-making and client-driven transactions and activities; local or regional economic factors, such as the ongoing eurozone sovereign debt and banking in- dustry concerns, could also have an effect on us; – a market downturn is likely to reduce the volume and valua- tions of assets we manage on behalf of clients, reducing our asset- and performance-based fees; – a further extended period of low interest rates will continue to erode interest margins in several of our businesses; – reduced market liquidity limits trading and arbitrage opportu- nities and impedes our ability to manage risks, impacting both trading income and performance-based fees; – assets we own and account for as investments or trading posi- tions could fall in value; – impairments and defaults on credit exposures and on trading and investment positions could increase, and losses may be exacerbated by falling collateral values; and – if individual countries impose restrictions on cross-border pay- ments or other exchange or capital controls, or change their currency (for example, if one or more countries should leave the euro), we could suffer losses from enforced default by counterparties, be unable to access our own assets, or be im- peded in – or prevented from – managing our risks. Because we have very substantial exposures to other major fi- nancial institutions, the failure of one or more of such institutions could have a material effect on us. The developments mentioned above can materially affect the performance of our business units and of UBS as a whole, and ultimately our financial condition. As discussed below, there is also a somewhat related risk that the carrying value of goodwill of a business unit might suffer impairments and deferred tax assets levels may need to be adjusted. We hold legacy and other risk positions that may be adversely affected by conditions in the financial markets; legacy risk positions may be difficult to liquidate UBS, like other financial market participants, was severely affect- ed by the financial crisis that began in 2007. The deterioration of financial markets since the beginning of the crisis was extremely severe by historical standards, and we recorded substantial losses on fixed income trading positions, particularly in 2008 and 2009. Although we have very significantly reduced our risk exposures starting in 2008, and more recently as we implement our strate- gy and focus on complying with Basel III capital standards, we continue to hold substantial legacy risk positions. In many cases these risk positions continue to be illiquid, and we remain ex- posed to the risk that the remaining positions may again deterio- rate in value. In the fourth quarter of 2008 and the first quarter of 2009, certain of these positions were reclassified for account- ing purposes from fair value to amortized cost; these assets are subject to possible impairment due to changes in market interest rates and other factors. We have announced and are carrying out plans to reduce drastically the RWA associated with our non-core and legacy risk positions. There can be no assurance that we will be able to liq- uidate them as quickly as our plans suggest, or that we will not incur significant losses in doing so. The continued illiquidity and complexity of many of the legacy risk positions in particular could make it difficult to sell or otherwise liquidate these positions. At the same time, our strategy rests heavily on our ability to reduce sharply the RWA associated with these exposures in order to meet our future capital targets and requirements without incur- ring unacceptable losses. In addition, if in the future we exercise our option to acquire the equity of the SNB StabFund from sub- sidiaries of the Swiss National Bank, any positions remaining in that fund could augment our risk exposure and RWA until they can be liquidated. We hold positions related to real estate in various countries, and we could suffer losses on these positions. These positions include a very substantial Swiss mortgage portfolio. Although management believes that this portfolio has been very prudently managed, we could nevertheless be exposed to losses if the con- cerns expressed by the Swiss National Bank and others about unsustainable price escalation in the Swiss real estate market come to fruition. In addition, we are exposed to risk in our prime brokerage, reverse repo and Lombard lending activities, as the value or liquid- ity of the assets against which we provide financing may decline rapidly. Our global presence subjects us to risk from currency fluctuations We prepare our consolidated financial statements in Swiss francs. However, a substantial portion of our assets, liabilities, invested assets, revenues and expenses are denominated in other curren- cies, particularly the US dollar, the euro and the British pound. Accordingly, changes in foreign exchange rates, particularly be- tween the Swiss franc and the US dollar (US dollar revenues ac- count for the largest portion of our non-Swiss franc revenues) have an effect on our reported income and expenses, and on other reported figures such as invested assets, balance sheet as- sets, RWA and tier 1 capital. For example, in 2011 the strengthen- ing of the Swiss franc, especially against the US dollar and euro, 60 had an adverse effect on our revenues and invested assets. Be- cause exchange rates are subject to constant change, sometimes for completely unpredictable reasons, our results are subject to risks associated with changes in the relative values of currencies. the performance of their assets held with us is not in line with relevant benchmarks against which clients assess investment per- formance, we may suffer reduced fee income and a decline in assets under management, or withdrawal of mandates. We are dependent upon our risk management and control processes to avoid or limit potential losses in our trading and counterparty credit businesses Controlled risk-taking is a major part of the business of a financial services firm. Credit is an integral part of many of our retail, cor- porate, wealth management and Investment Bank activities. This includes lending, underwriting and derivatives activities. Changes in interest rates, credit spreads, equity prices, market volatility and liquidity, foreign exchange levels and other market fluctuations can adversely affect our earnings. Some losses from risk-taking activities are inevitable, but to be successful over time, we must balance the risks we take against the returns we generate. We must, therefore, diligently identify, assess, manage and control our risks, not only in normal market conditions but also as they might develop under more extreme (stressed) conditions, when concentrations of exposures can lead to severe losses. As seen during the financial crisis of 2007–2009, we are not always able to prevent serious losses arising from extreme or sud- den market events that are not anticipated by our risk measures and systems. Value-at-risk, a statistical measure for market risk, is derived from historical market data, and thus by definition could not have anticipated the losses suffered in the stressed conditions of the financial crisis. Moreover, stress loss and concentration con- trols and the dimensions in which we aggregate risk to identify potentially highly correlated exposures proved to be inadequate. Notwithstanding the steps we have taken to strengthen our risk management and control framework, we could suffer further losses in the future if, for example: – we do not fully identify the risks in our portfolio, in particular risk concentrations and correlated risks; – our assessment of the risks identified or our response to nega- tive trends proves to be inadequate, insufficient or incorrect; – markets move in ways that we do not expect – in terms of their speed, direction, severity or correlation – and our ability to manage risks in the resultant environment is, therefore, af- fected; – third parties to whom we have credit exposure or whose secu- rities we hold for our own account are severely affected by events not anticipated by our models, and accordingly we suf- fer defaults and impairments beyond the level implied by our risk assessment; or – collateral or other security provided by our counterparties proves inadequate to cover their obligations at the time of their default. We also manage risk on behalf of our clients in our asset and wealth management businesses. Our performance in these activi- ties could be harmed by the same factors. If clients suffer losses or If we decide to support a fund or another investment that we sponsor in our asset or wealth management businesses (such as the property fund to which Wealth Management has exposure), we might, depending on the facts and circumstances, incur charges that could increase to material levels. Investment positions, such as equity holdings made as a part of strategic initiatives and seed investments made at the inception of funds that we manage, may also be affected by market risk fac- tors. These investments are often not liquid and generally are in- tended or required to be held beyond a normal trading horizon. They are subject to a distinct control framework. Deteriorations in the fair value of these positions would have a negative impact on our earnings. Valuations of certain positions rely on models; models have inherent limitations and may use inputs which have no observable source Where possible, we mark our trading book assets and other posi- tions at their quoted market price in an active market. Such price information may not be available for certain instruments and, therefore, we apply valuation techniques to measure such instru- ments. Valuation techniques use “market observable inputs” where available, derived from similar instruments in similar and active markets, from recent transaction prices for comparable items or from other observable market data. In the case of posi- tions for which some or all of the inputs required for the valuation techniques are not observable or have limited observability, we use valuation models with non-market observable inputs. There is no single market standard for valuation models of this type. Such models have inherent limitations; different assumptions and in- puts would generate different results, and these differences could have a significant impact on our financial results. We regularly review and update our valuation models to incorporate all factors that market participants would consider in setting a price, includ- ing factoring in current market conditions. Judgment is an impor- tant component of this process. Changes in model inputs or in the models themselves, or failure to make the changes necessary to reflect evolving market conditions, could have a material adverse effect on our financial results. We are exposed to possible outflows of client assets in our asset-gathering businesses and to changes affecting the profitability of our Wealth Management business division We experienced substantial net outflows of client assets in our wealth management and asset management businesses in 2008 and 2009. The net outflows resulted from a number of different factors, including our substantial losses, the damage to our reputa- tion, the loss of client advisors, difficulty in recruiting qualified client 61 Operating environment and strategy Operating environment and strategy Risk factors advisors and developments concerning our cross-border private banking business. Many of these factors have been successfully ad- dressed. Our Wealth Management and Wealth Management Americas business divisions recorded substantial net new money inflows in 2012. Long-term changes affecting the cross-border pri- vate banking business model will, however, continue to affect cli- ent flows in our Wealth Management business division for an ex- tended period of time. One of the important drivers behind the longer-term reduction in the amount of cross-border private bank- ing assets, particularly in Europe, is the heightened focus of fiscal authorities on cross-border investments. Changes in local tax laws or regulations and their enforcement may affect the ability or the willingness of our clients to do business with us or the viability of our strategies and business model. In 2012, we experienced net withdrawals in our Swiss booking center from clients domiciled elsewhere in Europe, in many cases related to the negotiation of tax treaties between Switzerland and other countries, including the treaty with Germany that was ultimately not ratified by Germany. The net new money inflows in recent years in our Wealth Management business division have come predominantly from clients in Asia-Pacific and in the emerging markets and in the high net worth segment globally. Over time, inflows from these lower-margin segments and markets have been replacing out- flows from higher-margin segments and markets, in particular cross-border European clients. This dynamic, combined with changes in client product preferences as a result of which low- margin products account for a larger share of our revenues than in the past, put downward pressure on our return on invested assets. There can be no assurance that efforts by the business to overcome the effects of the changes in the business mix on gross margin, such as through service improvements and prod- uct offerings, will be sufficiently successful to counteract those effects. We are also making changes to our business offerings and pricing practices in line with emerging industry trends favor- ing price transparency and recent legal and regulatory develop- ments, including the Swiss Supreme Court case concerning “ret- rocessions”. There can be no assurance that we will be successful in our efforts to offset the adverse impact of these trends and developments. In 2012, Global Asset Management experienced a net outflow of client assets. Further net outflows of client assets are likely over time to adversely affect the results of the business division. Liquidity and funding management are critical to our ongoing performance The viability of our business depends upon the availability of fund- ing sources, and its success depends upon our ability to obtain funding at times, in amounts, for tenors and at rates that enable us to efficiently support our asset base in all market conditions. A substantial part of our liquidity and funding requirements is met using short-term unsecured funding sources, including wholesale and retail deposits and the regular issuance of money market se- curities. The volume of our funding sources has generally been stable, but could change in the future due to, among other things, general market disruptions or widening credit spreads, which could also influence the cost of funding. A change in the avail- ability of short-term funding could occur quickly. Reductions in our credit ratings can increase our funding costs, in particular with regard to funding from wholesale unse- cured sources, and can affect the availability of certain kinds of funding. In addition, as we experienced recently in connection with Moody’s downgrading of our long-term rating in June 2012, ratings downgrades can require us to post additional collateral or make additional cash payments under master trading agree- ments relating to our derivatives businesses. Our credit ratings, together with our capital strength and reputation, also contrib- ute to maintaining client and counterparty confidence and it is possible that ratings changes could influence the performance of some of our businesses. The more stringent Basel III capital and liquidity requirements will likely lead to increased competition for both secured funding and deposits as a stable source of funding, and to higher funding costs. ➔ Refer to the “Risk, treasury and capital management” section of this report for more information on our approach to liquidity and funding management Operational risks may affect our business All of our businesses are dependent on our ability to process a large number of complex transactions across multiple and di- verse markets in different currencies, to comply with require- ments of many different legal and regulatory regimes to which we are subject and to prevent, or promptly detect and stop, un- authorized, fictitious or fraudulent transactions. Our operational risk management and control systems and processes are de- signed to help ensure that the risks associated with our activi- ties, including those arising from process error, failed execution, unauthorized trading, fraud, system failures, cyber-attacks, breaches of information security and failure of security and physical protection, are appropriately controlled. For example, cyber crime is a fast growing threat to large orga- nizations that rely on technology to support its business, like UBS. Cyber crime can range from internet based attacks that interfere with the organizations’ internet websites, to more sophisticated crimes that target the organizations, as well as their clients, and seek to gain unauthorized access to technology systems in efforts to disrupt business, steal money or obtain sensitive information. A major focus of US governmental policy relating to financial institutions in recent years has been fighting money laundering and terrorist financing. Regulations applicable to us and our sub- sidiaries impose obligations to maintain effective policies, proce- dures and controls to detect, prevent and report money laundering and terrorist financing, and to verify the identity of their clients. Failure to maintain and implement adequate programs to combat money laundering and terrorist financing could have serious con- sequences, both in legal terms and in terms of our reputation. 62 Although we are continuously adapting our capability to de- tect and respond to the risks described above, if our internal con- trols fail or prove ineffective in identifying and remedying them we could suffer operational failures that might result in material losses, such as the loss from the unauthorized trading incident announced in September 2011. Participation in high-volume and high-frequency trading ac- tivities, even in the execution of client-driven business, can also expose us to operational risks. Our loss in the second quarter of 2012 relating to the Facebook initial public offering illustrates the exposure participants in these activities have to unexpected re- sults arising not only from their own systems and processes but also from the behavior of exchanges, clearing systems and other third parties and from the performance of third party systems. Certain types of operational control weaknesses and failures could also adversely affect our ability to prepare and publish ac- curate and timely financial reports. We identified control deficien- cies following the unauthorized trading incident announced in September 2011, and management determined that we had a material weakness in our internal control over financial reporting as of the end of 2010 and 2011, although this has not affected the reliability of our financial statements for either year. In addition, despite the contingency plans we have in place, our ability to conduct business may be adversely affected by a disrup- tion in the infrastructure that supports our businesses and the com- munities in which we are located. This may include a disruption due to natural disasters, pandemics, civil unrest, war or terrorism and involve electrical, communications, transportation or other services used by us or third parties with whom we conduct business. We might be unable to identify or capture revenue or competitive opportunities, or retain and attract qualified employees The financial services industry is characterized by intense competi- tion, continuous innovation, detailed (and sometimes fragment- ed) regulation and ongoing consolidation. We face competition at the level of local markets and individual business lines, and from global financial institutions that are comparable to UBS in their size and breadth. Barriers to entry in individual markets and pric- ing levels are being eroded by new technology. We expect these trends to continue and competition to increase. Our competitive strength and market position could be eroded if we are unable to identify market trends and developments, do not respond to them by devising and implementing adequate business strategies, adequately developing or updating our tech- nology, particularly in trading businesses, or are unable to attract or retain the qualified people needed to carry them out. The amount and structure of our employee compensation are affected not only by our business results but also by competitive factors and regulatory considerations. Constraints on the amount or structure of employee compensation, higher levels of deferral, performance conditions and other circumstances triggering the forfeiture of unvested awards may adversely affect our ability to retain and attract key employees, and may in turn negatively affect our business performance. Reductions in the amount of variable compensation awarded for performance year 2012 have caused our total compensation for certain categories of employees, main- ly in the Investment Bank and the Corporate Center, to be lower than is the case for peer institutions. In addition, changes that we have made to the terms of compensation awards may place us ahead of peers in adjusting compensation terms to the demands of various stakeholders, including regulatory authorities and share- holders. These terms include the introduction of a deferred contin- gent capital plan with many of the features of the loss-absorbing capital that we have issued in the market but with a higher capital ratio writedown trigger, increased average deferral periods for stock awards, and expanded forfeiture provisions for certain awards linked to business performance. These changes, while in- tended to better align the interests of our staff with those of other stakeholders, increase the risk that key employees will be attracted by competitors and decide to leave UBS, and that we may be less successful than our competitors in attracting qualified employees. The loss of key staff and inability to attract qualified replacements, depending upon which and how many roles are affected, could seriously compromise our ability to execute our strategy and to successfully improve our operating and control environment. ➔ Refer to the “Corporate governance, responsibility and compensation” section of this report for more information on our compensation awards and programs Our financial results may be negatively affected by changes to accounting standards We report our results and financial position in accordance with International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB). Changes to IFRS or interpretations thereof may cause our future reported results and financial position to differ from current expectations. Such changes also may affect our regulatory capital and ratios. For ex- ample, in 2012 UBS adopted the revised international accounting standard IAS 19 Employee Benefits, which affected both our fi- nancial position and our regulatory capital. UBS monitors poten- tial accounting changes and when these are finalized by the IASB, UBS determines the potential impact and discloses significant fu- ture changes in its financial statements. Currently, there are a number of issued but not yet effective IFRS changes, as well as potential IFRS changes, that are expected to impact our reported results, financial position and regulatory capital in the future. ➔ Refer to the “Financial Information” section of this report for more information on changes in accounting requirements Our financial results may be negatively affected by changes to assumptions supporting the value of our goodwill The goodwill we have recognized on the respective balance sheets of our operating segments is tested for impairment at least annu- ally. Our impairment test in respect of the assets recognized as of 63 Operating environment and strategy Operating environment and strategy Risk factors 31 December 2012 indicated that the value of our goodwill is not impaired. The impairment test is based on assumptions regarding estimated earnings, discount rates and long-term growth rates impacting the recoverable amount of each segment and on esti- mates of the carrying amounts of the segments to which the goodwill relates. If the estimated earnings and other assumptions in future periods deviate from the current outlook, the value of our goodwill may become impaired in the future, giving rise to losses in the income statement. In the third quarter of 2012, for example, the recognition by the Investment Bank of a full impair- ment of goodwill and of an impairment of other non-financial assets resulted in a charge of almost CHF 3.1 billion against UBS’s operating profit before tax. The effects of taxes on our financial results are signifi- cantly influenced by changes in our deferred tax assets and final determinations on audits by tax authorities The deferred tax assets we have recognized on our balance sheet as of 31 December 2012 in respect of prior years’ tax losses are based on future profitability as indicated by the business plans. If the business plan earnings and assumptions in future periods sub- stantially deviate from current forecasts, the amount of recog- nized deferred tax assets may need to be adjusted in the future. This could include writeoffs of deferred tax assets through the income statement. In the coming years, our effective tax rate will be highly sensi- tive both to our performance and to the accuracy of new business plan forecasts. Our results in recent periods have demonstrated that changes in the recognition of deferred tax assets can have a very significant effect on our reported results. If the Group’s per- formance is strong, particularly in the US, UK and Switzerland, we could be expected to recognize additional deferred tax assets in the coming years. The effect of doing so would be to significantly reduce the Group’s effective tax rate in years in which additional deferred tax assets are recognized. Conversely, if our performance in those countries is weaker than expected, we may be required to write off all or a portion of currently recognized deferred tax assets through the income statement. This would have the effect of increasing the Group’s effective tax rate in the year in which any write offs are taken. In the first half of 2013, we expect the tax rate to be in the region of 25–30%. The expected tax rate is higher than the normal expected effective tax rate of 20–25% because the net profit for the group in 2013 may reflect losses for some legal entities or parent bank branches for which we may not obtain a tax benefit. In addition, the actual tax rate may fall outside the aforementioned tax rate range to the extent that there are sig- nificant book tax adjustments that affect taxable profits. Also, the full year tax rate may depend on the extent to which de- ferred tax assets are revalued during 2013 and the level of prof- itability for the year. Our effective tax rate is also sensitive to any future reductions in statutory tax rates, particularly in the US and Switzerland. Re- ductions in the statutory tax rate would cause the expected future tax benefit from items such as tax loss carry-forwards in the af- fected locations to diminish in value. This in turn would cause a writedown of the associated deferred tax assets. In addition, statutory and regulatory changes, as well as changes to the way in which courts and tax authorities interpret tax laws could cause the amount of taxes ultimately paid by UBS to materially differ from the amount accrued. Separately, in 2011 the UK government introduced a balance sheet based levy payable by banks operating and / or resident in the UK. An expense for the year of CHF 124 million has been rec- ognized in operating expenses (within pre-tax profit) in the fourth quarter of 2012. The Group’s bank levy expense for future years will depend on both the rate and the Group’s taxable UK liabilities at each year end; changes to either factor could increase the cost. This expense will likely increase if, for example, we change our booking practices to reduce or eliminate our utilization of UBS AG London branch as a global booking center for the ongoing busi- ness of the Investment Bank and consequently book more liabili- ties into our UK bank subsidiary, UBS Limited. We expect that the annual bank levy expense will continue to be recognized for IFRS purposes as a cost arising in the final quarter of each financial year, rather than being accrued throughout the year, as it is charged by reference to the year-end balance sheet position. 64 Financial and operating performance Financial and operating performance Critical accounting policies Critical accounting policies Basis of preparation and selection of policies We prepare our consolidated financial statements in accordance with International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB). The applica- tion of certain of these accounting standards requires considerable judgment based upon estimates and assumptions that involve sig- nificant uncertainty at the time they are made. Estimates and judg- ments are regularly evaluated and are based on historical experi- ence and other factors, including expectations of future events that are believed to be reasonable under the circumstances. The application of assumptions and estimates means that any selection of different assumptions could cause the reported re- sults to differ. Changes in assumptions may have a significant im- pact on the financial statements in the periods when assumptions are changed. We believe that the assumptions we have made are appro- priate, and that our financial statements therefore present the fi- nancial position and results fairly in all material respects. The alter- native outcomes discussed below are presented solely to assist the reader in understanding the uncertainty inherent in the esti- mates and assumptions used in our financial statements. They are not intended to suggest that other assumptions would be more appropriate. Accounting policies that are deemed critical to our results and financial position, in terms of materiality of the items to which the policy is applied, and which involve significant assumptions and estimates, are discussed in this section. A broader and more de- tailed description of our significant accounting policies is included in “Note 1 Summary of significant accounting policies” in the “Financial information” section of this report. Consolidation of special purpose entities We sponsor the formation of special purpose entities (SPE) and interact with non-sponsored SPE for a variety of reasons, includ- ing allowing clients to obtain or be exposed to specific risk and reward profiles, to provide funding or to sell or purchase credit risk. In accordance with IFRS, we do not consolidate special pur- pose entities that we do not control. In determining whether or not we control an SPE, we evaluate a range of factors, including whether (i) the activities of the SPE are being conducted on our behalf according to our specific business needs so that we obtain the benefits from the SPE operations, or (ii) we have decision- making powers to obtain the majority of the benefits of the ac- tivities of the SPE, or we have delegated these decision-making powers by setting up an autopilot mechanism, or (iii) we have the right to obtain the majority of the benefits of the activities of an SPE and, therefore, may be exposed to risks arising from the activities of the SPE, or (iv) we retain the majority of the residual or ownership risks related to the SPE or its assets in order to obtain the benefits from its activities. In many instances, elements are present that, considered in isolation, indicate control or lack of control over an SPE, but when considered together require a significant degree of judgment to reach a conclusion. The expo- sure to volatility in profits and the absorption of risks and rewards, as well as the ability to make operational decisions for the SPE in question, are generally the factors to which most weight is given in reaching a conclusion. With effect from 1 January 2013, UBS will adopt IFRS 10 Con- solidated Financial Statements, issued by the IASB in May 2011. IFRS 10 applies to all types of entities and is based on the existing principle that an entity should consolidate all other entities that it controls. The definition of control in IFRS 10 focuses on the pres- ence of power, exposure to variable returns and the ability to uti- lize power to affect an entity’s own returns. IFRS 10 will continue to require a significant degree of judgment in determining wheth- er or not another entity should be consolidated. ➔ Refer to “Note 1a) 3) Subsidiaries” in the “Financial information” section of this report for more information Fair value of financial instruments UBS carries a significant portion of its assets and liabilities at fair value. Under IFRS the relative uncertainty associated with the measurement of fair value is represented by a three-level valua- tion hierarchy. The best evidence of fair value is a quoted price in an actively traded market (Level 1). In the event that the market for a financial instrument is not active, or where quoted prices are not otherwise available, a valuation technique is used. In these cases, fair value is estimated using observable data in respect of similar financial instruments, as well as financial models. Level 2 of the hierarchy pertains to instruments for which inputs to a valuation technique are principally based on observable market data. Level 3 applies to instruments that are measured by a valua- tion technique that incorporates one or more significant unob- servable inputs. Valuation techniques that rely to a greater extent on unobservable inputs require a higher level of management judgment to calculate a fair value than those based wholly on observable inputs. Where valuation techniques or models are used to determine fair values, they are periodically reviewed and validated by quali- fied personnel independent of those who sourced them. Models are calibrated to ensure that outputs reflect actual data and com- parable market prices. Models use observable data where avail- able so as to minimize the use of unobservable inputs, but judg- ment is required in selecting inputs for which observable data is less readily available. 66 The valuation techniques or models employed may not fully reflect all the factors relevant to the positions we hold. Valuations are therefore adjusted, where appropriate, to allow for addition- al factors, including model risk, liquidity risk and credit risk. We use different approaches to calculate the credit risk, depending on the nature of the instrument. A credit valuation adjustment approach based on an expected exposure profile is used to adjust the fair value of Positive replacement values to reflect counter- party credit risk. Correspondingly, a debit valuation adjustment approach is applied to incorporate own credit risk in the fair val- ue of Negative replacement values. Own credit risk for Financial liabilities designated at fair value is calculated using the funds transfer price curve. As at 31 December 2012, financial assets and financial liabili- ties for which valuation techniques or models are used and whose inputs are considered observable (level 2) amounted to CHF 475 billion and CHF 485 billion, respectively. Financial assets and fi- nancial liabilities whose valuations include significant unobserv- able inputs (level 3) amounted to CHF 20 billion and CHF 21 bil- lion, respectively. Imprecision in estimating unobservable market inputs can af- fect the amount of gain or loss recorded for a particular position. While the Group believes its valuation methods are appropriate and consistent with those of other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date. If management had used reasonably possible alternative assumptions for our level 3 instruments accounted for through profit or loss, the net fair value of non-derivative instruments would have been up to CHF 0.6 billion higher or lower than the amounts recognized on our balance sheet on 31 December 2012. Similarly, the net fair value of derivative instruments would have been up to CHF 0.6 billion higher or lower at 31 Decem- ber 2012. ➔ Refer to “Note 27 Fair value of financial instruments” in the “Financial information” section of this report for more information Impairment of loans and receivables measured at amortized cost Loan impairment allowances represent management’s best esti- mate of losses incurred in the lending portfolio at the balance sheet date. The loan portfolio, which is measured at amortized cost less impairment, consists of financial assets presented on the balance sheet lines Due from banks and Loans, including reclas- sified securities. In addition, irrevocable loan commitments are tested for impairment as described below. Credit loss expense is recognized if there is objective evidence that the Group will be unable to collect all amounts due according to the original contractual terms or the equivalent value. Under this incurred loss model, a financial asset or group of financial as- sets is impaired only if there is objective evidence that a loss has occurred by the balance sheet date. Management is required to exercise judgment in making assumptions and estimations when calculating impairment losses both on a counterparty-specific level and collectively. The impairment loss for a loan is the excess of the carrying value of the financial asset over the estimated recoverable amount. The estimated recoverable amount is the present value, using the loan’s original effective interest rate, of expected future cash flows, including amounts that may result from restructuring or the liquidation of collateral. If a loan has a variable interest rate, the discount rate for measuring any impairment loss is the current effective interest rate. An allowance for credit losses is reported as a reduction of the carrying value of the financial asset on the balance sheet. Our collective loan loss allowances are calculated for each ho- mogeneous portfolio, taking into account historical loss experi- ence and current conditions. The methodology and assumptions used are reviewed regularly to reduce any differences between estimated and actual loss experience. For all of our portfolios we also assess whether there have been any unforeseen develop- ments which might result in impairments but which are not im- mediately observable. To determine whether an event-driven collective loan loss allowance is required, we consider global eco- nomic drivers to assess the most vulnerable countries and indus- tries. Our current event-based collective loan loss allowance methodology considers the heightened credit risk arising from corporate clients in industries exposed to the recessionary effects in certain countries, combined with the strength of the Swiss franc. Estimated cash flows associated with financial assets reclas- sified from Held for trading to Loans and receivables in accor- dance with the requirements in “Note 1a) 10) Loans and receiv- ables” in the “Financial information” section of this report and other similar assets acquired subsequently are revised periodi- cally. Adverse revisions in cash flow estimates related to credit events are recognized in profit or loss as credit loss expenses. For reclassified securities, increases in estimated future cash re- ceipts (above those originally forecast at the date of reclassifica- tion) as a result of increased recoverability are recognized as an adjustment to the effective interest rate on the loan from the date of change. ➔ Refer to “Note 9 Due from banks and loans”, “Note 11 Allowances and provisions for credit losses” and “Note 28 Measurement categories of financial assets and financial liabilities” in the “Financial information” section of this report for more information On 31 December 2012, our gross loan portfolio was CHF 281 billion and the related allowances amounted to CHF 0.7 billion, of which CHF 33 million related to reclassified and similar acquired securities. ➔ Refer to “Note 1a) 11) Allowance and provision for credit losses” in the “Financial information” section of this report for more information 67 Financial and operating performance Financial and operating performance Critical accounting policies Goodwill impairment test UBS performs an impairment test on its goodwill assets on an annual basis, or when indicators of a potential impairment exist. Our segments are each considered cash-generating units; the im- pairment test is performed for each segment to which goodwill is allocated and compares the recoverable amount and the carry- ing amount of the segment. An impairment charge is recognized if the carrying amount exceeds the recoverable amount. The im- pairment test is based on a number of assumptions, as described below. The recoverable amount is determined using a discounted cash flow model, which incorporates inputs relevant to the banking business and its regulatory environment. The recoverable amount of a segment is the sum of the discounted earnings attributable to shareholders from the first five forecasted years and the termi- nal value. The terminal value reflecting all periods beyond the fifth year is calculated on the basis of the forecast of fifth-year profit, the discount rate and the long-term growth rate. The carrying amount for each segment is determined by ref- erence to the equity attribution framework. Within this frame- work, which is described in the “Capital management” section of this report, management attributes equity to the businesses after considering their risk exposure, risk-weighted assets usage, asset size, goodwill and intangible assets. The framework is used primarily for purposes of measuring the performance of the businesses and includes certain management assumptions. At- tributed equity equates to the capital that a segment requires to conduct its business and is considered an appropriate starting point from which to determine the carrying value of the seg- ments. The attributed equity methodology is aligned with the business planning process, the inputs from which are used in calculating the recoverable amounts of the respective cash- generating units. Valuation parameters used within the Group’s impairment test model are linked to external market information, where applica- ble. The model used to determine the recoverable amount is most sensitive to changes in the forecast earnings available to share- holders in years one to five, to changes in the discount rates, and to changes in the long-term growth rate. The applied long-term growth rate is based on long-term economic growth rates for dif- ferent regions worldwide. Earnings available to shareholders are estimated based on forecast results, which are part of the busi- ness plan approved by the Board of Directors. The discount rates are determined by applying a capital-asset-pricing-model-based approach, as well as considering quantitative and qualitative in- puts from both internal and external analysts and the view of UBS’s management. If the estimated earnings and other assumptions in future peri- ods deviate from the current outlook, the value of our goodwill may become impaired in the future, giving rise to losses in the income statement. Recognition of any impairment of goodwill would reduce IFRS equity attributable to UBS shareholders and net profit. It would not impact cash flows and, as goodwill is re- 68 quired to be deducted from capital under the Basel capital frame- work, no impact is expected on the Group capital ratios. Following the full impairment of the CHF 3.0 billion of Investment Bank goodwill in the third quarter of 2012, as of 31 December 2012, only the following three segments carried goodwill: Wealth Management (CHF 1.3 billion), Wealth Manage- ment Americas (CHF 3.2 billion) and Global Asset Management (CHF 1.4 billion). On the basis of the impairment testing meth- odology described above, UBS concluded that the year-end 2012 balances of goodwill allocated to its segments remain recov- erable. ➔ Refer to “Note 1a) 21) Goodwill and intangible assets” and “Note 17 Goodwill and intangible assets” in the “Financial information” section of this report for more information Deferred taxes Deferred tax assets arise from a variety of sources, the most sig- nificant being the following: (i) tax losses that can be carried for- ward to be utilized against profits in future years; and (ii) expenses recognized in our income statement that are not deductible until the associated cash flows occur. We record a valuation allowance to reduce our deferred tax assets to the amount which can be recognized in line with IAS 12 Income Taxes. The level of deferred tax asset recognition is influ- enced by management’s assessment of our future profitability based on relevant business plan forecasts. Existing assessments are reviewed and, if necessary, revised to reflect changed circum- stances. This review is conducted annually, in the second half of each year, but adjustments may be made at other times, if re- quired. In a situation where recent losses have been incurred, IAS 12 requires convincing evidence that there will be sufficient future profitability. Swiss tax losses can be carried forward for seven years, US federal tax losses for 20 years and UK and Jersey tax losses for an unlimited period. The deferred tax assets recognized on 31 De- cember 2012 have been based on future profitability assump- tions, adjusted to take into account the recognition criteria of IAS 12. The level of deferred tax assets recognized may, however, need to be adjusted in the future in the event of changes in those profitability assumptions. On 31 December 2012, the deferred tax assets amounted to CHF 8.1 billion, which included CHF 5.7 bil- lion in respect of tax losses (mainly in Switzerland and the US) that can be utilized to offset taxable income in future years. ➔ Refer to “Note 1a) 22) Income taxes” and “Note 24 Income taxes” in the “Financial information” section of this report for more information Provisions Provisions are liabilities of uncertain timing or amount, and are recognized when UBS has a present obligation as a result of a past event, it is probable that an outflow of resources will be required to settle the obligation and a reliable estimate of the amount of the obligation can be made. Provisions are recognized for the best estimate of the consideration required to settle the present obli- gation at the balance sheet date. Recognition of provisions often involves significant judgment in assessing the existence of an obligation resulting from past events and in estimating the probability, timing and amount of any outflows of resources. This is particularly the case with litiga- tion, regulatory and similar matters which, because of their na- ture, are subject to many uncertainties making their outcome difficult to predict. Such matters may involve unique fact pat- terns or novel legal theories, proceedings which have not yet been initiated or are at early stages of adjudication, or as to which alleged damages have not been quantified by the claim- ants. Determining whether an obligation exists as a result of a past event and estimating the probability, timing and amount of any potential outflows is based on a variety of assumptions, vari- ables, and known and unknown uncertainties. The amount of any provision recognized can be very sensitive to the assump- tions used and there could be a wide range of possible outcomes for any particular matter. Statistical or other quantitative analyti- cal tools are of limited use in the case of litigation, regulatory or similar matters. Furthermore, information currently available to management may be incomplete or inaccurate increasing the risk of erroneous assumptions with regards to the future devel- opments of such matters. Management regularly reviews all the available information regarding such matters, including advice from legal advisors, to assess whether the recognition criteria for provisions have been satisfied for those matters and, if not, to evaluate whether such matters represent contingent liabilities. Legal advice is a significant consideration in determining wheth- er it is more likely than not that an obligation exists as a result of a past event and in assessing the probability, timing and amount of any potential outflows. At 31 December 2012, the aggregate amount provisioned for litigation, regulatory and similar matters as a class was CHF 1,432 million. Since the future outflow of resources in respect of these matters cannot be determined with certainty based on currently available information, the actual outflows may ulti- mately prove to be substantially greater (or less) than the pro- visions recognized. ➔ Refer to “Note 1a) 27) Provisions” and “Note 23 Provisions and contingent liabilities” in the “Financial information” section of this report for more information Pension and other post-employment benefit plans During 2012, UBS adopted revisions to IAS 19 Employee Benefits (“IAS 19R”) issued by the IASB in June 2011. IAS 19R eliminates the “corridor method”, under which the recognition of actuarial gains and losses was deferred. Instead, the full defined benefit obligation net of plan assets is now recorded on the balance sheet, with changes resulting from remeasurements recognized immediately in other comprehensive income. The net defined benefit liability at the end of the year and the related Personnel expense depend on the expected future benefits to be provided, determined using a number of economic and demographic as- sumptions. The most significant assumptions include life expec- tancy, the discount rate, expected salary increases, pension rates, and for the Swiss plan, interest credits on retirement savings ac- count balances. Life expectancy is determined by reference to published mor- tality tables. The discount rate is determined by reference to rates of return on high-quality fixed-income investments of appropriate currency and term at the measurement date. The assumption for salary increases reflects the long-term expectations for salary growth and takes into account inflation, seniority, promotion and other relevant factors such as supply and demand in the labor market. The most significant plan is the Swiss pension plan. Consistent with 2011, life expectancy for this plan has been based on the 2010 BVG generational mortality tables. The assumption for the discount rate has changed from 2.3% in the prior year, to 1,9%. ➔ Refer to “Note 1a) 24) Pension and other post-employment benefit plans” and “Note 30 Pension and other post-employment benefit plans” in the “Financial information” section of this report for more information Equity compensation We recognize shares, performance shares, options and share- settled stock appreciation rights awarded to employees as com- pensation expense based on their fair value at grant date. The fair value of UBS shares issued to employees is determined by reference to quoted market prices, adjusted, where appropriate, to take into account the terms and conditions inherent in the award. Options, stock appreciation rights, and certain perfor- mance shares issued by UBS to its employees have features which are not directly comparable with our shares and options traded in active markets. Accordingly, we determine the fair value using suitable valuation models. Several recognized valuation models exist. The models we apply have been selected because they are able to accommodate the specific features included in the vari- ous instruments granted to our employees. If we were to use different models, the values produced would differ, even if the same inputs were used. The models we use require inputs such as expected dividends, share price volatility and historical employee exercise behavior patterns. Some of the model inputs we use are not market ob- servable and have to be estimated or derived from available data. Use of different estimates would produce different valuations, which in turn would result in recognition of higher or lower com- pensation expense. ➔ Refer to “Note 1a) 25) Equity participation and other compen- sation plans” and “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information 69 Financial and operating performance Financial and operating performance Significant accounting and financial reporting structure changes Significant accounting and financial reporting structure changes Significant accounting changes Changes to reporting segments IAS 19 (revised) Employee Benefits During 2012, UBS adopted revisions to the International Account- ing Standard 19 Employee Benefits (“IAS 19R”) retrospectively in accordance with the transitional provisions set out in the account- ing standard. IAS 19R introduces changes to the recognition, measurement, presentation and disclosure of post-employment benefits. The full defined benefit obligation net of plan assets is now recorded on the balance sheet, with changes resulting from remeasurements recognized immediately in other comprehensive income. As a result, we have adjusted the opening balances as of 1 January 2010 for the cumulative effect of applying the revised standard and all comparative information included in this report, except where otherwise indicated, has been presented as if IAS 19R had been applied from that date. Under the Basel III framework, the regulatory capital effect of the adoption of IAS 19R, together with related changes in future periods, will be phased in annually from 1 January 2014 on an after-tax basis, such that it becomes fully adjusted on 1 January 2018. We expect the volatility of our Basel III common equity tier 1 capital ratio to increase due to the adoption of IAS 19R. ➔ Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section for more information Wealth Management & Swiss Bank Wealth Management & Swiss Bank’s two reportable segments – Wealth Management and Retail & Corporate – became separate business divisions at the start of 2012. As these business divisions were already considered separate reportable segments, no adjust- ments were required to reported segment results. Investment Bank On 30 December 2011, a portfolio of legacy positions was trans- ferred from the Investment Bank to the Corporate Center. Com- mencing in the first quarter of 2012, this portfolio, together with the option to acquire the equity of the SNB StabFund, has been considered a separate reportable segment within the Corporate Center and designated as the Legacy Portfolio. Prior periods have been restated. In conjunction with the accelerated implementation of our strategy announced in October 2012, the Asset Liability Manage- ment unit was transferred from the Investment Bank to Group Treasury within the Corporate Center in the fourth quarter of 2012. Prior periods have been restated to reflect this transfer and profit and loss amounts associated with the ongoing business ac- tivities of Asset Liability Management are being fully allocated back to the Investment Bank. 70 Own credit Effective 2012, the measurement of the performance of the busi- ness divisions excludes own credit gains and losses on financial liabilities designated at fair value. This reflects the fact that these gains and losses are not managed at a business division level and are not necessarily indicative of any business division’s perfor- mance. In line with these internal reporting changes, own credit gains and losses are now reported as part of Corporate Center – Core Functions. Prior periods have been restated to conform to this presentation. Group Treasury managed assets In 2012, management changed the methodology used to allocate certain financial assets and their corresponding costs managed by Group Treasury. Prior periods were not restated for this change and the impact from the change in cost allocation methodology was not material to the reported segment results. Centralization of operations units in the Corporate Center In 2012, operations units from the business divisions were central- ized in the Corporate Center as part of our ongoing efforts to im- prove our operational effectiveness and heighten our cost efficien- cy across the firm. Prior to this centralization, charges for operations support provided from one division to another were shown in the respective division’s income statement as services to / from other business divisions without any allocation of the related headcount. With effect from 1 July 2012 on a prospective basis, charges from the centralized operations units have been allocated to the busi- ness divisions and shown in the respective expense lines of the re- portable segments and the related headcount has been allocated to the business divisions. Prior to the transfer to the Corporate Center, Retail & Corporate operations staff provided significant support to other business divisions in Switzerland. Accordingly, the transfer had the effect of increasing personnel and non-personnel expenses as well as decreasing charges for services from other busi- ness divisions at Wealth Management, the Investment Bank and Global Asset Management, and of decreasing personnel and non- personnel expenses as well as income from services provided to other divisions at Retail & Corporate. As a result of the centraliza- tion, as of 1 July 2012, allocations of personnel increased by ap- proximately 800 in Wealth Management, 250 in the Investment Bank and 50 in Global Asset Management, with a corresponding decrease of 1,100 in Retail & Corporate. ➔ Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section for more information Changes to the reporting structure in 2013 Corporate Center – Non-core and Legacy Portfolio In line with our strategy to focus the Investment Bank’s business on its traditional strengths, we are exiting many business lines which are capital and balance sheet intensive or are in areas with high operational complexity or long tail risks. Beginning in the first quarter of 2013, these non-core activities and positions formerly in the Investment Bank have been transferred to and will be managed and reported in the Corporate Center. These non-core activities and positions, together with the Legacy Portfolio and the option to acquire the equity of the SNB StabFund, will be reported as a separate reportable segment called “Non-core and Legacy Portfolio” starting with the first quarter of 2013, when all necessary internal reporting changes will have been put into place. In summary, with effect from the first quarter of 2013, UBS’s segment reporting, which is in line with our internal report- ing, will present five business divisions and the Corporate Center, consisting of Non-core and Legacy Portfolio, as well as Core Functions. 71 Financial and operating performance Financial and operating performance UBS results UBS results Net loss attributable to UBS shareholders in 2012 was CHF 2,511 million compared with a profit of CHF 4,138 million in 2011. The pre-tax loss was CHF 1,774 million compared with a profit of CHF 5,307 million in the prior year. The 2012 loss was primarily due to impairment losses of CHF 3,064 million on goodwill and other non-financial assets in the Invest- ment Bank, net charges for provisions for litigation, regulatory and similar matters of CHF 2,549 million, an own credit loss on financial liabilities designated at fair value of CHF 2,202 million and net restructuring charges of CHF 371 million. In 2012, we recorded a tax expense of CHF 461 million compared with CHF 901 million in 2011. Net profit attributable to non-controlling interests was CHF 276 million in 2012 compared with CHF 268 million. Income statement CHF million Continuing operations Interest income Interest expense Net interest income Credit loss (expense) / recovery Net interest income after credit loss expense Net fee and commission income Net trading income of which: net trading income excluding own credit of which: own credit on financial liabilities designated at fair value Other income Total operating income Personnel expenses General and administrative expenses Depreciation and impairment of property and equipment Impairment of goodwill Amortization and impairment of intangible assets Total operating expenses Operating profit / (loss) from continuing operations before tax Tax expense / (benefit) Net profit / (loss) from continuing operations Discontinued operations Profit from discontinued operations before tax Tax expense Net profit from discontinued operations Net profit / (loss) Net profit attributable to non-controlling interests from continuing operations from discontinued operations Net profit / (loss) attributable to UBS shareholders from continuing operations from discontinued operations Comprehensive income Total comprehensive income Total comprehensive income attributable to non-controlling interests Total comprehensive income attributable to UBS shareholders 72 For the year ended 31.12.12 31.12.11 31.12.10 % change from 31.12.11 15,968 (9,974) 5,994 (118) 5,875 15,405 3,480 5,682 (2,202) 682 25,443 14,737 8,653 689 3,030 106 27,216 (1,774) 461 (2,235) 0 0 0 (2,235) 276 276 0 (2,511) (2,511) 0 (1,766) 243 (2,009) 17,969 (11,143) 6,826 (84) 6,742 15,236 4,343 2,806 1,537 1,467 27,788 15,634 5,959 761 0 127 22,482 5,307 901 4,406 0 0 0 4,406 268 268 0 4,138 4,138 0 5,632 560 5,071 18,872 (12,657) 6,215 (66) 6,149 17,160 7,471 8,019 (548) 1,214 31,994 17,031 6,585 918 0 117 24,650 7,345 (409) 7,754 2 0 2 7,756 304 303 1 7,452 7,451 1 6,701 609 6,092 (11) (10) (12) 40 (13) 1 (20) 102 (54) (8) (6) 45 (9) (17) 21 (49) 3 3 (57) 2012 Performance before tax Performance before tax was a loss of CHF 1,774 million in 2012 compared with a profit of CHF 5,307 million in the prior year. The 2012 loss was primarily due to impairment losses of CHF 3,064 million on goodwill and other non-financial assets in the Investment Bank and net charges for provisions for litigation, regulatory and similar matters of CHF 2,549 million, including charges for provisions arising from fines and disgorgement re- sulting from regulatory investigations concerning LIBOR and other benchmark rates, as well as claims related to sales of resi- dential mortgage backed-securities. The full year 2012 result also included an own credit loss on financial liabilities designated at fair value of CHF 2,202 million and net restructuring charges of CHF 371 million. We calculate adjusted results that exclude items considered non-recurring or that management believes are not representative of the underlying performance of our business (such adjusted re- sults are non-GAAP financial measures as defined by SEC regula- tions). For 2012, these adjustments are the abovementioned im- pairment losses of CHF 3,064 million, the own credit loss of CHF 2,202 million, a credit to personnel expenses of CHF 730 million related to changes to our Swiss pension plan, net restructuring charges of CHF 371 million, and a credit to personnel expenses of CHF 116 million related to changes to our retiree medical and life insurance plan in the US. The adjustments in 2011 were an own credit gain of CHF 1,537 million, a gain of CHF 722 million on the sale of our strategic investment portfolio and net restructuring charges of CHF 380 million. On this adjusted basis, the 2012 pre-tax profit was CHF 3,017 million compared with CHF 3,428 million in 2011, mainly as net charges for provisions for litigation, regulatory and similar matters increased by CHF 2,273 million to CHF 2,549 million, while 2011 included a loss of CHF 1,849 million related to the unauthorized trading incident announced in September of that year. ➔ Refer to the “Certain items affecting our results in 2012” sidebar in this section for more information on LIBOR-related settlements Operating income Total operating income was CHF 25,443 million in 2012 compared with CHF 27,788 million in 2011. Excluding the impact of own credit in both years and the gain on the sale of our strategic invest- ment portfolio in 2011, operating income increased by CHF 2,116 million to CHF 27,645 million. lion, primarily reflecting the tightening of our credit spreads, com- pared with an own credit gain of CHF 1,537 million in 2011. Ex- cluding the impact of own credit, net interest and trading income increased by CHF 2,044 million, reflecting an increase of CHF 1,404 million in the Corporate Center and an increase of CHF 862 million in the Investment Bank. Excluding own credit, net interest and trading revenues in the Corporate Center increased by CHF 1,404 million, partly as the revaluation of our option to acquire the SNB StabFund’s equity was a gain of CHF 526 million in 2012 compared with a loss of CHF 133 million in 2011. Furthermore, 2011 saw losses from the net impact of credit valuation adjustments on monolines. Equities net interest and trading revenues increased by CHF 1,114 million in 2012. The prior year included a loss of CHF 1,849 million due to the unauthorized trading incident. In 2012, we in- curred a loss of CHF 349 million related to the Facebook initial public offering. In addition, derivatives and equity-linked revenues declined as client activity was lower across all regions, and trading revenues particularly in Europe and Asia Pacific were affected by lower volatility levels. Proprietary trading revenues were also low- er as we continued to exit the business. Fixed income, currencies and commodities (FICC) net interest and trading income decreased by CHF 224 million, primarily as 2012 included a negative debit valuation adjustment of CHF 383 million on our derivatives portfolio as credit default swap spreads tightened compared with positive CHF 244 million in 2011 when spreads widened. Credit revenues increased as revenues in 2011 were negatively affected by mark-to-market trading losses mainly in the second half of the year as trading conditions were challeng- ing due to uncertainty surrounding the eurozone and the global economic outlook. Revenues in loan trading, flow trading, real estate finance and structured credit improved in 2012. Macro rev- enues declined as a result of lower foreign exchange revenues as volatility decreased from the high levels seen in 2011 resulting from the eurozone uncertainty. Rates revenues were broadly un- changed, with improved performances in non-linear and long- end interest rates, partially offset by lower short-end interest rates revenues. Net interest and trading income in Wealth Management de- clined by CHF 118 million, mainly as the previous year included CHF 103 million of interest income stemming from the above- mentioned strategic investment portfolio. Moreover, net interest income was negatively affected by increased costs of CHF 69 mil- lion related to assets managed centrally by Group Treasury. Fur- thermore, trading revenues declined as a result of lower treasury- related income and lower client activity following the reduced volatility in the foreign exchange market. These factors were partly offset by CHF 180 million higher product-related interest income, reflecting the beneficial effects of increases in client de- posit and lending volumes. Net interest and trading income Net interest and trading income decreased by CHF 1,695 million to CHF 9,474 million. Full year 2012 included an own credit loss on financial liabilities designated at fair value of CHF 2,202 mil- In Wealth Management Americas, net interest and trading in- come increased by CHF 86 million, reflecting favorable currency effects and higher client balances in securities-based lending and mortgages. 73 Financial and operating performance Financial and operating performance UBS results Net interest and trading income CHF million Net interest and trading income Net interest income Net trading income Total net interest and trading income Wealth Management Wealth Management Americas Investment Bank Global Asset Management Retail & Corporate Corporate Center of which: own credit on financial liabilities designated at fair value Total net interest and trading income Credit loss (expense) / recovery CHF million Wealth Management Wealth Management Americas Investment Bank Retail & Corporate Corporate Center of which: related to Legacy Portfolio Total For the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 5,994 3,480 9,474 2,728 1,265 4,872 12 2,467 (1,870) (2,202) 9,474 6,826 4,343 11,169 2,846 1,179 4,010 8 2,661 465 1,537 11,169 6,215 7,471 13,686 2,384 1,266 6,847 22 2,670 497 (548) 13,686 (12) (20) (15) (4) 7 21 50 (7) (15) For the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 1 (14) 34 (27) (112) (112) (118) 11 (6) (13) (101) 24 25 (84) 11 (1) 155 (76) (155) (155) (66) (91) 133 (73) 40 Retail & Corporate net interest and trading income declined by CHF 194 million, partly as the previous year included interest income of CHF 68 million related to our strategic investment portfolio. Net interest income was also negatively affected by increased costs related to assets managed centrally by Group Treasury and lower allocations related to investment proceeds from the firm’s equity. The loan margin was stable, but histori- cally low interest rates continued to negatively affect the deposit margin. This was partly offset by growth in average deposit and, to a lesser extent, loan volumes as well as a number of pricing adjustments. Credit loss expense / recovery In 2012, we recorded a net credit loss expense of CHF 118 million compared with a net credit loss expense of CHF 84 million in 2011. In 2012, we recorded a net credit loss expense of CHF 112 million in Corporate Center – Legacy Portfolio, mainly related to student loan auction rate securities, and a net credit loss expense of CHF 27 million in Retail & Corporate, partly offset by a net credit loss recovery of CHF 34 million in the Investment Bank. ➔ Refer to the discussions of credit loss expense / recovery in the “Wealth Management”, “Wealth Management Americas”, “Investment Bank”, “Retail & Corporate” and “Legacy Portfolio” ➔ Refer to “Note 3 Net interest and trading income” in the sections of this report for more information “Financial information” section of this report for more informa- ➔ Refer to the “Risk management and control section” section of tion this report for more information on our risk management ➔ Refer to “Note 27 Fair value of financial instruments” in the approach, method of credit risk measurement and the develop- “Financial information” section of this report for more informa- ment of credit risk exposures tion on own credit ➔ Refer to the “Non-trading portfolios – valuation and sensitivity information by instrument category” section in the “Risk management and control” section of this report for more information on changes in the value of our option to acquire the SNB StabFund’s equity Net fee and commission income Net fee and commission income increased by CHF 169 million to CHF 15,405 million. Underwriting fees increased by CHF 359 million to CHF 1,539 million, reflecting an increase in both equity and debt underwriting 74 fees. The increase in underwriting fees corresponded to increased market share in both equity underwriting and debt underwriting. In addition, we increased our participation in private and struc- tured transactions. Portfolio management and advisory fees increased by CHF 341 million to CHF 5,892 million, mainly reflecting an increase in Wealth Management Americas. Net brokerage fees fell by CHF 271 million, primarily in the In- vestment Bank due to a lower level of client activity. Merger and acquisition and corporate finance fees decreased by CHF 313 million due to a lower volume of transactions. ➔ Refer to “Note 4 Net fee and commission income” in the “Financial information” section of this report for more information Other income Other income was CHF 682 million compared with CHF 1,467 mil- lion in the previous year. In 2012, net revenues from financial investments available- for-sale were CHF 329 million, which included CHF 219 million in gains from the Wealth Management Americas’ available-for- sale portfolio, as well as a gain of CHF 88 million on the sale of an equity investment in the Investment Bank. In 2011, net rev- enues from financial investments available-for-sale were CHF 887 million, which included a gain of CHF 722 million from the sale of our strategic investment portfolio and gains of CHF 81 million from Wealth Management Americas’ available-for-sale portfolio. Other income from associates and subsidiaries was CHF 81 million compared with CHF 44 million, mainly related to higher revenues from our investment in the SIX Group. Other income in 2012 further included gains of CHF 112 mil- lion on sales of Swiss real estate compared with a gain of CHF 78 million on sale of a property in Switzerland in 2011. Other income in 2011 included net gains of CHF 344 million from the sale of loans and receivables. ➔ Refer to “Note 5 Other income” in the “Financial information” section of this report for more information Operating expenses Total operating expenses increased by CHF 4,734 million to CHF 27,216 million, mainly due to impairment losses of CHF 3,064 million on goodwill and other non-financial assets in the Invest- ment Bank and CHF 2,273 million higher net charges for provi- sions for litigation, regulatory and similar matters. The apprecia- tion of the US dollar and British pound against the Swiss franc also contributed to the overall increase. These increases were partly offset by a credit to personnel expenses of CHF 730 million related to changes to our Swiss pension plan and a credit to per- sonnel expenses of CHF 116 million related to changes to our re- tiree medical and life insurance plan in the US. Net restructuring charges were CHF 371 million in 2012 compared with CHF 380 million in 2011. Personnel expenses Personnel expenses decreased by CHF 897 million to CHF 14,737 million. In 2012, personnel expenses included a credit of CHF 730 million related to changes to our Swiss pension plan and a credit of CHF 116 million related to changes to our retiree medical and life insurance plan in the US. Net personnel-related restructuring charges were CHF 358 million in 2012 compared with CHF 261 million in 2011. Excluding the effects of restructuring and the credits related to the Swiss and US benefit plans, personnel ex- penses decreased by CHF 148 million, despite the appreciation of the US dollar and British pound against the Swiss franc. On this adjusted basis, expenses for performance awards de- clined by CHF 577 million to CHF 2,885 million. Expenses relating to 2012 performance awards recognized in the performance year 2012 were CHF 1,724 million, down CHF 123 million from the prior year, reflecting a 7% decrease in the overall performance award pool for the 2012 performance year. The amortization of deferred compensation awards from prior years decreased by CHF 454 million to CHF 1,161 million. Other variable compensation excluding restructuring charges increased by CHF 51 million, reflecting increased expenses for em- ployee retention, including costs related to the special plan award program in the Investment Bank. Salary expenses, excluding restructuring, decreased by CHF 78 million, partly related to a one-time net credit of CHF 31 million from changes to the rules for the Swiss long-service and sabbati- cal awards. Financial advisor compensation in Wealth Management Ameri- cas increased by CHF 354 million excluding restructuring reflect- ing higher revenue production and higher compensation commit- ments and advances related to recruited financial advisors. ➔ Refer to “Note 6 Personnel expenses” and “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report and to the “Compensation” section of this report for more information General and administrative expenses General and administrative expenses were CHF 8,653 million in 2012 compared with CHF 5,959 million in 2011. Net charges for provisions for litigation, regulatory and similar matters increased by CHF 2,273 million, primarily as a result of charges for provisions arising from fines and disgorgement result- ing from regulatory investigations concerning LIBOR and other benchmark rates and claims related to sales of residential mort- gage backed-securities. Based on relevant facts and circumstances, our provisions are adequate. Nevertheless, in view of the current regulatory and po- litical climate affecting financial institutions, and because we con- tinue to be exposed to a number of claims and regulatory matters arising from the financial crisis of 2007–2009 and other matters, we expect charges associated with litigation, regulatory and simi- lar matters to remain at elevated levels at least through 2013. Costs for outsourcing of IT and other services increased by CHF 206 million due to higher business demand. 75 Financial and operating performance Financial and operating performance UBS results Expenses for marketing and public relations increased by CHF 135 million, partly due to expenditures related to our 150th anniversary, and professional fees increased by CHF 86 million. In 2012, no general and administrative restructuring charges were recorded compared with net charges of CHF 93 million in 2011. the full year tax rate may depend on the extent to which deferred tax assets are revalued during 2013 and the level of profitability for the year. ➔ Refer to “Note 24 Income taxes” in the “Financial information” section of this report for more information ➔ Refer to “Note 7 General and administrative expenses” Net profit attributable to non-controlling interests in the “Financial information” section of this report for more information Depreciation, impairment and amortization Depreciation and impairment of property and equipment was CHF 689 million, a decrease of CHF 72 million from the prior year, mainly reflecting lower depreciation of IT equipment. Impairment of goodwill was CHF 3,030 million in 2012, reflect- ing the full impairment of goodwill carried by the Investment Bank. Amortization and impairment of intangible assets was CHF 106 million compared with CHF 127 million. In 2012, we record- ed impairment charges of CHF 17 million, mainly in the Invest- ment Bank. In 2011, impairment charges were CHF 37 million, mainly related to a past acquisition in the UK. ➔ Refer to “Note 17 Goodwill and intangible assets” in the “Financial information” section of this report for more information Income tax We recognized a net income tax expense in the income state- ment for the year of CHF 461 million. This includes a Swiss cur- rent tax expense of CHF 95 million, which relates to taxable prof- its, against which no losses were available to offset, earned by Swiss subsidiaries and also from the sale of real estate. The net income tax expense for the year also includes a Swiss deferred tax expense of CHF 23 million, which relates to a decrease in recog- nized deferred tax assets due to Swiss pre-tax profits earned dur- ing the year, offset by Swiss tax relief for the impairment of good- will. In addition, it includes a foreign net current tax expense of CHF 72 million, which relates to a tax expense in respect of tax- able profits earned by non-Swiss subsidiaries and branches, against which no losses were available to offset, which were partly offset by a tax benefit from the release of provisions in re- spect of tax positions which were previously uncertain. Finally, the net income tax expense for the year includes a foreign de- ferred tax expense of CHF 271 million, which mainly reflects a tax expense for the amortization of deferred tax assets, as tax losses were used against taxable profits. In the first half of 2013, we expect the tax rate to be in the region of 25% to 30%. The expected tax rate is higher than the normal expected effective tax rate of 20% to 25% because the net profit for the group in 2013 may reflect losses for some legal entities or parent bank branches for which we may not obtain a tax benefit. In addition, the actual tax rate may fall outside the aforementioned tax rate range to the extent that there are sig- nificant book tax adjustments that affect taxable profits. Also, 76 Net profit attributable to non-controlling interests for 2012 was CHF 276 million, compared with CHF 268 million in 2011. In both years, this almost entirely reflected dividends on preferred securities. Total comprehensive income attributable to UBS shareholders Total comprehensive income attributable to UBS shareholders includes all changes in equity (including net profit) attributed to UBS shareholders during a period, except those resulting from investments by and distributions to shareholders as well as equity- settled share-based payments. Items included in comprehensive income, but not in net profit, are reported under other compre- hensive income (OCI). These items will be recognized in net profit when the underlying item is sold or realized, with the exception of gains and losses on defined benefit plans. In 2012, total comprehensive income attributable to UBS shareholders was negative CHF 2,009 million, reflecting the net loss attributable to UBS shareholders of CHF 2,511 million, partly offset by positive other comprehensive income (OCI) attributable to UBS shareholders of CHF 502 million (net of tax). OCI in 2012 included gains of CHF 609 million on defined benefit plans (net of tax). This reflected pre-tax gains of CHF 1,023 million, which were almost entirely due to an increase in the fair value of plan assets of the Swiss pension plan, partly offset by an income tax expense of CHF 413 million. Cash flow hedge OCI was positive CHF 384 million (net of tax), mainly re- flecting decreases in long-term interest rates across all major currencies, partly offset by the reclassification of net gains as- sociated with the effective portion of changes in fair value of hedging derivatives to the income statement. Financial invest- ments available-for-sale OCI was positive CHF 14 million (net of tax). Foreign currency translation OCI was a loss of CHF 511 million (net of tax), predominantly related to the 2% weak- ening of the US dollar against the Swiss franc. ➔ Refer to the “Statement of comprehensive income” in the “Financial information” section of this report for more information ➔ Refer to “Note 30 Pension and other post-employment benefit plans” in the “Financial information” section of this report for more information Performance by reporting segment The management discussion and analysis by reporting segment is provided in the following sections of this report. Operating profit before tax by business divisions and Corporate Center CHF million Wealth Management Wealth Management Americas Investment Bank Global Asset Management Retail & Corporate Corporate Center Operating profit from continuing operations before tax For the year ended % change from 31.12.12 2,407 816 (2,734) 570 1,827 (4,661) (1,774) 31.12.11 2,633 544 (631) 430 1,884 446 5,307 31.12.10 31.12.11 (9) 50 333 33 (3) 2,233 (121) 2,731 515 1,710 277 7,345 Key figures and personnel Cost / income ratio The cost / income ratio was 106.5% in 2012 compared with 80.7% in 2011. On an adjusted basis excluding own credit and net restruc- turing charges in both years, the credits to personnel expenses related to changes to our Swiss pension plan and a retiree benefit plan in the US in 2012, and the gain on the sale of our strategic investment portfolio in 2011, the cost / income ratio increased to 88.7% from 86.3%. BIS risk-weighted assets On 31 December 2012, our Basel 2.5 RWA were CHF 192.5 bil- lion compared with CHF 241.0 billion at the end of 2011, a de- crease of CHF 48.5 billion, predominantly due to a decline in mar- ket risk RWA of CHF 22.1 billion, in credit risk RWA of CHF 21.0 billion and, to a lesser extent, in operational risk RWA of CHF 5.6 billion. The decline in credit risk RWA of CHF 21.0 billion occurred predominately in the fourth quarter of 2012 and was mainly at- tributable to the accelerated implementation of our strategy, hedging activity and sales of certain student loan auction rate securities in the Corporate Center – Legacy Portfolio. These ac- tivities impacted derivative, repo-style and drawn and undrawn loan exposures, partly offset by increased residential mortgage exposures due to the recalibration of risk parameters on residen- tial mortgages in the third quarter. Market risk RWA decreased by CHF 22.1 billion, mainly due to the reduction in incremental risk charge RWA on reduced expo- sures, a model update for sovereign debt in the first quarter, and hedging activity. VaR and stressed VaR declined due to reduced risk positions and reduced credit spread risk. Operational risk RWA decreased by CHF 5.6 billion. The de- crease reflected the implementation, following our annual model parameter review in March 2012, of all advanced measurement approach parameter updates that had been approved by FINMA up to that time. Our estimated pro-forma Basel III1 RWA on a fully applied basis were CHF 258 billion at the end of 2012, declining CHF 122 bil- lion compared with the end of 2011. The decline was mainly due to the same factors that caused a decrease in Basel 2.5 RWA, lower RWA on low-rated securitization exposures and a lower credit valuation adjustment charge. We are targeting Group RWA on a fully applied Basel III basis to fall to less than CHF 200 billion by the end of 2017. ➔ Refer to the “Investment Bank”, “Legacy Portfolio” and “Capital management” sections of this report for more information ➔ Refer to the “Our strategy” section of this report for more information Net new money In Wealth Management, net new money inflows were CHF 26.3 billion in 2012 compared with CHF 23.5 billion in 2011. The stron- gest net inflows were recorded in Asia Pacific and emerging mar- kets as well as globally from ultra high net worth clients. Europe reported net outflows in the offshore business, mainly related to clients from countries neighboring Switzerland. This was partly offset by net inflows from the European onshore business. Swiss wealth management reported increased net inflows. Wealth Management Americas recorded net new money in- flows of CHF 20.6 billion or USD 22.1 billion in 2012, compared with net new money inflows of CHF 12.1 billion or USD 14.1 bil- lion in 2011 due to stronger inflows from net recruiting of finan- cial advisors as well as financial advisors employed with UBS for more than one year. Excluding money market flows, Global Asset Management re- corded net new money outflows of CHF 5.9 billion in 2012 com- pared with net inflows of CHF 9.0 billion in the prior year. Net new money from third parties was a net outflow of CHF 0.6 bil- 1 Basel III information provided throughout this report is not required to be presented because Basel III requirements were not in effect on 31 December 2012. Such measures are non-GAAP financial measures as defined by SEC regulations. We nevertheless include information on the basis of Basel III requirements because they are effective as of 1 January 2013 and significantly impact our RWA and eligible capital. The calculation of our pro-forma Basel III RWA combines existing Basel 2.5 RWA, a revised treatment for low-rated securitization exposures that are no longer deducted from capital but are risk-weighted at 1250%, and new model-based capital charges. Some of these new models require final regulatory approval and therefore our pro-forma calculations include estimates (discussed with our primary regulator) of the effect of these new capital charges which will be refined as models and the associated systems are enhanced. 77 Financial and operating performance Financial and operating performance UBS results Net new money 1 CHF billion Wealth Management Wealth Management Americas Global Asset Management of which: non-money market flows of which: money market flows 1 Net new money excludes interest and dividend income. Invested assets CHF billion Wealth Management Wealth Management Americas Global Asset Management lion compared with a net inflow of CHF 12.2 billion. Net new money from clients of UBS’s wealth management businesses was a net outflow of CHF 5.2 billion compared with a net outflow of CHF 3.1 billion. ➔ Refer to the “Wealth Management”, “Wealth Management Americas” and “Global Asset Management” sections of this report for more information Invested assets Invested assets in Wealth Management rose by CHF 71 billion to CHF 821 billion during the year. Positive market performance and net new money inflows were partially offset by negative currency effects. In Wealth Management Americas, invested assets increased by CHF 63 billion to CHF 772 billion, reflecting positive market per- formance and strong net new money inflows. For the year ended 31.12.12 31.12.11 31.12.10 26.3 20.6 (13.3) (5.9) (7.4) 23.5 12.1 4.3 9.0 (4.7) (12.1) (6.1) 1.8 8.2 (6.4) 31.12.12 821 772 581 As of 31.12.11 750 709 574 % change from 31.12.10 31.12.11 768 689 559 9 9 1 Global Asset Management invested assets increased by CHF 7 billion to CHF 581 billion, mainly due to positive market movements, partly offset by net new money outflows and nega- tive currency effects. The sale, as agreed prior to the acquisition, of parts of the ING Investment Management business acquired in Australia in 2011 resulted in a net divestment of CHF 14 bil- lion of invested assets in 2012. ➔ Refer to the “Wealth Management”, “Wealth Management Americas” and “Global Asset Management” sections of this report for more information Personnel We employed 62,628 personnel as of 31 December 2012, a re- duction of 2,192 compared with 64,820 personnel as of 31 De- cember 2011, largely reflecting the cost reduction program an- nounced in July 2011 and the accelerated implementation of our strategy announced in October 2012. ➔ Refer to the “Our employees” section within the “Corporate governance, responsibility and compensation” section of this report for more information 78 Certain items affecting our results in 2012 LIBOR-related settlements On 19 December 2012, we announced that the Board of Directors had autho- rized total settlements of approximately CHF 1.4 billion in fines and disgorge- ment to US, UK and Swiss authorities to resolve LIBOR-related investigations with those regulators. The payments that were agreed with authorities consisted of fines totaling USD 1.2 billion to the US Department of Justice and Commod- ity Futures Trading Commission, GBP 160 million in fines to the UK Financial Services Authority and CHF 59 million as disgorgement of estimated profits to the Swiss Financial Market Supervisory Authority (FINMA). In addition, UBS Securities Japan Co. Ltd. entered into a plea agreement with respect to one count of wire fraud relating to the manipulation of certain benchmark interest rates, including Yen LIBOR. The settlements stemmed from industry-wide investigations into the setting of certain benchmark rates across a range of currencies. These investigations focused on whether there were improp- er attempts by banks, acting either on their own or with others, to manipulate LIBOR and other benchmark rates at certain times. UBS cooperated fully with the authorities in their investigations and, as a result of the investigations, has significantly enhanced its control framework for its submissions process for LIBOR and other benchmark interest rates. Impairment of Investment Bank goodwill and other non-financial assets Enhancements included changes made throughout 2012 to the governance framework to first combine all compo- nents of this submissions process into one functional area within the Investment Bank, to next move the governance and, in November, to move the operation of this process into a new independent function within Group Treasury. In accordance with our segment reporting principles, under which we report performance consistent with the way in which it is evaluated by senior man- agement, the charge booked in the fourth quarter was reported in Corporate Center – Core Functions because the management of the submissions process resides within Group Treasury. ➔ Refer to “Note 23b Litigation, regulatory and similar matters” in the “Financial information” section of this report for more information An impairment test was performed as of 30 September 2012 with respect to the Investment Bank because indicators of impairment were present. These indica- tors included negative variances from planned performance, preliminary discussions regarding changes in strategy for the Investment Bank and revised business plan information taking into account changes in market conditions and the global economic outlook. The impairment test was based on the business plan approved by the Board of Directors on 29 October 2012. As a result of this impairment test, losses were recognized in the income statement relating to a full impairment of CHF 3,030 million for goodwill in the third quarter of 2012. Additional assets were examined to determine whether their carrying values exceeded their recov- erable amounts. Impairment losses of CHF 15 million were recognized in the income statement for other intangible assets and CHF 19 million for property and equipment, both in the third quarter of 2012. ➔ Refer to “Note 17 Goodwill and intangible assets” in the “ Financial information” section of this report for more information 79 Financial and operating performance Financial and operating performance UBS results 2011 Performance before tax Performance before tax was CHF 5,307 million down from CHF 7,345 million, mainly due to a decline in operating income of CHF 4,206 million, partly offset by cost reductions of CHF 2,168 million. Operating income Total operating income was CHF 27,788 million in 2011, down CHF 4,206 million from CHF 31,994 million in 2010. This decline was mainly due to a reduction of CHF 1,924 million in net fee and commission income on lower underwriting fees, a decline in asset-based fees, and lower trading revenues in our equities and FICC businesses, partly due to the loss of CHF 1,849 million re- lated to the unauthorized trading incident. These declines were partly offset by an own credit gain on financial liabilities desig- nated at fair value of CHF 1,537 million, compared with a loss of CHF 548 million in the prior year. In addition, in 2011 we in- curred a loss of CHF 133 million on the valuation of our option to acquire the SNB StabFund’s equity compared with a gain of CHF 745 million in 2010. Furthermore, in 2011 we recorded a gain of CHF 722 million on the sale of our strategic investment portfolio. Net interest and trading income Net interest and trading income was CHF 11,169 million, down CHF 2,517 million from the prior year. In 2011, we recorded a loss of CHF 1,849 million related to the unauthorized trading incident, which was partly offset by an own credit gain of CHF 1,537 mil- lion due to the widening of our credit spreads during the year. Own credit in 2010 was a loss of CHF 548 million as credit spreads tightened during that year. Net interest and trading income in FICC was down by CHF 498 million, primarily due to the strengthening of the Swiss franc. In credit, revenues decreased primarily due to mark-to-market losses in the flow business. Concerns surrounding the eurozone and the global economic outlook significantly impacted market volatility, liquidity and client activity, resulting in challenging conditions for flow trading, partly offset by an improved performance by credit solutions. In macro, revenues increased across all interest rates business lines. Foreign exchange benefited from market volatility in the second half of 2011 and from the contributions of our new e-trading platform. Non-linear interest rates reported a turn- around from negative to positive revenues in 2011. Emerging markets revenues decreased as increased foreign exchange reve- nues were more than offset by lower revenues in credit and rates. Latin America saw an improvement in revenues whereas both Asia and Europe reported a decrease. In 2011, we recorded posi- tive debit valuation adjustments of CHF 244 million on our deriva- tives portfolio compared with positive debit valuation adjustments of CHF 155 million in 2010. 80 Equities interest and trading revenues declined by CHF 2,372 million, mainly due to the loss of CHF 1,849 million related to the unauthorized trading incident, the strengthening of the Swiss franc, and lower revenues in the derivatives and equity- linked businesses. Within derivatives, revenues in Europe, the Middle East and Africa declined and more than offset higher revenues in Asia Pacific and the Americas. In addition, trading revenues were impacted by ongoing market volatility. In equity- linked, revenues declined due to lower valuations and volumes as well as reduced primary market activity, which impacted the secondary markets. Net interest income in Wealth Management increased by CHF 231 million, reflecting higher treasury-related income, partially due to interest income resulting from the strategic investment portfolio (which was acquired in late 2010). Further, net interest income benefited from 10% higher average lending volumes. This was offset by margin pressure as a result of low market inter- est rates. Net trading income in Wealth Management also in- creased by CHF 231 million, benefiting from higher income linked to foreign exchange and precious metal client trading activities as well as higher treasury-related revenues. Net interest income in Wealth Management Americas increased by CHF 34 million, due to higher client balances in securities-based lending and mortgages, as well as from higher yields on lending products. This was partially offset by adverse currency impacts. Net trading revenues in Wealth Management Americas fell by CHF 120 million, impacted by the strengthening of the Swiss franc, lower taxable fixed income and municipal trading income, partly offset by higher trading income from structured notes. Net interest income in Retail & Corporate declined by CHF 94 million, primarily due to a significant decline in the deposit margin as a result of low market interest rates, which more than offset growth of deposit volumes. Low market interest rates also im- pacted income from our replication portfolio, resulting in lower net interest income. These effects more than offset higher interest income derived from the strategic investment portfolio which was acquired in late 2010. Net trading income in Retail & Corporate increased by CHF 84 million, mainly reflecting higher treasury-re- lated income and higher foreign exchange income linked to client trading activities. Corporate Center net interest and trading revenues were down CHF 32 million. In 2011, we recorded an own credit gain of CHF 1,537 million due to the widening of our credit spreads during the year. Own credit in 2010 was a loss of CHF 548 million as credit spreads tightened during the year. Revenues in 2011 included a loss of CHF 133 million on the valuation of our option to acquire the SNB StabFund’s equity compared with a gain of CHF 745 mil- lion in 2010. Furthermore, 2011 included losses of CHF 284 mil- lion related to CVA for monoline credit protection compared with a gain of CHF 667 million in 2010. Credit loss expense / recovery In 2011, we recorded a net credit loss expense of CHF 84 million, mainly reflecting an increase in collective loan loss allowances due to increased credit risks arising predominantly from Swiss corpo- rate clients that had become exposed to significant foreign cur- rency related risk as a result of the impact of the strengthening Swiss franc on their financial position. In 2010, we reported net credit loss expenses of CHF 66 million, which included CHF 155 million of impairment charges related to the Corporate Center – Legacy Portfolio. Net fee and commission income Net fee and commission income was CHF 15,236 million com- pared with CHF 17,160 million in the previous year. Underwriting fees decreased by CHF 732 million or 38% to CHF 1,180 million, reflecting a decline in both equity and debt underwriting fees. The decline in equity underwriting fees result- ed in part from an overall market slowdown due to volatility in capital markets and a reduced market fee pool. Debt underwrit- ing fees declined due to lower revenues in the Investment Bank’s debt capital market business, in part reflecting the market impact of European sovereign debt concerns. A decline of CHF 601 million in net brokerage fees reflected a downturn in the market, with lower transactional volumes and reduced level of client activity. Portfolio management and advisory fees for the Group fell 7%, or CHF 408 million, to CHF 5,551 million, mainly due to the strengthening of the Swiss franc. Investment fund fees decreased CHF 321 million, or 8%, to CHF 3,577 million, due to lower asset-based fees resulting from a lower average invested asset base, primarily as a result of the strengthening of the Swiss franc. Merger and acquisition and corporate finance fees increased by CHF 135 million, or 16%, reflecting a somewhat improved merger and acquisition environment in 2011 with the completion of several large deals. fice space in New York. Other income in 2010 further included a CHF 69 million demutualization gain from our stake in the Chi- cago Board Options Exchange. Operating expenses Total operating expenses were CHF 22,482 million in 2011 com- pared with CHF 24,650 million in 2010. Operating expenses in 2011 included CHF 380 million of net restructuring charges com- pared with CHF 113 million in 2010. Personnel expenses Personnel expenses decreased by CHF 1,397 million, or 8%, to CHF 15,634 million due to strengthening of the Swiss franc. In 2011, we recorded CHF 261 million in personnel-related net re- structuring charges, compared with a net release of CHF 2 million in the prior year. Salary costs decreased by CHF 174 million, or 2%, as a result of the strengthening of the Swiss franc. Expenses for performance awards were CHF 3,516 million, a decrease of CHF 655 million, or 16%, from the prior year. Ex- penses relating to 2011 performance awards recognized in the performance year 2011 were CHF 1,847 million, down CHF 853 million, reflecting a 37% decrease in the overall performance award pool for the 2011 performance year. The amortization of deferred compensation awards from prior years increased by CHF 198 million, or 13%, to CHF 1,669 million. Other variable compensation increased by CHF 50 million, main- ly reflecting an increase in restructuring-related severance charges. Financial advisor compensation in Wealth Management Amer- icas decreased by CHF 149 million to CHF 2,518 million. In US dollar terms, financial advisor compensation increased, reflecting higher revenue production and higher compensation commit- ments and advances related to recruited financial advisors. Other income Other income was CHF 1,467 million compared with CHF 1,214 million in the previous year. Other personnel expenses decreased by CHF 369 million, mainly as the prior year included a charge of CHF 200 million for the UK bank payroll tax. In 2011, net gains from financial investments available-for-sale were CHF 887 million compared with 132 million in 2010. Gains in 2011 included CHF 722 million from the sale of our strategic investment portfolio as well as gains of CHF 81 million in Wealth Management Americas’ available-for-sale portfolio. Other income in 2011 also included gains of CHF 344 million from the sale of loans and receivables compared with CHF 324 million in 2010. The 2011 gains mainly related to the sale of col- lateralized loan obligations, which had been reclassified previously from Held for trading to Loans and receivables, and were partly offset by related hedge termination losses recorded in net trading income. Additionally, in 2011 we recorded a gain of CHF 78 mil- lion on sale of a property in Switzerland, compared with a gain of CHF 158 million on sale of a property in Switzerland in 2010. General and administrative expenses General and administrative expenses were CHF 5,959 million in 2011 compared with CHF 6,585 million in 2010. The strengthening of the Swiss franc contributed substantially to the overall decrease. Occupancy costs decreased by CHF 193 million or 15% mainly as vacant office space was provisioned for in the prior year, and also as a result of reduced rental expenses and favorable currency translation effects. Rent and maintenance of machines and equipment decreased by CHF 126 million, or 23%, mainly due to reduced costs for IT maintenance services. Expenses for communications and market data services decreased by CHF 48 million, or 7%, mainly as a result of reduced costs for market data services. Net gains from disposals of investments in associates were down CHF 236 million, mainly as 2010 included a gain of CHF 180 million from the sale of investments in associates owning of- Administration costs decreased by CHF 48 million, or 7%, as a result of a release of value added tax accruals in the UK and the favorable effect of the strengthening of the Swiss franc, largely 81 Financial and operating performance Financial and operating performance UBS results offset by a CHF 109 million charge related to the UK bank levy. The prior year included a charge of CHF 40 million to reimburse the Swiss government for costs incurred in connection with the US cross-border matter. Marketing and public relations expenses increased by CHF 54 million, or 16%, primarily due to higher costs associated with sponsoring activities and marketing. Professional fees increased by CHF 68 million, or 9%, mainly due to higher legal fees. Outsourcing of IT and other services increased by CHF 73 mil- lion, or 7%, due to higher IT business demand and capacity ex- pansion needed for control functions related to increased regula- tory requirements. Expenses for litigation, regulatory and similar matters de- creased by CHF 355 million, or 56%. Other general and administrative expenses decreased by CHF 53 million, or 30%, due to a release of provisions for value-added tax in Switzerland and favorable currency translation effects, par- tially offset by increased real estate-related restructuring charges which were CHF 93 million in 2011 compared with CHF 79 million in the prior year. Depreciation, impairment and amortization Depreciation and impairment of property and equipment was CHF 761 million, a decrease of CHF 157 million, or 17%, from the prior year. The strengthening of the Swiss franc contributed sub- stantially to the overall decrease. Depreciation of IT and other equipment decreased partly as the useful life of some assets was extended. In 2011 we recorded a reversal of impairment losses on a property of CHF 34 million, partly offset by CHF 26 million restructuring related impairments of real estate assets. The prior year included CHF 37 million in impairment charges related to restructuring in Wealth Manage- ment Americas. Amortization and impairment of intangible assets was CHF 127 million compared with CHF 117 million in 2010. Higher im- pairment charges on intangible assets, mainly resulting from the impairment of intangible assets related to a past acquisition in the UK, were only partially offset by lower amortization of intangible assets due to favorable currency impacts. Income tax We recognized a net income tax expense in the income state- ment for the year of CHF 901 million. This includes a Swiss net deferred tax expense of CHF 1,041 million, which reflects a tax expense of CHF 927 million for the amortization of deferred tax assets, as tax losses are used against profits arising from business operations. In addition, it reflects a tax charge of CHF 245 million relating to the revaluation of deferred tax assets (reflecting up- dated profit forecast assumptions including the expected geo- graphical mix) partly offset by a CHF 131 million tax effect relat- ing to the unauthorized trading incident. Additionally, it includes a foreign net deferred tax benefit of CHF 246 million, including a US tax benefit of CHF 400 million, which mainly relates to a write-up of deferred tax assets for US tax losses incurred in previ- ous years, predominantly in the parent bank, UBS AG. This was partly offset by a tax expense of CHF 41 million relating to the downward revaluation of deferred tax assets for Japan, following a change in statutory tax rates and loss offset rules, and a tax expense of CHF 113 million for the amortization of deferred tax assets, as tax losses are used against profits in various locations. It also includes a current tax expense of CHF 106 million, which reflects tax expenses of CHF 277 million for taxable profits of Group entities, partly offset by current tax benefits of CHF 171 million relating to prior periods. During 2010, we recognized a net income tax benefit in our income statement of CHF 409 million. This reflected a deferred tax benefit mainly relating to the recognition of additional de- ferred tax assets in respect of tax losses, partly offset by current tax expenses relating to taxable profits of Group entities. Net profit attributable to non-controlling interests Net profit attributable to non-controlling interests for 2011 was CHF 268 million, compared with CHF 304 million in 2010. This mainly reflected dividends paid on preferred securities and dividend accruals triggered by the call of a hybrid tier 1 instrument in 2011. Total comprehensive income attributable to UBS share- holders Comprehensive income attributable to UBS shareholders in 2011 was CHF 5,071 million, including net profit attributable to UBS shareholders of CHF 4,138 million, and other comprehensive in- come attributable to UBS shareholders of CHF 934 million. OCI attributable to UBS shareholders included foreign currency translation gains of CHF 722 million, fair value gains on financial investments available-for-sale of CHF 495 million, and positive cash flow hedge OCI of CHF 1,537 million. These gains were part- ly offset by losses of CHF 1,820 million on defined benefit plans (net of tax). Foreign currency translation gains of CHF 722 million were predominantly related to net investments in US foreign opera- tions, which led to gains as the US dollar appreciated in the second half of 2011. Fair value gains of CHF 495 million on fi- nancial investments available-for-sale were almost entirely driv- en by net gains of CHF 545 million related to the strategic invest- ment portfolio. Declining market interest rates resulted in an increase in fair values of CHF 1,267 million and other compre- hensive income gains prior to the sale of the portfolio in the third quarter of 2011, more than offsetting unrealized losses of CHF 545 million recognized in OCI in 2010. Upon sale, a realized gain of CHF 722 million was recognized in the income statement within other income, which reduced other comprehensive in- come accordingly. Fair value gains of CHF 1,537 million on net fixed receiver interest rate swaps designated as cash flow hedges resulted from declining long-term interest rates across all major currencies. Losses of CHF 1,820 million on defined benefit plans 82 (net of tax) mainly related to the remeasurement of the defined benefit obligation of the Swiss and international pension plans and, to a lesser exent, a decline in the fair value of pension plan assets. OCI attributable to UBS shareholders in 2010 was negative CHF 1,360 million, mainly reflecting foreign currency translation losses of CHF 731 million and fair value losses on financial invest- ments available-for-sale of CHF 607 million. Development of invested assets Net new money In Wealth Management, net new money improved significantly, with net inflows of CHF 23.5 billion compared with net outflows of CHF 12.1 billion in 2010. The strongest net inflows were re- corded in Asia Pacific and emerging markets as well as globally from ultra high net worth clients. Europe reported net outflows, mainly related to the offshore business with countries neighbor- ing Switzerland partly offset by net inflows from the European onshore business. Swiss wealth management reported increased net inflows in 2011 compared with the prior year. Net new money inflows in Wealth Management Americas were CHF 12.1 billion compared with outflows of CHF 6.1 billion in 2010. This turnaround was due to improved inflows from net recruiting of financial advisors, which was primarily due to lower outflows from financial advisor attrition. Net new money from fi- nancial advisors employed with UBS for more than one year re- mained positive, but declined from 2010. In Global Asset Management, excluding money market flows, net new money inflows from third parties were CHF 12.2 billion in 2011 compared with net inflows of CHF 16.2 billion in 2010, and net outflows from clients of UBS’s wealth management busi- nesses were CHF 3.1 billion compared with net outflows of CHF 8.1 billion. The flows from UBS’s wealth management businesses included two transfers of investment management and research responsibility from Wealth Management to Global Asset Man- agement: a CHF 1.8 billion multi-manager alternative fund was transferred to alternative and quantitative investments, and CHF 2.9 billion in private equity funds of funds were transferred to infrastructure and private equity. It should be noted that these assets are reported as invested assets in both business divisions, as Wealth Management continued to advise the clients of the funds. Invested assets Total invested assets were CHF 2,088 billion on 31 December 2011, up slightly from CHF 2,075 billion on 31 December 2010. Net new money inflows of CHF 40 billion and the addition of CHF 25 billion in invested assets related to the ING Investment Man- agement acquisition were largely offset by adverse market im- pacts. Personnel We employed 64,820 personnel as of 31 December 2011, an in- crease of 203 compared with 64,617 personnel as of 31 Decem- ber 2010. 83 Financial and operating performance Financial and operating performance UBS results Balance sheet Balance sheet CHF million Assets Cash and balances with central banks Due from banks Cash collateral on securities borrowed Reverse repurchase agreements Trading portfolio assets of which: assets pledged as collateral which may be sold or repledged by counterparties Positive replacement values Cash collateral receivables on derivative instruments Financial assets designated at fair value Loans Financial investments available-for-sale Accrued income and prepaid expenses Investments in associates Property and equipment Goodwill and intangible assets Deferred tax assets Other assets Total assets Liabilities Due to banks Cash collateral on securities lent Repurchase agreements Trading portfolio liabilities Negative replacement values Cash collateral payables on derivative instruments Financial liabilities designated at fair value Due to customers Accrued expenses and deferred income Debt issued Provisions Other liabilities Total liabilities Equity Share capital Share premium Treasury shares Equity classified as obligation to purchase own shares Retained earnings Cumulative net income recognized directly in equity, net of tax Equity attributable to UBS shareholders Equity attributable to non-controlling interests Total equity Total liabilities and equity 84 31.12.12 31.12.11 31.12.10 31.12.11 % change from 66,383 21,230 37,372 130,941 160,861 44,698 418,029 30,413 9,106 279,901 66,383 6,093 858 6,004 6,461 8,143 11,055 1,259,232 23,024 9,203 37,639 34,154 395,070 71,148 92,878 371,892 6,881 104,656 2,536 59,902 40,638 23,218 58,763 213,501 181,525 39,936 486,584 41,322 10,336 266,604 53,174 6,327 795 5,688 9,695 9,627 9,165 26,939 17,133 62,454 142,790 228,815 61,352 401,146 38,071 8,504 262,877 74,768 5,466 790 5,467 9,822 10,262 19,506 1,416,962 1,314,813 30,201 8,136 102,429 39,480 473,400 67,114 88,982 342,409 6,850 140,617 1,626 62,784 41,490 6,651 74,796 54,975 393,762 58,924 100,756 332,301 7,738 130,271 1,704 62,674 1,208,983 1,364,027 1,266,042 384 33,898 (1,071) (37) 21,231 (8,509) 45,895 4,353 50,249 383 34,614 (1,160) (39) 23,742 (9,011) 48,530 4,406 52,935 383 34,393 (654) (54) 19,604 (9,945) 43,728 5,043 48,770 1,259,232 1,416,962 1,314,813 63 (9) (36) (39) (11) 12 (14) (26) (12) 5 25 (4) 8 6 (33) (15) 21 (11) (24) 13 (63) (13) (17) 6 4 9 0 (26) 56 (5) (11) 0 (2) (8) (5) (11) (6) (5) (1) (5) (11) Assets: development during 2012 CHF billion (cid:36)(cid:67)(cid:78)(cid:67)(cid:80)(cid:69)(cid:71)(cid:2)(cid:85)(cid:74)(cid:71)(cid:71)(cid:86)(cid:2)(cid:70)(cid:71)(cid:88)(cid:71)(cid:78)(cid:81)(cid:82)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:115)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:85) (cid:37)(cid:42)(cid:40)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) 1,417 (104) 1,500 1,400 1,300 1,200 0 (69) (21) (14) 26 13 10 1,259 31.12.11 Collateral trading1 Trading portfolio Positive replace- ment values Lending2 31.12.12 Other Cash and balances with central banks Financial investments available- for-sale 1 Consists of reverse repurchase agreements and cash collateral on securities borrowed. 2 Consists of due from banks, financial assets designated at fair value and loans. 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v a h t i b a w a l i i l s e u l a v t n e m - e c a l p e r e v i t i s o P (cid:49)(cid:86)(cid:74)(cid:71)(cid:84) r e h t O s k n a b l s e c a n a l b d n a a r t n e c e l a s - r o f - e l s t n e m t s e v n i c n a n 2 1 . 9 . 0 3 o i l o f t r o p g n i d a r T Balance sheet development 31 December 2012 vs 31 December 2011 As of 31 December 2012, our balance sheet stood at CHF 1,259 billion, a decrease of CHF 158 billion or 11% from 31 December 2011, primarily due to a decline in collateral trading of CHF 104 billion and a reduction in positive replacement values of CHF 69 billion, predominantly relating to the accelerated implementation of our strategy announced in October 2012. Our funded assets, which represent total assets excluding pos- itive replacement values, were reduced by CHF 89 billion to CHF 841 billion, primarily due to the abovementioned decline in col- lateral trading and a reduction in trading portfolio assets. These decreases were offset by higher balances with central banks, as well as increased financial investments available-for-sale and lend- ing activities. Currency movements between 31 December 2011 and 31 December 2012 had only a small effect on our funded balance sheet assets. Most of the total asset reduction occurred within the Invest- ment Bank, mainly in FICC, primarily due to the abovementioned accelerated implementation of our strategy, as well as a change in the methodology used to allocate certain financial assets man- aged by Group Treasury in 2012, which reduced Investment Bank total assets by CHF 75 billion. Overall, the Investment Bank’s bal- ance sheet decreased by CHF 224 billion, or 25%, to CHF 672 billion. The Investment Bank’s funded assets decreased by CHF 163 billion, or 37%, to CHF 275 billion. Legacy portfolio assets decreased by CHF 19 billion to CHF 38 billion, resulting mainly from position sales, redemptions and loan amortization. The in- crease in Corporate Center – Core Functions total assets of CHF 74 billion to CHF 223 billion was primarily the result of the above- mentioned change in methodology used to allocate certain finan- i F cial assets. The average size of our multi-currency portfolio of unencumbered, high-quality, short-term assets remained stable. Wealth Management and Wealth Management Americas total assets increased to CHF 105 billion and CHF 64 billion, respec- tively, mainly resulting from increased lending activities totaling CHF 15 billion. Retail & Corporate and Global Asset Management total assets were broadly unchanged at CHF 145 billion and CHF 13 billion, respectively. Cash and balances with central banks Cash and balances with central banks totaled CHF 66 billion as of 31 December 2012, an increase of CHF 26 billion, mainly due to the re-balancing of our multi-currency portfolio of unencum- bered, high-quality, short-term assets. Lending Interbank lending (due from banks) decreased by CHF 2 billion to CHF 21 billion, primarily reflecting lower short-term lending ac- tivities within Equities in the Investment Bank. Loans increased by CHF 13 billion to CHF 280 billion, predominantly in our wealth management businesses, which contributed CHF 15 billion of growth across several products, including fixed term, LIBOR-based mortgage and call loans. Financial assets designated at fair value were broadly unchanged at CHF 9 billion. Collateral trading Collateral trading assets (reverse repurchase agreements and cash collateral on securities borrowed) decreased by CHF 104 billion to CHF 168 billion, primarily reflecting deleveraging within the In- 85 (cid:20)(cid:18)(cid:18)(cid:18) (cid:19)(cid:24)(cid:18)(cid:18) (cid:19)(cid:20)(cid:18)(cid:18) (cid:26)(cid:18)(cid:18) (cid:22)(cid:18)(cid:18) (cid:18) Financial and operating performance Financial and operating performance UBS results vestment Bank of CHF 74 billion, combined with a CHF 27 billion decrease related to the re-balancing of our multi-currency portfo- lio of unencumbered, high-quality, short-term assets. Collateral trading liabilities (repurchase agreements and cash collateral on securities lent) were lower by CHF 64 billion, re flecting a CHF 65 billion deleveraging-related reduction in the Investment Bank, consistent with the decrease in collateral trading assets. Trading portfolio Trading portfolio assets were lower by CHF 21 billion to CHF 161 billion, mainly due to a CHF 30 billion reduction in debt instru- ments held, which reflected lower government debt, corporate bonds and mortgage-backed securities, primarily resulting from the abovementioned accelerated implementation of our strategy. The decrease in debt holdings was partly offset by a CHF 12 billion increase in equity instruments. Trading portfolio liabilities were lower by CHF 5 billion, reflect- ing reduced government debt and corporate bonds short sales, proportionally consistent with the total decrease in trading port- folio assets. Replacement values Positive and negative replacement values declined on both sides of the balance sheet, decreasing by CHF 69 billion (14%) and CHF 78 billion (17%) to CHF 418 billion and CHF 395 billion, respec- tively. Decreases in positive replacement values primarily occurred in interest rate contracts, which declined by CHF 28 billion due to reduced volumes and upward shifts in interest rate curves across most currencies, and credit derivative contracts, which declined by CHF 31 billion, mainly due to a reduction in notional volumes. Similarly, decreases in negative replacement values also occurred in interest rate and credit deri vative contracts, which declined by CHF 35 billion and CHF 29 billion, respectively. Financial investments available-for-sale Financial investments available-for-sale increased by CHF 13 bil- lion to CHF 66 billion, primarily due to increased holdings of high- quality government debt in our multi-currency portfolio of unen- cumbered, high-quality, short-term assets. Short-term borrowings Short-term borrowings (short-term debt issued and due to banks) decreased by CHF 46 billion to CHF 56 billion, primarily due to reduced funding requirements and to a lesser extent the negative interest charge imposed on financial institutions for Swiss franc clearing accounts, effective 21 December 2012. The reduction in short-term debt issued occurred across product types, primarily in certificates of deposit, which declined by CHF 20 billion, and com- mercial paper, which declined by CHF 14 billion. Due to customers Customer deposits increased by CHF 29 billion to CHF 372 billion as Wealth Management, Wealth Management Americas and Re- tail & Corporate all continued to attract client money into both current and deposit accounts. Liabilities: development during 2012 CHF billion (cid:36)(cid:67)(cid:78)(cid:67)(cid:80)(cid:69)(cid:71)(cid:2)(cid:85)(cid:74)(cid:71)(cid:71)(cid:86)(cid:2)(cid:70)(cid:71)(cid:88)(cid:71)(cid:78)(cid:81)(cid:82)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:115)(cid:2)(cid:78)(cid:75)(cid:67)(cid:68)(cid:75)(cid:78)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:71)(cid:83)(cid:87)(cid:75)(cid:86)(cid:91) (cid:37)(cid:42)(cid:40)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) 1,400 1,300 1,200 1,100 0 86 1,364 (78) (64) (46) (3) 29 7 1,209 31.12.11 Negative replacement values Collateral trading1 Short-term borrowings2 Other Due to customers Long-term debt3 31.12.12 1 Consists of repurchase agreements and cash collateral on securities lent. 2 Consists of short-term debt issued and due to banks. 3 Consists of long-term debt issued and financial liabilities designated at fair value. 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e c a l p e r s e c a n a s k n a b 2 g n d n e L r e h t O (cid:19)(cid:2)(cid:54)(cid:81)(cid:86)(cid:67)(cid:78)(cid:2)(cid:78)(cid:75)(cid:67)(cid:68)(cid:75)(cid:78)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:71)(cid:83)(cid:87)(cid:75)(cid:86)(cid:91)(cid:2)(cid:71)(cid:90)(cid:69)(cid:78)(cid:87)(cid:70)(cid:75)(cid:80)(cid:73)(cid:2)(cid:80)(cid:71)(cid:73)(cid:67)(cid:86)(cid:75)(cid:88)(cid:71)(cid:2)(cid:84)(cid:71)(cid:82)(cid:78)(cid:67)(cid:69)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:88)(cid:67)(cid:78)(cid:87)(cid:71)(cid:85)(cid:16)(cid:2)(cid:2)(cid:2)(cid:2)(cid:20)(cid:2)(cid:37)(cid:81)(cid:80)(cid:85)(cid:75)(cid:85)(cid:86)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:71)(cid:83)(cid:87)(cid:75)(cid:86)(cid:91)(cid:2)(cid:67)(cid:86)(cid:86)(cid:84)(cid:75)(cid:68)(cid:87)(cid:86)(cid:67)(cid:68)(cid:78)(cid:71)(cid:2)(cid:86)(cid:81)(cid:2) (cid:55)(cid:36)(cid:53)(cid:2)(cid:85)(cid:74)(cid:67)(cid:84)(cid:71)(cid:74)(cid:81)(cid:78)(cid:70)(cid:71)(cid:84)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:71)(cid:83)(cid:87)(cid:75)(cid:86)(cid:91)(cid:2)(cid:67)(cid:86)(cid:86)(cid:84)(cid:75)(cid:68)(cid:87)(cid:86)(cid:67)(cid:68)(cid:78)(cid:71)(cid:2)(cid:86)(cid:81)(cid:2)(cid:80)(cid:81)(cid:80)(cid:15)(cid:69)(cid:81)(cid:80)(cid:86)(cid:84)(cid:81)(cid:78)(cid:78)(cid:75)(cid:80)(cid:73)(cid:2)(cid:75)(cid:80)(cid:86)(cid:71)(cid:84)(cid:71)(cid:85)(cid:86)(cid:85)(cid:16)(cid:2)(cid:2)(cid:2)(cid:2)(cid:21)(cid:2)(cid:50)(cid:71)(cid:84)(cid:69)(cid:71)(cid:80)(cid:86)(cid:67)(cid:73)(cid:71)(cid:85)(cid:2)(cid:68)(cid:67)(cid:85)(cid:71)(cid:70)(cid:2)(cid:81)(cid:80)(cid:2)(cid:86)(cid:81)(cid:86)(cid:67)(cid:78)(cid:2) (cid:78)(cid:75)(cid:67)(cid:68)(cid:75)(cid:78)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:71)(cid:83)(cid:87)(cid:75)(cid:86)(cid:91)(cid:2)(cid:71)(cid:90)(cid:69)(cid:78)(cid:87)(cid:70)(cid:75)(cid:80)(cid:73)(cid:2)(cid:80)(cid:71)(cid:73)(cid:67)(cid:86)(cid:75)(cid:88)(cid:71)(cid:2)(cid:84)(cid:71)(cid:82)(cid:78)(cid:67)(cid:69)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:88)(cid:67)(cid:78)(cid:87)(cid:71)(cid:85)(cid:16)(cid:2)(cid:2)(cid:2)(cid:2)(cid:22)(cid:2)(cid:37)(cid:81)(cid:80)(cid:85)(cid:75)(cid:85)(cid:86)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:78)(cid:81)(cid:80)(cid:73)(cid:15)(cid:86)(cid:71)(cid:84)(cid:79)(cid:2)(cid:70)(cid:71)(cid:68)(cid:86)(cid:2)(cid:75)(cid:85)(cid:85)(cid:87)(cid:71)(cid:70)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2) h (cid:386)(cid:80)(cid:67)(cid:80)(cid:69)(cid:75)(cid:67)(cid:78)(cid:2)(cid:78)(cid:75)(cid:67)(cid:68)(cid:75)(cid:78)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85)(cid:2)(cid:70)(cid:71)(cid:85)(cid:75)(cid:73)(cid:80)(cid:67)(cid:86)(cid:71)(cid:70)(cid:2)(cid:67)(cid:86)(cid:2)(cid:72)(cid:67)(cid:75)(cid:84)(cid:2)(cid:88)(cid:67)(cid:78)(cid:87)(cid:71)(cid:16)(cid:2)(cid:2)(cid:2)(cid:2)(cid:23)(cid:2)(cid:37)(cid:81)(cid:80)(cid:85)(cid:75)(cid:85)(cid:86)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:84)(cid:71)(cid:82)(cid:87)(cid:84)(cid:69)(cid:74)(cid:67)(cid:85)(cid:71)(cid:2)(cid:67)(cid:73)(cid:84)(cid:71)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:69)(cid:67)(cid:85)(cid:74)(cid:2)(cid:69)(cid:81)(cid:78)(cid:78)(cid:67)(cid:86)(cid:71)(cid:84)(cid:67)(cid:78)(cid:2) s a C (cid:81)(cid:80)(cid:2)(cid:85)(cid:71)(cid:69)(cid:87)(cid:84)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85)(cid:2)(cid:78)(cid:71)(cid:80)(cid:86)(cid:16)(cid:2)(cid:2)(cid:2)(cid:2)(cid:24)(cid:2)(cid:37)(cid:81)(cid:80)(cid:85)(cid:75)(cid:85)(cid:86)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:85)(cid:74)(cid:81)(cid:84)(cid:86)(cid:15)(cid:86)(cid:71)(cid:84)(cid:79)(cid:2)(cid:70)(cid:71)(cid:68)(cid:86)(cid:2)(cid:75)(cid:85)(cid:85)(cid:87)(cid:71)(cid:70)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:70)(cid:87)(cid:71)(cid:2)(cid:86)(cid:81)(cid:2)(cid:68)(cid:67)(cid:80)(cid:77)(cid:85)(cid:16) e v i t i s o P a r t n e c t n e m d n a a v a o C h t i b a w b a l i l l l i l l l e l a s - r o f - e s t n e m t s e v n i c n a n 2 1 . 9 . 0 3 o i l o f t r o p g n i d a r T i F (cid:20)(cid:18)(cid:18)(cid:18) (cid:19)(cid:24)(cid:18)(cid:18) (cid:19)(cid:20)(cid:18)(cid:18) (cid:26)(cid:18)(cid:18) (cid:22)(cid:18)(cid:18) (cid:18) Long-term debt Long-term debt increased by CHF 7 billion to CHF 165 billion, primarily due to several issuances of covered bonds as well as two separate issuances of loss-absorbing notes. These issuances were partly offset by the maturity of several straight senior issu- ances. ➔ Refer to the “Liquidity and funding management” section for more information on long-term debt issuances Other assets / Other liabilities Other assets declined by CHF 14 billion to CHF 69 billion, mainly reflecting a CHF 11 billion decrease in cash collateral receivables on derivative instruments as well as a CHF 3 billion reduction in goodwill in the Investment Bank. Other liabilities were broadly unchanged at CHF 140 billion. Equity Equity attributable to UBS shareholders decreased by CHF 2,635 million to CHF 45,895 million as of 31 December 2012 from CHF 48,530 million a year earlier. Total comprehensive income attrib- utable to UBS shareholders was negative CHF 2,009 million, re- flecting the net loss attributable to UBS shareholders of CHF 2,511 million, partly offset by other comprehensive income (OCI) attributable to UBS shareholders of CHF 502 million (net of tax). OCI primarily included gains on defined benefit plans and positive cash flow hedge OCI of CHF 609 million and CHF 384 million, respectively, partly offset by foreign currency translation losses of CHF 511 million. Share premium decreased by CHF 716 million, mainly reflecting a tax expense of CHF 457 million and the divi- dend distribution of CHF 379 million, partly offset by an increase of CHF 126 million related to employee share and share option plans. Net treasury share activity increased equity attributable to UBS shareholders by CHF 89 million. ➔ Refer to the “Statement of changes in equity” in the “Financial information” section, and to “Comprehensive income attribut- able to UBS shareholders” in this section for more information Intra-period balances Balance sheet positions disclosed in this section represent year- end positions. Intra-period balance sheet positions fluctuate in the ordinary course of business and may differ from quarter-end and year-end positions. ➔ Refer to the table “FINMA leverage ratio calculation” in the “Ca- pital management” section of this report for our average month- end balance sheet size for the fourth quarter of 2012 and 2011 Equity attributable to UBS shareholders: development during 2012 CHF million 49,000 48,000 47,000 46,000 0 48,530 (2,511) 31.12.11 Net loss 502 126 89 (457) (379) (3) 45,895 Dividends Other 31.12.12 Other compre- hensive income (OCI) Employee share and share option plans (share premium) Tax recognized in share premium Trea- sury shares 2BS033_2012_Equity 2 1 . 6 . 0 3 1 g n i d a r t l a r e t a l l o C 2 g n i d n e L r e h t O s e u l a v t n e m - e c a l p e r e v i t i s o P s e c a n a l b d n a h s a C s k n a b l a r t n e c h t i w 2 1 . 9 . 0 3 o i l o f t r o p g n i d a r T e l a s - r o f - e l b a l i a v a s t n e m t s e v n i l a i c n a n i F 87 Financial and operating performance Financial and operating performance UBS results Off-balance sheet Off-balance sheet arrangements In the normal course of business, we enter into transactions that are not recognized on the balance sheet in accordance with Inter- national Financial Reporting Standards (IFRS) because we have ei- ther transferred or have not assumed the related risks and rewards, and / or because we did not become party to the contractual provi- sions of the financial instruments. These off-balance sheet arrange- ments are transacted to either meet the financial needs of clients or offer investment opportunities through entities that are not con- trolled by us. These transactions include derivative instruments, guarantees and similar arrangements, as well as purchased and retained interests in assets transferred to non-consolidated entities. When we, through these arrangements, incur an obligation or become entitled to an asset, we recognize these on the balance sheet. It should be noted that in certain instances the amount recognized on the balance sheet does not represent the full gain or loss potential inherent in such arrangements. We continuously evaluate whether triggering events require reconsideration of the consolidation conclusions made at the in- ception of our involvement with special purpose entities (SPE). ➔ Refer to “Note 1a) 3) Subsidiaries” and “Note 1a) 5) Recognition and derecognition of financial instruments” in the “Financial information” section of this report for more information on accounting policies regarding consolidation and deconsolidation of subsidiaries, including SPE, and recognition and derecogni- tion of financial instruments, respectively. The following paragraphs discuss several distinct areas of off- balance sheet arrangements. Additional relevant off-balance sheet information is primarily provided in “Note 23 Provisions and contingent liabilities”, “Note 25 Derivative instruments and hedge accounting” and “Note 26 Operating lease commitments” in the “Financial information” section of this report. Risk disclosures, including our involvement with off-balance sheet vehicles Refer to the “Risk, treasury and capital management” section of this report for comprehensive liquidity, market and credit risk in- formation related to risk positions, including our exposure to off- balance sheet involvement. Non-consolidated securitization vehicles and collateralized debt obligations Our involvement (in the form of purchased or retained interests or derivatives) in non-consolidated securitization vehicles and collat- eralized debt obligations (CDO) is outlined within the table on the following page under the column “Involvement in non-consoli- dated SPE held by UBS”. As of 31 December 2012, the carrying value of our purchased and retained interests relating to non- consolidated SPE and CDO totaled CHF 5.5 billion, of which CHF 4.3 billion was held in Trading portfolio assets and measured at fair value and CHF 1.2 billion was held at amortized cost within Loans. In addition, we had involvement in SPE in the form of net Negative replacement values, mainly total return swaps and cred- it default swaps, of CHF 0.2 billion as of 31 December 2012. The total pool of assets held by these non-consolidated investment vehicles in which UBS has involvement are reflected in the column “Total SPE assets”. These total SPE assets represent the total size and exposure of the SPE and are not indicative of our risk of loss. Our maximum loss potential is generally limited to the carrying amount of purchased and retained interests. Our exposure with respect to credit derivatives is based on the notional value of those instruments. Maximum loss related to total return swaps cannot be quantified, however, fair value is generally considered to be the best approximation of this risk. During 2012 we sponsored the creation of a limited number of special purpose entities that principally facilitated the securitiza- tion of commercial mortgage loans. These securitization transac- tions generally involved the transfer of assets into a trust or cor- poration, which in turn issued beneficial interests in the form of securities. Financial assets transferred to such trusts and corpora- tions are no longer reported in our consolidated financial state- ments once the accounting requirements for derecognition are met, including the transfer of substantially all of the risks and re- wards related to such assets. UBS retained certain involvement in some of these SPE, which are included in the disclosure on the next page. ➔ Refer to “Note 1a) 12) Securitization structures set up by UBS” in the “Financial information” section of this report for more information on accounting policies regarding securitization vehicles established by UBS ➔ Refer to the securitization disclosures in the “Basel 2.5 Pillar 3” section of this report for a more comprehensive overview of our securitization activities In addition to our retained involvement in SPE from 2012 secu- ritization activities, we also continue to retain interests in earlier securitization issuances, primarily in the Legacy Portfolio, which were originated by UBS or by third parties. The volume and size of these positions, the majority of which are linked to the US mort- gage market, have been further reduced as of 31 December 2012 when compared with the prior year. Our involvement in non-consolidated securitization vehicles and collateralized debt obligations disclosed in this section is typi- cally managed on a portfolio basis alongside hedges and other offsetting financial instruments. The numbers presented do not include these offsetting factors. 88 Loans held at amortized cost included in the table below are mainly comprised of student loan auction rate securities, to the extent these are not backed by a US government agency, instru- mentality or government-sponsored enterprise, as well as assets which were previously Held for trading and later reclassified to Loans and receivables, including monoline-protected assets, US reference linked notes and other assets. Our loan to the RMBS Opportunities Master Fund, LP, a special purpose entity managed by BlackRock, Inc. is also not included in the table below. ➔ Refer to “Note 28 Pledged and transferred financial assets” in the “Financial information” section and to the “Risk, treasury and capital management” section of this report for more information on our loan to the BlackRock fund ➔ Refer to “Note 29b Reclassified financial assets” in the “Financial information” section of this report for more information on reclassified financial assets. The numbers outlined in the table below deviate from the secu- ritization positions presented in the “Basel 2.5 Pillar 3” section of this report, primarily due to: (i) different scope, mainly exclusion of certain government-backed and synthetic securitization transac- tions from the table below, (ii) a different measurement basis in certain cases (e.g. IFRS carrying value within the table below com- pared with net exposure amount at default for Basel 2.5 Pillar 3 disclosures), and (iii) different classification of originated and spon- sored activities. “Originated by UBS” amounts presented below in- clude both securitization activities which we originated and those in which we acted as the lead manager (including joint or co-lead roles) for the transaction. For Basel 2.5 Pillar 3 disclosures, originated and sponsored activities are presented separately. Liquidity facilities and similar obligations On 31 December 2012 and 2011, we had no significant exposure through liquidity facilities and guarantees to structured investment vehicles, conduits and other similar types of SPE. Non-consolidated securitization vehicles and collateralized debt obligations CHF billion Involvement in non-consolidated SPE held by UBS Purchased and retained interests held by UBS 1 Derivatives held by UBS Total SPE assets 2 As of 31 December 2012 Carrying value Fair value Nominal value Original principal outstanding Current principal outstanding Delinquency amounts Originated by UBS CDO Residential mortgage Commercial mortgage Other ABS Securitizations Residential mortgage Commercial mortgage Other ABS Total Not originated by UBS CDO Residential mortgage Commercial mortgage Other ABS Securitizations Residential mortgage Commercial mortgage Other ABS Total 0.0 0.2 0.7 0.1 0.4 0.4 1.8 0.0 0.1 0.9 0.7 1.0 1.0 3.7 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.1 (0.3) 0.0 0.0 (0.2) 0.2 0.0 0.0 1.3 0.0 0.0 1.5 0.0 0.0 0.3 1.7 0.1 0.0 2.1 5.3 0.9 16.0 102.1 80.9 9.6 214.8 92.3 4.7 53.0 388.7 358.3 32.3 929.3 1.3 0.9 8.3 26.0 63.7 5.3 105.5 78.9 2.9 36.0 122.6 248.1 18.4 506.9 0.0 0.0 0.0 2.9 5.8 0.0 8.7 0.0 0.0 0.0 42.5 25.7 0.0 68.2 1 Includes loans and receivables measured at amortized cost in the amount of CHF 0.8 billion originated by UBS and CHF 0.4 billion not originated by UBS as well as trading assets measured at fair value in the amount of CHF 1.0 billion originated by UBS and CHF 3.3 billion not originated by UBS. Excludes CHF 11.0 billion of asset backed securities, of which CHF 7.3 billion were held in Wealth Management Americas’ available-for- sale portfolio (refer to “Note 14 Financial investments available-for-sale” in the “Financial information” section of this report for more information) and CHF 3.7 billion were held in the trading portfolio of the Investment Bank, and CHF 3.5 billion of student loan auction rate securities were held as Loans in Corporate Center – Legacy Portfolio as of 31 December 2012, all of which were backed by a US government agency, instrumental- ity or government-sponsored enterprise. These securities have been excluded due to the comprehensive involvement of the US government in these organizations and, consequently, their significantly lower risk pro- file. 2 “Total SPE assets” includes information which UBS could gather after making exhaustive efforts, but excludes data which UBS was unable to obtain (in sufficient quality), especially for structures originated by third parties. 89 Financial and operating performance Financial and operating performance UBS results Support provided to non-consolidated investment funds In the ordinary course of business, we issue investment certificates to third parties that are linked to the performance of non-consol- idated investment funds. Such investment funds are originated either by us or by third parties. For hedging purposes, we gener- ally invest in the funds to which our obligations from the certifi- cates are linked. Risks resulting from these contracts are consid- ered minimal, as the full performance of the funds, whether positive or negative, is passed on to third parties. In a limited number of cases and primarily stemming from the financial crisis, UBS has provided support to certain non-consolidat- ed investment funds in the form of collateralized financing, direct acquisition of fund units and purchases of assets from the funds. These funds are managed in our wealth and asset management businesses, and support was provided in cases where it was neces- sary due to regulatory or legal requirements or other exceptional circumstances. Throughout 2012 we have continued to reduce our positions in these acquired fund units or other assets, and as of 31 December 2012 the carrying value of fund units acquired and other assets purchased from such funds totaled CHF 0.2 billion. Purchases of assets from the funds that we manage, direct acquisition of fund units and guarantees granted to third parties in the context of such non-consolidated funds were not material in 2012. Collateralized financing provided in the ordinary course of business to non-consolidated investment funds was CHF 0.6 billion as of 31 December 2012. Net losses incurred on fund units, which are generally accounted for as financial investments available-for-sale, were not material in 2012. In accordance with standard industry practice, our wealth and asset management businesses occasionally also provide short- term funding facilities to certain investment funds to cover timing gaps in the redemption and subscription processes. These facili- ties did not result in any losses in 2012. Guarantees and similar obligations In the normal course of business, we issue various forms of guaran- tees, commitments to extend credit, standby and other letters of credit to support our clients, commitments to enter into forward starting transactions, note issuance facilities and revolving under- writing facilities. With the exception of related premiums, generally these guarantees and similar obligations are kept as off-balance sheet items unless a provision to cover probable losses is required. On 31 December 2012, the exposure (gross values less sub- participations) from guarantees and similar instruments was CHF 17.8 billion, compared with CHF 17.4 billion as of 31 December 2011. Fee income from issuing guarantees was not significant to total revenues in 2012. Guarantees represent irrevocable assurances, subject to the sat- isfaction of certain conditions, that we will make a payment in the event that clients fail to fulfill their obligations to third parties. We also enter into commitments to extend credit in the form of credit lines that are available to secure the liquidity needs of clients. The majority of these unutilized credit lines range in maturity from one month to five years. If customers fail to meet their obligations, our maximum exposure to credit risk is the contractual amount of these instruments. The risk is similar to the risk involved in extend- ing loan facilities and is subject to the same risk management and control framework. For the year ended 31 December 2012, we recognized net credit loss recoveries of CHF 16 million, compared with net credit loss recoveries of CHF 22 million for the year ended 31 December 2011, related to obligations incurred for guarantees and loan commitments. Provisions recognized for guarantees and loan commitments were CHF 64 million as of 31 December 2012 and CHF 93 million as of 31 December 2011. For certain obligations, we enter into partial sub-participations to mitigate various risks from guarantees and loan commitments. A sub-participation is an agreement by another party to take a share of the loss in the event that the obligation is not fulfilled by the obligor and, where applicable, to fund a part of the credit facil- ity. We retain the contractual relationship with the obligor, and the sub-participant has only an indirect relationship. We will only enter into sub-participation agreements with banks to which we ascribe a credit rating equal to or better than that of the obligor. Furthermore, we provide representations, warranties and in- demnifications to third parties in the normal course of business. Clearinghouse and exchange memberships We are a member of numerous securities and derivative exchanges and clearinghouses. In connection with some of those member- ships, we may be required to pay a share of the financial obligations of another member who defaults, or we may be otherwise exposed to additional financial obligations. While the membership rules vary, obligations generally would arise only if the exchange or clearing- house had exhausted its resources. We consider the probability of a material loss due to such obligations to be remote. Swiss deposit insurance Swiss banking law and the deposit insurance system require Swiss banks and securities dealers to jointly guarantee an amount of up to CHF 6 billion for privileged client deposits in the event that a Swiss bank or securities dealer becomes insolvent. For the period from 1 July 2012 to 30 June 2013, the Swiss Financial Market Supervisory Authority (FINMA) estimates our share in the deposit insurance system to be CHF 1.0 billion. The deposit insurance is a guarantee and exposes us to additional risk. This is not reflected in the table on the following page due to its unique characteris- tics. As of 31 December 2012, we consider the probability of a material loss from our obligation to be remote. Underwriting commitments Gross equity underwriting commitments on 31 December 2012 and 31 December 2011 amounted to CHF 0.2 billion and CHF 1.1 billion, respectively. Gross debt and private equity underwriting commitments on 31 December 2012 and 31 December 2011 were not material. Purchase commitments As of 31 December 2012, UBS had a firm commitment to acquire Link Investimentos, a Brazilian financial services firm for an acqui- 90 Financial instruments not recognized on the balance sheet The table below shows the maximum irrevocable amount of guarantees, commitments and forward starting transactions. CHF million Guarantees Credit guarantees and similar instruments Performance guarantees and similar instruments Documentary credits Total guarantees Commitments Loan commitments Underwriting commitments Total Commitments Forward starting transactions 1 Reverse repurchase agreements Securities borrowing agreements Repurchase agreements 1 Cash to be paid in the future by either UBS or the counterparty. 31.12.12 Gross Sub- participations Net Gross 31.12.11 Sub- participations (734) (829) (660) (2,223) (867) (167) (1,034) 7,579 2,844 7,412 17,835 58,950 0 58,951 8,313 3,673 8,072 20,058 59,818 167 59,985 18,576 249 9,993 (315) (493) (737) (1,545) (1,640) (278) (1,918) 8,671 3,337 6,897 18,905 58,192 1,160 59,352 27,113 502 21,134 Net 8,356 2,845 6,160 17,360 56,552 882 57,434 sition cost of approximately CHF 90 million. The acquisition closed in the first quarter of 2013. Contractual obligations The table below summarizes payments due by period under con- tractual obligations as of 31 December 2012. All contracts included in this table, with the exception of pur- chase obligations (those in which we are committed to purchas- ing determined volumes of goods and services), are either recog- nized as liabilities on our balance sheet or, in the case of operating leases, disclosed in “Note 26 Operating lease commitments” in the “Financial information” section of this report. Long-term debt obligations as of 31 December 2012 were CHF 182 billion and consisted of long-term debt issued (CHF 86 billion) and financial liabilities designated at fair value (CHF 96 billion) and represent both estimated future interest and principal payments on an undiscounted basis. Refer to the “Maturity analysis of finan- cial liabilities” table in the “Risk, treasury and capital manage- ment” section of this report for more information. Approximately half of total long-term debt obligations had a variable rate of inter- est. Amounts due on interest rate swaps used to hedge interest rate risk inherent in fixed-rate debt issued, and designated in fair value hedge accounting relationships, are not included in the table below. The notional amount of these interest rate swaps was CHF 38 billion as of 31 December 2012. Financial liabilities designated at fair value (CHF 96 billion on an undiscounted cash flow basis) mostly consist of structured notes and are generally economically hedged but it would not be practicable to estimate the amount and / or timing of the payments on interest swaps used to hedge these instruments, as interest rate risk inherent in respective liabili- ties is generally risk managed on a portfolio level. Within purchase obligations, the obligation to employees under mandatory notice periods is excluded (i.e. the period in which we must pay contractually-agreed salaries to employees leaving the firm). Our obligations recognized on the balance sheet as Due to banks, Cash collateral on securities lent, Repurchase agreements, Trading portfolio liabilities, Negative replacement values, Cash collateral payables on derivative instruments, Due to customers, Provisions and Other liabilities are excluded from the table below. Refer to the respective Notes in the “Financial information” sec- tion of this report for more information on these liabilities. Contractual obligations CHF million Long-term debt obligations Finance lease obligations Operating lease obligations Purchase obligations Total Payment due by period < 1 year 48,430 35 808 1,139 50,412 1–3 years 45,420 67 1,408 1,182 48,077 3–5 years 36,712 3 1,085 337 38,137 > 5 years 51,376 104 2,409 287 54,176 91 Financial and operating performance Financial and operating performance UBS results Cash flows As a global financial institution, our cash flows are complex and bear little relation to our net earnings and net assets. Conse- quently, we believe that traditional cash flow analysis is less mean- ingful in evaluating our liquidity position than the liquidity, fund- ing and capital management polices described within the “Risk, treasury and capital management” section of this report. Cash flow analysis may, however, be helpful in highlighting certain macro trends and strategic initiatives in our businesses. With regard to the cash flow activities described below, refer to the “Statement of cash flows” in the “Financial information” section of this report for more information. In 2012, the estimation of the effects of foreign currency translation on the statement of cash flows was refined. In con- junction with this change in estimate, the presentation of amounts within Net cash flows from / (used in) operating activi- ties has been enhanced by eliminating the estimated foreign cur- rency effects from individual balance sheet movements presented under Net (increase) / decrease in operating assets and liabilities and reflecting these within Other net adjustments, for which comparatives have been restated. In 2012, net cash inflows of CHF 56.1 billion were generated by the overall decrease in operating assets and liabilities. Gross cash inflows of CHF 131.6 billion primary resulted from the reduction of reverse repurchase agreements and cash collateral on securities borrowed assets of CHF 102.4 billion. A key component of the gross cash outflows of CHF 75.5 billion was the reduction of the repurchase agreements and cash collateral on securities lent liabil- ities of CHF 66.1 billion. Investing activities Net cash flow used in investing activities was CHF 14.8 billion compared with net cash flow generated of CHF 19.4 billion in 2011. The 2012 cash outflow primarily reflected the net invest- ment in financial investments available-for-sale of CHF 13.9 bil- lion. This includes gross cash inflows from sales and maturities of CHF 8,796 million and gross cash outflows from purchases of CHF 7,422 million related to the Wealth Management Americas available-for-sale portfolio. The remaining net cash outflow of CHF 15,320 million almost entirely related to our multi-currency portfolio of unencumbered, high-quality, short-term assets. 2012 Financing activities As of 31 December 2012, cash and cash equivalents totaled CHF 99.1 billion, an increase of CHF 13.5 billion from 31 December 2011. Operating activities For the year ended 31 December 2012, net cash flow generated from operating activities was CHF 67.1 billion, primarily reflecting deleveraging of our balance sheet, compared with net cash flow used in operating activities of CHF 14.2 billion in 2011. Net oper- ating cash inflows (before changes in operating assets and liabili- ties and income taxes paid, net of refunds) totaled CHF 11.2 bil- lion in 2012 compared with net operating cash outflows of CHF 3.0 billion in 2011. Net cash flow used in funding activities was CHF 38.0 billion in 2012, primarily reflecting net repayment of short-term debt issu- ances of CHF 38.0 billion. The net acquisition of treasury shares and own equity derivative activity of CHF 1.2 billion, dividends paid to UBS shareholders of CHF 0.4 billion and dividends paid on preferred securities reflected in non-controlling interests of CHF 0.3 billion also resulted in cash outflows, which were partly offset by the net issuance of long-term debt (issuances less redemptions) of CHF 1.8 billion. In 2011, financing activities generated net cash inflows of CHF 2.7 billion. 92 2011 As of 31 December 2011, cash and cash equivalents totaled CHF 85.6 billion, an increase of CHF 5.7 billion from 31 December 2010. Operating activities For the year ended 31 December 2011, net cash flows used in operating activities were CHF 14.2 billion compared with net cash flow generated from operating activities of CHF 13.4 billion in 2010. Net operating cash flow generated (before changes in op- erating assets and liabilities and income taxes paid, net of refunds) totaled CHF 3.0 billion in 2011, compared with net cash flow generated in 2010 of CHF 24.0 billion. In 2011, net cash of CHF 16.9 billion was utilized by an overall increase in operating assets and liabilities. Gross cash generation of CHF 66.4 billion primarily resulted from an increase of repur- chase agreements and cash collateral on securities lent liabilities of CHF 27.1 billion and from a decrease of net trading balances of CHF 17.2 billion. The gross cash consumption was mainly due to an increase of reverse repurchase agreements and cash collateral on securities borrowed assets of CHF 67.3 billion and an increase in net due from / to banks of CHF 14.6 billion. Investing activities Net cash flow generated from investing activities was CHF 19.4 billion compared with CHF 4.1 billion in 2010. The 2011 cash inflow primarily reflected the net divestment of financial invest- ments available-for-sale of CHF 20.3 billion, which included CHF 14.2 billion from the sale of our strategic investment port- folio. Financing activities Net cash inflow from UBS’s funding activities was CHF 2.7 billion, reflecting net cash inflow from net short-term debt issuances of CHF 15.3 billion, offset by cash outflows for the net redemption of long-term debt (repayments less issuances) of CHF 10.0 billion, net acquisition of treasury shares and own equity derivative activ- ity of CHF 1.9 billion and redemptions and dividends paid on pre- ferred securities reflected in non-controlling interests of CHF 0.7 billion. In 2010, financing activities generated net cash inflows of CHF 1.8 billion. 93 Financial and operating performance Financial and operating performance Wealth Management Wealth Management Business division reporting 1 CHF million, except where indicated Net interest income Net fee and commission income Net trading income Other income Income Credit loss (expense) / recovery Total operating income Personnel expenses General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Amortization and impairment of intangible assets Total operating expenses 2 Business division performance before tax Key performance indicators 3 Pre-tax profit growth (%) Cost / income ratio (%) Net new money growth (%) 4 Gross margin on invested assets (bps) 5 Additional information Average attributed equity (CHF billion) 6 Return on attributed equity (RoaE) (%) BIS risk-weighted assets (CHF billion) 7 Return on risk-weighted assets, gross (%) 8 Goodwill and intangible assets (CHF billion) Net new money (CHF billion) 4 Invested assets (CHF billion) Client assets (CHF billion) Loans, gross (CHF billion) Due to customers (CHF billion) Personnel (full-time equivalents) Client advisors (full-time equivalents) As of or for the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 1,951 4,275 778 37 7,040 1 7,041 2,865 1,360 243 159 7 4,634 2,407 (8.6) 65.8 3.5 89 4.0 60.9 17.3 41.4 1.4 26.3 821 951 86.6 1,968 4,363 878 425 7,634 11 7,645 3,300 1,192 318 165 37 5,012 2,633 17.9 65.7 3.1 101 5.0 52.7 16.6 45.7 1.4 23.5 750 875 75.1 1,737 4,964 647 (3) 7,345 11 7,356 3,228 1,264 449 163 19 5,123 2,233 (1.3) 69.7 (1.5) 92 4.4 50.8 16.9 41.4 1.5 (12.1) 768 920 67.1 180.2 16,210 4,128 170.2 15,904 4,202 156.8 15,663 4,172 (1) (2) (11) (91) (8) (91) (8) (13) 14 (24) (4) (81) (8) (9) (12) (20) 4 0 9 9 15 6 2 (2) 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to reporting segments. 2 Refer to “Note 37 Changes in organization” in the “Financial information” section of this report for information on restructuring charges. 3 For the definitions of our key performance indi cators, refer to the “Measurement of performance” section of this report. 4 Net new money excludes interest and dividend income. 5 Excludes any effect on profit or loss from a property fund (2012: gain of CHF 4 mil- lion, 2011: loss of CHF 22 million, 2010: loss of CHF 45 million). 6 Refer to the “Capital management” section of this report for more information about the equity attribution framework. 7 Capital management data as of 31 December 2012 and 31 December 2011 are disclosed in accordance with the Basel 2.5 framework. Comparative data under the new framework is not available for 31 December 2010. The com parative information under the Basel II framework is therefore provided. Refer to the “Capital management” section of this report for more information. 8 Based on Basel 2.5 risk-weighted assets for 2012. Based on Basel II risk-weighted assets for 2011 and 2010. 94 Regional breakdown of key figures 1, 2 As of or for the year ended 31.12.12 Net new money (CHF billion) 4 Net new money growth (%) 4 Invested assets (CHF billion) Gross margin on invested assets (bps) Client advisors (full-time equivalents) Europe Asia Pacific Switzerland (5.2) (1.6) 344 89 1,620 18.4 11.3 196 76 987 4.2 3.1 145 101 782 Emerging Markets of which: ultra high net worth 8.9 7.7 127 96 668 19.9 6.3 362 52 815 6 of which: Global Family Office 3 (0.2) (0.6) 43 37 5 N/A 1 For the definitions of our key performance indicators, refer to the “Measurement of performance” section of this report. 2 Based on the Wealth Management business area structure, and excluding minor functions with 71 client advisors, and CHF 9 billion of invested assets, and CHF 0.0 billion of net new money inflows, which are mainly attributable to the employee share and option plan service provided to corporate clients and their employees. 3 Joint venture between Wealth Management and the Investment Bank. Since June 2012, Global Family Office is reported as a sub-segment of ultra high net worth and is included in the ultra high net worth figures. 4 Net new money excludes interest and dividend income. 5 Gross margin includes income booked in the Investment Bank. Gross margin only based on income booked in Wealth Management is 19 basis points. 6 Dedicated ultra high net worth units: 597 client advisors. Non-dedicated ultra high net worth units: 218 client advisors. 95 Financial and operating performance Financial and operating performance Wealth Management Business performance 2012 Results Pre-tax profit was CHF 2,407 million in 2012 compared with CHF 2,633 million in the previous year, which included a gain of CHF 433 million from the sale of our strategic investment portfolio in the third quarter of 2011. Operating expenses in 2012 included a credit to personnel expenses of CHF 358 million related to changes to our pension plans. Adjusted for these two items and restructur- ing costs, pre-tax profit decreased by CHF 207 million to CHF 2,075 million, partly reflecting the fact that the previous year ben- efited from CHF 103 million of accrued interest from the afore- mentioned strategic investment portfolio. Net new money was CHF 26.3 billion compared with CHF 23.5 billion in the prior year. Operating income Total operating income in 2012 was CHF 7,041 million compared with CHF 7,645 million in 2011. Adjusted for the gain on the sale of our strategic investment portfolio, total operating income de- clined by CHF 171 million, mainly because 2011 included CHF 103 million of interest income stemming from the abovementioned strategic investment portfolio. ➔ Refer to the “Certain items affecting our results in 2011” sidebar in our Annual Report 2011 for more information on the sale of our strategic investment portfolio Net interest income decreased by CHF 17 million to CHF 1,951 million, mainly as the previous year included CHF 103 million of interest income stemming from the abovementioned strategic in- vestment portfolio. Moreover, net interest income was negatively affected by increased costs of CHF 69 million related to assets managed centrally by Group Treasury and CHF 22 million lower allocations related to investment proceeds from the firm’s equity. These factors were largely offset by CHF 180 million higher prod- uct-related interest income, reflecting the beneficial effects of in- creases in client deposit and lending volumes. Net fee and commission income declined by CHF 88 million to CHF 4,275 million, mainly reflecting lower recurring fees on discretionary business, investment funds and non-asset based fees, primarily resulting from the business transformation in Eu- rope. This was partly offset by 4% higher transaction-based fees due to increased client activity levels in Asia Pacific throughout the year. Trading income decreased by CHF 100 million to CHF 778 mil- lion, primarily due to lower treasury-related income and lower cli- ent activity following the reduced volatility on the foreign ex- change market. Other income was CHF 37 million compared with CHF 425 mil- lion in 2011, mainly as the prior year included the abovemen- tioned gain on the sale of our strategic investment portfolio. Operating expenses Total operating expenses were CHF 4,634 million, down CHF 378 million from the prior year. Restructuring charges were CHF 26 million in 2012, down from CHF 82 million in the previous year. Adjusted for these restructuring costs and the abovementioned credit related to changes to our pension plans, costs increased by CHF 36 million to CHF 4,966 million. Personnel expenses decreased to CHF 2,865 million from CHF 3,300 million in the previous year. Excluding the abovementioned factors, personnel expenses decreased by CHF 38 million, primarily reflecting lower accruals for variable compensation as well as re- duced personnel expenses related to technology and operations costs. This was partially offset by higher personnel expenses of 96 CHF 129 million due to the centralization of operations units from the business divisions in the Corporate Center on 1 July 2012. As Wealth Management previously obtained significant support from Retail & Corporate, the centralization and subsequent reallocation of operations units had the effect of reducing net charges from other business divisions and increasing personnel and non-person- nel costs in 2012. inflows were recorded in Asia Pacific and emerging markets as well as globally from ultra high net worth clients. Europe re- ported net outflows in the offshore business, mainly related to clients from countries neighboring Switzerland. This was partly offset by net inflows in the European onshore business. Swiss wealth management reported increased net inflows compared with the prior year. ➔ Refer to the “Significant accounting and financial reporting structure changes” section of this report for more information on changes related to the centralization of operations units General and administrative expenses were CHF 1,360 million compared with CHF 1,192 million in 2011. This included higher investments in marketing and branding and increased charges for provisions for litigation, regulatory and similar matters. Further, the aforementioned centralization of operations units in 2012 led to increased expenses of CHF 45 million in 2012. Charges for services from other business divisions decreased to CHF 243 million from CHF 318 million, mainly due to the afore- mentioned lower allocations of CHF 175 million from the central- ization of operations units, partially offset by higher allocations from other business transfers. Depreciation was CHF 159 million compared with CHF 165 mil- lion in the prior year. Amortization of intangible assets was CHF 7 million, down from CHF 37 million in 2011, which included the im- pairment of intangible assets related to a past acquisition in the UK. Invested assets Invested assets were CHF 821 billion on 31 December 2012, rep- resenting an increase of CHF 71 billion from 31 December 2011. Positive market performance as well as net new money inflows were partially offset by negative currency effects, mainly resulting from a slight strengthening of the Swiss franc against the US dol- lar and the euro. Gross margin on invested assets In 2012, the gross margin on invested assets decreased 12 basis points to 89 basis points. Adjusted for the aforementioned gain on the sale of the strategic investment portfolio in the previous year, the gross margin declined 7 basis points to 89 basis points and was outside our target range of 95 to 105 basis points. The gross margin calculation excludes any effect on profit or loss from a property fund. Personnel Cost / income ratio The cost / income ratio in 2012 was 65.8%. On an adjusted basis excluding restructuring charges, the effect from the credit related to changes to our pension plans in 2012 and the gain from the sale of the strategic investment portfolio in 2011, the cost / income ratio increased 2.0 percentage points to 70.5% and was outside our target range of 60% to 70%. Net new money growth The net new money growth rate increased from 3.1% to 3.5% and was within our target range of 3% to 5%. The strongest net Wealth Management employed 16,210 personnel on 31 Decem- ber 2012 compared with 15,904 on 31 December 2011. The abovementioned centralization and subsequent reallocation of personnel from operations units led to an increase of personnel. Excluding this effect, non-client-advisor staff and client advisors decreased mainly reflecting measures taken as a part of our cost reduction program announced in July 2011. The number of client advisors decreased to 4,128 from 4,202 in the prior year due to reductions in more established markets, partly offset by further increases in the strategic growth areas of Asia Pacific and emerging markets. 97 Financial and operating performance Financial and operating performance Wealth Management 2011 Results Pre-tax profit was CHF 2,633 million in 2011 compared with CHF 2,233 million in 2010, and included a gain of CHF 433 million from the sale of our strategic investment portfolio and CHF 82 million of restructuring charges. When adjusted for these two items, pre-tax profit was CHF 2,282 million, slightly up from the previous year as adverse currency effects and reduced client activ- ity were more than offset by ongoing cost management. ➔ Refer to the “Certain items affecting our results in 2011” sidebar in our Annual Report 2011 for more information on our cost reduction program and the sale of our strategic investment portfolio Operating income Total operating income was CHF 7,645 million compared with CHF 7,356 million. When adjusted for the gain on the sale of our strategic investment portfolio, total operating income declined 2% to CHF 7,212 million. Net interest income increased 13% to CHF 1,968 million which included higher treasury-related income, partially due to interest income resulting from the strategic investment portfolio (which was acquired in late 2010) and an adjustment to the allocation of treasury-related income between Wealth Management and Retail & Corporate. Further, net interest income benefited from 10% higher average lending volumes. This was offset by margin pres- sure as a result of low market interest rates. Net fee and commission income declined 12% to CHF 4,363 million. This was mainly due to lower asset-based fees, reflecting a CHF 44 billion lower average invested asset base, primarily as a result of the strengthening Swiss franc and negative equity mar- ket performance. Deterioration in client activity, primarily in the second half of the year, impacted fee income further. Trading income increased 36% to CHF 878 million, due to higher income linked to foreign exchange and precious metal cli- ent trading activities as well as changes in the revenue-sharing agreement related to the Investment Products & Services unit and higher treasury-related revenues. Other income was CHF 425 million in 2011 due to the above- mentioned gain on the sale of our strategic investment portfolio. Operating expenses Total operating expenses were CHF 5,012 million, down 2% from the prior year, or down 4% when adjusted for restructuring costs. Personnel expenses were CHF 3,300 million, an increase of 2% compared with CHF 3,228 million in 2010. Excluding restructur- ing costs, personnel expenses were stable, primarily reflecting lower accruals for variable compensation and a 4% increase in average headcount. General and administrative expenses were CHF 1,192 million compared with CHF 1,264 million, which included a charge of CHF 40 million for provisions for litigation, regulatory and similar matters and a CHF 40 million charge to reimburse the Swiss government for costs incurred in connection with the US cross-border matter. Charges for services from other business divisions were down significantly to CHF 318 million from CHF 449 million, mainly due to higher charges to other businesses in relation to the Investment Products & Services unit. Depreciation was CHF 165 million compared with CHF 163 million one year earlier. Amortization of intangible assets was CHF 37 million, up from CHF 19 million, mainly due to the impairment of intangible assets related to a past acquisition in the UK. Cost / income ratio The cost / income ratio in 2011 was 65.7%, down 4.0 percentage points versus the previous year. If adjusted for the gain of the sale of the strategic investment portfolio and restructuring charges, the cost / income ratio was 68.5%. Net new money growth Net new money growth rate for 2011 was 3.1% compared with negative 1.5% in the prior year. Total wealth management net new money improved significantly, with net inflows of CHF 23.5 98 billion compared with net outflows of CHF 12.1 billion in 2010. The strongest net inflows were recorded in Asia Pacific and emerging markets as well as globally from ultra high net worth clients. Europe reported net outflows, mainly related to the off- shore business with countries neighboring Switzerland partly off- set by net inflows from the European onshore business. Swiss wealth management reported increased net inflows in 2011 com- pared with the prior year. Invested assets Invested assets were CHF 750 billion on 31 December 2011, a decrease of CHF 18 billion from 31 December 2010. Negative equity market performance as well as adverse currency effects, mainly resulting from a 3% decline in the value of the euro against the Swiss franc, more than offset net new money inflows and positive bond market performance. Gross margin on invested assets The gross margin on invested assets was 101 basis points. When ad justed for the abovementioned gain on the sale of our strategic investment portfolio, the gross margin was 96 basis points, an im- provement of 4 basis points from the prior year. The gross margin calculation excludes any effect on profit or loss from a property fund. Personnel Wealth Management employed 15,904 personnel on 31 Decem- ber 2011 compared with 15,663 on 31 December 2010, reflect- ing an increase of 30 client advisors and 211 non-client-advisors. The number of client advisors increased to 4,202 from 4,172 in the prior year as client-facing staff increased in the strategic growth areas of Asia Pacific and emerging markets, partly offset by reductions in more established markets. The increase in non- client-advisors reflects the transfer of approximately 400 per- sonnel from the Investment Bank and Retail & Corporate to Wealth Management, as part of forming the Investment Prod- ucts & Services unit in 2011. This was partly offset by a lower allocation of Corporate Center shared services personnel. 99 Financial and operating performance Financial and operating performance Wealth Management Americas Wealth Management Americas Business division reporting – in US dollars 1 USD million, except where indicated Net interest income Net fee and commission income Net trading income Other income Income Credit loss (expense) / recovery Total operating income Personnel expenses Financial advisor compensation 2 Compensation commitments and advances related to recruited financial advisors 3 Salaries and other personnel costs General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Amortization and impairment of intangible assets Total operating expenses 4 Business division performance before tax Key performance indicators 5 Pre-tax profit growth (%) 6 Cost / income ratio (%) Share of recurring revenues (%) Net new money growth (%) 7 Gross margin on invested assets (bps) Additional information Recurring income Average attributed equity (USD billion) 8 Return on attributed equity (RoaE) (%) BIS risk-weighted assets (USD billion) 9 Return on risk-weighted assets, gross (%) 10 Goodwill and intangible assets (USD billion) Net new money (USD billion) 7 Net new money including interest and dividend income (USD billion) 11 Invested assets (USD billion) Client assets (USD billion) Loans, gross (USD billion) Due to customers (USD billion) of which: deposit accounts (USD billion) Personnel (full-time equivalents) Financial advisors (full-time equivalents) 31.12.12 849 4,925 507 266 6,547 (15) 6,532 4,556 2,399 679 1,477 958 (16) 107 55 5,659 873 As of or for the year ended 31.12.11 828 4,559 509 121 6,017 (6) 6,011 4,348 2,249 609 1,490 887 (11) 112 54 5,389 622 40.4 86.4 65.3 2.9 81 4,265 6.6 13.2 24.9 25.4 3.9 22.1 44.8 843 885 34.1 56.6 43.6 16,094 7,059 N/A 89.6 65.2 1.9 80 3,921 9.1 6.8 27.8 22.8 3.9 14.1 34.7 756 795 29.7 41.4 30.4 16,207 6,967 31.12.10 671 4,093 549 55 5,368 (1) 5,367 4,062 1,996 577 1,489 1,189 (5) 189 53 5,489 (122) N/A 102.3 62.9 (0.8) 79 3,377 7.7 (1.6) 25.5 23.4 4.0 (5.4) 13.2 738 790 24.1 38.3 27.9 16,330 6,796 % change from 31.12.11 3 8 0 120 9 150 9 5 7 11 (1) 8 45 (4) 2 5 40 1 9 (27) (10) 0 12 11 15 37 43 (1) 1 Business division reporting excluding PaineWebber acquisition costs 12 Business division performance before tax Cost / income ratio (%) Average attributed equity (USD billion) 8 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to reporting segments. 2 Financial advisor compensation consists of grid-based compensation based directly on compensable revenues generated by financial advisors and supplemental compensation calculated based on financial advisor productivity, firm tenure, assets and other variables. 3 Compensation commitments and advances related to recruited financial advisors represents costs related to compensation commitments and advances granted to financial advisors at the time of recruitment which are subject to vesting requirements. 4 Refer to “Note 37 Changes in organization” in the “Financial information” section of this report for information. 5 For the definitions of our key performance indicators, refer to the “Measurement of performance” section of this report. 6 Not meaningful and not included if either the reporting period or the comparison period is a loss period. 7 Net new money excludes interest and dividend income. 8 Refer to the “Capital management” section of this report for more information about the equity attribution framework. 9 Capital manage- ment data as of 31 December 2012 and 31 December 2011 are disclosed in accordance with the Basel 2.5 framework. Comparative data under the new framework is not available for 31 December 2010. The compara- tive information under the Basel II framework is therefore provided. Refer to the “Capital management” section of this report for more information. 10 Based on Basel 2.5 risk-weighted assets for 2012. Based on Basel II risk-weighted assets for 2011 and 2010. 11 Presented in line with the historical US methodology. 12 Acquisition costs represent goodwill and intangible assets funding costs and intangible asset amortization costs primarily related to UBS’s 2000 acquisition of the PaineWebber retail brokerage business. (17) 100.3 4.5 982 84.9 3.4 718 88.1 5.8 (41) 37 100 Business division reporting – in Swiss francs 1 CHF million, except where indicated Net interest income Net fee and commission income Net trading income Other income Income Credit loss (expense) / recovery Total operating income Personnel expenses Financial advisor compensation 2 Compensation commitments and advances related to recruited financial advisors 3 Salaries and other personnel costs General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Amortization and impairment of intangible assets Total operating expenses 4 Business division performance before tax Key performance indicators 5 Pre-tax profit growth (%) 6 Cost / income ratio (%) Share of recurring revenues (%) Net new money growth (%) 7 Gross margin on invested assets (bps) Additional information Recurring income Average attributed equity (CHF billion) 8 Return on attributed equity (RoaE) (%) BIS risk-weighted assets (CHF billion) 9 Return on risk-weighted assets, gross (%) 10 Goodwill and intangible assets (CHF billion) Net new money (CHF billion) 7 Net new money including interest and dividend income (CHF billion) 11 Invested assets (CHF billion) Client assets (CHF billion) Loans, gross (CHF billion) Due to customers (CHF billion) of which: deposit accounts (CHF billion) Personnel (full-time equivalents) Financial advisors (full-time equivalents) 31.12.12 792 4,597 473 249 6,110 (14) 6,097 4,252 2,239 634 1,379 893 (15) 100 51 5,281 816 As of or for the year ended 31.12.11 729 4,018 450 103 5,300 (6) 5,295 3,830 1,982 536 1,313 783 (9) 99 48 4,750 544 50.0 86.4 65.3 2.9 81 3,980 6.2 13.3 22.8 25.6 3.5 20.6 41.7 772 810 31.2 51.8 39.9 16,094 7,059 N/A 89.6 65.2 1.8 79 3,454 8.0 6.8 26.1 22.3 3.7 12.1 30.4 709 746 27.9 38.9 28.5 16,207 6,967 31.12.10 695 4,244 570 56 5,565 (1) 5,564 4,216 2,068 599 1,548 1,223 (6) 198 55 5,685 (121) N/A 102.2 62.9 (0.9) 80 3,502 8.0 (1.5) 23.8 23.8 3.7 (6.1) 13.0 689 738 22.5 35.8 26.0 16,330 6,796 % change from 31.12.11 9 14 5 142 15 133 15 11 13 18 5 14 67 1 6 11 50 3 15 (23) (13) (5) 9 9 12 33 40 (1) 1 Business division reporting excluding PaineWebber acquisition costs 12 Business division performance before tax Cost / income ratio (%) Average attributed equity (CHF billion) 8 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to reporting segments. 2 Financial advisor compensation consists of grid-based compensation based directly on compensable revenues generated by financial advisors and supplemental compensation calculated based on financial advisor productivity, firm tenure, assets and other variables. 3 Compensation commitments and advances related to recruited financial advisors represents costs related to compensation commitments and advances granted to financial advisors at the time of recruitment which are subject to vesting requirements. 4 Refer to “Note 37 Changes in organization” in the “Financial information” section of this report for information on restructuring charges. 5 For the definitions of our key performance indicators, refer to the “Measurement of performance” section of this report. 6 Not meaningful and not included if either the reporting period or the comparison period is a loss period. 7 Net new money excludes interest and dividend income. 8 Refer to the “Capital management” section of this report for more information about the equity attribution frame- work. 9 Capital management data as of 31 December 2012 and 31 December 2011 are disclosed in accordance with the Basel 2.5 framework. Comparative data under the new framework is not available for 31 De- cember 2010. The comparative information under the Basel II framework is therefore provided. Refer to the “Capital management” section of this report for more information. 10 Based on Basel 2.5 risk-weighted as- sets for 2012. Based on Basel II risk-weighted assets for 2011 and 2010. 11 Presented in line with the historical US methodology. 12 Acquisition costs represent goodwill and intangible assets funding costs and intangible asset amortization costs primarily related to UBS’s 2000 acquisition of the PaineWebber retail brokerage business. (12) 100.2 4.6 918 84.9 3.2 629 88.1 5.1 (37) 46 101 Financial and operating performance Financial and operating performance Wealth Management Americas Business performance 2012 Results Wealth Management Americas reported a record pre-tax profit of USD 873 million in 2012 compared with USD 622 million in 2011. This improved performance resulted from a 9% increase in revenue due to increases in fees and commissions as well as realized gains on financial investments in our available-for-sale portfolio. Operat- ing expenses increased 5% due to higher financial advisor related compensation and higher charges for provisions for litigation, regu- latory and similar matters, partially offset by lower restructuring charges. In addition, 2012 included a pre-tax gain of USD 53 million net of compensation charges related to a change in accounting estimates for certain mutual fund and annuity fee income, com- pared with USD 32 million related to a change in accounting esti- mates for certain mutual fund fees in 2011. Net new money inflows of USD 22.1 billion were the highest full year total since 2007. Operating income Total operating income increased 9% to USD 6,532 million from USD 6,011 million in 2011. Net fee and commission income increased by USD 366 million to USD 4,925 million. Recurring fees increased 10% due to higher fees on managed accounts corresponding to higher invested asset levels. In addition, recurring fees included USD 59 million related to a change to accrual-based accounting estimates from a cash basis for certain mutual fund and annuity fee income, compared with USD 48 million related to the prior year. Transaction-based revenues increased 3%, primarily due to higher income from tax- able fixed income products. Interest income increased by USD 21 million to USD 849 mil- lion primarily due to higher client balances in securities-based lending and mortgages. Average securities-backed lending bal- ances increased 12% and average mortgage balances nearly dou- bled from 2011. In addition, 2012 included lower income from mortgage-backed securities in the available-for-sale portfolio due to yield adjustments arising from updated cash flow estimates compared with an upward adjustment reclassifying USD 22 mil- lion from other comprehensive income in 2011. Trading income decreased USD 2 million to USD 507 million due to lower municipal securities trading mostly offset by higher income derived from taxable fixed income, unit investment trusts and emerging market products. Other income increased by USD 145 million to USD 266 million as realized gains on sales of financial investments held in the avail- able-for-sale portfolio increased to USD 234 million from USD 96 102 million in the prior year. These gains resulted from the rebalancing of the investment portfolio risk profile as guided by the portfolio’s investment policy. This rebalancing, which addresses faster pre- payment speeds on agency mortgage-backed securities arising from a lower yield curve, may reduce the level of interest income on the portfolio going forward. Because this rebalancing is pri- marily driven by the interest rate environment, future gains from portfolio sales are not predictable. Recurring income, the combination of recurring fees and net interest income, increased by USD 344 million to USD 4,265 mil- lion due to higher managed account and annuity fees as well as higher interest income. Recurring income for 2012 comprised 65% of operating income, broadly unchanged from 2011. Non- recurring income increased by USD 186 million to USD 2,282 mil- lion, primarily due to higher realized gains on the sale of financial investments in the available-for-sale portfolio and higher trans- action-based activity. Operating expenses Operating expenses increased by USD 270 million to USD 5,659 million from USD 5,389 million due to higher financial advisor compensation corresponding to higher revenues. In 2012, Wealth Management Americas recognized restructuring provision releas- es of USD 1 million, while 2011 included restructuring charges of USD 10 million. Personnel expenses were USD 4,556 million, up USD 208 mil- lion from USD 4,348 million due to a 7% increase in financial advi- sor compensation corresponding to higher revenue production, and an 11% increase in expenses for compensation commitments and advances related to recruited financial advisors. Salaries and other personnel costs declined 1%. Compensation advance bal- ances were USD 3,830 million as of 31 December 2012, up USD 10 million from 31 December 2011. Non-personnel expenses increased USD 62 million to USD 1,103 million from USD 1,042 million. General and administrative costs increased 8% to USD 958 million from USD 887 million in 2011 due to higher Corporate Center shared services expense and higher charges for provisions for litigation, regulatory and similar matters. This increase was partly offset by lower profes- sional legal fees. Depreciation expenses declined USD 5 million to USD 107 million compared with USD 112 million in 2011. Cost / income ratio The cost / income ratio improved to 86.4% from 89.6% in 2011. On an adjusted basis excluding restructuring provision releases in 2012 and charges in 2011, the cost / income ratio was 86.5% compared with 89.4% in 2011 and remained within the target range of 80% to 90%. Net new money growth Net new money growth rate for 2012 improved to 2.9% from 1.9% in 2011, moving within the target range of 2% to 4%. Net new money inflows improved to USD 22.1 billion compared with USD 14.1 billion in 2011 due to stronger inflows from net recruit- ing of financial advisors as well as financial advisors employed with UBS for more than one year. Including interest and dividend income, Wealth Management Americas had net new money in- flows of USD 44.8 billion in 2012 compared with USD 34.7 billion in 2011. Invested assets Wealth Management Americas had USD 843 billion in invested assets on 31 December 2012, up 12% from USD 756 billion on 31 December 2011, reflecting positive market performance and strong net new money inflows. As of 31 December 2012, man- aged account assets had increased by USD 40 billion to USD 248 billion, and comprised 29% of invested assets compared with 28% on 31 December 2011. Gross margin on invested assets The gross margin on invested assets was 81 basis points in 2012, up one basis point from 80 basis points in 2011 and remained within our target range of 75 to 85 basis points. This reflected a 9% increase in income compared with an 8% increase in average invested assets. The gross margin from recurring income increased by 1 basis point driven by higher managed account fees and high- er annuities fees, while the gross margin from non-recurring in- come remained unchanged from 2011. Personnel As of 31 December 2012, Wealth Management Americas em- ployed 16,094 personnel, including 7,059 financial advisors, down 113 from 31 December 2011. Financial advisor headcount increased by 92 from the prior year, mainly reflecting the hiring of experienced financial advisors and continued low financial advisor attrition. The number of non-financial advisor employees de- creased by 205 to 9,035, reflecting staff reductions related to our cost reduction program. 103 Financial and operating performance Financial and operating performance Wealth Management Americas 2011 Results Wealth Management Americas reported a pre-tax profit of USD 622 million in 2011 compared with a pre-tax loss of USD 122 mil- lion in 2010. This improved performance resulted from a 12% increase in revenue due to increases in fees and commissions, in- terest income and realized gains on investments in our available- for-sale portfolio. Operating expenses declined 2% as a result of significantly lower charges for provisions for litigation, regulatory and similar matters and lower restructuring charges. In 2011, Wealth Management Americas incurred restructuring charges of USD 10 million, while 2010 included restructuring charges of USD 150 million. In addition, 2011 included a pre-tax gain of USD 32 million, net of compensation charges, related to a change to ac- crual-based accounting estimates from a cash basis for certain mutual fund income. Operating income Total operating income increased by USD 644 million to USD 6,011 million from USD 5,367 million in 2010. Net fee and commission income increased 11% or USD 466 million to USD 4,559 million. Recurring fees increased 14% due to higher fees on managed accounts and mutual funds corre- sponding to higher invested asset levels. In addition, recurring fees included USD 48 million related to the abovementioned change to accrual-based accounting estimates from a cash basis for certain mutual fund income. Transaction-based revenues in- creased 6% primarily due to higher income from alternative in- vestments and equities products. Interest income increased by USD 157 million to USD 828 million due to higher client balances in securities-based lending and mortgages, as well as from higher yields on lending prod- ucts. In addition, 2011 included an upward adjustment reclas- sifying USD 22 million from other comprehensive income relat- ing to mortgage-backed securities in our available-for-sale portfolio to properly reflect estimated future cash flows under the effective interest method. This adjustment was not material to prior periods. Trading income declined 7% or USD 40 million due to lower taxable fixed income and municipal trading income, partly offset by higher trading income from structured notes. Other income increased by USD 66 million to USD 121 mil- lion due to a USD 91 million increase in realized gains on sales of financial investments held in the available-for-sale portfolio, as realized gains were USD 96 million in 2011 compared with USD 4 million in the prior year. These gains resulted from rebal- ancing of the investment portfolio risk profile as guided by the portfolio’s investment policy. In addition, other income in 2010 included a USD 6 million demutualization gain from Wealth Management Americas’ stake in the Chicago Board of Options Exchange. 104 Operating expenses Operating expenses decreased by USD 100 million to USD 5,389 million from USD 5,489 million, due to lower non-personnel ex- penses. In 2011, operating expenses included USD 10 million in restructuring charges compared with USD 150 million in restruc- turing charges in 2010. Personnel expenses were USD 4,348 million, up USD 286 mil- lion from USD 4,062 million due to a 13% increase in financial advisor compensation corresponding to higher revenue produc- tion, and a 6% increase in expenses for compensation commit- ments and advances related to recruited financial advisors. In ad- dition, personnel expenses included USD 5 million in restructuring charges compared with USD 32 million in 2010. Salaries and other personnel costs were broadly flat. Compensation advance balances were USD 3,820 million as of 31 December 2011, up 15% from 31 December 2010. This increase included scheduled payments in early 2011 related to the second tranche of the GrowthPlus program. Non-personnel expenses decreased by USD 384 million to USD 1,042 million from USD 1,426 million. Non-personnel-related re- structuring charges were USD 5 million compared with USD 118 million in 2010. General and administrative costs declined 25% due to lower charges for provisions for litigation, regulatory and similar matters, which decreased to USD 78 million from USD 322 million, as well as lower restructuring charges related to real es- tate writedowns. This decline was partly offset by higher profes- sional legal and consulting fees. Depreciation expenses declined 41% to USD 112 million from USD 189 million in 2010 due to lower restructuring charges related to the impairment of real es- tate assets and lower allocations from shared services areas in the Corporate Center. Cost / income ratio The cost / income ratio improved to 89.6% from 102.3% in 2010, primarily due to lower restructuring charges and charges for pro- visions for litigation, regulatory and similar matters. Net new money growth Net new money growth rate for 2011 improved to positive 1.9% from negative 0.8% in 2010. Net new money inflows were USD 14.1 billion compared with outflows of USD 5.4 billion in 2010. This turnaround was due to improved inflows from net recruiting of financial advisors, which was primarily due to lower outflows from financial advisors attrition. Net new money from financial advisors employed with UBS for more than one year remained positive, but declined from 2010. Including interest and dividend income, Wealth Management Americas had net new money inflows of USD 34.7 billion in 2011 compared with USD 13.2 billion in 2010. Invested assets Wealth Management Americas had USD 756 billion in invested assets on 31 December 2011, up 2% from USD 738 billion on 31 December 2010 due to net new money inflows and slightly posi- tive total market performance. As of 31 December 2011, man- aged account assets were USD 208 billion, a 7% increase from one year earlier at USD 195 billion and comprised 28% of in- vested assets compared with 26% on 31 December 2010. Gross margin on invested assets The gross margin on invested assets increased by 1 basis point to 80 basis points in 2011, reflecting a 12% increase in income com- pared with a 10% increase in average invested assets. The gross margin from recurring income increased by 2 basis points due to higher managed account fees and mutual fund fees, while the gross margin from non-recurring income decreased 1 basis point from 2010. Personnel As of 31 December 2011, Wealth Management Americas em- ployed 16,207 personnel, including 6,967 financial advisors, down 123 from 31 December 2010. Financial advisor headcount increased by 171 from the prior year, mainly reflecting the hiring of experienced financial advisors. The number of non-financial advisor employees decreased by 294 to 9,240, primarily due to reduction in the shared services personnel. 105 Financial and operating performance Financial and operating performance Investment Bank Investment Bank Business division reporting 1 CHF million, except where indicated 31.12.12 31.12.11 Excluding unauthorized trading incident 31.12.11 2 31.12.10 31.12.11 As of or for the year ended % change from Investment banking Advisory revenues Capital market revenues Equities Fixed income, currencies and commodities Other fee income and risk management Securities (excluding unauthorized trading incident) Equities Fixed income, currencies and commodities Total income (excluding unauthorized trading incident) Credit loss (expense) / recovery Total operating income (excluding unauthorized trading incident) Unauthorized trading incident Total operating income as reported Personnel expenses General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Impairment of goodwill Amortization and impairment of intangible assets Total operating expenses 3 Business division performance before tax Key performance indicators 4 Pre-tax profit growth (%) 5 Cost / income ratio (%) Return on attributed equity (RoaE) (%) Return on assets, gross (%) Average VaR (1-day, 95% confidence, 5 years of historical data) 1,593 638 1,727 777 951 (773) 6,971 2,614 4,357 8,564 34 8,598 8,598 5,141 2,730 132 257 3,030 41 11,331 (2,734) N/A 132.3 (11.5) 1.1 30 1,371 964 1,329 574 755 (921) 8,459 3,698 4,761 9,830 (13) 9,817 (1,849) 7,968 5,716 2,490 108 251 0 34 8,599 (631) N/A 107.7 (2.4) 1.0 75 2,414 846 1,994 1,020 974 (426) 9,534 4,469 5,064 11,947 155 12,102 12,102 6,605 2,486 (27) 273 0 34 9,371 2,731 44.2 78.4 13.7 1.4 56 9,817 8,599 1,218 87.5 4.6 1.2 N/A 16 (34) 30 35 26 (16) (18) (29) (8) (13) (12) 8 (10) 10 22 2 21 32 333 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to reporting segments. 2 Excludes the impact from the unauthorized trading incident of CHF 1,849 million in the income statement on an absolute basis and its impact on risk-weighted assets. 3 Refer to “Note 37 Changes in organization” in the “Financial information” section of this report for information on restructuring charges. 4 For the definitions of our key performance indicators, refer to the “Measurement of performance” section of this report. 5 Not meaningful and not included if either the reporting period or the comparison period is a loss period. 106 Business division reporting (continued) 1 As of or for the year ended % change from CHF million, except where indicated 31.12.12 31.12.11 Additional information Total assets (CHF billion) 3 Average attributed equity (CHF billion) 4 BIS risk-weighted assets (CHF billion) 5 Return on risk-weighted assets, gross (%) 6 Goodwill and intangible assets (CHF billion) Compensation ratio (%) Impaired loan portfolio as a % of total loan portfolio, gross (%) 7 Personnel (full-time equivalents) 672.3 23.7 88.6 7.9 0.1 60.0 3.3 896.2 26.4 128.1 8.0 3.2 71.6 4.2 15,866 17,007 Excluding unauthorized trading incident 31.12.11 2 118.0 10.3 31.12.10 31.12.11 797.5 19.9 89.9 13.3 3.2 55.3 7.0 16,488 (25) (10) (31) (97) (7) 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to reporting segments. 2 Excludes the impact from the unauthorized trading incident of CHF 1,849 million in the income statement on an absolute basis and its impact on risk-weighted assets. 3 Based on third-party view, i.e. with- out intercompany balances. Refer to “Note 2a Segment Reporting” in the “Financial Information” section of this report for more information. 4 Refer to the “Capital management” section of this report for more infor- mation about the equity attribution framework. 5 Capital management data as of 31 December 2012 and 31 December 2011 are disclosed in accordance with the Basel 2.5 framework. Comparative data under the new framework is not available for 31 December 2010. The comparative information under the Basel II framework is therefore provided. Refer to the “Capital management” section of this report for more information. 6 Based on Basel 2.5 risk-weighted assets for 2012. Based on Basel II risk-weighted assets for 2011 and 2010. 7 Refer to the “Risk management and control” section of this report for more information on impairment ratios. 107 Financial and operating performance Financial and operating performance Investment Bank Business performance 2012 Results The Investment Bank recorded a pre-tax loss of CHF 2,734 million in 2012 compared with a pre-tax loss of CHF 631 million in 2011, mainly reflecting impairment losses of CHF 3,064 million on good- will and other non-financial assets in 2012. 2011 was adversely affected by the loss relating to the unauthorized trading incident of CHF 1,849 million. Excluding impairment losses, restructuring charges of CHF 331 million in 2012 and of CHF 216 million in 2011, a credit of CHF 98 million related to changes to a retiree benefit plan in the US and a credit of CHF 56 million related to changes to our Swiss pension plan, both in 2012, we recorded an adjusted pre-tax profit of CHF 507 million compared with an ad- justed pre-tax loss of CHF 415 million. Pro-forma Basel III risk- weighted assets were reduced by CHF 81 billion to CHF 131 billion. Operating income Total operating income was CHF 8,598 million compared with CHF 7,968 million in the prior year, an increase of 8%. In US dollar terms, revenues increased 3%. Excluding the loss of CHF 1,849 million relating to the unauthorized trading incident, to- tal operating income decreased 12% to CHF 8,598 million from CHF 9,817 million. This decline was mainly due to lower reve- nues in our equities business which was affected by lower client activity and reduced volatility levels, as well as the loss of CHF 349 million in 2012 related to the Facebook initial public offer- ing. Revenues in the fixed income, currencies and commodities (FICC) business declined due to negative debit valuation adjust- ments on our derivatives portfolio, partly offset by an increase in credit revenues. Investment banking revenues improved due to higher capital market revenues and lower risk management pre- miums. In 2012 we recorded net credit loss recoveries of CHF 34 million, due to recoveries on corporate loans and other claims, compared with net credit loss expenses, mainly on corporate loans, of CHF 13 million in 2011. ➔ Refer to the “Risk management and control” section of this report for more information on credit risk Operating expenses Total operating expenses increased to CHF 11,331 million com- pared with CHF 8,599 million, an increase of 32%, largely due to impairment losses of CHF 3,064 million on goodwill and other non-financial assets in 2012. In US dollar terms, operating ex- penses increased 24%. Excluding impairment losses, restructuring charges, a credit related to changes to a retiree benefit plan in the US and a credit related to changes to our Swiss pension plan, 108 operating expenses declined 3% to CHF 8,090 million from CHF 8,383 million. On an adjusted basis, in US dollar terms, operating expenses decreased 9%. Personnel expenses decreased to CHF 5,141 million from CHF 5,716 million. On an adjusted basis, excluding restructuring charges of CHF 312 million compared to CHF 143 million in the prior year, a credit related to changes to a retiree benefit plan in the US and a credit related to changes to our Swiss pension plan, personnel expenses declined to CHF 4,983 million from CHF 5,573 million, mainly due to reduced variable compensation ac- cruals and savings associated with our cost reduction programs. General and administrative expenses increased to CHF 2,730 million from CHF 2,490 million due to higher charges for provi- sions for litigation, regulatory and similar matters and profession- al fees, partly offset by savings associated with our cost reduction programs and lower restructuring charges. In 2012, we reported a charge of CHF 120 million for the annual UK bank levy com- pared with a charge of CHF 106 million in 2011. Depreciation increased 2% from CHF 251 million to CHF 257 million. An impairment of goodwill of CHF 3,030 million was recog- nized in 2012. ➔ Refer to “Note 17 Goodwill and intangible assets” in the “Financial information” section of this report for more information Cost / income ratio The cost / income ratio deteriorated to 132.3% from 107.7%. On an adjusted basis, excluding the abovementioned impairment losses, restructuring charges, a credit related to changes to a re- tiree benefit plan in the US and a credit related to changes to our Swiss pension plan, the cost / income ratio improved to 94.5% from 105.0%, against the target range of 70% to 80%. BIS risk-weighted assets Risk-weighted assets (RWA) measured on a Basel 2.5 basis de- creased by CHF 39 billion to CHF 89 billion at the end of 2012. Credit risk RWA decreased by CHF 26 billion mainly as a result of reduced exposures on over-the-counter derivatives and additional hedging. Market risk RWA were reduced by CHF 12 billion as a result of de-risking activities. Our pro-forma Basel III RWA mea- sured on a fully applied basis decreased by CHF 81 billion to CHF 131 billion mainly as credit risk RWA reduced by CHF 54 billion and market risk RWA declined by CHF 13 billion, as well as due to a transfer from the Investment Bank to the Legacy Portfolio of CHF 11 billion of risk-weighted assets for the Basel III CVA charge attributable to the Legacy Portfolio. ➔ Refer to the “Capital management” section of this report for more information Operating income by business area Investment banking Investment banking revenues improved 16% to CHF 1,593 mil- lion from CHF 1,371 million due to an increase in global capital markets activity and lower risk management premiums. In US dol- lar terms, revenues improved 11%. Advisory revenues decreased 34% to CHF 638 million from CHF 964 million as our market share declined against a 7% reduc- tion in the fee pool in US dollar terms. Capital market revenues were CHF 1,727 million compared with CHF 1,329 million, an increase of 30%. Equities capital mar- ket revenues increased 35% to CHF 777 million compared with CHF 574 million in 2011 as our market share improved against a 15% decline in the fee pool in US dollar terms. In addition, we increased our participation in private and structured transactions. Fixed income capital market revenues increased to CHF 951 mil- lion from CHF 755 million, an increase of 26%, as our market share improved in both debt and leveraged capital markets, while the global fee pool increased 6% in US dollar terms. Other fee income and risk management revenues were nega- tive CHF 773 million compared with negative CHF 921 million, primarily due to a decrease in risk management premiums. Securities Securities revenues decreased 18% to CHF 6,971 million from CHF 8,459 million. In US dollar terms, revenues decreased 21%. Equities Equities revenues declined 29% to CHF 2,614 million compared with CHF 3,698 million. This decline was primarily due to lower revenues in cash and derivatives. The year 2012 was characterized by lower client activity and reduced volatility levels, with increases in major equity indices. In US dollar terms, equities revenues de- creased 33%. Fixed income, currencies and commodities FICC revenues decreased 8% to CHF 4,357 million from CHF 4,761 million largely due to higher negative debit valuation ad- justments on our derivatives portfolio. In addition, revenues de- clined in the businesses that we were preparing to transfer to the Corporate Center and ultimately exit following the announce- ment of the accelerated implementation of our strategy in Octo- ber 2012. In US dollar terms, revenues declined 12%. Combined revenues from credit, macro and emerging markets rose 5% to CHF 5,132 million from CHF 4,888 million. Credit revenues increased to CHF 2,054 million from CHF 1,613 million as revenues in 2011 were negatively affected by mark-to-market trading losses mainly in the second half of the year as trading conditions were challenging due to uncertainty surrounding the eurozone and the global economic outlook. Rev- enues in loan trading, flow trading, real estate finance and struc- tured credit improved in 2012. In macro, revenues decreased to CHF 2,673 million from CHF 2,886 million. Foreign exchange revenues declined as volatility de- creased from the high levels seen in 2011 resulting from the euro- zone uncertainty. Rates revenues were broadly unchanged, with improved performances in non-linear and long-end interest rates, partially offset by lower short-end interest rates revenues. Emerging markets revenues rose to CHF 405 million from CHF 389 million. Revenues improved across all regions, mainly as a result of higher credit revenues. The second half of 2011 was significantly impacted by the eurozone crisis, which resulted in reduced client activity, primarily in credit. Other FICC revenues including funding and hedging costs were negative CHF 776 million compared with negative CHF 129 million. Revenues in 2012 included negative debit valuation adjustments on our derivatives portfolio of CHF 383 million as credit default swap spreads tightened compared with positive debit valuation adjust- ments of CHF 244 million in 2011 as spreads widened. Cash revenues were CHF 820 million compared with CHF 1,480 million due to lower commission revenues resulting from lower market activity as well as a CHF 349 million loss related to the Facebook initial public offering. Personnel The Investment Bank employed 15,866 personnel on 31 Decem- ber 2012, a decrease of 1,141 from 17,007 on 31 December 2011. Derivatives and equity-linked revenues were CHF 780 million compared with CHF 1,035 million. During the year client activity was lower across all regions, and trading revenues particularly in Europe and Asia Pacific were affected by lower volatility levels. On 1 July 2012 operations units from the business divisions were centralized in the Corporate Center. This centralization and subse- quent reallocation of operations units led to an increase in person- nel of 250. In the prime services business, revenues increased to CHF 1,050 million from CHF 1,009 million, as an improvement in fund- ing revenues more than offset a reduction in revenues in the clear- ing business due to lower client activity. Other equities revenues were negative CHF 36 million compared with CHF 175 million, primarily reflecting a reduced contribution from proprietary trading as we continued to exit the business. Excluding the abovementioned effect from the centralization of operations units, personnel decreased by 1,391 due to the acceler- ated implementation of our strategy announced in October 2012 and as we continued to adapt our cost base to the challenging business environment. This decline was partially offset by the an- nual graduate intake. ➔ Refer to the “Significant accounting and financial reporting structure changes” section of this report for more information on changes related to the centralization of operations units 109 Financial and operating performance Financial and operating performance Investment Bank 2011 Results A pre-tax loss of CHF 631 million was recorded in 2011 compared with a pre-tax profit of CHF 2,731 million in 2010. Excluding re- structuring charges of CHF 216 million in 2011 and restructuring provision releases of CHF 25 million in 2010, we recorded an ad- justed pre-tax loss of CHF 415 million in 2011 compared with an adjusted pre-tax profit of CHF 2,706 million in 2010. This was due to the loss relating to the unauthorized trading incident of CHF 1,849 million reported in 2011, lower revenues across all business areas and the strengthening of the Swiss franc. Operating income Total operating income was CHF 7,968 million compared with CHF 12,102 million in the prior year, a decrease of 34%, or 22% in US dollar terms. During the year, we incurred a loss from the unauthorized trading incident of CHF 1,849 million in the equi- ties business area. After a strong start to the year, increasing in- stability in the eurozone and the US government debt rating downgrade contributed to lack of liquidity, impacting the credit business, while the macro businesses benefited from increased volatility. In addition, subdued volumes and lower client activity affected the equities business. Net credit loss expenses in 2011 were CHF 13 million, mainly related to corporate loans. In 2010, net credit loss recoveries were CHF 155 million, mainly related to certain legacy leveraged finance and asset backed loan positions. Operating expenses Total operating expenses decreased 8% to CHF 8,599 million from CHF 9,371 million, mostly due to the strengthening of the Swiss franc. In US dollar terms, operating expenses increased 8%. Excluding restructuring costs of CHF 216 million in 2011 and a release of CHF 25 million in 2010 associated with our cost reduc- tion program, operating expenses decreased 11%. Personnel expenses decreased 13% to CHF 5,716 million from CHF 6,605 million due to lower variable compensation accruals and the favorable effect of the strengthening Swiss franc. Further, 2010 included a UK bank payroll tax charge of CHF 190 million. General and administrative expenses increased to CHF 2,490 million from CHF 2,486 million mainly due to a charge for 2011 for the UK bank levy of CHF 106 million and higher professional fees, partially offset by the strengthening Swiss franc and UK val- ue added tax releases. Net charges from other business divisions were CHF 108 mil- lion compared with negative CHF 27 million due to the transfer of approximately 280 personnel to Wealth Management as part of forming the Investment Products & Services unit in early 2011. Depreciation decreased 8% to CHF 251 million from CHF 273 million, largely due to lower charges for IT hardware. Amortization of intangible assets was in line with 2010 at CHF 34 million. 110 Operating income by business area In 2011, we implemented two structural changes in our business division: allocating risk management premiums from equities and FICC to investment banking; and transferring the commodities business, formerly booked in equities, to FICC. The changes were not material and therefore did not necessitate restatement at a divisional level. However, we have made reference to these chang- es where relevant to aid explanation of the business area results. Investment banking Investment banking revenues decreased 43% to CHF 1,371 mil- lion in 2011 from CHF 2,414 million in the previous year. This was mainly due to a reduction in global capital markets activity and the revised allocation of the risk management premiums, which were higher compared with 2010, as well as the effects of the strengthening of the Swiss franc. In US dollar terms, revenues de- clined 34%. Advisory revenues increased 14% to CHF 964 million from CHF 846 million, as a result of a more robust market in the first half of 2011. Our market share increased slightly compared with 2010. Capital market revenues were CHF 1,329 million compared with CHF 1,994 million due in part to the deepening of the sov- ereign debt crisis in Europe as well as slower US economic growth which depressed activity levels. Equities capital market revenues were CHF 574 million, down 44% from CHF 1,020 million as revenues and market share decreased across all regions against a 25% reduction in the fee pool in US dollar terms. Fixed income capital market revenues decreased 22% to CHF 755 million from CHF 974 million as our market share declined while the market fee pool increased 12% in US dollar terms. Other fee income and risk management revenues were nega- tive CHF 921 million compared with negative CHF 426 million, primarily due to an increase in risk management premiums and the effect of their revised allocation to investment banking. Securities Securities revenues were CHF 8,459 million compared with CHF 9,534 million in 2010. In US dollar terms, revenues increased 5%. Equities Revenues in equities were CHF 3,698 million, down 17% from CHF 4,469 million in 2010, primarily due to the strengthening of the Swiss franc. In US dollar terms, revenues declined 2%. Cash revenues decreased 17% to CHF 1,480 million compared with CHF 1,776 million. In US dollar terms, revenues declined 2%. The decrease was primarily due to a reduction in volumes and cli- ent activity. However, our cash equities exchange market share was slightly up on 2010. Derivatives and equity-linked revenues were CHF 1,035 million compared with CHF 1,580 million. Within derivatives, revenues in Europe, the Middle East and Africa declined and more than offset higher revenues in Asia Pacific and the Americas. In addition, trad- ing revenues were impacted by ongoing market volatility. In equi- ty-linked, revenues declined due to lower valuations and volumes as well as reduced primary market activity, which impacted the secondary markets. In the prime services business, revenues declined 3% to CHF 1,009 million, reflecting the Swiss franc appreciation as the ma- jority of our balances are US dollar denominated. In US dollar terms, revenues were up 15% as a result of improved securities lending revenues. Other equities revenues were CHF 175 million compared with CHF 77 million, mainly due to the abovementioned revised alloca- tion of risk management premiums. Proprietary trading reported positive revenues, though these were lower than in 2010. Fixed income, currencies and commodities FICC revenues decreased 6% to CHF 4,761 million in 2011 from CHF 5,064 million in 2010, primarily due to the strengthening of the Swiss franc. In US dollar terms, revenues increased 11%. In credit, revenues decreased to CHF 1,613 million from CHF 2,262 million in 2010, primarily due to mark-to-market losses in the flow business. Concerns surrounding the eurozone and the global economic outlook significantly impacted market volatility, liquidity and client activity, resulting in challenging conditions for flow trading, partly offset by an improved performance by credit solutions. In macro, revenues rose to CHF 2,886 million from CHF 2,369 million in 2010. Revenues increased across all interest rates busi- ness lines. Foreign exchange benefited from market volatility in the second half of 2011 and from the contributions of our new e-trading platform. Non-linear interest rates reported a turn- around from negative to positive revenues in 2011. Emerging markets revenues decreased to CHF 389 million from CHF 558 million, as increased foreign exchange revenues were more than offset by lower revenues in credit and rates. Latin America saw an improvement in revenues whereas both Asia and Europe reported a decrease. Other FICC revenues including funding and hedging costs were negative CHF 129 million in 2011 compared with negative CHF 126 million in 2010. In 2011, we recorded positive debit valuation adjustments of CHF 244 million on our derivatives port- folio compared with positive debit valuation adjustments of CHF 155 million in 2010, as UBS’s credit default swap spreads wid- ened in both periods. This improvement was more than offset by higher funding charges in 2011. Personnel The Investment Bank employed 17,007 personnel on 31 Decem- ber 2011, an increase of 519 from 16,488 on 31 December 2010. This increase was mainly due to the revised allocation methodology for the Corporate Center personnel implemented in 2011 and new hires, partly offset by attrition and the transfer of approximately 280 personnel to Wealth Management as part of forming the Investment Products & Services unit in 2011. 111 Financial and operating performance Financial and operating performance Global Asset Management Global Asset Management Business division reporting 1 CHF million, except where indicated Net management fees 2 Performance fees Total operating income Personnel expenses General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Amortization and impairment of intangible assets Total operating expenses 3 Business division performance before tax Key performance indicators 4 Pre-tax profit growth (%) Cost / income ratio (%) Net new money growth (%) 5 Information by business line Operating income Traditional investments Alternative and quantitative investments Global real estate Infrastructure and private equity Fund services Total operating income Gross margin on invested assets (bps) Traditional investments Alternative and quantitative investments Global real estate Infrastructure and private equity Total gross margin Net new money (CHF billion) 5 Traditional investments Alternative and quantitative investments Global real estate Infrastructure and private equity Total net new money Net new money excluding money market flows of which: from third parties of which: from UBS’s wealth management businesses Money market flows of which: from third parties of which: from UBS’s wealth management businesses As of or for the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 1 64 4 (7) 5 900 (3) 0 (4) 33 2 6 11 46 2 4 0 20 3 (47) 0 1,722 162 1,884 885 395 (10) 37 8 1,314 570 32.6 69.7 (2.3) 1,120 268 293 35 169 1,884 23 91 74 44 33 (11.6) (2.7) 1.3 (0.2) (13.3) (5.9) (0.6) (5.2) (7.4) 0.9 (8.3) 1,704 99 1,803 954 375 (1) 38 8 1,373 430 (16.5) 76.2 0.8 1,097 253 263 24 165 1,803 23 76 72 83 33 0.0 (0.8) 1.6 3.5 4.3 9.0 12.2 (3.1) (4.7) 0.2 (5.0) 1,918 141 2,058 1,097 400 (5) 43 8 1,543 515 15.5 75.0 0.3 1,259 325 258 14 202 2,058 25 88 69 140 36 4.2 (3.2) 0.6 0.1 1.8 8.2 16.2 (8.1) (6.4) 2.0 (8.3) 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to reporting segments. 2 Net management fees include transaction fees, fund administration revenues (including interest and trading income from lending business and foreign exchange hedging as part of the fund services offer- ing), gains or losses from seed money and co-investments, funding costs and other items that are not performance fees. 3 Refer to “Note 37 Changes in organization” in the “Financial information” section of this report for information on restructuring charges. 4 For the definitions of our key performance indicators, refer to the “Measurement of performance” section of this report. 5 Net new money excludes interest and dividend income. 112 Business division reporting (continued) 1 CHF million, except where indicated Invested assets (CHF billion) Traditional investments of which: money market funds Alternative and quantitative investments Global real estate Infrastructure and private equity Total invested assets Assets under administration by fund services Assets under administration (CHF billion) 2 Net new assets under administration (CHF billion) 3 Gross margin on assets under administration (bps) Additional information Average attributed equity (CHF billion) 4 Return on attributed equity (RoaE) (%) BIS risk-weighted assets (CHF billion) 5 Return on risk-weighted assets, gross (%) 6 Goodwill and intangible assets (CHF billion) Personnel (full-time equivalents) As of or for the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 504 83 28 40 8 581 410 7.7 4 2.2 25.9 3.5 54.4 1.5 3,781 497 92 31 38 8 574 375 (5.5) 4 2.5 17.2 3.6 50.6 1.5 3,750 487 96 34 36 1 559 390 (0.8) 5 2.5 20.6 3.5 56.8 1.5 3,481 1 (10) (10) 5 0 1 9 0 (12) (3) 0 1 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to reporting segments. 2 This includes UBS and third-party fund assets, for which the fund services unit provides professional services, including fund set-up, accounting and reporting for traditional investment funds and alter native funds. 3 Inflows of assets under administration from new and existing funds less outflows from existing funds or fund exits. 4 Refer to the “Capital management” section of this report for more information about the equity attribution framework. 5 Capital management data as of 31 December 2012 and 31 December 2011 are disclosed in accordance with the Basel 2.5 framework. Comparative data under the new framework is not available for 31 December 2010. The comparative information under the Basel II framework is therefore provided. Refer to the “Capital management” section of this report for more information. 6 Based on Basel 2.5 risk-weighted assets for 2012. Based on Basel II risk-weighted assets for 2011 and 2010. 113 Financial and operating performance Financial and operating performance Global Asset Management Business performance 2012 Results Pre-tax profit for 2012 was CHF 570 million compared with CHF 430 million in 2011. Performance fees were significantly higher, mainly in alternative and quantitative investments. Net manage- ment fees were also higher. Operating expenses were lower due to lower personnel costs, which resulted from lower variable com- pensation and from credits related to changes to pension and benefit plans. Operating income Total operating income was CHF 1,884 million in 2012 compared with CHF 1,803 million in 2011. Performance fees were significant- ly higher at CHF 162 million compared with CHF 99 million, mainly driven by stronger investment performance in alternative and quantitative investments as well as in traditional investments. Net management fees were also higher, notably in global real estate. Operating expenses Total operating expenses were CHF 1,314 million in 2012 com- pared with CHF 1,373 million in 2011. Lower personnel costs were partially offset by higher general and administrative expens- es. Restructuring costs were CHF 20 million in 2012, mainly as- sociated with our cost reduction program but also including CHF 3 million related to the acquisition of the ING Investment Man- agement business in Australia, which was completed in late 2011 and fully integrated in early 2012. The prior year’s restructuring costs were CHF 26 million, of which CHF 7 million related to the same acquisition. After adjusting for restructuring costs in 2012 and 2011, as well as credits of CHF 30 million and CHF 16 million in 2012 re- lated to changes to our Swiss pension plan and a retiree benefit plan in the US respectively, operating expenses were marginally lower at CHF 1,340 million in 2012 compared with CHF 1,347 million in 2011. Personnel expenses were CHF 885 million in 2012 compared with CHF 954 million in 2011. The decrease was mainly due to lower variable compensation, partly offset by higher base salaries, and the abovementioned pension and benefit-related credits. General and administrative expenses were CHF 395 million in 2012 compared with CHF 375 million in 2011. CHF 5 million of the increase related to a charge for provisions for litigation, regulatory and similar matters, and although 2012 included a reversal of previously recognized expenses related to a past business closure of CHF 5 million, there was also a similar rever- sal of CHF 9 million in 2011. 114 Net charges to other business divisions increased to CHF 10 million in 2012 from CHF 1 million in 2011. The increase was mainly due to the centralization of operations units from the busi- ness divisions in the Corporate Center during the year, which also had the effect of increasing personnel costs by CHF 4 million and general and administrative expenses by CHF 2 million. ➔ Refer to the “Significant accounting and financial reporting structure changes” section of this report for more information on changes related to the centralization of operations units Cost / income ratio The cost / income ratio was 69.7% in 2012 compared with 76.2% in 2011. On an adjusted basis, the cost / income ratio was 71.1% compared with 74.7%. Our target cost / income ratio range is 60% to 70%. Net new money growth The net new money growth rate was negative 2.3% in 2012 com- pared with positive 0.8% in 2011. Our target net new money growth rate range is 3% to 5%. Excluding money market flows, net new money outflows from third parties were CHF 0.6 billion in 2012 compared with net in- flows of CHF 12.2 billion in 2011. Net inflows, notably from sov- ereign clients, were more than offset by net outflows, particularly from clients in the Americas and Asia Pacific. Excluding money market flows, net new money outflows from clients of UBS’s wealth management businesses were CHF 5.2 bil- lion compared with CHF 3.1 billion in 2011. The net outflows in 2012 were mainly from clients booked in Switzerland and from alternative and quantitative investments. Money market net inflows from third parties were CHF 0.9 bil- lion compared with CHF 0.2 billion in 2011 and were mainly from sovereign clients. Money market net outflows from clients of UBS’s wealth man- agement businesses were CHF 8.3 billion compared with CHF 5.0 billion in 2011. The net outflows in 2012 were mainly from clients in the Americas and Switzerland. An initiative by Wealth Manage- ment Americas to deposit client cash in UBS Bank USA reduced in- flows into money market funds managed by Global Asset Manage- ment and accounted for net outflows of CHF 6.2 billion in 2012. Invested assets Invested assets increased to CHF 581 billion on 31 December 2012 from CHF 574 billion on 31 December 2011, mainly due to posi- tive market movements, partly offset by net new money outflows and negative currency effects. The sale, as agreed prior to the ac- quisition, of parts of the ING Investment Management business acquired in Australia in 2011 resulted in a net divestment of CHF 14 billion of invested assets in 2012. Gross margin on invested assets The gross margin of 33 basis points in 2012 was in line with 2011 and within our target range of 32 to 38 basis points. Invested assets were CHF 40 billion on 31 December 2012 compared with CHF 38 billion on 31 December 2011, the increase was mainly due to positive market movements. Results by business line Traditional investments Revenues increased to CHF 1,120 million in 2012 from CHF 1,097 million in 2011, mainly due to higher performance fees as a result of stronger investment performance. The gross margin of 23 basis points was in line with 2011. Net new money outflows were CHF 11.6 billion compared with zero in the prior year. Excluding money market flows, net new money outflows were CHF 4.3 billion compared with net in- flows of CHF 4.7 billion. Equities net outflows were CHF 1.3 bil- lion compared with net inflows of CHF 4.7 billion. Fixed income net inflows were CHF 2.4 billion compared with CHF 5.7 billion. Multi-asset net outflows (which included flows related to alter- native investments not managed by the alternative and quantita- tive investments, global real estate or infrastructure and private equity investment areas) were CHF 5.4 billion compared with CHF 5.7 billion. Invested assets were CHF 504 billion on 31 December 2012 compared with CHF 497 billion on 31 December 2011. By man- date type, CHF 163 billion of invested assets related to equities, CHF 154 billion to fixed income, CHF 83 billion to money markets and CHF 103 billion to multi-asset mandates (including CHF 7 bil- lion of alternative investments not managed by the alternative and quantitative investments, global real estate or infrastructure and private equity investment areas). Alternative and quantitative investments Revenues were CHF 268 million compared with CHF 253 million. Higher performance fees as a result of strong investment perfor- mance, notably in O’Connor single manager funds, were partially offset by the full year impact of the transfer of the infrastructure and private equity fund of funds businesses to infrastructure and private equity in mid-2011. The gross margin increased from 76 basis points to 91 basis Infrastructure and private equity Revenues were CHF 35 million compared with CHF 24 million with the increase reflecting the full year impact of the transfer of the infrastructure and private equity fund of funds businesses from alternative and quantitative investments in mid-2011. Net new money outflows were CHF 0.2 billion compared with CHF 3.5 billion inflows in 2011. Invested assets were CHF 8 billion on 31 December 2012, in line with the previous year. Fund services Revenues were CHF 169 million compared with CHF 165 million, mainly due to higher administrative fees resulting from higher av- erage assets under administration. The gross margin on assets under administration was 4 basis points, in line with the previous year. Net new assets under administration inflows were CHF 7.7 bil- lion compared with CHF 5.5 billion outflows in 2011. Total assets under administration increased to CHF 410 billion from CHF 375 billion mainly due to positive market performance and net new assets under administration inflows. Personnel Global Asset Management employed 3,781 personnel on 31 De- cember 2012 compared with 3,750 on 31 December 2011, a net increase of 31 personnel. Increases in personnel resulted from an increased allocation from the Corporate Center follow- ing the centralization of operations units (approximately 50 per- sonnel) and the transfer of the Jersey fund services business from Wealth Management to Global Asset Management. These increases were partially offset by restructuring actions, mainly in the business acquired from ING Investment Management in Australia. points, primarily due to the higher performance fees. Investment performance Net new money outflows were CHF 2.7 billion compared with CHF 0.8 billion in 2011. Invested assets were CHF 28 billion on 31 December 2012 compared with CHF 31 billion on 31 December 2011, mainly due to the net new money outflows. Global real estate Revenues were CHF 293 million compared with CHF 263 million, mainly due to higher net management and performance fees. The gross margin increased to 74 basis points compared with 72 basis points in 2011, primarily due to the higher performance fees. Net new money inflows were CHF 1.3 billion compared with CHF 1.6 billion in 2011. Both traditional and alternative strategies generally delivered strong performance in 2012 as they were well positioned for the volatile markets and continued macro-economic uncertainty ex- perienced during the year. A large majority of our active equities strategies performed in line with or above their benchmarks in 2012, as equity market focus shifted away from political and macro-economic concerns towards company fundamentals. Across global, non-US and Euro- pean equity strategies, performance was generally strong versus benchmarks and ahead of peer averages. Among US strategies, the flagship US large cap growth select strongly outperformed its benchmark and peer average. While US core equity large cap fin- 115 Financial and operating performance Financial and operating performance Global Asset Management ished behind its benchmark, its wholesale fund outperformed its peer group average, illustrating that it was a difficult year for most active US managers. Across Asia and emerging markets strate- gies, performance was mixed, but the emerging markets oppor- tunity and Asian consumption strategies had outstanding perfor- mance. Our small cap equity range was also mixed but notably strong performance was achieved by our non-US growth, Swiss, German and Australian small cap equity strategies. In our non- traditional equities products, strong performance was delivered by several long-short unconstrained, hedged and market neutral funds, and global sustainable equity. Our range of equity index- tracking (passive) strategies met their objectives in 2012 by pro- ducing close tracking to benchmarks. On a longer-term basis, three-year performance records of our active strategies were im- pacted versus a year ago as a very strong 2009 dropped out of the three-year period. However, on a five-year basis a solid majority of our equities strategies outperformed their benchmarks and peer averages. 2012 was a strong year for our fixed income strategies with almost all of our key strategies outperforming their respective benchmarks. Longer-term track records also continued to strengthen. The environment was dominated by continued uncer- tainty around peripheral eurozone sovereigns, though towards the end of the year the focus shifted to the US fiscal cliff and debt ceiling negotiations. Traditional global and local bond strategies (such as Australian, euro, Swiss, UK and US), and also higher al- pha strategies (such as euro high yield) outperformed their bench- marks. Extended sectors (such as emerging markets, Asian bonds and total return strategies) also performed strongly in the volatile market environment. Money market funds continued to achieve their capital preservation objectives. Key multi-asset strategies managed by global investment solu- tions performed strongly in 2012. All key strategies achieved positive absolute returns, while most outperformed their bench- marks and ranked in the top quartile relative to peers. Over three and five years, the majority of key multi-asset strategies have sig- nificantly outperformed their peer group averages. The peer-rel- ative performance of the Dynamic Alpha strategy in the US ranked in the first percentile for 2012, and the third percentile over five years. In alternative and quantitative investments, hedge funds produced consistent positive returns in 2012 while remaining generally hedged to rallying global risk markets. The O’Connor core single manager funds posted positive returns and outper- formed many peers on an absolute and risk-adjusted basis. In the multi-manager business, returns for the year were positive across core products and particularly fixed income and credit- oriented products. The majority of global real estate’s direct strategies covering Europe and Germany generated positive absolute returns in 2012. While the UK core fund produced a negative absolute return, the UK value-add fund was the best-performing balanced / specialist unlisted real estate fund in the UK for 2012. The Swiss composite outperformed its benchmark for the year. US real estate and farm- land strategies delivered strong positive absolute returns in 2012. In Japan, both J-REITs strongly outperformed their benchmarks in 2012 and produced very strong absolute returns. The Swiss real estate securities composite performance was positive relative to benchmark for the year. Multi-manager strategies had positive absolute returns for 2012. In infrastructure and private equity, the direct infrastructure portfolio continued to deliver stable cash flows and performance in line with target return objectives. Within our multi-manager area, the infrastructure fund of funds strategies showed improv- ing returns and increased dividend yield. Private equity fund of funds strategies performed broadly in line with expectations. 116 2011 Results Pre-tax profit for 2011 was CHF 430 million compared with CHF 515 million in 2010. Lower net management fees and lower per- formance fees, primarily in alternative and quantitative invest- ments, were only partially offset by lower expenses, which in- cluded CHF 26 million in restructuring charges associated with both our cost reduction program and the acquisition of the ING Investment Management business in Australia. Operating income Total operating income was CHF 1,803 million in 2011 compared with CHF 2,058 million in 2010. This decrease was mainly due to lower net management fees, primarily as a result of negative market performance and the strengthening of the Swiss franc over most of the year leading to lower average invested assets. Performance fees were also lower, primarily in alternative and quantitative investments. Operating expenses Total operating expenses were CHF 1,373 million in 2011 com- pared with CHF 1,543 million in 2010, mainly due to lower per- sonnel costs as well as lower general and administrative expens- es, both partly due to the strengthening of the Swiss franc and savings associated with our cost reduction program. A total of CHF 26 million in restructuring charges was incurred in 2011, of which CHF 19 million related to our cost reduction program and CHF 7 million related to the ING Investment Management busi- ness acquisition. Personnel expenses were CHF 954 million in 2011 compared with CHF 1,097 million in 2010, mainly due to lower accruals for variable compensation as a result of lower profits, the strengthen- ing of the Swiss franc and savings associated with our cost reduc- tion program. General and administrative expenses were CHF 375 million in 2011 compared with CHF 400 million in 2010, mainly due to lower premises, IT and advertising costs as well as the reversal of previously recognized expenses of CHF 9 million related to a past business closure. Net charges to other business divisions were CHF 1 million in 2011 compared with CHF 5 million in 2010. Cost / income ratio The cost/income ratio was 76.2% in 2011 compared with 75.0% in 2010. On an adjusted basis, excluding restructuring charges, the cost/income ratio was 74.7% compared with 75.0%. Net new money growth The net new money growth rate was positive 0.8% in 2011 com- pared with 0.3% in 2010. Excluding money market flows, net new money inflows from third parties were CHF 12.2 billion in 2011 compared with net inflows of CHF 16.2 billion in 2010, and net outflows from clients of UBS’s wealth management businesses were CHF 3.1 billion compared with net outflows of CHF 8.1 billion. The flows from UBS’s wealth management businesses included two transfers of investment management and research responsibility from Wealth Manage- ment to Global Asset Management: a CHF 1.8 billion multi-man- ager alternative fund was transferred to alternative and quantita- tive investments, and CHF 2.9 billion in private equity funds of funds were transferred to infrastructure and private equity. It should be noted that these assets were reported as invested as- sets in both business divisions, as Wealth Management continued to advise the clients of the funds. Money market net inflows from third parties were CHF 0.2 billion compared with CHF 2.0 billion in 2010, and money mar- ket net outflows from clients of UBS’s wealth management businesses were CHF 5.0 billion compared with CHF 8.3 billion in 2010. Invested assets Total invested assets increased to CHF 574 billion on 31 December 2011 from CHF 559 billion on 31 December 2010, mainly due to the addition of CHF 25 billion from the ING Investment Manage- ment business acquisition. Invested assets varied considerably during the year but were on average lower due to market volatility and currency movements. Taking the year as a whole, the currency impact on invested assets was flat, while positive net new money was more than offset by negative market performance. Gross margin on invested assets The gross margin was 33 basis points in 2011 compared with 36 basis points in 2010, reflecting lower performance fees, primarily in alternative and quantitative investments. Results by business line Traditional investments Revenues were CHF 1,097 million compared with CHF 1,259 mil- lion, predominantly reflecting lower average invested assets as a result of negative market performance and the strengthening of the Swiss franc over most of the year. The gross margin was 23 basis points compared with 25 basis points in 2010, mainly due to changes in the asset mix. Net new money inflows were zero compared with CHF 4.2 bil- lion inflows in the prior year. Excluding money market flows, net new money inflows were CHF 4.7 billion compared with CHF 10.6 billion. Equities net inflows were CHF 4.7 billion compared with CHF 7.5 billion. Fixed income net inflows were CHF 5.7 billion compared with CHF 9.7 billion. Multi-asset net outflows (which included flows related to alternative investments not managed by the alternative and quantitative investments, global real estate or 117 Financial and operating performance Financial and operating performance Global Asset Management infrastructure and private equity investment areas) were CHF 5.7 billion compared with CHF 6.6 billion. Invested assets were CHF 497 billion on 31 December 2011 compared with CHF 487 billion on 31 December 2010, mainly due to the ING Investment Management business acquisition, partially offset by negative market performance. By mandate type, CHF 141 billion of invested assets related to equities, CHF 141 billion to fixed income, CHF 92 billion to money markets and CHF 123 billion to multi-asset mandates (including CHF 6 billion of alternative investments not managed by the alternative and quantitative investments, global real estate or infrastructure and private equity investment areas). Infrastructure and private equity Revenues were CHF 24 million compared with CHF 14 million. The increase was mainly due to a one-time distribution fee from a co-investment in the UBS International Infrastructure Fund and the transfer of infrastructure and private equity fund of funds businesses from alternative and quantitative investments. As a re- sult of this transfer, the name of this business line changed to in- frastructure and private equity. Net new money inflows were CHF 3.5 billion compared with CHF 0.1 billion in 2010, mainly due to a CHF 2.9 billion inflow resulting from a transfer of investment management and research responsibilities for private equity funds of funds from Wealth Management. Alternative and quantitative investments Revenues were CHF 253 million compared with CHF 325 million, mainly due to performance fees being lower by CHF 50 million, which also contributed to the decline in the gross margin to 76 basis points from 88 basis points. Management fees were also lower, primarily due to lower average invested assets. Invested assets were CHF 8 billion on 31 December 2011 com- pared with CHF 1 billion on 31 December 2010. This increase mainly related to the abovementioned transfer from Wealth Man- agement and to the transfer within Global Asset Management of infrastructure and private equity fund of funds businesses from alternative and quantitative investments. Net new money outflows were CHF 0.8 billion compared with net outflows of CHF 3.2 billion. The flows included a CHF 1.8 bil- lion inflow related to the transfer of investment management and research responsibility for a multi-manager alternative fund from Wealth Management. Invested assets were CHF 31 billion on 31 December 2011 compared with CHF 34 billion on 31 December 2010. The transfer within Global Asset Management of infrastructure and private eq- uity fund of funds businesses to infrastructure and private equity was partially offset by the abovementioned transfer from Wealth Management. Global real estate Revenues were CHF 263 million compared with CHF 258 million, mainly due to higher transaction and performance fees, which more than offset the currency impact from the strengthening of the Swiss franc. As a result, the gross margin increased to 72 basis points compared with 69 basis points. Net new money inflows were CHF 1.6 billion compared with CHF 0.6 billion in 2010. Invested assets were CHF 38 billion on 31 December 2011, increased from CHF 36 billion on 31 December 2010, mainly due to net new money inflows. Fund services Revenues were CHF 165 million compared with CHF 202 million, mainly due to lower administrative fees resulting from lower aver- age assets under administration and lower interest income. The gross margin on assets under administration was 4 basis points compared with 5 basis points. Net new assets under administration outflows were CHF 5.5 billion compared with CHF 0.8 billion. Total assets under administration were CHF 375 billion com- pared with CHF 390 billion due to negative market performance and currency impact as well as net outflows. Personnel Global Asset Management employed 3,750 personnel on 31 De- cember 2011 compared with 3,481 on 31 December 2010, a net increase of 269 personnel. Increases in personnel resulted from a refined headcount allocation methodology for the Corporate Center (275 personnel) and the acquisition of the ING Investment Management business in Australia. These increases were partially offset by headcount reductions as part of our cost reduction program. 118 Retail & Corporate Business division reporting 1 CHF million, except where indicated Net interest income Net fee and commission income Net trading income Other income Income Credit loss (expense) / recovery Total operating income Personnel expenses General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Amortization and impairment of intangible assets Total operating expenses 2 Business division performance before tax Key performance indicators 3 Pre-tax profit growth (%) Cost / income ratio (%) Net interest margin (%) Net new business volume growth (%) Impaired loan portfolio as a % of total loan portfolio, gross (%) 4 Additional information Average attributed equity (CHF billion) 5 Return on attributed equity (RoaE) (%) BIS risk-weighted assets (CHF billion) 6 Return on risk-weighted assets, gross (%) 7 Goodwill and intangible assets (CHF billion) Business volume (CHF billion) Client assets (CHF billion) 8 Loans, gross (CHF billion) Due to customers (CHF billion) Secured loan portfolio as a % of total loan portfolio, gross (%) Personnel (full-time equivalents) As of or for the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 2,186 1,198 281 90 3,756 (27) 3,728 1,287 857 (370) 128 0 1,901 1,827 (3.0) 50.6 1.60 4.9 0.7 4.5 40.6 30.6 13.8 0.0 518 381 137.3 131.1 91.7 10,156 2,328 1,175 333 350 4,186 (101) 4,085 1,702 834 (470) 136 0 2,201 1,884 10.2 52.6 1.71 3.5 0.7 5.0 37.7 25.2 16.5 0.0 468 333 135.3 117.9 90.9 11,430 2,422 1,178 249 97 3,946 (76) 3,870 1,687 836 (509) 146 0 2,160 1,710 6.0 54.7 1.79 3.9 0.9 4.6 37.2 26.5 13.7 0.0 464 329 134.8 111.7 90.3 12,089 (6) 2 (16) (74) (10) (73) (9) (24) 3 (21) (6) (14) (3) (10) 21 11 14 1 11 (11) 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to reporting segments. 2 Refer to “Note 37 Changes in organization” in the “Financial information” section of this report for information on restructuring charges. 3 For the definitions of our key performance indicators, refer to the “Measurement of performance” section of this report. 4 Refer to the “Risk management and control” section of this report for more information on impairment ratios. 5 Refer to the “Capital management” sec- tion of this report for more information about the equity attribution framework. 6 Capital management data as of 31 December 2012 and December 2011 are disclosed in accordance with the Basel 2.5 framework. Comparative data under the new framework is not available for 31 December 2010. The comparative information under the Basel II framework is therefore provided. Refer to the “Capital management” section of this report for more information. 7 Based on Basel 2.5 risk-weighted assets for 2012. Based on Basel II risk-weighted assets for 2011 and 2010. 8 In 2012, the definition of client assets was refined. Prior periods have been adjusted accordingly. Refer to “Note 35 Invested assets and net new money” in the “Financial information” section of this report for more information. 119 Financial and operating performance Financial and operating performance Retail & Corporate Business performance 2012 Results Pre-tax profit decreased by CHF 57 million to CHF 1,827 million from CHF 1,884 million in the prior year. In 2012, personnel ex- penses benefited from a CHF 287 million credit related to chang- es to our Swiss pension plan. In 2011, there was a gain of CHF 289 million from the sale of our strategic investment portfolio. Adjusted for these items and restructuring charges of CHF 3 mil- lion in 2012 and CHF 32 million in 2011, pre-tax profit decreased by CHF 84 million to CHF 1,543 million, mainly as the previous year benefited from CHF 68 million of accrued interest from the abovementioned strategic investment portfolio sold in the third quarter of 2011. ➔ Refer to the “Certain items affecting our results in 2011” sidebar in our Annual Report 2011 for more information on the sale of our strategic investment portfolio Operating income Total operating income decreased by CHF 357 million to CHF 3,728 million, mainly reflecting the abovementioned gain from the sale of our strategic investment portfolio in 2011. Adjusted for this gain, operating income decreased by CHF 68 million to CHF 3,728 million from CHF 3,796 million. Net interest income decreased by CHF 142 million to CHF 2,186 million as the previous year included interest income of CHF 68 million related to our strategic investment portfolio. Net interest income was also negatively affected by increased costs related to assets managed centrally by Group Treasury and low- er allocations related to investment proceeds from the firm’s equity. The loan margin was stable, but historically low interest rates continued to negatively affect the deposit margin. This was partly offset by growth in average deposit and, to a lesser extent, loan volumes as well as a number of pricing adjust- ments. Net fee and commission income was CHF 1,198 million, up CHF 23 million from CHF 1,175 million in 2011 reflecting strong corporate finance activity related to our continued focus on our fee-based advisory offering. Net trading income decreased to CHF 281 million from CHF 333 million due to lower treasury-related income and lower valu- ation income in 2012 related to credit default swaps to hedge certain loans. Other income decreased to CHF 90 million from CHF 350 mil- lion reflecting the abovementioned gain of CHF 289 million from the sale of our strategic investment portfolio in 2011, partly offset by higher income in 2012 related to our SIX participation. 120 Credit loss expenses were CHF 27 million in 2012 compared with CHF 101 million in 2011, mainly reflecting a CHF 82 million increase in 2011 and a CHF 16 million decrease in 2012 in collec- tive loan loss allowances. ➔ Refer to “Note 1a) 11) Allowance and provision for credit losses” in the “Financial information” section of this report section for more information on collective loan loss allowances Operating expenses Total operating expenses were CHF 1,901 million compared with CHF 2,201 million, mainly reflecting the CHF 287 million credit related to changes to our Swiss pension plan in 2012. Excluding this credit and restructuring charges, adjusted operating expenses increased by CHF 16 million to CHF 2,185 million. Personnel expenses decreased to CHF 1,287 million from CHF 1,702 million. Excluding the abovementioned credit and restructuring charges, adjusted personnel expenses were CHF 1,571 million, down CHF 102 million from CHF 1,673 million in 2011 due to the centralization of operations units at the beginning of the third quarter of 2012, which decreased personnel expenses by CHF 176 million. As Retail & Corporate previously provided significant opera- tions support to other business divisions, this centralization and sub- sequent reallocation of operations units had the effect of reducing personnel costs and non-personnel costs and decreasing net charg- es to other business divisions. This was partially offset by higher personnel expenses resulting from other business transfers. ➔ Refer to the “Significant accounting and financial reporting structure changes” section of this report for more information on changes related to the centralization of operations units General and administrative expenses were CHF 857 million compared with CHF 834 million in 2011, reflecting higher net charges for provisions for litigation, regulatory and similar matters as well as increased marketing expenses related to our 150th an- niversary in 2012. The abovementioned centralization of opera- tions units led to a decrease in costs, which was partially offset by the effects of other business transfers. Net charges to other business divisions were CHF 370 million, down from CHF 470 million in the previous year, primarily as a result of the impact from the abovementioned centralization of operations units in 2012, which reduced net charges out for ser- vices provided to other business divisions. This was partially offset by the effects of other business transfers. Depreciation was CHF 128 million compared with CHF 136 million, reflecting a change in the depreciation period of certain IT equipment. Cost / income ratio The cost / income ratio improved to 50.6% from 52.6%, reflect- ing lower expenses partly offset by lower income. On an ad- justed basis excluding the credit related to changes to our Swiss pension plan in 2012, the gain from the sale of our strategic investment portfolio as well as restructuring charges, the cost / income ratio was 58.2% compared with 55.7% and was within of our target range of 50% to 60%. businesses recorded strong net inflows reflecting high net new client assets. Net new loan inflows were also slightly positive in line with our strategy to grow our business selectively in high- quality loans. Net new business volume growth exceeded the tar- get range of 1% to 4%. Net interest margin The net interest margin decreased 11 basis points to 160 basis points, reflecting lower interest income as detailed above and a slightly higher average loan volume. The net interest margin re- mained within the target range of 140 to 180 basis points. Net new business volume growth The growth rate for net new business volume was 4.9% com- pared with 3.5% in the prior year. Both our retail and corporate Personnel Retail & Corporate employed 10,156 personnel on 31 December 2012 compared with 11,430 on 31 December 2011 mainly reflect- ing the abovementioned centralization and subsequent realloca- tion of operations units personnel. We continued to adapt our cost base to the challenging business environment. In addition, the personnel number includes the annual intake of more than 100 apprentices, which took place in the third quarter of 2012. 121 Financial and operating performance Financial and operating performance Retail & Corporate 2011 Results Pre-tax profit for 2011 was CHF 1,884 million compared with CHF 1,710 million and included a CHF 289 million gain on the sale of our strategic investment portfolio as well as CHF 32 mil- lion in restructuring charges associated with our cost reduction program compared with CHF 3 million in restructuring provision releases in 2010. When adjusted for these items, pre-tax profit was CHF 1,627 million, down from CHF 1,707 million in 2010, primarily as a result of lower interest income due to the ongoing low interest rate environment. ➔ Refer to the “Certain items affecting our results in 2011” sidebar in our Annual Report 2011 for more information on our cost reduction program and the sale of our strategic investment portfolio Operating income Total operating income increased to CHF 4,085 million from CHF 3,870 million, and included the abovementioned gain on the sale of our strategic investment portfolio. When adjusted for this gain, operating income was CHF 3,796 million, down 2% from the previous year. Net interest income decreased 4% from the prior period, pri- marily due to a significant decline in the deposit margin as a result of low market interest rates, which more than offset growth of deposit volumes. In addition, net interest income was negatively affected by an adjustment to the allocation of treasury-related income between Wealth Management and Retail & Corporate. Low market interest rates also impacted income from our replica- tion portfolio, resulting in lower net interest income. These effects more than offset higher interest income derived from the strategic investment portfolio which was acquired in late 2010. Net fee and commission income was CHF 1,175 million, virtu- ally unchanged from CHF 1,178 million in 2010, as lower fees related to investment funds were mostly offset by higher credit related fees and increased transaction-based revenues. Net trading income increased to CHF 333 million from CHF 249 million, mainly reflecting higher treasury-related income and higher foreign exchange income linked to client trading activities. Other income was CHF 350 million compared with CHF 97 mil- lion in 2010 due to the abovementioned gain on the sale of our strategic investment portfolio. Credit loss expenses were CHF 101 million in 2011 compared with CHF 76 million in 2010. This was mostly due to a CHF 82 million increase in collective loan loss allowances booked mainly in the third quarter of 2011. ➔ Refer to the “Interest rate and currency management” section of our Annual Report 2011 for more information on our replication portfolio 122 Operating expenses Total operating expenses were CHF 2,201 million compared with CHF 2,160 million, partially due to the abovementioned restruc- turing charges. Excluding the effects of restructuring, operating expenses increased by CHF 6 million to CHF 2,169 million. Per- sonnel expenses increased to CHF 1,702 million from CHF 1,687 million. Excluding the effects of restructuring, personnel ex- penses were CHF 1,673 million, down 1% from 2010 as a 4% reduction in average personnel during 2011 and lower variable compensation accruals compared with 2010 more than offset salary increases. General and administrative expenses were CHF 834 million compared with CHF 836 million in 2010. Net charges to other business divisions were CHF 470 million, down 8% from CHF 509 million the previous year, mainly due to a refinement of internal cost allocations reflecting a review of ser- vice level agreements and allocations between Retail & Corporate, Wealth Management and other parts of the organization. Depreciation was CHF 136 million compared with CHF 146 million. Cost / income ratio The cost / income ratio improved to 52.6% from 54.7%, reflecting the gain of CHF 289 million from the sale of our strategic invest- ment portfolio partly offset by slightly higher expenses. On an adjusted basis excluding this gain as well as the effects of restruc- turing, the cost / income ratio was 55.7% compared with 54.8%. Net interest margin The net interest margin decreased from 179 basis points to 171 basis points, reflecting the abovementioned lower interest income and a slightly higher average loan volume. Net new business volume growth The growth rate for net new business volume was 3.5% com- pared with 3.9% in the previous year. Our retail and corporate businesses both recorded strong net inflows, resulting from high net new client assets and, to a lesser extent, net new loan inflows reflecting our strategy to grow our business selectively in high- quality loans. Personnel Retail & Corporate employed 11,430 personnel on 31 December 2011 compared with 12,089 on 31 December 2010 reflecting a lower allocation of Corporate Center shared services personnel, and a shift of approximately 100 personnel to Wealth Manage- ment in connection with the Investment Products & Services unit in first quarter of 2011. In addition, the personnel number in- cludes the annual intake of more than 100 apprentices, which took place in the third quarter of 2011. Corporate Center Corporate Center – Total 1 CHF million, except where indicated Income Credit loss (expense) / recovery 2 Total operating income excluding own credit Own credit 3 Total operating income Personnel expenses General and administrative expenses Services to / from other business divisions Depreciation and impairment of property and equipment Amortization and impairment of intangible assets Total operating expenses 4 Performance before tax Performance before tax excluding own credit Additional information 5 Total assets (CHF billion) 6 BIS risk-weighted assets (CHF billion) 7 Personnel before allocations (full-time equivalents) Allocations to business divisions (full-time equivalents) Personnel after allocations (full-time equivalents) As of or for the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 409 (112) 297 (2,202) (1,905) 308 2,419 21 7 0 2,756 (4,661) (2,458) 260.1 29.7 25,255 (24,733) 522 (569) 24 (545) 1,537 992 132 286 55 74 0 547 446 (1,091) 204.2 41.3 26,269 (25,746) 523 1,746 (155) 1,591 (548) 1,043 197 376 99 94 0 766 277 825 206.3 38.2 26,565 (25,999) 566 133 746 (62) (91) 404 125 27 (28) (4) (4) 0 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to report- ing segments. 2 Includes credit loss (expense) / recovery mainly due to reclassified and acquired securities. 3 Represents own credit changes on financial liabilities designated at fair value through profit or loss. The cumulative own credit loss for such debt held on 31 December 2012 amounts to CHF 0.3 billion. This loss has increased the fair value of financial liabilities designated at fair value through profit or loss recognized on our balance sheet. Refer to “Note 13 Financial assets designated at fair value” in the “Financial information” section of this report for more information. 4 Refer to “Note 37 Changes in organization” in the “Finan- cial information” section of this report for information on restructuring charges. 5 Comparative figures in this table may differ from those originally published in quarterly and annual reports (for example due to ad- justments following organizational changes). 6 Based on third-party view, i.e. without intercompany balances. Refer to “Note 2a Segment reporting” in the “Financial information” section of this report for more in- formation. 7 Capital management data as of 31 December 2012 and 31 December 2011 are disclosed in accordance with the Basel 2.5 framework. Comparative data under the new framework is not available for 31 December 2010. The comparative information under the Basel II framework is therefore provided. Refer to the “Capital management” section of this report for more information. 123 Financial and operating performance Financial and operating performance Corporate Center Corporate Center – Core Functions Corporate Center reporting – Core Functions 1 CHF million, except where indicated Income Credit loss (expense) / recovery Total operating income excluding own credit Own credit 2 Total operating income as reported Personnel expenses General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Amortization and impairment of intangible assets Total operating expenses 3 Performance before tax Performance before tax excluding own credit Additional information 4 Total assets (CHF billion) 5 BIS risk-weighted assets (CHF billion) 6 Personnel before allocations (full-time equivalents) Allocations to business divisions (full-time equivalents) Personnel after allocations (full-time equivalents) Corporate Center expenses before service allocation to business divisions 4 Personnel expenses General and administrative expenses Depreciation and impairment of property and equipment Amortization and impairment of intangible assets Total operating expenses before service allocation to business divisions Net allocations to business divisions Total operating expenses 3 As of or for the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 29 0 29 (2,202) (2,173) 240 1,648 2 6 0 1,895 (4,068) (1,866) 222.5 8.5 25,203 (24,964) 238 4,079 5,272 647 2 10,000 (8,105) 1,895 47 (1) 46 1,537 1,583 64 137 (1) 70 0 271 1,312 (225) 148.1 21.0 26,217 (25,995) 222 4,611 3,599 731 0 8,941 (8,670) 271 390 0 390 (548) (158) 78 167 8 89 0 342 (500) 48 134.6 11.6 26,565 (26,371) 194 4,835 3,805 813 0 9,453 (9,111) 342 (38) (100) (37) 275 (91) 599 729 50 (60) (4) (4) 7 (12) 46 (11) 12 (7) 599 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to reporting segments. 2 Represents own credit changes on financial liabilities designated at fair value through profit or loss. The cumulative own credit loss for such debt held on 31 December 2012 amounts to CHF 0.3 billion. This loss has increased the fair value of financial liabilities designated at fair value through profit or loss recognized on our balance sheet. Refer to “Note 13 Financial assets designated at fair value” in the “Financial informa- tion” section of this report for more information. 3 Refer to “Note 37 Changes in organization” in the “Financial information” section of this report for information on restructuring charges. 4 Comparative figures in this table may differ from those originally published in quarterly and annual reports (for example due to adjustments following organizational changes). 5 Based on third-party view, i.e. without intercompany balances. Refer to “Note 2a Segment reporting” in the “Financial information” section of this report for more information. 6 Capital management data as of 31 December 2012 and 31 December 2011 are disclosed in accordance with the Basel 2.5 framework. Comparative data under the new framework is not available for 31 December 2010. The comparative information under the Basel II framework is therefore provided. Refer to the “Capital management” section of this report for more information. 124 Business performance 2012 Results The pre-tax result was a loss of CHF 4,068 million in 2012 compared with a gain of CHF 1,312 million in 2011. 2012 included charges for provisions for litigation, regulatory and similar matters of CHF 1,470 million, mainly arising from fines and disgorgement resulting from regulatory investigations concerning LIBOR and other benchmark rates, and an own credit loss of CHF 2,202 million compared with a gain of CHF 1,537 million in 2011. Treasury income remaining in Corporate Center – Core Functions after allocations to the business divisions was CHF 204 million compared with CHF 38 million in 2011. Operating income Total operating income was negative CHF 2,173 million in 2012 compared with positive CHF 1,583 million in 2011. On an ad- justed basis excluding own credit, operating income was CHF 29 million in 2012 compared with CHF 46 million in the prior year. Total operating income excluding own credit decreased by CHF 17 million, largely due to higher charges related to our multi-cur- rency portfolio of unencumbered high-quality, short-term assets managed centrally by Group Treasury. Treasury income remaining in Corporate Center – Core Functions after allocations to the busi- ness divisions was CHF 204 million compared with CHF 38 million in the prior year. This increase was mainly due to a gain of CHF 134 million related to hedge ineffectiveness arising from the basis risk inherent within our macro cash flow hedge accounting model. Furthermore, 2012 operating income included a gain of CHF 112 million related to the sale of properties in Switzerland com- pared with a gain of CHF 78 million from the sale of a property in Switzerland in 2011. Own credit An own credit loss on financial liabilities designated at fair value of CHF 2,202 million was recorded in 2012, primarily due to a tightening of our credit spreads. An own credit gain of CHF 1,537 million was recorded in 2011. ➔ Refer to “Note 27 Fair value of financial instruments” in the “Financial information” section of this report for more informa- tion on own credit Operating expenses On a gross basis before service allocations to the business divisions, total operating expenses were CHF 10,000 million, up from CHF 8,941 million in the prior year, mainly due to charges for provisions for litigation, regulatory and similar matters of CHF 1,470 million, higher marketing costs and unfavorable currency effects. These in- creases were partly offset by the effect of changes to our Swiss pen- sion plan, the effect related to the capitalization of internally gener- ated software, reduced personnel expenses associated with our cost reduction program and lower restructuring charges in 2012. Personnel expenses decreased by CHF 532 million to CHF 4,079 million, mainly due to changes to our Swiss pension plan, the effect related to the capitalization of internally generated software in 2012, reduced personnel expenses associated with our cost reduction pro- gram, a one-time net credit from changes to the rules for the Swiss long-service and sabbatical awards announced in the third quarter of 2012 as well as lower restructuring charges and variable compensa- tion accruals in 2012. General and administrative expenses increased by CHF 1,673 million to CHF 5,272 million, mainly due to charges of CHF 1,470 million for provisions for litigation, regulatory and similar matters arising from fines and disgorgement resulting from regulatory in- vestigations concerning LIBOR and other benchmark rates, higher marketing costs and increased business demand for IT infrastruc- ture services, partly offset by the effect of the capitalization of internally generated software in 2012. ➔ Refer to the “Certain items affecting our results in 2012” sidebar for more information on LIBOR-related settlements Depreciation expenses decreased by CHF 84 million to CHF 647 million, mainly due to restructuring charges and amortization of software costs in 2011. The business divisions were charged CHF 8,105 million for shared services costs, a decrease of CHF 565 million from the pre- vious year, primarily reflecting the aforementioned decreases. Total operating expenses remaining after allocations to the business divisions increased to CHF 1,891 million from CHF 271 million in the prior year. This mainly reflects the charges for provi- sions for litigation, regulatory and similar matters of CHF 1,470 million as well as higher marketing costs in relation to our 150th anniversary including expenses related to the education initiative we launched to mark the occasion in 2012. Personnel At the end of 2012, Corporate Center – Core Functions employed 25,203 personnel, with 24,964 allocated to the business divisions and the Legacy Portfolio unit, based on services consumed. The decrease of 1,014 personnel from the prior year mainly reflected staff reductions related to our cost reduction program and the accelerated implementation of our strategy announced in Octo- ber 2012. The 238 personnel remaining in Corporate Center – Core Functions after allocations were related to Group gover- nance functions and other corporate activities. 125 Financial and operating performance Financial and operating performance Corporate Center 2011 Results The pre-tax result was a gain of CHF 1,312 million in 2011 com- pared with a loss of CHF 500 million in 2010. The year 2011 in- cluded an own credit gain of CHF 1,537 million compared with a loss of CHF 548 million in 2010. Treasury income remaining in Corporate Center – Core Functions, after allocations to the busi- ness divisions, was CHF 38 million compared with CHF 152 mil- lion in 2010. Operating income Total operating income was positive CHF 1,583 million in 2011 compared with negative CHF 158 million in 2010. On an adjusted basis excluding own credit, operating income was CHF 46 million in 2012 compared with CHF 390 million in the prior year. Treasury income remaining in Corporate Center – Core Func- tions, after allocations to the business divisions, was CHF 38 mil- lion compared with CHF 152 million in 2010. Furthermore, 2011 operating income included a gain of CHF 78 million from the sale of a property in Switzerland, while 2010 included a CHF 180 million gain from the sale of investments in associates owning office space in New York as well as a gain of CHF 158 million from a sale of property in Switzerland. Own credit An own credit gain on financial liabilities designated at fair value of CHF 1,537 million was recorded in 2011, primarily due to a widening of our credit spreads. An own credit loss of CHF 548 million was recorded in 2010. Operating expenses On a gross basis before service allocations to the business divi- sions, total operating expenses were CHF 8,941 million, down from CHF 9,453 million in 2010, mainly due to favorable cur- rency effects resulting from the depreciation of the US dollar and British pound against the Swiss franc, as well as the effects of efficiency initiatives and other cost reductions resulting from the execution of the UBS real estate consolidation strategy and lower IT costs. This was partially offset by restructuring charges as well as an increase in expenses due to focused investments in technology, capacity expansion needed for control functions to be able to satisfy increased regulatory requirements, and the continuing consolidation of services in the Corporate Center. Personnel expenses decreased by CHF 224 million to CHF 4,611 million, primarily due to favorable currency effects, partially offset by personnel-related restructuring expenses associated with our cost reduction program in the second half of 2011, ca- pacity increases for regulatory requirements and personnel trans- fers from other business divisions. General and administrative expenses decreased by CHF 206 million to CHF 3,599 million, mainly due to favorable currency effects, partly offset by restructuring charges due to the consoli- dation of our real estate portfolio as part of our cost reduction program. Furthermore, the effects of efficiency initiatives and other cost reductions were offset by the abovementioned in- creased business demand affecting Group Technology and the consolidation of services in the Corporate Center. Depreciation expenses decreased by CHF 82 million to CHF 731 million, primarily due to favorable currency effects and the reversal of an impairment loss. These decreases were partly offset by restructuring charges, mainly related to the abovementioned real estate consolidation in 2011. The business divisions were charged CHF 8,670 million for shared services costs, a decrease of CHF 441 million from 2010, primarily reflecting the aforementioned changes. Total operating expenses remaining after allocations to the business divisions were CHF 271 million compared with CHF 342 million in 2010. This decrease was due to a value added tax provi- sion release of CHF 22 million and a variable compensation ac- crual release of CHF 19 million in 2011. Furthermore, 2011 in- cluded lower charges for provisions for litigation, regulatory and similar matters. Personnel At the end of 2011, Corporate Center – Core Functions employed 26,217 personnel, with 25,995 allocated to the business divisions and the Legacy Portfolio unit, based on services consumed. The decrease of 348 personnel from 2010 related mainly to the above- mentioned cost reduction program in the second half of 2011, partly offset by higher personnel required to meet additional reg- ulatory requirements, and further consolidation of services in the Corporate Center. The 222 personnel remaining in Corporate Center – Core Functions after allocations were related to Group governance functions and other corporate activities. 126 Legacy Portfolio Corporate Center reporting – Legacy Portfolio 1 CHF million, except where indicated SNB StabFund option Legacy Portfolio excluding SNB StabFund option Total income Credit loss (expense) / recovery 2 Total operating income Personnel expenses General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Amortization and impairment of intangible assets Total operating expenses Performance before tax Additional information Total assets (CHF billion) 3 BIS risk-weighted assets (CHF billion) 4 Personnel before allocations (full-time equivalents) Allocations from business divisions (full-time equivalents) Personnel after allocations (full-time equivalents) As of or for the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 539 (158) 381 (112) 268 68 771 19 2 0 861 (592) 37.6 21.2 52 231 283 (126) (489) (616) 25 (591) 68 148 56 3 0 276 (866) 56.1 20.3 52 249 301 745 611 1,356 (155) 1,201 119 209 91 5 0 424 777 71.8 26.6 372 372 (68) 0 421 (66) (33) 212 (32) (33) 4 0 (7) (6) 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information on the adoption of IAS 19R and changes to reporting segments. 2 Includes credit loss (expense) / recovery mainly due to reclassified and acquired securities. 3 Based on third-party view, i.e. without intercompany balances. Refer to “Note 2a Segment reporting” in the “Financial information” section of this report for more information. 4 Capital management data as of 31 December 2012 and 31 December 2011 are disclosed in accordance with the Basel 2.5 framework. Compara- tive data under the new framework is not available for 31 December 2010. The comparative information under the Basel II framework is therefore provided. Refer to the “Capital management” section of this report for more information. 127 Financial and operating performance Financial and operating performance Corporate Center Business performance 2012 Results The pre-tax result was a loss of CHF 592 million in 2012 compared with a loss of CHF 866 million in the previous year. This was pri- marily due to a gain from the revaluation of our option to acquire the SNB StabFund’s equity, partly offset by a credit loss expense and higher charges for provisions for litigation, regulatory and similar matters in 2012. Operating income Total operating income was CHF 268 million in 2012 compared with negative CHF 591 million in 2011. The revaluation of our option to acquire the SNB StabFund’s equity resulted in a gain of CHF 526 million in 2012, primarily due to higher market valuation of the fund’s assets, compared with a loss of CHF 133 million in 2011. ➔ Refer to the discussion of “Non-trading portfolios – valuation and sensitivity information by instrument category” in the “Risk management and control” section of this report for more information on changes in the value of our option to acquire the SNB StabFund’s equity Excluding the SNB StabFund option, total operating income from the Legacy Portfolio was negative CHF 271 million com- pared with negative CHF 465 million in 2011. The year 2012 in- cluded losses in collateralized debt obligations (CDO) and related swap hedging of CHF 174 million as we exited certain CDO posi- tions to reduce Basel III risk-weighted assets (RWA) compared with losses in the previous year of CHF 416 million predominant- ly resulting from the net impact of credit valuation adjustments (CVA) on monolines, including adjustments taken for commuta- tions, and mark-to-market losses for securities. In addition, 2012 recorded improved performance in reference linked notes of CHF 147 million and real estate assets of CHF 35 million compared with 2011. These increases were partly offset by higher losses on municipal swaps and options of CHF 101 million. 2012 included a credit loss expense of CHF 112 million mainly reflecting an im- pairment charge related to certain student loan auction rate se- curities, subsequently sold to reduce Basel III RWA, compared with a credit loss recovery of CHF 25 million in 2011. Operating expenses Total operating expenses increased to CHF 861 million from CHF 276 million in the prior year, entirely due to higher charges for provisions for litigation, regulatory and similar matters in 2012. BIS risk-weighted assets RWA measured on a Basel 2.5 basis increased by CHF 1 billion to CHF 21 billion at the end of 2012, mainly resulting from rating downgrades on certain portfolio positions, almost offset by sales of certain student loan auction rate securities. Our pro-forma Ba- sel III RWA decreased to CHF 38 billion as of 31 December 2012 from CHF 62 billion as of 31 December 2011, largely related to a CHF 15 billion reduction due to the sale or liquidation of certain CDO positions, a reduction of CHF 6 billion related to the sale of student loan auction rate securities as well as exposure reductions combined with model changes. This was partly offset by a transfer from the Investment Bank to the Legacy Portfolio of CHF 11 bil- lion of RWA for the Basel III CVA charge attributable to the Legacy Portfolio. Personnel At the end of 2012, a total of 283 personnel were employed with- in the SNB StabFund investment management team and the man- agement team for the remainder of the Legacy Portfolio, com- pared with 301 a year earlier. 128 2011 Results The pre-tax result was a loss of CHF 866 million in 2011 com- pared with a gain of CHF 777 million in 2010. This was primarily due to a loss from the revaluation of our option to acquire the SNB StabFund’s equity as well as a significant difference in the net impact of CVA in the remainder of the Legacy Portfolio. Operating income Total operating income was negative CHF 591 million in 2011 compared with positive CHF 1,201 million in 2010. The revalua- tion of our option to acquire the SNB StabFund’s equity resulted in a loss of CHF 133 million in 2011 compared with a gain of CHF 745 million in 2010. Excluding the SNB StabFund option, total operating income from the Legacy Portfolio was negative CHF 465 million com- pared with positive CHF 456 million in 2010. In 2011 we recorded a loss of CHF 284 million related to CVA for monoline credit pro- tection compared with a gain of CHF 667 million in 2010. 2011 saw further losses in CDO. This movement was partly offset by a positive variance in credit loss expense as 2011 included a credit loss recovery of CHF 25 million compared with a credit loss ex- pense of CHF 155 million in 2010, mainly due to reclassified and acquired securities primarily related to impairments on our stu- dent loan auction rate securities inventory. Operating expenses Total operating expenses decreased to CHF 276 million from CHF 424 million in 2010, predominantly due to lower personnel costs following reduced staff levels, lower charges for services received and decreased charges for provisions for litigation, regulatory and similar matters. Personnel At the end of the year 2011, a total of 301 personnel were em- ployed within the SNB StabFund investment management team and the management team for the remainder of the Legacy Portfolio compared with 372 a year earlier. The decrease of 71 personnel was mainly associated with the reduction of assets in the unit. 129 Financial and operating performance Risk, treasury and capital management Audited information according to IFRS 7 and IAS 1 Risk disclosures provided in line with the requirements of the International Financial Reporting Standard 7 (IFRS 7) Financial Instru- ments: Disclosures, and disclosures on capital required by the International Accounting Standard 1 (IAS 1) Financial Statements: Presentation form part of the financial statements audited by our independent registered public accounting firm Ernst & Young Ltd., Basel. This information (the audited texts, tables and graphs) is marked by a bar on the left-hand side within this section of the report and is incorporated by cross-reference into the financial statements of this report. Risk, treasury and capital management Risk, treasury and capital management Risk management and control Risk management and control In line with the strategy of the firm, the structure of our risk profile has continued to shift during 2012. Having achieved a significant decrease in the level of market risk in the past few years, looking forward we see our risk focus being primarily on credit risk, operational risk and treasury-related risks. – Credit risk comprises the vast majority of Basel III risk-weighted assets. Our lending exposure arises mainly from our Swiss do- mestic business, which offers corporate loans and mortgage loans secured against residential properties and income-produc- ing real estate, and is therefore tied to the health of the Swiss economy (refer to page 140). Within the Investment Bank, our credit exposure is predominantly investment grade, but includes loan underwriting characterized by concentrated exposure to lower-rated credits, albeit of a temporary nature (refer to page 141). Credit risk also arises from derivative activities, a signifi- cant portion of which has been determined to be non-core and therefore is being transferred to the Corporate Center and will be run down. Credit risks within the Legacy Portfolio have been significantly reduced and the remainder largely relates to deriva- tives and securitized positions that we will continue to reduce. – Operational risk, including the risk from pending or potential litigation (refer to “Note 23 Provisions and contingent liabili- ties” and “Risk factors” sections), remains a key focus, particu- larly the delivery of remediation of identified operational risk issues (refer to page 162). – Treasury-related risks are associated with potential imbalances in our asset and liability structure, including liquidity and fund- ing risks arising from stressed market conditions or from firm- specific factors. Summary of key developments in 2012 The key developments that took place in 2012 with regard to risk management and control include the following: – The overall level of market risk decreased significantly and value- at-risk halved to CHF 18 million at year-end. This was in line with the implementation of our strategy to make the Investment Bank more focused, less complex and less capital-intensive. The remaining market risks predominantly arose from the Invest- ment Bank Core activities, which may increase over time, and non-core trading positions, which we will continue to reduce. – Our credit portfolios saw net credit loss expenses totaling CHF 118 million, mainly related to sales of student loan auction rate securities as part of the run-down of the Legacy Portfolio. Our impaired loan portfolio decreased by CHF 0.6 billion to CHF 1.6 billion, mainly as a result of these sales. Although we envis- age growth within our core lending businesses, credit risks aris- ing from non-core positions will roll off or be reduced over time and the preparations to transfer these risks to the Corpo- rate Center were initiated. – The implementation of the enhanced Operational Risk Frame- work remained a primary focus. Reporting of significant risk issues and the operational effectiveness of controls was strengthened and substantial progress was made across our risk remediation programs. – Further progress was made in reducing our legacy positions. This mainly resulted from commutations of monoline insur- ance and sales of student loan auction rate securities. Net ex- posure to monoline insurers after credit valuation adjustments reduced from USD 1.2 billion to USD 0.6 billion. The remaining exposure is hedged via single-name credit default swaps. Our student loan auction rate securities portfolio reduced from USD 5.7 billion to USD 4.1 billion. – We maintained our strong liquidity and funding positions, end- ing 2012 with a Basel III estimated pro-forma liquidity coverage ratio and an estimated pro-forma net stable funding ratio com- fortably above the regulatory requirements of 100%. ➔ Refer to the “Credit risk“, “Market risk“, “Operational risk“ and “Liquidity and funding management“ sections of this report for more information Risk management and control principles d e t i d u A Five pillars support our efforts to achieve an appropriate balance between risk and return: 1. Protecting the financial strength of UBS by controlling our risk exposures and avoiding potential risk concentrations at individual exposure levels, at specific portfolio levels and at an aggregate firm-wide level across all risk types. 2. Protecting our reputation through a sound risk culture character- ized by a holistic and integrated view of risk, performance and reward, and through full compliance with our standards and principles, particularly our Code of Business Conduct and Ethics. 3. Ensuring management accountability, whereby business man- agement, as opposed to Risk Control, owns all risks assumed throughout the firm and is responsible for the continuous and active management of all risk exposures to ensure that risk and return are balanced. 4. Independent control functions which monitor the effectiveness of the business’s risk management and oversee risk-taking activities. 132 d e t i d u A 5. Disclosure of risks to senior management, the Board of Direc- tors (BoD), shareholders, regulators, rating agencies and other stakeholders with an appropriate level of comprehensiveness and transparency. d e t i d u A Our risk management and control principles are implemented through a risk management and control framework. This frame- work comprises qualitative elements such as policies, procedures and authorities, and quantitative components including risk mea- surement methodologies and risk limits. The framework is dynamic and continuously adapted to our evolving businesses and the market environment. It includes clear- ly defined processes to deal with new business initiatives as well as large and complex transactions. – The Group Chief Financial Officer (Group CFO) is responsible for ensuring that disclosure of our financial performance is clear and transparent and meets regulatory requirements and corporate governance standards. The Group CFO is also re- sponsible for the management and control of UBS’s tax affairs and for treasury and capital management, including manage- ment and control of funding and liquidity risk and UBS’s regu- latory capital ratios. Responsibility for implementation of the control framework for tax resides with the Group CFO whereas responsibility for implementation of the control framework for treasury activities is with Risk Control. – The Group General Counsel is responsible for implementing the firm’s risk management and control principles for legal and compliance matters. Risk management and control responsibilities Risk categories d e t i d u A d e t i d u A The key roles and responsibilities for risk management and control are as follows: – The BoD is responsible for determining the firm’s risk prin- ciples, risk appetite and major portfolio limits, including their allocation to the business divisions. The risk assessment and oversight of management performed by the BoD considers evolving best practices and is intended to conform to statutory requirements, as is the related disclosure in this section. The BoD is supported by the BoD Risk Committee, which monitors and oversees the firm’s risk profile and the implementation of the risk framework as approved by the BoD. The BoD Risk Committee also assesses and approves the firm’s key risk mea- surement methodologies. – The Group Executive Board (GEB) implements the risk frame- work, controls the firm’s risk profile and approves all major risk policies. – The Group Chief Executive Officer (Group CEO) is responsible for the results of the firm, has risk authority over transactions, positions and exposures, and also allocates portfolio limits ap- proved by the BoD within the business divisions. – The divisional Chief Executive Officers, as well as the head of our Non-core and Legacy Portfolio, are accountable for the re- sults of their business divisions. This includes actively managing their risk exposures, and ensuring that risks and returns are balanced. – The Group Chief Risk Officer reports directly to the Group CEO and has functional and management authority over Risk Control throughout the firm. Risk Control provides independent over- sight of risk and is responsible for implementing the risk control processes for credit, country, market, investment, treasury and operational risk. This includes establishing methodologies to measure and assess risk, setting risk limits, and developing and operating an appropriate risk control infrastructure. The risk control process is supported by a framework of policies and authorities, which are delegated to Risk Control Officers ac- cording to their expertise, experience and responsibilities. The risks faced by our businesses can be broken down into three different categories: primary risks, operational risks and business risks. All three categories may impact the firm’s reputation. Primary and operational risks result from our business activities and are subject to independent risk control, whereas business risks are managed by divisional and firm-wide management. Pri- mary risks are credit risk, market risk and treasury risk, as well as country risk and issuer risk. Operational risks include legal, com- pliance and tax risk and other risk categories. Business risks may arise from the commercial, strategic and economic risks inherent in our business activities. Primary and operational risks are defined as follows: – Credit risk – the risk of loss resulting from the failure of a client or counterparty to meet its contractual obligations. – Issuer risk – the potential total loss that would occur on a trad- able name (position or group of tradable positions) if an issuer or issuer group to which UBS is exposed were subject to a credit event. The potential loss arises not only from the value of securities issued by the name but also from any other obliga- tions in tradable form which are referenced to the name (in- cluding derivatives and basket securities). – Market risk – the risk of loss resulting from changes in market variables, whether to our trading positions or financial invest- ments. – Treasury risk – the risk that the firm fails to manage its funding, balance sheet, capital and liquidity resources as well as the market and issuer risk arising from treasury activities. – Country risk – the risk of loss resulting from country-specific events. It includes transfer risk, whereby a country’s authorities prevent or restrict the payment of an obligation, as well as systemic risk events arising from country-specific political or macroeconomic developments. – Operational risk – the risk resulting from inadequate or failed internal processes, people and systems, or from external causes. Events may cause direct financial losses or indirect consequences in the form of revenue forgone as a result of business suspen- 133 Risk, treasury and capital management Risk, treasury and capital management Risk management and control d e t i d u A d e t i d u A sion. They may also result in damage to our reputation and to our franchise, which have longer-term financial consequences. Risk measurement A variety of methodologies and measurements are applied to quantify the risks of our portfolios and our risk concentrations. Risks that are not fully reflected within standard measures are subject to additional controls, which may include pre-approval of transactions and specific restrictions. Models to quantify risk are generally developed by dedicated units within control functions. Valuations and risk models that could impact the firm’s books and records are independently verified, and subjected to ongoing monitoring and control by the Group Chief Risk Officer and Group Chief Financial Officer organizations. The base measures are position level market risk sensitivities and credit risk exposures which, in aggregate, provide an over- view of our risk across positions. These measures are supplement- ed with portfolio level statistical and stress loss measures, which are two complementary types of risk measures we use to assess potential future losses at an aggregate level. Statistical loss Statistical loss measures include value-at-risk (VaR), expected loss and earnings-at-risk (EaR). VaR estimates the losses arising from market risk, which could potentially be realized over a set time period at an established level of confidence. Expected loss mea- sures the average annual costs that are expected to arise from our credit portfolios and operational risks. EaR measures the potential shortfall in our earnings that could be realized over a set time pe- riod at an established level of confidence, and is comprised of core statistical measures complemented by management assessment. ➔ Refer to the “Credit risk”, “Market risk” and “Operational risk” sections of this report for a description of our key statistical loss measures Stress loss Stress loss is the loss that could result from extreme events under specified scenarios. We perform stress testing to complement our statistical loss measures and to give us a better understanding of our risk capacity and appetite. Stress testing quantifies our expo- sures to plausible yet extreme and unusual market movements and enables us to identify, understand and manage our potential vulnerabilities and risk concentrations. Our stress testing frame- work incorporates a comprehensive range of portfolio-specific stress tests as well as combined firm-wide stress tests. Portfolio-specific stress tests are measures that focus on the risks of specific portfolios within the business divisions. Our portfolio stress loss measures are informed by past events but also include forward-looking elements. The stress scenarios for trading risks capture the liquidity characteristics of different markets and posi- tions. For example, our stress frameworks include a scenario which reflects the extreme market conditions that were experienced at the height of the financial crisis in the fourth quarter of 2008. Our combined stress test (CST) framework captures firm-wide exposures to a number of global systemic events, including a euro zone crisis and a severe global recession triggered by severe market events similar to those observed in 2008. These stress tests are based on forward-looking market events and macroeconomic scenarios calibrated to different levels of severity. The evolution of market indicators and economic variables under these scenarios is defined and applied to our entire risk portfolio. The impact of primary risks, operational risks, other consequential risks (e.g. structural foreign exchange risk) and business risks is assessed with the aim of calculating the loss and capital implications should these stress scenarios occur. Stress test results are included in risk reporting and are impor- tant inputs for the risk control, risk appetite and business planning processes of the firm. Our firm-wide stress testing, which captures all major identified risks across our business divisions, is one of the key inputs for discussions between senior management, the BoD and regulators with regard to our risk profile. We continue to provide detailed stress analyses to FINMA in accordance with their requirements. The stress scenarios are reviewed, updated and expanded reg- ularly in the context of the macroeconomic and geopolitical envi- ronment by a committee of representatives from the business divi- sions, Risk Control and economic research. Our stress testing therefore attempts to provide a control framework that is for- ward-looking and responsive to changing market conditions. However, the market moves experienced in real stress events may differ from moves envisaged in our scenario specifications. Most major financial firms employ stress tests, but their ap- proaches vary significantly, and there are no industry standards defining stress scenarios or the way they should be applied to a firm’s positions. Consequently, comparisons of stress results be- tween firms can be misleading and, therefore, like most of our peers, we do not publish quantitative stress test results. ➔ Refer to the “Credit risk” and “Market risk” sections of this report for a description of our key stress loss measures Group risk appetite framework Our risk appetite framework establishes risk appetite objectives that we seek to maintain, even after experiencing severe losses over a defined time horizon. The risk appetite objectives are ap- proved by the BoD. In order to monitor our risk profile against our risk appetite, we use two complementary firm-wide risk measurement frameworks: one statistical, comprising the metrics earnings-at-risk (EaR) and capital-at–risk (CaR), and the other a scenario-based combined stress test (CST). Both frameworks seek to capture risks across all of our business divisions and from all major risk categories, includ- ing primary risks, operational risks, other consequential risks (e.g. structural foreign exchange risk) and business risks. The firm-wide risk metrics have a central place in our risk control, capital man- agement and business planning processes, and can be summa- rized as follows: 134 – EaR is measured as the potential shortfall in earnings at a 95% confidence level and is evaluated over both three-month and one-year periods. d e t i d u A – CaR extends EaR to consider the impact on BIS tier 1 capital of a more severe earnings shortfall and is measured at confidence levels from 95% to 99.9%. – CST evaluates the potential impact of specific stress scenarios across our risk portfolios, as described in the “Stress loss” sec- tion above, from which the impact on our earnings and capital is assessed. For each risk appetite objective, aggregate risk exposure as measured by our firm-wide risk metrics is compared to risk capac- ity, which is based on our capital and forecasted earnings. Overall risk appetite is expressed through a defined risk capacity for each objective, which thus sets an upper limit on aggregate risk expo- sure. The comparison of risk exposure to risk capacity is a key consideration in management decisions on potential adjustments to the risk profile of our firm. The risk appetite objectives are eval- uated each year in the context of the prospective business plans. The risk limit framework reflects the risk appetite as expressed through the approved risk appetite objectives, but also takes pre- vailing operating conditions into account. As of 1 January 2013 the risk appetite objectives consider the impact of our specified stress events on Basel III CET1 capital. Spe- cifically, we have set as an objective that the Basel III CET1 phase- in capital ratio remains at 10% or above if a severe stress event were to occur, for which we consider both the prevailing CST stress scenarios and the statistical CaR metric at a 95% confi- dence level. In both cases, we apply a one-year time horizon dur- ing which we model how the risks, earnings and costs of the firm will evolve. All elements that impact income, regulatory capital (including planned dividends and other capital distributions) and RWA are included in the assessment. In addition, we have set as an objective that available Basel III CET1 capital plus outstanding loss-absorbing notes are sufficient to absorb losses from an ex- treme 99.9% worst-case CaR stress event. The strategic plan ap- proved by the BoD on 29 October 2012 is consistent with the achievement of these objectives. It is our intention to use fully applied Basel III CET1 as the capital measure for the purpose of the risk appetite framework by 2015. ➔ Refer to the “Capital” section of this report for more information Risk concentrations d e t i d u A A risk concentration exists where (i) a position in financial instru- ments is affected by changes in a group of correlated factors, or a group of positions are affected by changes in the same risk factor or a group of correlated factors, and (ii) the exposure could, in the event of large but plausible adverse developments, result in sig- nificant losses. The identification of risk concentrations requires judgment, as potential future developments cannot be predicted and may vary from period to period. In determining whether we have a risk concentration, we consider a number of elements, both individu- ally and collectively. These elements include: the shared character- istics of the instruments and counterparties; the size of the posi- tion or group of positions; the sensitivity of the position or group of positions to changes in risk factors; and the volatility and cor- relations of those factors. Also important in our assessment is the liquidity of the markets where the instruments are traded, and the availability and effectiveness of hedges or other potential risk- mitigating factors. The value of a hedge instrument may not al- ways move in line with the position being hedged, and this mis- match is referred to as basis risk. Risk concentrations are subject to increased monitoring by Risk Control and assessed to determine whether they should be reduced or mitigated depending on the available means to do so. It is possible that material losses could occur on asset classes, positions and hedges, particularly if the correlations that emerge in a stressed environment differ markedly from those we antici- pated. We are exposed to price risk, basis risk, credit spread risk and default risk as well as other idiosyncratic and correlation risks on both our equities and fixed income inventories. In addition, we have lending, counterparty and country risk exposures that could result in significant losses if economic conditions were to change. ➔ Refer to the “Credit risk”, “Market risk” and “Operational risk” sections of this report for more information on the risks to which we are exposed Risk disclosures Our measures of risk exposure may differ depending on the pur- pose for which exposures are calculated, for example, for financial accounting purposes under International Financial Reporting Standards (IFRS), determination of our required regulatory capital or our internal management purposes. The exposures detailed in the “Credit risk” and “Market risk” sections are typically based on our internal management view of risk exposure. ➔ Refer to the “Basel 2.5 Pillar 3” section of this report for more information on the exposures we use in the determination of our required regulatory capital 135 Risk, treasury and capital management Risk, treasury and capital management Risk management and control Credit risk d e t i d u A d e t i d u A Credit risk is the risk of loss resulting from the failure of a client or counterparty to meet its contractual obligations. This includes settlement risk, an example of which would be a counterparty failing to deliver the counter-value of a foreign exchange trans- action in which we have fulfilled our obligation. In addition, a credit loss can be triggered by economic or political difficulties in the country in which a counterparty or issuer of a security is based or has substantial assets (country risk). Sources of credit risk Credit risk arises from traditional banking products such as loans, loan commitments and guarantees (for example, letters of credit). It also arises from traded products, including over-the- counter (OTC) derivative transactions and exchange-traded de- rivatives, as well as securities financing transactions such as re- purchase agreements (repos and reverse repos), securities borrowing and lending transactions. The same general risk con- trol processes are applied to these products, although the ac- counting treatment may vary, as products may be carried at am- ortized cost (loans and receivables), at fair value through profit and loss (instruments held for trading, instruments designated at fair value) or at fair value through other comprehensive income (available-for-sale instruments) depending on the product type and the nature of the exposure. Securities and other obligations in tradable form also pose credit risk, as their fair values are af- fected by changing expectations regarding the probability of is- suers failing to meet these obligations or when issuers actually fail to meet these obligations. Where these securities and obliga- tions are held in connection with a trading activity, we view the risk as an issuer risk. Debt securities not held in connection with a trading activity are reported as debt investments and discussed at the end of this section. Many of the business activities of Wealth Management, Wealth Management Americas, Retail & Corporate, the Investment Bank and the Corporate Center – Legacy Portfolio expose us to credit risk. Credit risk exposures also arise from our Global Asset Management business, albeit to a lesser extent. Credit risk control d e t i d u A Limits and controls Limits are established for individual counterparties and their coun- terparty groups covering banking and traded products, as well as settlement amounts. These limits apply not only to the current outstanding amount, but also to contingent commitments and the potential future exposure of traded products. Credit engage- ments may not be entered into without the appropriate approvals and adherence to these limits. d e t i d u A In the Investment Bank, a distinction is made between expo- sures intended to be held to maturity (take-and-hold exposures) and those which are intended to be held for a short term, pending distribution or risk transfer (temporary exposures). Credit risk concentrations can arise if clients are engaged in similar activities, are located in the same geographical region or have comparable economic characteristics, for example if their ability to meet contractual obligations would be similarly affected by changes in economic, political or other conditions. To avoid credit risk concentrations, we establish limits and / or operational controls that constrain risk concentrations at portfolio and sub- portfolio levels with regard to sector exposures, country risk and specific product exposures. d e t i d u A Risk mitigation We actively manage the credit risk in our portfolios by taking col- lateral against exposures and utilizing credit hedging. In Wealth Management, Wealth Management Americas and Retail & Cor- porate, the majority of loans are extended on a secured basis. For real estate financing, a mortgage over the property is taken to secure the claim. Commercial loans may also be secured by mort- gages on business premises or other real estate. We apply mea- sures to evaluate collateral and determine maximum loan-to- value ratios, including an assessment of income cover. Lombard loans are made against the pledge of eligible market- able securities, guarantees and other forms of collateral. The Investment Bank also takes collateral in the form of marketable securities and cash in its OTC derivatives and securities financing businesses. Discounts (haircuts) are generally applied to the mar- ket value of the collateral reflecting the quality, liquidity and vola- tility of the underlying collateral. Exposure and collateral values are continuously monitored, and margin calls or close-out proce- dures are enforced when the market value of collateral falls below a predefined trigger level. Concentrations within individual col- lateral portfolios and across clients are also monitored where relevant and may affect the haircut applied to a specific collateral pool. Our OTC derivatives trading is generally conducted under bilat- eral International Swaps and Derivatives Association (ISDA) or IS- DA-equivalent master netting agreements, which allow for the close-out and netting of all transactions in the event of default. For certain major market participant counterparties like hedge funds, we may also use two-way collateral agreements under which either party can be required to provide collateral in the form of cash or marketable securities when the exposure exceeds a predefined level. We have clearly defined processes for entering into netting and collateral agreements, including the requirement to have a legal opinion on the enforceability of contracts in rele- vant jurisdictions in the case of insolvency. 136 d e t i d u A Primarily in the Investment Bank and for the Corporate Center – Legacy Portfolio, we actively manage the credit risk of our port- folios with the aim of reducing concentrations of risk from spe- cific counterparties, sectors or portfolios. Hedging measures used include single-name credit default swaps (CDS), index CDS and total return swaps. Single-name CDS are generally executed un- der bilateral netting and collateral agreements with high-grade market counterparties. We observe strict standards for recogniz- ing credit hedges. For example, when monitoring exposures against limits, we do not usually recognize credit risk mitigants such as proxy hedges (credit protection on a correlated but differ- ent name) or index CDS. Buying credit protection creates credit exposure against the hedge provider. We monitor our exposures to credit protection providers and the effectiveness of credit hedges as part of our overall credit exposures to the relevant counterparties. In addition, we identify and monitor positions where we believe there is significant exposure and correlation between the counterparty and the hedge provider (so-called wrong-way risk). Our policy is to discourage such activity, but in any event or as market correlations may change, not to recognize wrong-way-risk hedge benefits within counterparty limits and capital calculations. ➔ Refer to the “Basel 2.5 Pillar 3” section of this report for more information on credit derivatives Credit risk measurement d e t i d u A We have developed tools and models to measure credit risk. Ex- posures to individual counterparties are measured based on three generally accepted parameters: probability of default, exposure at default and loss given default. These parameters are the basis for the majority of our internal measures of credit risk, and are key inputs for the regulatory capital calculation under the advanced internal ratings-based approach of the Basel 2.5 framework gov- erning international convergence of capital. We also use models to derive the portfolio credit risk measures of expected loss, statis- tical loss and stress loss. d e t i d u A Probability of default The probability of default is an estimate of the likelihood of a counterparty defaulting on its contractual obligations. This prob- ability is assessed using rating tools tailored to the various categories of counterparties. These categories are also calibrated to our internal credit rating scale (masterscale), which is designed to ensure a consistent assessment of default probabilities across counterparties. We regularly assess the performance of our rat- ing tools and adjust our model parameters as necessary. In addi- tion to using ratings for credit risk measurement, we use them as an important input for determining credit risk approval au- thorities. In the Investment Bank and for the Corporate Center – Legacy Portfolio, rating tools are applied to broad segments including banks, sovereigns, corporates, funds, hedge funds and commer- cial real estate. We determine our choice of the relevant assess- ment criteria, for example, financial ratios and qualitative factors, for the rating tools on the basis of various statistical analyses, ex- ternally available information and expert judgment. Within Retail & Corporate, we rate our business and corporate clients in the small to medium enterprise segment using statisti- cally developed scorecards. The underlying data used in our score- cards is predominantly based on a combination of clients’ finan- cial information, qualitative criteria and credit loss history over several years. To rate our large corporate clients domiciled in Swit- zerland, Retail & Corporate uses templates established for this segment by our Investment Bank. We assess the probability of default from loans secured on owner-occupied or investment properties with a model that takes into account loan-to-value ra- tios and debt service capacity of the obligor. We rate Lombard loan exposures by means of a model simulating potential changes in the value of the collateral, and the probability that it may be- come lower than the loan amount. Our masterscale expresses default probabilities that we deter- mine through our various rating tools by means of distinct classes, whereby each class incorporates a range of default probabilities. Counterparties migrate between rating classes as our assessment of their probability of default changes. During the third quarter of 2012 we recalibrated the internal ratings for counterparties in several of our portfolios, extending the sample of historical defaults to take into account observations further back in time than had been considered previously. The extension of the sample reduces the pro-cyclicality of the rating tools. This resulted in some internal ratings changing, a generally downward shift in the ratings of counterparties within our Swiss mortgage portfolio and a generally upward shift in the ratings of counterparties within the corporate portfolio. The ratings of the major credit rating agencies, and their map- ping to our internal rating masterscale, are shown in the “Internal UBS rating scale and mapping of external ratings” table. The Internal UBS rating scale and mapping of external ratings Internal UBS rating Moody’s Investors Service mapping Standard & Poor’s mapping Description 0 and 1 Investment grade Aaa 2 3 4 5 6 7 8 9 10 11 12 13 14 Aa1 to Aa3 A1 to A3 Baa1 to Baa2 Baa3 Ba1 Ba2 Ba3 B1 B2 B3 Caa Ca to C Sub-investment grade Defaulted AAA AA+ to AA– A+ to A– BBB+ to BBB BBB– BB+ BB BB– B+ B B– CCC CC to C D 137 Risk, treasury and capital management Risk, treasury and capital management Risk management and control mapping is based on the long-term average of one-year default rates available from the rating agencies. For each external rating category, the average default rate is compared with our internal default probability bands to derive a mapping to our internal rat- ing scale. Our internal rating of a counterparty may, therefore, diverge from one or both of the correlated external ratings shown in the table. Observed defaults by rating agencies may vary through economic cycles, and we do not necessarily expect the actual number of defaults in our equivalent rating band to equal the rating agencies’ average in any given period. We periodically assess the long-term average default rates of credit rating agen- cies’ grades, and we adjust their mapping to our masterscale as necessary to reflect any material changes. Exposure at default Exposure at default (EaD) represents the amount we expect to be owed by a counterparty at the time of a possible default. We de- rive EaD from our current exposure to the counterparty and the possible future development of that exposure. The EaD of a loan is the drawn or face value of the loan. For loan commitments and guarantees, the EaD includes the amount drawn as well as potential future amounts that may be drawn, which are estimated based on historical observations. For traded products, we derive the EaD by modeling the range of possible exposure outcomes at various points in time. For securities financing transactions, we assess the net amount that may be owed to us or that we may owe to others, taking into ac- count the impact of market moves over the potential time it would take to close out all our positions. For exchange-traded derivatives, our calculation of EaD takes into account initial and daily variation margins. We derive the EaD for OTC derivatives by modeling the potential development of replacement values of the portfolio of trades by counterparty (potential credit exposure) less the values of legally enforceable netting agreements. For collater- alized OTC derivatives, our potential credit exposure is based on modeling the potential development of replacement values and collateral values, and the price correlation between the various instruments. When measuring individual counterparty exposure against credit limits, we consider the maximum likely exposure measured to a high level of confidence of outstanding obligations. However, when aggregating exposures to different counterparties for port- folio risk measurement purposes, we use the expected exposure to each counterparty at a given time period (usually one year) generated by the same model. We monitor the performance of our exposure models by back- testing and benchmarking them, whereby model outcomes are compared with actual results, based on our internal experience as well as externally observed results. We assess our exposures where there is a material correlation between the factors driving the credit quality of the counterparty and those driving the potential future value of our traded product exposure (wrong-way risk), and we have established specific con- trols to mitigate these risks. Loss given default Loss given default (LGD) is the magnitude of the likely loss in case of default. LGD estimates include loss of principal, interest and other amounts (such as workout costs, including the cost of car- rying an impaired position during the workout process) less recov- ered amounts. We determine LGD based on the likely recovery rate of claims against defaulted counterparties, which depends on the type of counterparty and any credit mitigation by way of collateral or guarantees. In our Investment Bank, LGD estimates are based on an assessment of key risk drivers such as industry segment, collateral and seniority of a claim as well as a country’s legal environment and bankruptcy procedures, supported by our internal loss data and external information where available. In our other lending portfolios, the LGD differs by counterparty and col- lateral type and is statistically estimated based on our internal loss data. Where we hold collateral, such as marketable securities or a mortgage on a property, loan-to-value ratios are a key factor in determining LGD. Expected loss Credit losses are an inherent cost of doing business, but the oc- currence and amount of credit losses can be erratic. In order to quantify future credit losses that may be implicit in our current portfolio, we use the concept of expected loss. Expected loss is a statistical measure used to estimate the aver- age annual costs we expect to experience from positions in our current credit portfolio that become impaired. The expected loss for a given credit facility is a function of the three components described above: probability of default, EaD and LGD. We aggre- gate the expected loss for individual counterparties to derive our expected portfolio credit losses. Expected loss is the basis for quantifying credit risk in all our portfolios. It is also the starting point for the measurement of our portfolio statistical loss and stress loss and may be used as an in- put to value certain products. Statistical and stress loss We use a statistical modeling approach to estimate the loss profile of our credit portfolios over a one-year period to a specified level of confidence. The mean value of this loss distribution is the ex- pected loss. The loss estimates deviate from the mean due to the statistical uncertainty on the defaulting counterparties and to sys- tematic default relationships among counterparties within and between segments. The statistical measure is sensitive to concen- tration risks on individual counterparties and groups of counter- parties. The outcome provides an indication of the level of risk in our portfolio and the way it may develop over time. Stress loss is a scenario-based measure which complements our statistical modeling approach. We use it to assess our poten- tial loss in various stress scenarios based on the assumption that one or more of the three key credit risk parameters will deterio- rate substantially. We run stress tests on a regular basis to monitor and limit the potential impact of extreme, but nevertheless plau- sible events on our portfolios and apply limits on this basis. 138 Composition of credit risk – Group The exposures detailed in the tables in this section are based on our internal management view of credit risk. The “Credit exposure by business division and Corporate Cen- ter” table shows a breakdown of our banking and traded product exposures before and after allowances and provisions for credit losses, credit valuation adjustments (CVA) on traded products and single-name credit hedges. The effect of portfolio hedges, such as index CDS, is not reflected in this analysis. Banking product expo- sures are shown on an amortized cost-basis, guarantees and loan commitments on a notional basis, without applying credit conver- sion factors. Exposures to OTC derivatives are generally shown in the tables as net positive replacement values (RV) after the appli- cation of legally enforceable netting agreements and the deduc- tion of cash collateral. In some cases, however, the exposures are based on a more simplistic RV plus add-on approach. Exchange- traded derivatives (ETD) exposures take into account initial and daily variation margins. Securities financing exposures are shown net of the collateral received. Our lending businesses saw increased levels of exposure in 2012. Total gross credit exposure amounted to CHF 496 billion on 31 December 2012 compared with CHF 476 billion at the end of 2011. Our banking product exposures increased to CHF 440 bil- lion from CHF 394 billion, mainly due to increases in the balances with central banks and in the loan books of Wealth Management and Wealth Management Americas. Our traded products expo- sures, which arise largely in our Investment Bank, declined by CHF 26 billion to CHF 56 billion. Additional information on the composition and credit quality of our Wealth Management and Retail & Corporate loan port- folios and the Investment Bank’s banking products and OTC de- rivatives portfolios is provided further on in this section. ➔ Refer to the “Basel 2.5 Pillar 3” section of this report for more information on the credit exposures used in the determination of our required regulatory capital and additional information on credit derivatives ➔ Refer to “Note 25 Derivative instruments and hedge accounting“ and “Note 29a Measurement categories of financial assets and liabilities“ in the “Financial information” section of this report for the IFRS required disclosures on derivatives and credit risk d e t i d u A Credit exposure by business division and Corporate Center Wealth Management Wealth Management Americas Investment Bank Global Asset Management Retail & Corporate Corporate Center 1 Group CHF million 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 Balances with central banks Due from banks Loans 2 Guarantees Loan commitments Banking products 3 OTC derivatives Exchange-traded derivatives Securities financing transactions 413 1,039 1,165 11,260 555 2,298 2,161 1,594 86,581 75,056 31,250 27,894 2,326 1,574 2,641 1,220 406 1,214 406 21,049 15,521 16,288 6,074 31,743 18,182 13,942 5,551 1,076 48,755 46,763 91,932 80,637 46,428 33,131 107,686 116,181 2,884 3,869 57 74 23,848 38,748 779 817 814 877 5,545 7,938 Traded products 3,663 4,686 154 1,025 155 1,106 14,462 43,855 20,051 66,737 Total credit exposure Total credit exposure, net 4 95,595 85,323 47,453 34,238 151,541 182,918 95,554 85,278 47,436 34,235 128,197 154,349 155 317 2,173 2,713 2,205 3,840 141 137,344 135,320 29,224 599 4,420 1,135 338 64,119 22,513 38,565 24,826 4,625 275,973 256,977 10,042 6,787 9,156 6,735 12 39 129 164 18,860 58,369 17,884 55,958 613 159,059 157,256 34,295 6,390 439,834 394,209 330 1,406 1,839 4,306 7,011 32,787 51,871 61 167 7,199 9,799 330 1,467 2,006 1,072 5,377 3 7,014 15,687 55,673 20,209 81,880 943 160,526 159,262 39,672 13,404 495,506 476,088 943 159,826 158,198 38,547 10,328 470,279 443,331 343 91 433 286 286 719 719 1 Includes the Legacy Portfolio. 2 Does not include reclassified securities and similar acquired securities in our Legacy Portfolio. 3 Excludes loans designated at fair value. 4 Net of allowances, provisions, CVA and hedges. 139 Risk, treasury and capital management Risk, treasury and capital management Risk management and control Swiss residential mortgage loans Our largest loan portfolio is our mortgage loan portfolio, which principally comprises loans within Switzerland which are secured by residential and commercial real estate. These mortgage loans mainly originate from our Retail & Corporate business but also include mortgage loans originating from our Wealth Manage- ment business. The majority of these mortgage loans relate to residential properties that the borrower either occupies or rents out and are full recourse to the borrower. We use a scoring model as part of a standardized front-to-back process to support credit decisions for the origination or modifica- tion of all Swiss mortgage loans. The two key factors within this model are an affordability calculation relative to gross income and the loan-to-value ratio (LTV). The calculation of affordability takes into account interest payments, minimum amortization require- ments, potential property maintenance costs and, in the case of properties expected to be rented out, the level of rental income. Interest payments are estimated using a predefined framework, which takes into account the potential for significant increases in interest rates during the lifetime of the loan. Approximately 70% of the Swiss residential mortgage loan portfolio relates to properties occupied by the borrower. For such mortgage loans, the maximum LTV allowed within the standard approval process is 80%. This is reduced to 60% in the case of vacation properties and luxury real estate. The value assigned by UBS to each property is based on the lowest value determined based on an internal valuation, the purchase price and, in some cases, an additional external valuation. Valuations of owner-occu- pied real estate are reviewed and updated throughout the lifetime of the loan, typically using real estate price indices. The average LTV ratio of this portfolio was approximately 55% at 31 Decem- ber 2012 compared with 58% at 31 December 2011. Over 99% of the aggregate amount of mortgage loans within this portfolio would continue to be covered by the real estate collateral even if the value assigned to that collateral were to decrease by 20%. Furthermore, these loans are full recourse to the borrower. The average LTV for 2012 of newly originated loans in this portfolio was 63%. Approximately 30% of the Swiss residential mortgage loan portfolio relates to properties rented out by the borrower. For such mortgage loans, the maximum LTV allowed within the stan- dard approval process ranges from 60% to 80%, depending on the type of property, the age of the property and the amount of any renovation work required. LTVs are reviewed and updated periodically throughout the lifetime of the loan. The rental income from properties is reviewed, at a minimum, once every three years, but indications of significant changes in the amount of rental income or the level of vacancy rate can trigger an interim reappraisal. The average LTV ratio of this portfolio was approxi- mately 58% at 31 December 2012 compared with 59% at 31 De- cember 2011. Over 99% of the aggregate amount of mortgage loans within this portfolio would continue to be covered by the real estate collateral even if the value assigned to that collateral were to decrease by 20%. Furthermore, these loans are full re- course to the borrower. The average LTV for 2012 of newly origi- nated loans in this portfolio was 56%. Composition of credit risk – business divisions and Corporate Center Wealth Management The total gross banking products exposure of Wealth Manage- ment increased to CHF 92 billion on 31 December 2012 com- pared with CHF 81 billion on 31 December 2011, in line with our strategy. Our Wealth Management loan portfolio is mainly secured by marketable securities, residential property and cash (including cer- tain fiduciary investments) as outlined in the table “Wealth Manage- ment and Retail & Corporate: composition of loan portfolio, gross”. The majority of loans secured by securities were of high quality, with 91% (94% on 31 December 2011) rated investment grade. Wealth Management Americas The total gross banking products exposure of Wealth Manage- ment Americas increased to CHF 46 billion on 31 December 2012 compared with CHF 33 billion on 31 December 2011. This expo- sure largely relates to loans secured by marketable securities (CHF 27.6 billion), residential mortgage loans (CHF 3.5 billion) and credit cards (CHF 0.2 billion). The majority of loans secured by marketable securities were of high quality, with 87% (88% in 2011) rated investment grade. Our Wealth Management Americas mortgage loan portfolio con- sists primarily of residential mortgages offered in all US states. Exposure continued to grow to CHF 3.5 billion as of 31 December 2012 from CHF 1.8 billion the prior year. The overall quality of this portfolio remains high with an average loan-to-value ratio (LTV) of 58% and we have experienced no credit losses since the inception of the mortgage program. The credit risk exposure arising from the credit card business was CHF 152 million on 31 December 2012 compared with CHF 135 million in the prior year. Investment Bank The table “Investment Bank: banking products and OTC deriva- tives exposure” shows the Investment Bank’s banking products (loans, guarantees and loan commitments) and OTC derivatives portfolios, gross and net of allowances, provisions, credit valua- tion adjustments (CVA) and single-name credit hedges based on our internal risk view. The effect of portfolio hedges, such as index CDS, is not reflected in this analysis. The gross banking product exposures shown in this table exclude exposure to central banks, due from banks, nostro accounts and money market bal- ances, which are included in the “Credit exposure by business division and Corporate Center” table. The Investment Bank’s net banking products exposure increased to CHF 56.0 billion as of 31 December 2012 from CHF 47.6 billion at the end of 2011. The Investment Bank continued to actively manage the credit risk of this portfolio and, as of 31 December 2012, held CHF 20.6 billion of single-name CDS hedges against its exposures to corporates 140 Investment Bank: banking products and OTC derivatives exposure 1 CHF million Total exposure, before deduction of allowances and provisions, CVA and hedges Less: allowances, provisions and CVA Less: credit protection bought (credit default swaps, notional) Net exposure after allowances and provisions, CVA and hedges Banking products OTC derivatives 31.12.12 76,673 2 (51) 31.12.11 70,606 2 (75) (20,619) (22,886) 56,003 47,645 31.12.12 31.12.11 23,848 (559) (2,005) 21,285 38,748 (981) (4,513) 33,254 1 Banking products: risk view, excludes balances with central banks, due from banks and internal risk adjustments; OTC derivatives: net replacement value includes the impact of netting agreements (including cash collateral) in accordance with Swiss federal banking law. 2 Banking products including money market and nostro accounts amount to CHF 107,686 million (31 December 2011: CHF 116,181 million). Investment Bank: distribution of net banking products exposure, across internal UBS ratings and loss given default (LGD) buckets CHF million, except where indicated Internal UBS rating Investment grade Sub-investment grade of which: 6–9 of which: 10–12 Moody’s Investors Service mapping Standard & Poor’s mapping Aaa to Baa3 AAA to BBB- Ba1 to B1 BB+ to B+ B2 to Caa B to CCC of which:13 and defaulted Ca and lower CC and lower Net banking products exposure, after application of credit hedges 1 31.12.12 LGD buckets Exposure 0–25% 26–50% 51–75% 76–100% 35,075 20,928 14,139 6,590 199 9,875 12,017 9,104 2,805 108 17,035 6,632 3,937 2,621 75 2,679 1,573 847 710 16 5,486 705 251 454 0 56,003 21,892 23,667 4,252 6,191 31.12.11 Weighted average LGD (%) 47 31 35 27 20 42 Exposure 30,326 17,318 9,686 7,112 520 47,645 Weighted average LGD (%) 44 25 22 32 21 37 1 Banking products: risk view, excludes balances with central banks, due from banks and internal risk adjustments. Investment Bank: distribution of net OTC derivatives exposure, across internal UBS ratings and loss given default (LGD) buckets CHF million, except where indicated Internal UBS rating Investment grade Sub-investment grade of which: 6–9 of which: 10–12 Moody’s Investors Service mapping Standard & Poor’s mapping 31.12.12 LGD buckets Exposure 0–25% 26–50% 51–75% 76–100% Aaa to Baa3 AAA to BBB- 20,008 5,210 12,609 1,339 Ba1 to B1 BB+ to B+ B2 to Caa B to CCC 1,276 1,131 41 104 649 600 4 45 375 289 31 55 51 44 5 2 850 201 198 1 2 of which:13 and defaulted Ca and lower CC and lower Net OTC derivatives exposure, after application of credit hedges 1 21,285 5,859 12,984 1,390 1,051 1 OTC derivatives: net replacement value includes the impact of netting agreements (including cash collateral) in accordance with Swiss federal banking law. 31.12.11 Weighted average LGD (%) 32 53 59 45 31 34 Exposure 31,374 1,879 1,464 117 297 33,254 Weighted average LGD (%) 34 34 34 41 30 34 141 Risk, treasury and capital management Risk, treasury and capital management Risk management and control Investment Bank: net banking products and OTC derivatives exposure by industry sector 1 CHF million Banks Chemicals Electricity, gas, water supply Non-bank financial institutions Manufacturing Mining Public authorities Retail and wholesale Transport, storage and communication Other Total Banking products OTC derivatives 31.12.12 31.12.11 31.12.12 5,540 1,336 3,944 16,211 8,127 5,959 2,841 2,046 3,543 6,456 5,082 1,866 3,760 13,145 6,307 5,990 1,264 1,791 4,041 4,398 7,947 224 463 8,823 331 114 1,992 54 601 736 31.12.11 10,935 188 252 15,764 626 211 3,585 43 943 707 56,003 47,645 21,285 33,254 1 Banking products: exposure to commercial counterparties after risk transfer and application of credit hedges. OTC derivatives: net replacement value includes the impact of netting agreements (including cash collat- eral) in accordance with Swiss federal banking law. Investment Bank: net banking products and OTC derivatives exposure by geographical region CHF million Asia Pacific Latin America Middle East and Africa North America Switzerland Rest of Europe Total Banking products OTC derivatives 31.12.12 31.12.11 31.12.12 31.12.11 4,158 210 278 40,798 257 10,301 56,003 4,259 653 271 33,771 758 7,932 47,645 3,499 186 755 6,524 864 9,457 21,285 3,345 201 433 9,293 1,263 18,718 33,254 and other non-banks down from CHF 22.9 billion at the end of 2011. In addition the Investment Bank held CHF 403 million of loss protection from the subordinated tranches of structured credit protection which is not reflected in the table. Further breakdowns are provided within the table “Investment Bank: distribution of net banking products exposure, across inter- nal UBS ratings and loss given default (LGD) buckets”. At the end of the year, and based on internal ratings, approximately 63% of the Investment Bank’s net banking products exposure was classi- fied as investment grade compared with 64% at the end of the prior year. The majority of the Investment Bank’s net banking prod- ucts exposure had estimated loss given defaults of between 0% to 50%. The Investment Bank’s lending activities are largely associat- ed with corporates and other non-banks, which is broadly diversi- fied across industry sectors, but concentrated in North America. The Investment Bank’s net OTC exposure decreased to CHF 21.3 billion as of 31 December 2012 from CHF 33.3 billion at the end of 2011. Approximately 94% of the Investment Bank’s net OTC derivatives portfolio was traded with counterparties rated investment grade, the vast majority of which were banks and regulated financial institutions with which trading was con- ducted primarily on a collateralized basis. The tables shown on the previous and on this page provide additional analysis of the portfolio by our internal rating and LGD, by industry sector and by geographical region. ➔ Refer to “Note 29b) Reclassification of financial assets” in the “Financial information” section of this report for more informa- tion on reclassified securities Retail & Corporate The total gross banking products exposure of Retail & Corporate was CHF 159 billion on 31 December 2012 compared with CHF 157 billion on 31 December 2011. Approximately 70% of Retail & Corporate’s banking product portfolio is rated investment grade, with over 80% of this portion categorized in the lowest LGD bucket of 0–25%. Retail & Corporate’s gross loan portfolio increased to CHF 137 billion, from CHF 135 billion in the prior year. The composi- tion of the Retail & Corporate loan portfolio was largely un- changed over the year. At year-end 2012, 92% of this portfolio was secured by collateral and, based on our internal ratings, 54% of the unsecured loan portfolio was rated investment grade. Furthermore, 60% of the unsecured portfolio related to cash flow-based lending to corporate counterparties compared with 61% on 31 December 2011, and 22% to lending to public au- thorities compared with 23% on 31 December 2011. 142 Wealth Management and Retail & Corporate: composition of loan portfolio, gross CHF million, except where indicated 31.12.12 1 31.12.11 31.12.12 31.12.11 Wealth Management Retail & Corporate Secured by residential property Secured by commercial / industrial property Secured by cash Secured by securities Secured by guarantees and other collateral Unsecured loans Total loans, gross Total loans, net of allowances and credit hedges 30,829 1,972 12,235 34,973 6,265 307 86,581 86,540 % 35.6 2.3 14.1 40.4 7.2 0.4 100.0 28,467 1,805 10,000 26,718 8,010 55 75,056 75,011 % 37.9 2.4 13.3 35.6 10.7 0.1 100.0 98,681 19,861 173 1,414 5,875 11,340 137,344 136,770 % 71.8 14.5 0.1 1.0 4.3 8.3 100.0 96,172 19,542 637 1,327 5,285 12,356 135,320 134,561 % 71.1 14.4 0.5 1.0 3.9 9.1 100.0 1 Exposures as of 31 December 2012 reflect a refined reporting process for allocating Wealth Management loans to the secured and unsecured categories and are therefore not directly comparable to the prior period exposures. Retail & Corporate: distribution of net banking products exposure across internal UBS ratings and loss given default (LGD) buckets CHF million, except where indicated Internal UBS rating Investment grade Sub-investment grade of which: 6–9 of which: 10–12 of which: 13 Total non-defaulted Defaulted 1 Net banking products exposure 2 Moody’s Investors Service mapping Standard & Poor’s mapping Exposure Aaa to Baa3 AAA to BBB- 109,221 Ba1 to B1 B2 to Caa BB+ to B+ B to CCC Ca and lower CC and lower 47,971 45,704 1,916 351 31.12.12 LGD buckets 0–25% 92,245 38,557 36,614 1,598 345 26–50% 51–75% 76–100% 15,953 7,067 6,764 297 5 1,014 1,283 1,264 18 0 9 1,064 1,062 2 0 157,192 130,802 23,020 2,297 1,073 1,168 158,359 Weighted average LGD (%) 10 15 16 14 6 12 31.12.11 Weighted average LGD (%) 10 15 15 15 6 12 Exposure 104,748 50,314 47,922 2,132 261 155,062 1,130 156,192 1 Due to the applied risk calculation approach for default positions, no LGD is assigned. 2 Gross exposure before deduction of allowances and provisions for credit losses of CHF 610 million (31 December 2011: CHF 665 million) and credit hedges of CHF 90 million (31 December 2011: CHF 400 million) is CHF 159,059 million (31 December 2011: CHF 157,256 million). Retail & Corporate: unsecured loans by industry sector CHF million Construction Financial institutions Hotels and restaurants Manufacturing Private households Public authorities Real estate and rentals Retail and wholesale Services Other Total 31.12.12 31.12.11 108 1,106 51 1,921 1,578 2,562 430 1,818 1,289 478 120 882 252 2,165 1,730 2,906 1,110 1,520 1,454 218 11,340 12,356 143 Risk, treasury and capital management Risk, treasury and capital management Risk management and control Corporate Center – Legacy Portfolio The loans of CHF 11.7 billion in our Legacy Portfolio predomi- nantly comprise assets that were reclassified in the fourth quarter of 2008 and in the first quarter 2009 from Held for trading to Loans and receivables, student loan auction rate securities and our loan to the RMBS Opportunities Master Fund, LP, a special purpose entity managed by BlackRock Financial Management Inc. The net replacement value of our OTC contracts within the Legacy Portfolio after application of master netting agreements, hedges, allowances and credit valuation adjustments was CHF 3.2 billion at year-end 2012. Loan to BlackRock fund In the second quarter of 2008, we sold a portfolio of US residen- tial mortgage-backed securities (RMBS) for USD 15 billion to the RMBS Opportunities Master Fund, LP (RMBS fund), a special pur- pose entity managed by BlackRock Financial Management, Inc. The RMBS fund was capitalized with approximately USD 3.75 bil- lion in equity raised by BlackRock from third-party investors and an eight-year amortizing USD 11.25 billion senior secured loan provided by UBS. The RMBS fund amortizes the loan through monthly pay- ments drawn from amounts collected from the underlying assets. These collections are allocated to the payment of interest and principal of the loan and to the holders of equity interests in the RMBS fund in accordance with the terms of the loan agreement. Allocations to equity holders may be reduced or suspended in the event of specified declines in the aggregate notional balance of the portfolio, and we may assume control of the underlying as- sets in the event of a further specified decline in the notional balance. As of 31 December 2012, the loan had a balance outstanding of USD 3.6 billion compared with USD 4.7 billion on 31 December 2011, taking into account amounts held in escrow. The aggregate notional balance of the RMBS fund’s assets collateralizing the loan on 31 December 2012 was USD 9.7 billion. By notional balance, the portfolio is primarily comprised of Alt-A (53%) and sub-prime (34%) credit grades. In terms of priority, the portfolio was domi- nated by senior positions (97%). The RMBS fund is not consolidated in our financial statements. We continue to monitor the RMBS fund and its performance and will reassess the consolidation status if events warrant and dete- rioration of the underlying RMBS mortgage pools indicates that the equity investors in the fund no longer control it. We also con- tinue to assess the loan to the RMBS fund to determine whether it has been impaired. Developments through the year ended 31 December 2012 have not altered our conclusion that the loan is not impaired and that consolidation is not required. d e t i d u A Exposure to student loan auction rate securities Our overall exposure to student loan auction rate securities (ARS) was reduced by USD 1.6 billion to USD 4.1 billion on 31 Decem- ber 2012 following sales during the year. At the end of 2012, 88% of the collateral underlying the re- maining student loan auction rate securities inventory was backed by Federal Family Education Loan Program guaranteed collateral, which is reinsured by the US Department of Education for no less than 97% of principal and interest. All of our student loan auction rate securities positions are held as Loans and receivables and are subject to a quarterly impairment test that includes a review of performance reports for each issuing trust. d e t i d u A d e t i d u A Student loan ARS inventory USD million US student loan ARS of which: rated BB– and above of which: rated below BB– Carrying value 31.12.12 4,110 1 4,062 47 31.12.11 5,683 5,154 529 1 Includes USD 1.8 billion (CHF 1.6 billion) at carrying value of student loan ARS that were reclassified to Loans and receivables from Held for trading in the fourth quarter of 2008. Refer to “Note 29b) Reclassification of financial assets” in the “Financial information” section of this report for more information. Exposure to monoline insurers, by rating 1 USD million Credit protection bought from monoline insurers, by rating 3 of which: from monolines rated investment grade (BBB and above) of which: from monolines rated sub-investment grade (BB and below) Total 31.12.12 Total 31.12.11 31.12.12 Notional amount 2 Column 1 Fair value of CDS CVA Fair value of CDS after CVA Column 2 Column 3 Column 4 (=2–3) 1,130 4,599 5,729 7,714 291 684 975 2,825 66 277 343 1,597 225 407 633 1,228 1 Excludes the benefit of credit protection purchased from unrelated third parties. 2 Represents gross notional amount of credit default swaps (CDS) purchased as credit protection. 3 Categorization based on the lowest insurance financial strength rating assigned by external rating agencies. 144 d e t i d u A Exposure to monoline insurers All our exposure to monoline insurers is within the Legacy Port- folio and arises from credit default swap (CDS) protection pur- chased to hedge specific positions. The table “Exposure to mono- line insurers, by rating” shows the CDS protection purchased from monoline insurers, calculated as the sum of the fair values of individual CDS after credit valuation adjustments (CVA). d e t i d u A The total fair value of CDS protection purchased from mono- line insurers decreased from USD 1.2 billion to USD 0.6 billion after cumulative CVA of USD 0.3 billion. This reduction was largely a result of trade commutation on monoline exposures. This exposure is materially hedged with single-name credit default swaps. ➔ Refer to the “Non-trading portfolios – valuation and sensitivity information by instrument category” section below for more information d e t i d u A d e t i d u A Impairment and default – distressed claims With respect to distressed claims resulting from banking products, we distinguish between loans that are “past due” and those that are “impaired”. We also assess claims from securities financing transactions for default and impairment using the same principles and processes we use for banking products. We consider a loan to be past due when a contractual pay- ment has not been received by its contractual due date. Past due but not impaired loans are those that have suffered missed pay- ments, but are not considered impaired because we expect to collect all amounts due under the contractual terms of the loans or the equivalent value from liquidation of collateral. A loan is considered impaired when management determines that it is probable that we will not be able to collect all amounts due (or the equivalent value thereof) based on the original con- tractual terms. Individual credit exposures are evaluated based on the borrower’s character, overall financial condition, resources and payment record; the prospects for support from any finan- cially responsible guarantors; and, where applicable, the realiz- able value of any collateral. Loans in arrears for 90 days are evaluated individually for im- pairment. However, an impairment analysis would be carried out irrespective of whether the loan was in arrears if other objective evidence indicates that a loan may be impaired. Any event that impacts current and future cash flows may be an indication of impairment and trigger an assessment by the risk officer. Such events may be: (i) past due and non-performing status of credit exposures, (ii) significant collateral shortfalls due to a fall in lend- ing values (securities and real estate), (iii) increase in loan or de- rivative exposures, (iv) significant financial difficulties of a client, (v) high probability of bankruptcy, (vi) debt moratorium, (vii) finan- cial restructuring including granting of preferential interest rates and (viii) extension of maturity or even partial forgiveness to pre- vent a credit default. We have established processes to ensure that the carrying val- ues of impaired claims are determined in compliance with IFRS requirements. Our credit controls applied to valuation and work- out are the same for both amortized cost and fair-valued credit products. With the exception of a part of the mortgage portfolio and small unsecured retail account overdrafts, we assess each identified case individually. Our workout strategy and estimation of recoverable amounts are independently approved in accord- ance with our credit authorities. We also assess our portfolios of claims carried at amortized cost with similar credit risk characteristics for collective impair- ment in order to consider if these portfolios contain impaired claims that cannot yet be identified. In our retail and corporate banking business in Switzerland, we typically review individual positions for impairment only after they have been in arrears for a certain time as described above. To cover the time lag between the occurrence of an impairment event and its identification, we establish collective loan loss allowances based on the estimated loss for the portfolio over the average period between trigger events and the identification of individual impairment. Collective loan loss allowances of this kind typically apply to our retail and corporate portfolio. None of the portfolios with collective loan loss allowances are included in the totals of impaired loans in the tables shown in the composition of credit risk for business divisions in this section. Additionally, for all of our portfolios we assess whether there have been any unforeseen developments which might result in impairments but that are not immediately observable. These events could be stress situations, such as a natural disaster or a country crisis, or they could result from structural changes in the legal or regulatory environment. To determine whether an event- driven collective impairment exists, we regularly use a set of glob- al economic drivers to assess the most vulnerable countries and review the impact of any potential impairment event. The recognition of impairment in our financial statements de- pends on the accounting treatment of the claim. For products carried at amortized cost, impairment is recognized through the creation of an allowance or provision charged to the income statement as a credit loss expense. For products recorded at fair value, such as derivatives, a deterioration of the credit quality is recognized through a CVA charged to the income statement through the Net trading income line. ➔ Refer to “Note 1 Significant accounting policies” and “Note 27a) Valuation principles” in the “Financial information” section of this report for more information on credit valuation adjustments Impaired loans, allowances and provisions The credit risk exposures reported in the table “Allowances and provisions for credit losses” represent the IFRS balance sheet view of our gross banking products portfolio. This comprises the bal- ance sheet line items Balances with central banks, Due from banks and Loans as well as the off-balance sheet items Guaran- tees and Loan commitments. The table also shows the IFRS re- ported allowances and provisions for credit losses and impair- ments. The table shows that our allowances and provisions for credit losses, excluding collective loan loss allowances of CHF 114 mil- 145 Risk, treasury and capital management Risk, treasury and capital management Risk management and control Allowances and provisions for credit losses 1 CHF million, except where indicated Group Balances with central banks Due from banks Loans of which: related to Legacy Portfolio 4 of which: related to other loans Guarantees Loan commitments Banking products Wealth Management Balances with central banks Due from banks Loans Guarantees Loan commitments Banking products Wealth Management Americas Balances with central banks Due from banks Loans Guarantees Loan commitments Banking products Investment Bank Balances with central banks Due from banks Loans Guarantees Loan commitments Banking products Global Asset Management Balances with central banks Due from banks Loans Guarantees Loan commitments Banking products Retail & Corporate Balances with central banks Due from banks Loans Guarantees Loan commitments Banking products Corporate Center Balances with central banks Due from banks Loans of which: related to Legacy Portfolio 4 Guarantees Loan commitments Banking products IFRS exposure, gross 31.12.11 31.12.12 Impaired exposure 2 31.12.12 31.12.11 Specific allowances and provisions for credit losses 3 31.12.11 31.12.12 Estimated liquidation proceeds of collateral 31.12.11 31.12.12 Impairment ratio (%) 31.12.11 31.12.12 56 1,550 113 1,437 76 68 1,749 20 2,135 572 1,563 94 70 2,318 55 55 15 15 11 412 49 61 533 45 45 0 11 542 52 67 672 22 591 38 553 56 8 677 38 38 15 15 2 36 48 85 17 694 86 607 87 6 804 42 42 437 74 363 6 443 20 20 893 483 411 3 1 897 6 6 0 0 0 5 71 46 1 122 99 99 159 159 64,119 21,252 280,606 11,718 268,888 20,058 59,818 445,852 413 1,039 86,581 2,326 1,574 91,932 11,260 2,298 31,250 406 1,214 46,428 21,049 14,260 12,646 7,271 50,206 105,432 343 91 38,565 23,235 267,429 16,048 251,381 18,905 58,192 406,326 1,165 555 75,056 2,641 1,220 80,637 2,161 1,594 27,894 406 1,076 33,131 31,743 16,397 12,957 6,571 48,999 116,666 155 317 141 433 613 0 0 0 0 0 0 2,173 2,713 137,344 10,042 6,787 159,059 29,224 599 12,695 11,718 12 37 42,568 2,205 3,840 135,320 9,156 6,735 157,256 1,135 532 16,063 16,048 130 163 18,023 45 955 27 7 1,033 113 113 113 9 975 25 3 1,012 572 572 17 589 20 464 8 8 500 38 38 38 12 495 26 5 539 86 86 15 101 244 6 251 74 74 74 246 3 1 250 483 483 483 0.0 0.3 0.6 1.0 0.5 0.4 0.1 0.4 0.0 0.0 0.1 0.0 0.0 0.1 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.1 3.3 0.7 0.1 0.5 0.0 0.0 0.0 0.0 1.6 0.7 0.3 0.1 0.6 0.0 0.0 0.9 1.0 0.0 0.0 0.3 0.0 0.1 0.8 3.6 0.6 0.5 0.1 0.6 0.0 0.0 0.1 0.0 0.0 0.1 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.1 4.2 0.8 0.1 0.6 0.0 0.0 0.0 0.0 0.0 0.2 0.7 0.3 0.0 0.6 0.0 0.0 3.6 3.6 13.1 0.0 3.3 1 Excludes allowances for securities borrowed. 2 Excludes reclassified securities that are not considered impaired. 3 Excludes CHF 114 million collective loan loss allowances (31 December 2011: CHF 131 million). 4 Refer to “Note 29b Reclassification of financial assets” in the “Financial information” section of this report. 146 lion, decreased 16% to CHF 677 million on 31 December 2012 from CHF 804 million (excluding collective loan loss allowances of CHF 131 million) at the end of 2011. d e t i d u A We consider a reclassified security an impaired loan if the car- rying value at the balance sheet date is, on a cumulative basis, 5% or more below the carrying value at the reclassification date ad- justed for redemptions. Our gross impaired loan portfolio decreased to CHF 1,550 mil- lion as of 31 December 2012 from CHF 2,135 million at the end of the prior year. The ratio of the impaired loan portfolio to the total loan port- folio (both measured gross) reduced to 0.6% compared with 0.8% on 31 December 2011, mainly due to sales of impaired re- classified assets. For loans excluding securities the ratio decreased to 0.5% compared with 0.6% in the prior year. We reclassified loans and receivables with carrying amounts of CHF 79 million and CHF 186 million from impaired to performing during 2012 and 2011, respectively. These reclassifications oc- curred because the loans had either been renegotiated and the new terms and conditions met normal market criteria for the quality of the obligor and type of loan, or because the financial position of the obligor improved, enabling it to repay any overdue amounts such that we deemed future principal and interest to be fully collectible in accordance with the original contractual terms. d e t i d u A Collateral held against our impaired loan portfolio mainly con- sisted of real estate and securities on 31 December 2012. It is our policy to dispose of foreclosed real estate as soon as practicable. The carrying amount of foreclosed property recorded in our balance sheet under Other assets at the end of 2012 and 2011 amounted to CHF 47 million and CHF 58 million, respec- tively. We seek to liquidate collateral held in the form of financial as- sets expeditiously and at prices considered fair. This may require us to purchase assets for our own account, where permitted by law, pending orderly liquidation. The table “Impaired assets by type of financial instrument” in- cludes impaired loans, impaired guarantees and loan commit- ments, and defaulted derivative and securities financing trans- actions, which are subject to the same workout and recovery processes. Our impaired assets decreased by CHF 2.0 billion to CHF 2.5 billion on 31 December 2012, largely as a result of trade commutation on monoline exposures. After deducting allocated specific allowances, provisions and CVA of CHF 1.1 billion and the estimated liquidation proceeds of collateral of CHF 0.4 billion, net impaired assets amounted to CHF 0.9 billion as of 31 Decem- ber 2012. ➔ Refer to “Note 9 Due from banks and loans” in the “Financial information” section of this report for more information Impaired assets by type of financial instrument d e t i d u A CHF million Impaired loans (incl. due from banks) Impaired guarantees and loan commitments Defaulted derivatives contracts Defaulted securities financing transactions Total Impaired exposure Specific allowances, provisions and CVA Estimated liquidation proceeds of collateral Net impaired exposure 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 1,605 144 716 2 2,467 2,155 164 2,143 3 4,465 (613) 1 (64) (438) (2) (711) 1 (93) (1,457) (3) (437) (6) (893) (4) (1,117) (2,263) (443) (897) 555 73 278 906 1 Excludes CHF 114 million collective loan loss allowances (31 December 2011: CHF 131 million). 551 67 686 1,304 147 Risk, treasury and capital management d e t i d u A d e t i d u A Risk, treasury and capital management Risk management and control Past due but not impaired loans CHF million 1–10 days 11–30 days 31–60 days 61–90 days >90 days of which: mortgage loans Total 31.12.12 31.12.11 104 30 44 14 793 639 986 105 54 57 9 670 486 895 Past due but not impaired mortgage loans CHF million Total 31.12.12 31.12.11 Total mortgage exposure 144,667 of which: past due > 90 days but not impaired 639 Total mortgage exposure 139,356 1 of which: past due > 90 days but not impaired 486 1 Restated prior-year number includes CHF 4,119 million related to Wealth Management and Wealth Management Americas. Past due but not impaired loans The table above shows a breakdown of our total loan balances where payments have been missed, but which we do not consider impaired because we expect to collect all amounts due under the contractual terms of the loans or the equivalent value from liqui- dation of collateral. The loan balances in the table relate entirely to our Wealth Management and Retail & Corporate divisions, where delayed payments are routinely observed. We currently have no past due but not impaired loans in Wealth Management Americas, the Investment Bank and our Corporate Center – Legacy Portfolio. The increase in our past due but not impaired loan exposures resulted primarily from mortgage loans that were past due over 90 days but not impaired. Our overall past due but not impaired levels on mortgage loans were not significant compared with the overall size of the mortgage portfolio. Settlement risk Settlement risk arises in transactions involving exchange of value where we must fulfill our obligation to deliver without first being able to determine with certainty that we will receive the counter- value. We use multilateral and bilateral agreements with counter- parties to reduce our actual settlement volumes. Our most significant source of settlement risk is foreign exchange transactions. UBS is a member of Continuous Linked Settlement, a foreign exchange clearing house which allows transactions to be settled on a delivery-versus-payment basis, thereby significantly reducing foreign exchange-related settle- ment risk relative to the volume of business. The mitigation of settlement risk through Continuous Linked Settlement membership and other means, such as payment net- ting, does not eliminate our credit risk in foreign exchange trans- actions resulting from changes in exchange rates prior to settle- ment. We measure and control such counterparty risk in forward foreign exchange transactions as part of our overall credit risk management of OTC derivatives. Country risk Country risk framework Country risk includes all country-specific events that occur within a sovereign’s jurisdiction and may lead to an impairment of UBS’s exposures. Country risk can take the form of either sovereign risk, which refers to the ability and willingness of a government to honor its financial commitments, or transfer risk, which would arise if an issuer or counterparty could not acquire foreign curren- cies following a moratorium of a central bank on foreign ex- change transfers, or “other” country risk that may manifest itself through increased and multiple counterparty and issuer default risk (systemic risk) on the one hand, and by events that may affect the standing of a country (e.g. political stability, institutional and legal framework) on the other hand. We have a well-established risk control framework through which we assess the risk profile of all countries where we have exposure. We attribute to each country a sovereign rating, which ex- presses the probability of the sovereign defaulting on its own financial obligations in foreign currency. Our ratings are expressed by statistically derived default probabilities as described in the “Probability of default” section above. Based on this internal analysis we also define the probability of a transfer event occur- ring and establish rules as to how the aspects of “other” country risk should be incorporated into the analysis of the counterparty rating of incorporated entities that are domiciled in the respective country. We ensure that our exposure to all countries is commensurate with the credit ratings we assign to them, and that it is not dis- proportionate to the respective country risk profile. For all coun- 148 tries rated 3 and below we set country risk ceilings, which are approved either by the Board of Directors or under delegated au- thority by the Group Chief Executive Officer or Group Chief Risk Officer, depending on the size of the limit and the country rating. A country risk ceiling applies to all our exposures to counterpar- ties or issuers of securities and financial investments in the respec- tive country. We may limit the extension of credit, transactions in traded products or positions in securities based on a country ceil- ing, even if our exposure to a counterparty is otherwise accept- able. For internal measurement and control of country risk, we also consider the financial impact of market disruptions arising prior to, during and following a country crisis. These may take the form of a severe deterioration in a country’s debt, equity or other asset markets or of a sharp depreciation of the currency. We use stress testing to assess the potential financial impact of a severe country and / or sovereign crisis. This involves the development of plausible stress scenarios for combined stress testing and the identification of countries that may potentially be subject to a crisis event, de- termining potential losses and making assumptions about recov- ery rates depending on the types of credit transactions involved and their economic importance to the affected countries. Our exposures to market risks are also subject to regular stress tests that cover major global scenarios, which are used for com- bined stress testing as well, whereby we apply market shock fac- tors to equity indices, interest and currency rates in all relevant countries and consider the potential liquidity of the instruments. In light of the ongoing European sovereign debt crisis, we increased the monitoring and focus on the quality of collateral we hold. Country risk exposure Country risk exposure measure The presentation of country risk follows our internal risk view, whereby the basis for measurement of exposures depends on the product category into which we have classified our exposures: – Banking products are loans (at amortized cost), loan commit- ments (notional basis) and guarantees (notional basis), and in- clude an immaterial amount of available-for-sale debt and eq- uity positions (at fair value). – Traded products include the counterparty risk arising from OTC derivatives and securities financing transactions, presented at net positive replacement value after taking into account valid master netting agreements. – Trading inventory includes securities such as bonds and equi- ties, as well as the risk relating to the underlying reference assets for derivative positions, including those linked to credit protection we buy or sell. As we manage the trading inventory on a net basis, we net the value of long positions against short positions with the same underlying issuer. Net exposures are, however, floored at zero per issuer in the figures presented. We therefore do not recognize the potentially offsetting benefit of certain hedges and short positions across issuers. We do not recognize any expected recovery values when reporting country exposures as “Exposure before hedges” except for the risk-reducing effects of master netting agreements and collateral held in the form of either cash or portfolios of diversified marketable securities, which we deduct from the basic positive exposure values. Within banking products and traded products, the risk-reducing effect of any credit protection is taken into ac- count on a notional basis when determining the “Net of hedges” exposures. Country risk exposure allocation In general, exposures are shown against the country of domicile of the contractual counterparty or the issuer of the security. For some counterparties whose economic substance in terms of as- sets or source of revenues is primarily located in a different coun- try, the exposure is allocated to the risk domicile of that different country. This is the case, for example, with legal entities incorporated in financial offshore centers, which have their main assets and rev- enue streams outside the country of domicile. The same principle applies to exposures for which we hold third-party guarantees or collateral, where we report the exposure against the country of domicile of either the guarantor or the issuer of the underlying security, or against the country where pledged physical assets are located. We apply a specific approach to banking products exposures to branches of financial institutions which are located in a country other than that of the domicile of the legal entity. In such cases, exposures are recorded in full against the country of domicile of the counterparty and additionally in full against the country in which the branch is located. In the case of derivatives, we show the counterparty risk asso- ciated with the positive replacement value against the country of domicile of the counterparty (presented within “Traded prod- ucts”). In addition, the risk associated with the instantaneous fall in value of the underlying reference asset to zero (assuming no recovery) is shown against the country of domicile of the issuer of the reference asset (presented within “Trading inventory”). This approach ensures that we capture both the counterparty and, where applicable, issuer elements of risk arising from derivatives and applies comprehensively for all derivatives, including single- name CDS and other credit derivatives. As a basic example: if a CDS protection for a notional value of 100 bought from a counterparty domiciled in country X referenc- ing debt of an issuer domiciled in country Y has a positive replace- ment value of 20, we record (i) the fair value of the CDS (20) against country X (within “Traded products”) and (ii) the hedge benefit (notional minus fair value) of the CDS (100 – 20 = 80) against country Y (within “Trading inventory”). In the example of protection bought, the 80 hedge benefit would offset against any exposure arising from securities held and issued by the same entity as the reference asset, floored at zero per issuer. In the case 149 Risk, treasury and capital management Risk, treasury and capital management Risk management and control Exposures to selected eurozone countries CHF million 31.12.12 France Sovereign, agencies and central bank Local governments Banks Other 2 Italy Sovereign, agencies and central bank Local governments Banks Other 2 Spain Sovereign, agencies and central bank Local governments Banks Other 2 Austria Sovereign, agencies and central bank Local governments Banks Other 2 Ireland 4 Sovereign, agencies and central bank Local governments Banks Other 2 Belgium Sovereign, agencies and central bank Local governments Banks Other 2 Portugal Sovereign, agencies and central bank Local governments Banks Other 2 Greece Sovereign, agencies and central bank Local governments Banks Other 2 Other Total Banking products (loans, loan commitments, guarantees) Traded products (counterparty risk from deriva- tives and securities financing) after master netting agreements and net of collateral Trading inventory (securities and potential benefits / remaining ex- posure from derivatives) Exposure Net of hedges 1 8,777 before hedges Net of hedges 1 2,403 3,462 of which: unfunded Exposure before hedges Net of hedges Net long per issuer 9,990 4,656 48 1,719 3,567 5,897 2,361 141 715 2,679 4,567 180 20 2,667 1,701 2,060 1,609 11 238 202 1,391 15 441 936 573 344 1 91 137 160 12 31 117 48 35 0 12 212 4,448 48 1,719 2,562 4,389 1,471 141 715 2,061 3,712 180 20 2,667 846 1,927 1,476 11 238 202 1,391 15 441 936 558 329 1 91 137 63 12 31 20 48 35 0 12 212 190 10 1,285 1,976 1,647 28 438 1,181 3,325 15 2,580 3 729 175 12 16 148 399 381 18 103 3 36 64 118 21 97 4 0 0 3 103 10 1,285 1,005 1,065 28 438 598 2,680 15 2,580 85 175 12 16 148 399 381 18 103 3 36 64 22 21 0 4 0 0 3 899 1,817 1,663 705 101 341 4 400 1,072 1,973 1,315 141 264 253 408 14 85 310 54 1,054 3 32 21 3 921 7 120 5 855 3 28 824 391 316 44 31 8 8 0 1 1 0 220 4 400 1,038 1,048 424 141 264 218 198 14 85 99 920 787 7 120 5 855 3 28 824 376 302 44 31 8 8 0 1 1 0 4,711 4,125 34 33 519 2,276 1,019 0 13 1,244 834 164 6 2 662 831 676 4 101 49 137 12 32 93 79 24 1 11 42 34 12 2 20 43 34 9 14 146 146 25 51 51 1 Not deducted are total allowances and provisions of CHF 35 million (of which: Austria CHF 13 million, Malta CHF 8 million and France CHF 7 million). 2 Includes corporates, insurance companies and funds. 3 The majority of the banking products exposure shown to Spanish banks relates to secured facilities that are collateralized by non-European sovereign debt securities 4 The majority of the Ireland exposure relates to funds and foreign bank subsidiaries. 150 of protection sold, this would be reflected as a risk exposure of 80 in addition to any exposure arising from securities held and issued by the same entity as the reference asset. In the case of derivatives referencing a basket of assets, the issuer risk against each refer- ence entity is calculated as the expected change in fair value of the derivative given an instantaneous fall in value to zero of the corresponding reference asset (or assets) issued by that entity. Ex- posures are then aggregated by country across issuers, floored at zero per issuer. Exposures to selected eurozone countries We continue to monitor and manage our exposure to peripheral European countries closely, and our direct exposure to Greece, It- aly, Ireland, Portugal and Spain remains limited. In addition to monitoring direct exposure, we actively consider the inter-linkages among eurozone countries and institutions. We monitor and evaluate the policy responses of key EU institutions and the International Monetary Fund. In addition, we evaluate the implications of these developments for a broad range of countries and institutions beyond Europe when calibrating our eurozone- focused stress scenarios and making assumptions about the be- havior of a variety of factors, including currencies, GDP, equity markets, consumer price index, corporate spreads, sovereign CDS and interest rates, for a number of key countries and regions. We apply these stress scenarios to our risk portfolios as part of our firm-wide stress testing framework. Furthermore, we subject our OTC exposures with a wide range of counterparties to these stress scenarios to gain an understanding of potential adverse impacts on our counterparty exposures, as well as to help identify so- called wrong-way risks. The table “Exposures to selected eurozone countries” provides an overview of our exposure to eurozone countries rated lower than AAA / Aaa by at least one of the major rating agencies. The overview provides an internal risk view of gross and net exposures split by sovereign, local governments, banks and other counter- parties. The sovereign category includes agencies and central banks. Corporates, insurance companies and funds are included in the “Other” category. The exposures to Andorra, Cyprus, Estonia, Malta, Monaco, Montenegro, San Marino, Slovakia and Slovenia are grouped in “Other”. CDS are primarily bought and sold in relation to our trading businesses, but are also used to hedge parts of our risk exposure, including that related to selected eurozone countries. At 31 De- cember 2012, and not taking into account the risk-reducing ef- fect of master netting agreements, we had purchased approxi- mately CHF 91 billion gross notional of single name CDS protection on issuers domiciled in Greece, Italy, Ireland, Portugal or Spain (GIIPS) and had sold CHF 88 billion gross notional of single name CDS protection. On a net basis, taking into account the risk reduc- ing effect of master netting agreements, this equates to approxi- mately CHF 18 billion notional purchased and CHF 15 billion no- tional sold. More than 99% of gross protection purchased was from investment grade counterparties (based on internal ratings) and on a collateralized basis. The vast majority of this was from financial institutions domiciled outside the eurozone. Less than CHF 1 billion of the gross protection purchased was from counter- parties domiciled in a GIIPS country and less than CHF 0.5 billion was with counterparties domiciled in the same country as the ref- erence entity. Holding CDS for credit default protection does not necessarily protect the buyer of protection against losses, as the contracts will only pay out under certain scenarios. The effectiveness of our CDS protection as a hedge of default risk is influenced by a number of factors, including the contractual terms under which the CDS was written. Generally, only the occurrence of a credit event as de- fined by the CDS terms (which may include among other events, failure to pay, restructuring or bankruptcy) results in a payment under the purchased credit protection contracts. For CDS con- tracts on sovereign obligations, repudiation can also be deemed as a default event. The determination as to whether a credit event has occurred is made by the relevant International Swaps and De- rivatives Association (ISDA) determination committees (comprised of various ISDA member firms) based on the terms of the CDS and the facts and circumstances surrounding the event. Exposure from single-name credit default swaps referencing Greece, Italy, Ireland, Portugal and Spain 31.12.12 Protection bought Protection sold of which: counterparty domiciled in GIIPS country of which: counterparty domicile is the same as the reference entity domicile Net position (after application of counterparty master netting agreements) CHF million Notional Greece Italy Ireland Portugal Spain Total 1,405 47,884 6,363 7,163 27,702 90,516 RV 155 2,285 32 387 968 3,828 Notional 550 22 71 289 933 RV 26 0 9 6 42 Notional RV Notional 226 7 129 362 (1,388) (46,406) (6,446) (7,110) (26,994) (88,343) 3 0 4 7 RV (162) (2,460) (84) (430) (990) Buy notional Sell notional 346 8,024 1,442 1,702 6,355 (329) (6,394) (1,526) (1,622) (5,395) (4,126) 17,869 (15,266) PRV 54 365 70 124 320 933 NRV (62) (539) (121) (167) (342) (1,231) 151 Risk, treasury and capital management Risk, treasury and capital management Risk management and control Emerging markets net exposure 1 by internal UBS country rating category CHF million Investment grade Sub-investment grade Total 31.12.12 31.12.11 16,953 1,428 18,381 19,341 3,053 22,394 1 Net of credit hedges (for banking products and for traded products); net long per issuer (for trading inventory). Total allowances and provisions of CHF 73 million are not deducted (31 Decem- ber 2011: CHF 61 million). Emerging market exposures by major geographical region CHF million Emerging Americas Brazil Chile Mexico Colombia Venezuela Other Emerging Asia China India Hong Kong South Korea Taiwan Other Emerging Europe Russia Turkey Ukraine Hungary Poland Other Middle East and Africa Saudi Arabia South Africa United Arab Emirates Kuwait Israel Other Total Banking products (loans, loan commitments, guarantees) Net of hedges 1 Traded products (counterparty risk from deriva- tives and securities financing) after master netting agreements and net of collateral Trading inventory (securities and potential benefits / remaining exposure from derivatives) Net of hedges Net long per issuer Total Net of hedges 1 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 2,498 1,353 322 214 192 141 276 3,692 1,538 258 487 597 226 586 11,184 13,671 3,163 2,155 1,557 1,532 1,072 1,704 1,833 1,061 264 121 112 64 210 2,978 2,620 3,048 2,037 1,459 1,529 2,500 905 843 140 159 110 343 2,867 2,531 599 559 525 309 299 575 649 526 451 104 149 652 707 185 200 97 124 0 101 4,341 838 1,156 674 447 299 926 864 489 204 37 18 115 1,006 107 114 196 16 190 383 18,381 22,394 6,918 656 168 154 125 122 0 87 5,240 1,373 1,158 983 513 458 754 939 355 310 61 3 29 182 1,094 170 137 214 20 85 468 7,929 489 305 82 75 23 4 1,846 245 254 510 462 247 127 247 174 23 0 8 30 12 1,105 473 31 217 293 4 86 791 527 75 134 37 18 2,390 733 172 602 432 310 142 337 117 45 0 95 52 28 807 438 61 142 84 10 72 1,302 863 40 43 44 141 171 4,998 2,080 744 374 623 526 651 722 398 38 84 104 16 83 756 19 414 112 0 105 107 3,686 4,325 7,777 2,245 842 29 228 438 226 482 6,041 872 1,290 1,462 1,091 692 634 1,224 433 488 79 61 30 133 630 41 328 95 0 55 111 10,140 1 Not deducted are total allowances and provisions of CHF 73 million (31 December 2011: CHF 61 million). 152 Exposure to emerging market countries The table “Emerging markets net exposure by major geographical region” shows the five largest emerging market country expo- sures in each major geographical area by product type on 31 De- cember 2012 compared with 31 December 2011. Based on the main country rating categories, on 31 December 2012, 92% of our emerging market country exposure was rated investment grade compared with 86% on 31 December 2011. d e t i d u A d e t i d u A Debt investments d e t i d u A Debt investments classified according to IFRS as Financial invest- ments available-for-sale are measured at fair value with changes in fair value recorded through equity, and can be broadly catego- rized as money market instruments and debt securities primarily held for statutory, regulatory or liquidity reasons. Debt invest- ments available-for-sale may also include non-performing loans purchased in the secondary market by the Investment Bank. The risk control framework applied to debt instruments classi- fied as Financial investments available-for-sale depends on the nature of the instruments and the purpose for which we hold them. Our exposures may be included in market risk limits or be subject to specific monitoring such as interest rate sensitivity anal- ysis, firm-wide earnings-at-risk, capital-at-risk and combined stress test metrics. Composition of debt investments Debt instruments classified as Financial investments available-for- sale were CHF 65.7 billion on 31 December 2012 compared with CHF 52.5 billion on 31 December 2011. These instruments primar- ily comprised highly liquid short-term securities issued by govern- ments and government-controlled institutions. The increase was mainly due to an increase in government bills / bonds. ➔ Refer to “Note 14 Financial investments available-for-sale” in the “Financial information” section of this report for more information ➔ Refer to the “Non-trading portfolios” section of this report for more information ➔ Refer to the “Treasury management” section of this report for more information 153 Risk, treasury and capital management Risk, treasury and capital management Risk management and control Market risk d e t i d u A Market risk is the risk of loss resulting from changes in market variables. There are two broad categories of market variables: general market risk factors and specific components. General market risk factors include interest rates, equity index levels, ex- change rates, commodity prices and general credit spreads. The volatility of these risk factors and the correlations between them are also general market risk factors. Specific components relate to the prices of debt and equity instruments, which result from fac- tors and events particular to individual companies or entities. d e t i d u A Non-trading foreign exchange risks are managed under mar- ket risk limits, with the exception of Group Treasury management of consolidated capital activity. Non-trading interest rate risk is either managed under market risk limits or subject to specific monitoring and is reported in firm-wide earnings-at-risk, capital- at-risk and combined stress testing metrics. ➔ Refer to the “Non-trading portfolios” and “Treasury manage- ment” sections of this report for more information Market risk limits Sources of market risk d e t i d u A We take general and specific market risks both in our trading ac- tivities and in some non-trading businesses. d e t i d u A Trading portfolios In 2012, most of our market risk originated from the Investment Bank’s trading activities, including the non-core assets that have been transferred to Corporate Center in the first quarter of 2013 as part of the accelerated implementation of our strategy an- nounced in October 2012. In addition, the Group Treasury func- tion (part of Corporate Center) assumes foreign-exchange and interest-rate risk in connection with its balance sheet, profit and loss and capital management responsibilities. Market risk also arises within our Legacy Portfolio within Corporate Center and our wealth and asset management operations also take limited market risk in relation to client business. Our trading businesses are subject to multiple market risk lim- its. Traders are required to manage their risks within these limits, which may involve utilizing hedging and risk mitigation strategies. These strategies can expose the firm to additional risks as the hedge instrument and the position being hedged may not always move in parallel (often referred to as basis risk). We actively man- age such basis risks. Management and Risk Control may also give instructions to reduce the risk, even when limits are not exceeded. Our asset management and wealth management businesses carry small trading positions, principally to support client activity. The market risk from these positions is not material to UBS as a whole. d e t i d u A Non-trading portfolios Market risk exposures, primarily general interest rate and foreign exchange risks, may arise from non-trading activities such as retail banking and lending in our wealth management businesses, our retail and corporate banking business in Switzerland, the Invest- ment Bank’s lending businesses and our treasury activities, primar- ily from funding, balance sheet, liquidity and capital management needs. Equity and certain debt investments can also give rise to specific market risks. d e t i d u A We use a limit framework to control our market risks. We have two major portfolio measures of market risk: value-at-risk (VaR) and stress loss. Both are common to all our business divisions and subject to limits that are approved by the Board of Directors. In the Investment Bank, these portfolio measures are comple- mented by concentration and other supplementary limits on port- folios, asset classes and products, and also cover exposures to general market risk factors and single-name risk. Single-name risk (or issuer risk) is a measure of our exposure to the tradable instru- ments (debt, equity and derivatives) of a single issuer (or issuer group) were that issuer to be subject to a credit event, including default. Our concentration and other supplementary limits take a variety of forms, including values (market or notional) and risk sensitivities, which are measures of exposure to a given risk factor such as interest rates, credit spreads, equity indices, foreign ex- change rates or volatilities. These limits take into account the ex- tent of market liquidity and volatility, available operational capac- ity, valuation uncertainty, and, for our single-name exposures, the credit quality of issuers. Our exposures from security underwriting commitments are subject to the same concentration measures and controls as sec- ondary market positions. Underwriting commitments are approved under delegated risk management and risk control authorities. As such, certain larger or more complex transactions are required to be approved by our Commitment Committee, which includes representatives from both business and control functions. Market risk limits are set for each of the business divisions and Corporate Center. The limit framework in the Investment Bank is more detailed than in the other business divisions, reflecting the nature and magnitude of the risks it takes. Trading portfolios For the purposes of our risk disclosure, the 1-day 95% confidence level value-at-risk (VaR) is used to quantify market risk exposures in our trading portfolios. This measure is also used for internal management purposes and applies to the market risk position population, that group of portfolios for which positions are gen- 154 erally marked to market on a daily basis and that are actively man- aged under market risk trading limits. Any material market risks that arise from positions outside of this population (e.g. the op- tion to acquire equity of the SNB StabFund) are discussed sepa- rately either via sensitivity analysis within the “Non-trading port- folios – valuation and sensitivity information by instrument category” section, as part of our disclosure of sensitivity of “Inter- est rate risk in the banking book”, or by other means for example the composition of equity investments in this section. d e t i d u A Value-at-risk definition VaR is a statistical measure of market risk, representing the market risk losses that could potentially be realized over a set time horizon at an established level of confidence. This assumes no change in the firm’s trading positions over the relevant time period. We calculate VaR on a daily basis on our end-of-day positions. Our VaR calculation is based on the application of historical changes in market risk factors directly to our current positions – a method known as historical simulation. We use a single VaR mod- el for both internal management purposes and for determining market risk regulatory capital requirements, although the confi- dence levels and time horizons differ. For internal management purposes we measure VaR at the 95% confidence level using a 1-day holding period. The regulatory measure of risk used to un- d e t i d u A derpin the market risk capital requirement under the Basel accord, by contrast, requires a measure equivalent to a 99% confidence level and using a 10-day holding horizon. Our VaR model is approved by FINMA and significant revisions of our VaR methodology and model, certain of which are ongo- ing, are also subject to regulatory approval. d e t i d u A Value-at-risk limitations Actual realized market risk losses may differ from those implied by our VaR for a variety of reasons. All VaR measures are subject to limitations and must be interpreted accordingly and used in con- junction with other risk measures. The limitations of VaR include the following: – The use of a five-year window means that sudden increases in market volatility will not tend to increase VaR as quickly as the use of shorter historical observation periods, but the increase will impact our VaR for a longer period of time. – The VaR measure is calibrated to a specified level of confidence and may not indicate potential losses beyond this confidence level. – The 1-day time horizon in the VaR measure, or 10-day in the case of regulatory VaR, may not fully capture the market risk of positions that cannot be closed out or hedged within the spec- ified period. d e t i d u A Group: management value-at-risk (1-day, 95% confidence, 5 years of historical data) by business division and Corporate Center CHF million, except where indicated Min. Max. Average 31.12.12 Min. Max. Average 31.12.11 For the year ended 31.12.12 For the year ended 31.12.11 Wealth Management Wealth Management Americas Investment Bank 1 Global Asset Management Retail & Corporate Corporate Center 1 Diversification effect Total management VaR, Group Diversification effect (%) 0 1 15 0 0 3 – 2 18 0 2 164 0 0 17 – 2 167 0 2 30 0 0 11 (10) 33 (23) 0 2 15 0 0 10 (9) 18 (34) 1 30 0 4 – 2 31 2 219 0 14 – 2 222 1 75 0 7 (7) 76 (8) 0 2 34 0 0 4 (4) 36 (9) 1 The prior period has not been restated for the transfer of legacy positions from the Investment Bank to the Corporate Center. 2 As the minimum and maximum occur on different days for different business divisions, it is not meaningful to calculate a portfolio diversification effect. d e t i d u A Group: management value-at-risk (1-day, 95% confidence, 5 years of historical data) by risk type For the year ended 31.12.12 For the year ended 31.12.11 Average 31.12.12 Min. Max. Average 31.12.11 CHF million, except where indicated Equities Interest rates Credit spreads Foreign exchange Energy, metals and commodities Diversification effect Total management VaR, Group Diversification effect (%) Min. 7 11 23 3 1 – 1 18 Max. 160 33 42 13 7 – 1 167 12 19 31 6 3 (38) 33 (54) 8 12 26 5 3 (37) 18 (68) 10 14 29 3 2 – 1 31 76 35 84 17 10 – 1 222 15 24 56 8 4 (31) 76 (29) 1 As the minimum and maximum occur on different days for different risk types, it is not meaningful to calculate a portfolio diversification effect. 13 18 29 5 3 (32) 36 (47) 155 Risk, treasury and capital management Risk, treasury and capital management Risk management and control (cid:41)(cid:84)(cid:81)(cid:87)(cid:82)(cid:28)(cid:2)(cid:70)(cid:71)(cid:88)(cid:71)(cid:78)(cid:81)(cid:82)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:81)(cid:72)(cid:2)(cid:68)(cid:67)(cid:69)(cid:77)(cid:86)(cid:71)(cid:85)(cid:86)(cid:75)(cid:80)(cid:73)(cid:2)(cid:84)(cid:71)(cid:88)(cid:71)(cid:80)(cid:87)(cid:71)(cid:85)(cid:19)(cid:2) (cid:67)(cid:73)(cid:67)(cid:75)(cid:80)(cid:85)(cid:86)(cid:2)(cid:88)(cid:67)(cid:78)(cid:87)(cid:71)(cid:15)(cid:67)(cid:86)(cid:15)(cid:84)(cid:75)(cid:85)(cid:77)(cid:2)(cid:10)(cid:19)(cid:15)(cid:70)(cid:67)(cid:91)(cid:14)(cid:2)(cid:27)(cid:27)(cid:7)(cid:2)(cid:69)(cid:81)(cid:80)(cid:386)(cid:70)(cid:71)(cid:80)(cid:69)(cid:71)(cid:11) (cid:37)(cid:42)(cid:40)(cid:2)(cid:79)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) d e t i d u A complementary characteristics in order to create a holistic frame- work which ensures material completeness of risk identification and measurement. 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This may happen because the number of risk factors included in the VaR model is necessarily limited; for example, yield curve risk factors do not exist for all future dates. – The effect of extreme market movements is subject to estima- tion errors, which may result from non-linear risk sensitivities, as well as the potential for actual volatility and correlation lev- els to differ from assumptions implicit in the VaR calculations. We recognize that no single measure may encompass the en- tirety of risks associated with a position or portfolio. Consequent- ly, we employ a suite of various metrics with both overlapping and 156 As a statistical aggregate risk measure, VaR is supplemented by a comprehensive framework of non-statistical measures and cor- responding limits. This includes an extensive series of stress tests and scenario analyses that undergo continuous evaluation to en- sure that, were an extreme but nevertheless plausible event to oc- cur, the resulting losses would not exceed our appetite for losses. Furthermore, we have an established framework to identify and quantify potential risks that are not adequately captured by our VaR model. (cid:21)(cid:52)(cid:47)(cid:19)(cid:20)(cid:25)(cid:65)(cid:71) Starting in the fourth quarter of 2012, this framework is used as the basis for underpinning such risks with regulatory capital by means of a methodology approved by FINMA. The resulting risk- weighted-assets (RWA) add-on does not reflect any diversification benefits across risks capitalized through VaR and those subject to this additional capital underpinning. As at 31 December 2012, the add-on amounted to approximately one-third of the sum of RWA from VaR and stressed VaR. d e t i d u A d e t i d u A Value-at-risk developments in 2012 The Group’s management VaR decreased to CHF 18 million on 31 December 2012 from CHF 36 million on 31 December 2011. This decrease was mainly due to active steps taken by the Investment Bank to reduce trading risks following the announcement in Octo- ber 2012 regarding the accelerated implementation of our strategy. Average management VaR was CHF 33 million for 2012 compared with CHF 60 million in 2011 (excluding the effects of the 2011 unau- thorized trading incident). The main contributors to Group VaR con- tinue to be credit spread risk and, to a lesser extent, interest rate risk. In the fourth quarter 2012, we improved the component of our VaR model used to calculate equity price risk by replacing the existing single-factor model with a multi-factor model, which bet- ter captures the correlations among equity returns. The effects of this model change on Group management, regulatory and stressed VaR figures, prior to and at the time of implementation, were reductions of between 10% and 20%. (cid:21)(cid:52)(cid:47)(cid:19)(cid:20)(cid:23)(cid:65)(cid:71) Backtesting Backtesting compares 1-day 99% confidence level regulatory VaR calculated on positions at the close of each business day with the revenues generated by those positions on the following business day. Backtesting revenues exclude non-trading revenues, such as fees and commissions, and estimated revenues from intraday trading. A backtesting exception occurs when backtesting reve- nues are negative and the absolute value of those revenues is greater than the previous day’s VaR. We had one backtesting exception at Group level in 2012 compared with three in the prior year. We investigate all backtest- ing exceptions and any exceptional revenues on the profit side of the VaR distribution. In addition, we report all backtesting results to senior business management, the Group Chief Risk Officer and the business divisions’ chief risk officers. 100 -50 -125 -200 (cid:26)(cid:18) (cid:24)(cid:18) (cid:22)(cid:18) (cid:20)(cid:18) (cid:18) 25 d e t i d u A Backtesting exceptions are also reported to internal and exter- nal auditors and to the relevant regulators. The chart “Group: development of backtesting revenues against value-at-risk” shows the 12-month development of 1-day 99% VaR against backtesting revenues of the Group for the whole year of 2012. The histogram “Investment Bank: all revenue distribution” shows the Investment Bank’s full trading revenues distribution in 2012. Market risk – stress loss VaR is supplemented by a comprehensive framework of non-sta- tistical measures and corresponding limits. This includes an exten- sive series of stress tests and scenario analyses that undergo con- tinuous evaluation to ensure that, were an extreme but nevertheless plausible event to occur, the resulting losses would not exceed our appetite for losses. Our scenarios capture the liquidity characteristics of different markets, asset classes and positions. Our market risk stress testing framework is designed to pro- vide a control framework that is forward-looking and responsive to changing market conditions. Our stress scenarios are there- fore reviewed regularly in the context of the macroeconomic and geopolitical environment by a committee comprised of representatives from the business divisions, Risk Control and Economic Research. In response to changing market conditions and new developments around the world, we develop and run ad hoc stress scenarios to assess the potential impact on our portfolio. ➔ Refer to the discussion on stress loss in this section for more information Non-trading portfolios d e t i d u A d e t i d u A This section includes an overview of interest rate risk in the bank- ing book and a description of the valuation of certain significant product categories and related valuation techniques and models. In addition, sensitivity information is provided for certain signifi- cant instrument categories that are not included, or not fully cap- tured, in management VaR. Interest rate risk in the banking book The banking book consists of Available-for-sale instruments, Loans and receivables, certain Instruments designated at fair val- ue through profit or loss, derivatives measured at fair value through profit or loss and derivatives employed for cash flow hedge accounting purposes, as well as related funding transac- tions. These positions may impact Other comprehensive income or profit or loss, due to differences in accounting treatment. All interest rate risk is subject to independent risk control. When not included in our VaR measure, interest rate risk is subject to specific monitoring, which may include interest rate sensitivity analysis, earnings-at-risk, capital-at-risk and combined stress test metrics. d e t i d u A The interest sensitivity of non-contractual maturity products is modeled using historical behavior patterns from a complete inter- est rate cycle. Our largest banking book interest rate risk exposures arise pri- marily from loans and deposits in our Wealth Management, Retail & Corporate and Wealth Management Americas divisions, as well as our treasury activities. Interest rate risks arising in the majority of Wealth Manage- ment and Retail & Corporate locations are transferred either by means of back-to-back transactions or, in the case of products with no contractual maturity date or direct market-linked rate, by “replicating” portfolios from the originating business into Group Treasury where they are netted against interest rate risks from other sources. Residual interest rate risks in Wealth Management and Retail & Corporate locations that are not transferred to Group Treasury are managed locally and subject to independent moni- toring and control both in the locations by local risk control units as well as centrally by Treasury Risk Control. Group Treasury manages two main types of interest rate risk positions. One type is the risk transferred from Wealth Manage- ment and Retail & Corporate banking operations (mentioned above). The other type arises from investing or funding non-mon- etary corporate balance sheet items that have indefinite maturi- ties, such as equity and goodwill. For these items senior manage- ment has defined specific target durations based on which we fund and invest as applicable. These targets are defined by repli- cation portfolios, which establish rolling benchmarks to execute against. The table on the next page includes any residual risk in the Group Treasury books against these benchmarks. This activity and associated sensitivities of these replication portfolios are fur- ther discussed in the Group Treasury section. In addition to its regular risk management activities, Group Treasury may execute transactions that aim to economically hedge negative effects on our net interest income stemming from the prolonged period of extraordinarily low yields, mainly through income-generating fixed receiver swaps. Interest rate risk within Wealth Management Americas arises from the business division’s investment portfolio in addition to its lending and deposit products offered to clients. This interest rate risk is closely measured, monitored and managed within approved risk limits and controls, taking into account Wealth Management Americas’ balance sheet items that mutually offset interest rate risk. The Corporate Center Legacy Portfolio assets that were re- classified to Loans and receivables from Held for trading in the fourth quarter of 2008 and the first quarter of 2009, and certain other debt securities held as Loans and receivables, also give rise to nontrading interest rate risk. ➔ Refer to the “Interest rate and currency management” section of this report for more information The interest rate risk sensitivity figures presented in the table “Interest rate sensitivity – banking book” represent the impacts of +1, ± 100 and ±200-basis-point parallel moves in yield curves on present values of future cash flows, irrespective of accounting 157 Risk, treasury and capital management Risk, treasury and capital management Risk management and control treatment. For some portfolios, the +1-basis-point sensitivity has been estimated by dividing the +100-basis-point sensitivity by 100. Due to the low level of interest rates, the downward moves by 100 / 200 basis-points sensitivities are floored at zero to ensure that the resulting interest rates are not negative. This effect, com- bined with pre-payment risk on US mortgage products, results in nonlinear behavior of the sensitivity. d e t i d u A funds accounted for as available-for-sale) to a 1-basis-point paral- lel increase in the yields of the respective instruments is approxi- mately negative CHF 8.2 million, which would be recorded in other comprehensive income if such change occurred. The interest rate sensitivity of this position including the associated hedges is included within the table “Interest rate sensitivity – banking book”, some elements of which are additionally included in VaR. During the second quarter of 2012, we modified our calcula- tion approach. Client rate durations are no longer assumed to be responsive to the applied instantaneous yield curve changes, with the exception of those products contractually referencing market rates. The figures for 31 December 2011 have been restated to reflect these changes. The impact of an adverse parallel shift in interest rates of 200 basis points on our non-trading interest rate risk exposures is sig- nificantly below the threshold of 20% of eligible capital set by regulators. d e t i d u A As part of its management of interest rate risk, Group Treasury has managed portfolios that aimed to economically hedge nega- tive effects on the firm’s interest income stemming from the un- usually low yield environment, as discussed in the “Interest rate and currency management” section of this report. The risk posi- tions in these portfolios were closed during the third quarter 2012, largely explaining the change in the overall banking book sensitivity profile compared with the prior year-end. d e t i d u A Interest rate sensitivity of available-for-sale debt investments Debt investments classified as Financial investments available-for- sale amounted to CHF 65.7 billion on 31 December 2012 com- pared with CHF 52.5 billion on 31 December 2011. The sensitivity of these positions (excluding hedges and excluding investments in ➔ Refer to “Note 14 Financial investments available-for-sale” in the “Financial information” section of this report for more information ➔ Refer to “Debt investments” in the “Credit risk” section of this report for more information Interest rate sensitivity of interest rate swaps designated in cash flow hedges Fair value gains or losses associated with the effective portion of interest rate swaps designated as cash flow hedges for cash flow repricing risk are recognized initially in Equity. When the hedged forecast cash flows affect profit or loss, the associated gains or losses on the hedging derivatives are reclassified from Equity to profit or loss. Interest rate swaps designated in cash flow hedges are denominated in US dollar, euro, British pound, Swiss franc and Canadian dollar. As of 31 December 2012, the fair value of these interest rate swaps amounted to CHF 7.8 billion (positive replace- ment values) and CHF 3.0 billion (negative replacement values). The impact on other comprehensive income under IFRS of a 1-ba- sis-point increase of underlying LIBOR curves would have de- creased equity by approximately CHF 23.7 million. The interest rate sensitivity of these swaps is included in the table below “Interest rate sensitivity – banking book” some elements of which are additionally included in VaR disclosure. d e t i d u A Interest rate sensitivity – banking book 1 CHF million CHF EUR GBP USD Other Total impact on interest rate-sensitive banking book positions CHF million CHF EUR GBP USD Other Total impact on interest rate-sensitive banking book positions –200 bps –100 bps (22.4) 21.0 (0.5) (197.3) (8.3) (207.4) (13.4) 13.3 2.3 (138.3) (10.5) (146.7) –200 bps –100 bps 14.3 316.8 (6.9) 153.5 17.2 494.9 17.5 169.6 (9.4) 117.3 3.5 298.5 31.12.12 +1 bp (0.3) (0.5) (0.1) 4.1 0.2 3.3 31.12.11 +1 bp (0.7) (1.6) 0.1 (1.6) (0.2) (4.0) +100 bps +200 bps (27.5) (48.5) (14.3) 412.6 20.2 342.5 (51.0) (94.1) (29.5) 793.7 40.3 659.4 +100 bps +200 bps (66.9) (160.3) 13.2 (157.0) (13.4) (384.2) (130.2) (314.1) 25.6 (385.4) (25.2) (829.3) 1 Does not include interest rate sensitivities for credit valuation adjustments on monoline credit protection, US and non-US reference-linked notes and the option to acquire equity of the SNB StabFund for which the interest rate sensitivities are separately disclosed. Also not included are the interest rate sensitivities of our inventory of student loan auction rate securities, as from an economic perspective these exposures are not materially affected by parallel shifts in US dollar interest rates, holding other factors constant. 158 Non-trading portfolios – valuation and sensitivity information by instrument category d e t i d u A d e t i d u A Credit valuation adjustments on monoline credit protection Included in our Legacy Portfolio are trades whereby we purchased credit default swaps (CDS) protection from monoline insurers against UBS-held underlyings, including residential mortgage- backed securities (RMBS) collateralized debt obligations (CDO) and commercial mortgage-backed securities (CMBS) CDO, trans- actions with collateralized loan obligations (CLO) and asset- backed securities (ABS) CDO. Since the start of the financial crisis, the credit valuation adjustments (CVA) relating to these monoline exposures have been a source of valuation uncertainty, given mar- ket illiquidity and the contractual terms of these exposures relative to other monoline-related instruments. CVA amounts related to monoline credit protection are based on a methodology that uses CDS spreads on the monolines as a key input in determining an implied level of expected loss. Where a monoline has no observable CDS spread, a judgment is made on the most comparable monoline or combination of monolines, and the corresponding spreads are used instead. For RMBS CDO, CMBS CDO and CLO asset categories, cash flow projections are used in conjunction with current fair values of the underlying as- sets to provide estimates of expected future exposure levels. For other asset categories, future exposure is derived from current exposure levels. the model include correlations and recovery rates. We apply fair value adjustments related to potential uncertainty in each of these parameters, which are only partly observable. In addition, we ap- ply fair value adjustments for uncertainties associated with the use of observed spread levels as the primary inputs. These fair value adjustments are calculated by applying shocks to the rele- vant parameters and revaluing the credit protection. These shocks for correlation, recovery and spreads are set to various levels de- pending on the asset type and / or region and may vary over time depending on the best judgment of the relevant trading and con- trol personnel. Correlation and recovery shocks are generally in the reasonably possible range of 5 to 15 percentage points. Spread shocks vary more widely and depend on whether the un- derlying protection is funded or unfunded to reflect cash or syn- thetic basis effects. These fair value adjustments may also be con- sidered a measurement of sensitivity. On 31 December 2012, the fair value of the US RLN credit protection was USD 120 million (CHF 110 million) including ad- justments described above of USD 11 million (CHF 10 million). This compares with USD 319 million (CHF 299 million) on 31 De- cember 2011, which included an adjustment of USD 22 million (CHF 21 million). The reduction in the fair value was largely due to writedowns in the reference pool assets which led to reduc- tions in the notional exposure and corresponding fair values changes. To assess the sensitivity of the monoline CVA calculation to al- ternative assumptions, the impact of a 10% increase in monoline CDS spreads (e.g. from 1,000 basis points to 1,100 basis points for a specific monoline) was considered. On 31 December 2012, such an increase would have resulted in a USD 15 million (CHF 13 million) increase in the reported monoline CVA compared with USD 39 million (CHF 37 million) on 31 December 2011. d e t i d u A The sensitivity of the monoline CVA to a decrease of 1 percent- age point in the monoline recovery rate assumptions (e.g. from 30% to 29% for a specific monoline, conditional on default oc- curring) is estimated to increase the reported figures by approxi- mately USD 3 million (CHF 2 million) compared with USD 11 mil- lion (CHF 10 million) on 31 December 2011. The sensitivity to credit spreads and recovery rates is substantially linear. Non-US reference-linked notes The same valuation model and the same approach to the calcula- tion of fair value adjustments are applied to the non-US RLN cred- it protection and the US RLN credit protection as described above, except that the spread is shocked by 10% for European corporate names. On 31 December 2012, the fair value of the non-US RLN credit protection was USD 214 million (CHF 195 million) including adjustments of USD 42 million (CHF 39 million). This compares with a fair value of USD 468 million (CHF 439 million) on 31 De- cember 2011, which included adjustments of USD 46 million (CHF 43 million). The reduction of the fair value exposure was mainly due to mark-to-market changes and buybacks. d e t i d u A d e t i d u A US reference-linked notes The US reference-linked notes (RLN) consist of a series of transac- tions whereby UBS purchased credit protection, predominantly in note form, on a notional portfolio of fixed income assets. The referenced assets are primarily CMBS and subprime RMBS and / or corporate bonds and loans across all rating categories. While the assets in the portfolio are marked-to-market, the credit protection embodied in the RLN is fair valued using a market standard ap- proach to the valuation of portfolio credit protection (Gaussian copula). This approach is intended to effectively simulate corre- lated defaults within the portfolio, where the expected losses and defaults of the individual assets are closely linked to the observed market prices (spread levels) of those assets. Key assumptions of Option to acquire equity of the SNB StabFund Our call option to purchase the SNB StabFund’s equity is recog- nized on the balance sheet as a derivative at fair value (positive replacement values) with changes to fair value recognized in prof- it or loss. On 31 December 2012, the fair value of the call option (after reserves) was USD 2,297 million (CHF 2,103 million). This compares with USD 1,736 million (CHF 1,629 million) on 31 De- cember 2011. The increase in the value of the option is primarily attributable to an increase in the market value of the underlying SNB StabFund assets. The option valuation model utilizes cash flow projections for assets within the SNB StabFund across various economic scenari- os. This model is calibrated to market levels by setting the spread above the one-month LIBOR rates used to discount future cash 159 Risk, treasury and capital management Risk, treasury and capital management Risk management and control d e t i d u A flows, such that the model-generated price of the underlying asset pool equals our assessed fair value of the asset pool. The model incorporates a model reserve (fair value adjustment) to ad- dress the inherent valuation uncertainty associated with the fore- casting process. On 31 December 2012, this adjustment was USD 173 million (CHF 158 million) compared with USD 131 million (CHF 123 million) on 31 December 2011. d e t i d u A Investments made as part of an ongoing business are also sub- ject to our standard controls, including portfolio and concentra- tion limits. Seed money and co-investments in UBS-managed funds made by Global Asset Management are, for example, sub- ject to a portfolio limit. All investments must be approved by del- egated authorities and are monitored and reported to senior management. On 31 December 2012, a 100-basis-point increase in the discount rate would have decreased the option value by USD 181 million (CHF 166 million) compared with USD 139 million (CHF 130 million) on 31 December 2011. A 100-basis-point de- crease would have increased the option value by approximately USD 201 million (CHF 184 million) compared with USD 155 mil- lion (CHF 145 million) on 31 December 2011. Equity investments d e t i d u A Under IFRS, equity investments not in the trading book may be classified as Financial investments available-for-sale, Financial as- sets designated at fair value through profit or loss or Investments in associates. We may make direct investments in a variety of entities or buy equity holdings in both listed and unlisted companies for a variety of purposes, including revenue generation or as part of strategic initiatives. Other investments, such as exchange and clearing house memberships, are held to support our business activities. We may also make investments in funds that we manage, in order to fund or “seed” them at inception, or to demonstrate that our interests concur with those of investors. We also buy, and are sometimes required by agreement to buy, securities and units from funds that we have sold to clients. The fair value of equity invest- ments tends to be dominated by factors specific to the individual stocks, and our equity investments are generally intended to be held for the medium or long term and may be subject to lockup agreements. For these reasons, we generally do not control these exposures using the market risk measures applied to trading ac- tivities. Such equity investments are, however, subject to a differ- ent range of controls, including pre-approval of new investments by business management and Risk Control and regular monitoring and reporting. They are also included in our firm-wide earnings-at- risk, capital-at-risk and combined stress test frameworks. d e t i d u A Composition of equity investments On 31 December 2012, we held equity investments totaling CHF 1.6 billion, of which CHF 0.7 billion were classified as Financial investments available-for-sale, and CHF 0.9 billion as Investments in associates. This compares with 31 December 2011, when we held equity investments totaling CHF 1.5 billion, of which CHF 0.7 billion were classified as Financial investments available-for-sale and CHF 0.8 billion as Investments in associates. ➔ Refer to “Note 14 Financial investments available-for-sale” and “Note 15 Investments in associates” in the “Financial informa- tion” section of this report for more information Treasury risk control Treasury assumes risks in the process of managing interest rate and structural foreign exchange risks and the funding and liquid- ity profile of the bank. Our treasury risk control function applies a holistic risk framework which sets the appetite for treasury-relat- ed risk-taking activities across the firm. This ensures that the risks remain within parameters defined by the Board of Directors (BoD) and the Group Asset and Liability Management Committee. A key element of the framework is an overarching economic value sen- sitivity limit, set by the BoD. This limit is linked to the level of Basel III common equity tier 1 capital (CET1) and takes into account risks arising from interest rates, foreign exchange and credit spread risks. In addition, the sensitivity of Net interest income to changes in interest rates is monitored against targets set by the Group Chief Executive Officer in order to analyze the outlook and volatility of Net interest income based on market expected inter- est rates. Limits are also set by the BoD to balance the impact of foreign exchange movements on our common equity and tier 1 ratio. 160 Operational risk Operational risk is the risk resulting from inadequate or failed internal processes, human error and systems failure, or from external causes (deliberate, accidental or natural). Such events may cause direct financial losses or manifest themselves indirectly as revenue forgone due to the suspension of business. They may also result in damage to our reputation and to our franchise, lead- ing to longer-term financial implications. Operational risk is an inevitable consequence of being in busi- ness, and managing it is a core element of our business activities. Our aim is to provide a framework that supports the identification and assessment of material operational risks and their potential concentrations in order to achieve an appropriate balance be- tween risk and reward. We seek to foster a strong firm-wide risk and control culture, which is a pre-requisite for sustainable and improved performance. Organizational structure and governance The business division Chief Executive Officers and the Corporate Center function heads are ultimately accountable for the effec- tiveness of operational risk management and implementation of our operational risk framework. Responsibility for the front-to- back control environment in the business divisions is the responsi- bility of the respective business divisions’ Chief Executive Officers but is delegated to the respective business divisions’ Chief Operat- ing Officers. Management in all functions (business, logistics and control functions) is responsible for establishing an appropriate operational risk management environment, including the estab- lishment and maintenance of robust internal controls, effective supervision and a strong risk culture. Controls must be regularly assessed, utilizing evidence to confirm design and operating ef- fectiveness. Operational risk control provides an independent and objective view on the adequacy of operational risk management in the firm. It is governed by the Operational Risk Management Com- mittee, which is chaired by the Global Head of Operational Risk Control, who reports to the Group Chief Risk Officer and is a member of the Risk Executive Committee. The Operational Risk Management Committee oversees operational risk activities and work streams, ensures oversight of the implementation of the op- erational risk framework, and provides an effective and indepen- dent assessment of the operational risk profile. Operational risk framework The operational risk framework describes general requirements for managing and controlling operational risk at UBS. The implemen- tation of the enhanced operational risk framework remained a key focus during 2012. The framework is built on four main pillars: 1. Classification of inherent risks through the operational risk tax- onomy 2. Assessment of the design and operating effectiveness of con- trols through the internal control assessment process 3. Assessment of residual risk through the operational risk assess- ment process 4. Remediation to address identified deficiencies which are out- side accepted levels of residual risk The operational risk taxonomy provides a clear and logical clas- sification of our inherent operational risks across all business divi- sions. The operational risk framework requires that for each cat- egory of the operational risk taxonomy, core controls are defined. Core controls are the critical controls that, if designed and operat- ing effectively, will materially ensure that our operational risk pro- file stays within acceptable boundaries. The completeness of core controls is tested using scenarios through which the inherent risk, including stress and tail risk, may materialize. Functions are re- quired to identify key procedural controls relevant to their activi- ties that support the core controls. Full implementation and inte- gration of scenarios, core and key procedural controls and their periodic review is key to ensuring a comprehensive view of the residual risk in the organization. The periodic review is achieved through a quarterly internal control assessment process that re- quires functions to assess and evidence operating and design ef- fectiveness of their key procedural controls. This also forms the basis for the assessment and testing of controls over financial re- porting as required by the Sarbanes-Oxley Act, Section 404 (SOX 404). The enhanced framework facilitates the identification of SOX 404 relevant controls for independent testing and functional assessments, gathering of evidence, management affirmation and remediation tracking. Significant control deficiencies surfaced during the operational risk assessment process must be reported in the operational risk inventory and sustainable remediation insti- gated. All significant issues are assigned to owners at senior man- agement level and must be reflected in the respective employees’ annual performance measurement and management objectives and evaluation to ensure effective remediation. The aggregated impact of the control deficiencies and the ad- equacy of remediation efforts are assessed by operational risk control for all relevant operational risk taxonomy categories as part of the operational risk assessment process. This front-to-back process, complemented with internal expert opinion, provides a transparent assessment of the current operational risk exposure for residual operational risk against agreed risk appetite state- ments and measures. Risk appetite measures indicate a breach of appetite limits, which requires management to adapt their business activities or adjust the internal control environment accordingly. Risk appetite 161 Risk, treasury and capital management Risk, treasury and capital management Risk management and control can be expressed through the establishment of quantitative con- straints such as operating limits or qualitative statements in the form of policies. In the third quarter of 2012, Group Internal Audit implemented an enhanced assurance process for issue closure to promote stronger management discipline for identifying, mitigat- ing and sustainably remediating risk control issues. To assist with prioritization of all known operational risk issues irrespective of origin, a common rating methodology was adopted by all internal control functions and both internal and external audit. Assess- ment of all known issues irrespective of source against the same rating scale supports clear prioritization and appropriate manage- ment focus on the key issues. An operational risk communications program was launched in July 2012 to reemphasize the impor- tance of a strong risk control culture and individual responsibility across all levels of the firm to generate sustainable financial per- formance. Reporting of significant risk issues and operational effective- ness was extended and strengthened through 2012. Where a par- ticular operational risk issue is considered of strategic concern to the firm it is categorized as a ‘Group Significant Operational Risk Issue’. Remediation programs related to these issues are led by members of the Group Executive Board and is subject to indepen- dent quality assurance. Completion is assessed against clearly de- fined success criteria to confirm that an adequate and sustainable standard of control has been achieved. The Group Executive Board members have confirmed their personal and collective commitment to the timely and sustainable remediation of Group Significant Operational Risk Issues. Remediation of known issues and control deficiencies is a focus of the operational risk framework. In 2012 material progress was made in relation to a number of key remediation activities. The Investment Bank’s unauthorized trading incident (UTI) re- mediation programme is running to plan and the key issues have been remediated, with all remaining items on plan for implemen- tation by the second quarter 2013. A series of immediate reme- diation steps were taken, including senior management changes and the remediation of the SOX material weakness. On 19 December 2012, UBS entered into regulatory settle- ments concerning LIBOR and other benchmark interest rates. On the same day FINMA issued an order concluding proceedings against UBS concerning the same issues. These settlements and the FINMA order required UBS to pay a total of approximately CHF 1.4 billion in fines and disgorgement. The conduct encom- passed by the regulatory settlements and order includes certain UBS personnel engaging in efforts to manipulate submissions for certain benchmark rates to benefit trading positions, colluding with employees at other banks and cash brokers to influence cer- tain benchmark rates to benefit their trading positions, and giving inappropriate directions to UBS submitters. We have undertaken remedial steps that are designed to guard against a recurrence of this conduct, such as strengthening our benchmark submission process, making organizational changes that include transferring responsibility for that process principally to Group Treasury within the Corporate Center, and enhancing applicable policies and pro- cedures. Operational risk quantification The enhanced operational risk framework is aligned to the calcu- lation of capital, representing a major step forward in our ap- proach to quantifying operational risk and setting effective man- agement incentives. The processes detailed above are integral to the quantification of operational risk reinforcing integration and alignment of the operational risk framework and the calculation of capital. We measure operational risk exposure and calculate opera- tional risk regulatory capital by utilizing the advanced measure- ment approach (AMA) in accordance with FINMA requirements. For regulated subsidiaries, the basic indicator or standardized ap- proaches are adopted as agreed with local regulators. 162 Advanced measurement approach model The AMA model is a hybrid consisting of two main components. The historical component is a retrospective view based on our history of operational risk losses since January 2002, excluding extreme internal losses, which are assigned to the scenario com- ponent to avoid duplication. The key assumption within this com- ponent is that past events form a reasonable proxy for future events. A distribution of aggregated losses over one year is de- rived by modeling severities and frequencies separately and then combining them. This is referred to as a loss distribution approach and is used to project future total losses based on historical expe- rience and determine the expected loss portion of our capital re- quirement. The scenario component is a forward-looking view of potential operational losses that may occur based on the operational risk issues facing the bank. The aim is to reach a reasonable estimate of unexpected or tail loss exposure (corresponding to a low fre- (cid:35)(cid:47)(cid:35)(cid:2)(cid:79)(cid:81)(cid:70)(cid:71)(cid:78)(cid:2)(cid:69)(cid:81)(cid:79)(cid:82)(cid:81)(cid:80)(cid:71)(cid:80)(cid:86)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:75)(cid:80)(cid:82)(cid:87)(cid:86)(cid:85) (cid:42)(cid:75)(cid:85)(cid:86)(cid:81)(cid:84)(cid:75)(cid:69)(cid:67)(cid:78) (cid:69)(cid:81)(cid:79)(cid:82)(cid:81)(cid:80)(cid:71)(cid:80)(cid:86) (cid:43)(cid:80)(cid:86)(cid:71)(cid:84)(cid:80)(cid:67)(cid:78)(cid:2)(cid:78)(cid:81)(cid:85)(cid:85)(cid:71)(cid:85) (cid:52)(cid:71)(cid:73)(cid:87)(cid:78)(cid:67)(cid:86)(cid:81)(cid:84)(cid:91) (cid:69)(cid:67)(cid:82)(cid:75)(cid:86)(cid:67)(cid:78) (cid:53)(cid:69)(cid:71)(cid:80)(cid:67)(cid:84)(cid:75)(cid:81) (cid:67)(cid:80)(cid:67)(cid:78)(cid:91)(cid:85)(cid:75)(cid:85) (cid:43)(cid:80)(cid:86)(cid:71)(cid:84)(cid:80)(cid:67)(cid:78)(cid:2) (cid:71)(cid:90)(cid:86)(cid:84)(cid:71)(cid:79)(cid:71)(cid:2) (cid:78)(cid:81)(cid:85)(cid:85)(cid:71)(cid:85) (cid:36)(cid:39)(cid:43)(cid:37)(cid:40)(cid:19) (cid:39)(cid:90)(cid:86)(cid:71)(cid:84)(cid:80)(cid:67)(cid:78)(cid:2) (cid:75)(cid:80)(cid:70)(cid:87)(cid:85)(cid:86)(cid:84)(cid:91)(cid:2) (cid:78)(cid:81)(cid:85)(cid:85)(cid:71)(cid:85) (cid:53)(cid:69)(cid:71)(cid:80)(cid:67)(cid:84)(cid:75)(cid:81) (cid:69)(cid:81)(cid:79)(cid:82)(cid:81)(cid:80)(cid:71)(cid:80)(cid:86) (cid:19)(cid:2)(cid:36)(cid:87)(cid:85)(cid:75)(cid:80)(cid:71)(cid:85)(cid:85)(cid:2)(cid:71)(cid:80)(cid:88)(cid:75)(cid:84)(cid:81)(cid:80)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:75)(cid:80)(cid:86)(cid:71)(cid:84)(cid:80)(cid:67)(cid:78)(cid:2)(cid:69)(cid:81)(cid:80)(cid:86)(cid:84)(cid:81)(cid:78)(cid:2)(cid:72)(cid:67)(cid:69)(cid:86)(cid:81)(cid:84)(cid:85)(cid:16) quency / high severity event). We use twenty AMA taxonomy cat- egories which are closely aligned to the operational risk taxonomy. For each of these categories three frequency / severity pairs are defined, representing the base, stress and worst case. Calibration is based on internal extreme losses, loss data from peer banks, business environment and internal control factors, as well as ex- tensive annual verification by internal subject matter experts based on their view of our particular exposure to these risk taxonomies. The following chart provides a high-level overview of the model components and their respective inputs into the calculation: The AMA model adds the sampled losses from the historical and the scenario component to derive the regulatory capital fig- ure which equals the 99.9% quantile of the overall loss distribu- tion. Currently, we do not reflect mitigation through insurance or any other risk transfer mechanism in our AMA model. Following qualitative and quantitative model-related enhance- ments, in 2012 we focused on further strengthening the integra- tion of the output of the operational risk framework into the AMA model to ensure efficient leverage of operational risk man- agement and control processes. The AMA taxonomy categories used in the scenario component have been aligned with the op- erational risk taxonomy. Qualitative adjustments to the parame- ters of the scenario component utilize the assessments of opera- tional risk exposure resulting from the operational risk assessment process as well as control deficiencies, scenarios and core con- trols. Operational risk regulatory capital is allocated to the business divisions based on historical operational risk-related losses. In 2013 we will focus on enhancing the allocation approach to strengthen the linkage between the quality of operational risk management and the resulting capital allocation with the aim of promoting and incentivizing excellence in risk management be- havior. Increased leverage of available qualitative indicators and elements will play an integral role for capital allocation purposes and increase the risk sensitivity of the capital allocation approach overall. ➔ Refer to the “Capital management” section of this report for more information on the development of risk-weighted assets for operational risk 163 Risk, treasury and capital management Risk, treasury and capital management Treasury management Treasury management Group Treasury oversees the balance sheet and the usage of our critical financial resources. Included in Group Treasury’s mandate is responsibility for managing the capital, liquidity, and funding position of the firm. Additionally, Group Treasury manages interest rate, currency and counterparty risks that arise from franchise, balance sheet and capital management activities. Treasury management The responsibility for performing treasury activities was evaluated and then reorganized in 2012. Previously, Group Treasury primar- ily performed a governance role that included forecasting capital, liquidity and funding requirements and establishing and monitor- ing group and divisional limits and targets. Divisional treasury functions performed intra divisional governance. Within the In- vestment Bank, the Asset Liability Management unit managed the short-term asset / liability position as well as the firm’s counter- party risk exposure. In conjunction with the accelerated implementation of our strategy announced in October 2012, the Asset Liability Manage- ment unit was transferred from the Investment Bank to Group Treasury within the Corporate Center in the fourth quarter of 2012. Group Treasury now performs complete front-to-back gov- ernance and planning activities and executes funding and risk management transactions as a service to the Group and the busi- ness divisions. The new organization and mandate of Group Trea- sury enables greater control over financial resources and enhanced efficiency in sourcing and distributing resources to the operating businesses. Responsibility for implementation of the control framework for Treasury activities, besides liquidity and funding risk which are under the responsibility of Treasury, is with Risk Control. Financial resource governance The Group Asset and Liability Management Committee (Group ALCO) ensures that our assets and liabilities are managed in line with our overall Group strategy as defined by the Board of Direc- tors (BoD) and the Group Executive Board (GEB), as well as our regulatory commitments, and the interests of shareholders and other stakeholders. Group Treasury provides the Group ALCO with monthly report- ing on our financial resources (e.g. balance sheet, capital, liquidity and funding) needed to monitor our asset and liability manage- ment policies and processes, and to ensure they are effective un- der prevailing and prospective conditions. 164 Liquidity and funding management d e t i d u A We define liquidity risk as the risk of being unable to generate sufficient funds from assets to meet payment obligations when they fall due. Funding risk is the risk of being unable to borrow funds in the market on an ongoing basis at an acceptable price to fund actual or proposed commitments, thereby supporting our current business and strategic direction. Liquidity and funding are critical for a financial institution. They must be managed continuously to ensure they can be adjusted to sudden changes in market conditions or the oper- ating environment, whether widespread or relatively small. An institution that is unable to meet its liabilities when they fall due may fail even if its assets exceed its liabilities, because it is unable to borrow sufficient funds on an unsecured basis, has insufficient high-quality assets to borrow against or has insuf- ficient liquid assets it can sell to raise the cash it needs immedi- ately. ➔ Refer to “Current market climate and industry drivers” in the “Operating environment and strategy” section for more information Liquidity and funding management d e t i d u A Our liquidity and funding strategy is proposed by Group Treasury, approved by the Group Asset and Liability Management Commit- tee (Group ALCO) and overseen by the Board of Directors Risk Committee. Liquidity and funding limits are set at Group and business division levels, and are reviewed and approved at least once a year by the BoD, the Group ALCO, the Group Chief Finan- cial Officer (Group CFO) and the Group Treasurer. Group Treasury monitors and oversees the implementation and execution of our liquidity and funding strategy, and ensures adherence to our li- quidity and funding policies including limits, and reports the bank’s overall liquidity and funding position at least monthly to the Group ALCO and the Board of Directors Risk Committee. d e t i d u A exposures of the firm under a variety of potential scenarios that encompass normal and stressed market conditions. Our major sources of liquidity are channeled through entities that are fully consolidated. We consider the possible impact on our access to markets from stress events affecting some or all parts of our business. The results of this analysis are factored into our overall contingency plans for a liquidity crisis, which are then incorporated into our wider crisis management process. We continuously refine the assumptions used in our crisis sce- nario and maintain a robust, actionable and tested contingency plan. A key component of this framework is an assessment and regular testing of all material, known and expected cash flows as well as the level and availability of high-grade collateral that could be used to raise additional funding if required. ➔ Refer to “Transfer of capital and funding within UBS Group” in the “Capital management” section for more information d e t i d u A Liquidity management We manage our liquidity position to provide adequate time and financial flexibility to respond to a UBS-specific liquidity crisis in a generally stressed market environment. Complementing this, our funding risk management aims for the optimal liability structure to finance our businesses reliably and cost-efficiently. Our business activities generate asset and liability portfolios that are highly diversified with respect to market, product, tenor and currency. This reduces our exposure to individual funding sources and provides a broad range of investment opportunities, reducing liquidity risk. Our funding diversification and global scope help protect our liquidity position in the event of a crisis. The liquidity and funding process is undertaken by Group Treasury by managing operation- al cash and collateral within a control framework set by Treasury Risk Control. This permits close control of both our cash position and our portfolio of high-quality liquid securities. We aim to maintain a sound liquidity position to meet all our liabilities when due, whether under normal or stressed conditions, without incurring unacceptable losses or risking sustained dam- age to our various businesses. We employ an integrated liquidity and funding framework to govern the liquidity management of all our branches and subsidiaries. d e t i d u A We perform stress analysis to determine the asset / liability structure that allows us to maintain an appropriately balanced liquidity and funding position under various scenarios. Further- more, we manage our liquidity and funding risk with the overall objective of optimizing the value of our business franchise across a broad range of temporal market conditions. d e t i d u A We monitor both the contractual and behavioral maturity pro- file of the balance sheet (as described under “Liquidity model- ing“). In the behavioral maturity profile, we model the liquidity Liquidity modeling For the purpose of monitoring our liquidity situation, we employ the following main measures: – An operational cash ladder which is used to monitor our fund- ing requirements on a daily basis within limits set by the Group ALCO, the Group CFO and the Group Treasurer. This cumula- tive cash ladder shows the projected daily funding position – the net cumulative funding requirement for a specific day – from the current day to three months forward. – A stressed version of the operational cash ladder which uses behavioral assumptions that model a severe liquidity crisis sce- nario in a generally stressed market environment. This stress scenario is run daily and used to project potential outflows over a one-month time horizon. 165 Risk, treasury and capital management Risk, treasury and capital management Treasury management d e t i d u A – A maturity gap analysis which is comprised of a contractual maturity gap analysis of our assets and liabilities over a one- year time horizon, and a behavioral maturity gap analysis un- der an assumed UBS-specific liquidity crisis in combination with a generally stressed market environment over a one-year time horizon. d e t i d u A – A cash capital model which measures the amount of long-term funding or stable customer deposits, long-term debt (over one year) and equity available to fund illiquid assets. Cash capital consumption reflects the illiquid portion of the assets which could not be transformed into cash by secured funding. For a given asset, the illiquid portion is the difference (the haircut) between the carrying value of an asset on the balance sheet and its effective cash value when used as collateral in a secured funding transaction. Our cash capital supply consists of long- term sources of funds: unsecured funding with remaining time to maturity of at least one year; shareholders’ equity; and core deposits – the portion of our customer deposits that are deemed to have a behavioral maturity of at least one year. A breakdown of the contractual maturities of our assets and liabilities serves as the starting point for stress testing analyses. This contractual view is adjusted to include behavioral compo- nents as well as a more detailed breakdown of asset and liability types. d e t i d u A The liquidity crisis scenario combines a UBS-specific crisis with market disruption and focuses on a time horizon of up to one year. This scenario assumes large drawdowns on otherwise stable client deposits mainly due on demand; inability to renew or re- place maturing unsecured wholesale funding; unusually large drawdowns on loan commitments; reduced capacity to generate liquidity from trading assets; liquidity outflows corresponding to a three-notch downgrade triggering contractual obligations to un- wind derivative positions or to deliver additional collateral; and additional collateral needs due to adverse movements in the mar- ket values of derivatives. All these models and their assumptions are reviewed regularly to incorporate the latest business and mar- ket developments. Based on UBS’s credit ratings as of 31 December 2012, con- tractual liquidity outflows of approximately CHF 5.2 billion, CHF 8.2 billion and CHF 8.4 billion would have been required in the event of a one-notch, two-notch and three-notch reduction, re- spectively. In evaluating UBS’s liquidity requirements, UBS consid- ers the potential impact of a reduction in UBS’s long-term credit ratings, and a corresponding reduction in short-term ratings. Of these outflows, the portion related to derivative instruments is approximately CHF 2.9 billion, CHF 5.8 billion and CHF 6.0 billion in the event of a one-notch, two-notch and three-notch reduc- tion, respectively. d e t i d u A Contingency planning Liquidity crisis scenario analysis and contingency planning support the liquidity management process, which ensures that immediate corrective measures to absorb potential sudden liquidity shortfalls 166 can be put into effect. Since a liquidity crisis could have a myriad of causes, we focus on a scenario that encompasses potential stress effects across all markets, currencies and products. The li- quidity status indicators combine internal metrics from the liquid- ity stress models with market data to provide a dashboard of early warning indicators reflecting the current liquidity situation. The liquidity status indicators are used on a Group level to assess both the overall global and regional situations. Our Group contingency funding plan is an integral part of our global crisis management concept, which covers various types of crisis events. The contingency funding plan contains an assess- ment of the contingent funding sources in a stressed environ- ment, liquidity status indicators and metrics and contingency pro- cedures. Should a crisis require contingency funding measures to be invoked, Group Treasury is responsible for coordinating liquid- ity generation with representatives of the relevant business areas. Our contingent funding sources include a large multi-currency portfolio of high-quality, short-term unencumbered assets man- aged centrally by Group Treasury, available and unutilized liquidity facilities at several major central banks, and contingent reductions of liquid trading portfolio assets. Liquidity limits and controls Liquidity and funding limits and targets are set by the BoD, the Group ALCO, the Group CFO, the Group Treasurer and the busi- ness divisions, taking into consideration current and projected business strategy and risk tolerance. The principles underlying our limit and target framework aim to maximize and sustain the value of our business franchise and maintain an appropriate balance in the asset / liability structure. Structural limits and targets focus on the structure and composition of the balance sheet, while supple- mentary limits and targets are designed to drive the utilization, diversification and allocation of funding resources. Together the limits and targets focus on liquidity and funding risk for periods out to one year, including stress testing. Group Treasury is respon- sible for the oversight of the liquidity and funding limits and tar- gets. Performance is monitored against limits and targets and regularly communicated to senior management. These limits and targets are, at least annually, reviewed and reconfirmed by the respective authorities. To complement and support the limit framework, Group Trea- sury monitors the markets in which we operate for potential threats. Funds transfer pricing Funding costs and benefits are allocated to our business divisions according to our liquidity and funding risk management frame- work. Our internal funds transfer pricing system is designed to provide the proper liability structure to support the assets and planned activities of each business division while minimizing cross-divisional subsidies. The funds transfer pricing mechanism aims to allocate funding and liquidity costs to the activities gen- erating the liquidity and funding risks and deals with the move- ment of funds from those businesses in surplus to those that have a shortfall. Funding is internally transferred or allocated among businesses at rates and tenors that reflect each business’ asset composition, liquidity and reliable external funding. We continue to review and enhance our internal funds transfer pric- ing system. Liquidity regulation At the end of 2012, we continued to maintain a sound liquidity position with a liquid asset buffer as per regulatory guidance for Basel III liquidity coverage ratio (LCR) of CHF 153 billion and ad- ditional contingent funding sources of CHF 64 billion. In aggre- gate, these sources of available liquidity represented 26% of our funded balance sheet assets. Throughout 2012, UBS was in compliance with Swiss Financial Market Supervisory Authority (FINMA) liquidity requirements. In December 2010, the Basel Committee on Banking Supervi- sion published the “International framework for liquidity risk measurement, standards and monitoring” (Basel III Liquidity). The framework comprises two liquidity ratios: the liquidity coverage ratio (LCR) and the net stable funding ratio (NSFR). Currently, banks employ a wide range of interpretations to cal- culate the Basel III LCR and NSFR. LCR ensures that banks hold enough highly liquid assets to survive short-term (30-day) severe general market and firm-specific stress. NSFR assigns a required stable funding factor to assets (representing the illiquid part of the assets) and assigns all liabilities an available stable funding factor (representing the stickiness of a liability) in order to ensure that banks are not overly reliant on short-term funding and have suf- ficient long-term funding for illiquid assets. The future minimum regulatory requirement is 100% for both LCR (as of 2019) and NSFR (as of 2018). On 6 January 2013, the Group of Governors and Heads of Supervision, the oversight body of the Basel Com- mittee on Banking Supervision, endorsed amendments to the LCR to allow, among others, a phasing-in of the minimum LCR re- quirement from 60% in 2015 to 100% by 2019. On 31 December 2012, our estimated pro-forma regulatory Basel III LCR was 113%, based on current supervisory guidance from FINMA. We also calculate a management LCR that includes additional high-quality and unencumbered contingent funding sources not eligible in the regulatory Basel III liquidity framework such as dedicated local liquidity reserves and additional unutilized borrowing capacity. At the end of 2012, the management LCR stood at 159%. On 31 December 2012, our estimated pro-forma NSFR was 108%, based on current regulatory guidance. The cal- culation of our pro-forma Basel III liquidity ratios includes esti- mates of the impact of the rules and interpretation and will be refined as regulatory interpretations evolve and as new models and the associated systems are enhanced. ➔ Refer to the “Regulatory developments“ section of this report for more information Funding management With the implementation of the revised Treasury Operating mod- el, funding processes that had previously been undertaken by the treasury trading and the short term interest rate units in the In- vestment Bank’s fixed income, currencies and commodities (FICC) business were transferred and consolidated in Group Treasury. Group Treasury manages operational cash and collateral within established limits and controls defined by Treasury Risk. This permits close control of both our cash position and our stock of high-quality liquid securities and ensures that the firm’s general access to whole- d e t i d u A (cid:55)(cid:36)(cid:53)(cid:2)(cid:67)(cid:85)(cid:85)(cid:71)(cid:86)(cid:2)(cid:72)(cid:87)(cid:80)(cid:70)(cid:75)(cid:80)(cid:73) (cid:37)(cid:42)(cid:40)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80)(cid:14)(cid:2)(cid:71)(cid:90)(cid:69)(cid:71)(cid:82)(cid:86)(cid:2)(cid:89)(cid:74)(cid:71)(cid:84)(cid:71)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:69)(cid:67)(cid:86)(cid:71)(cid:70) (cid:35)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:20) (cid:26)(cid:26) (cid:24)(cid:24) (cid:19)(cid:24)(cid:26) 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and capital management Treasury management sale cash markets is centralized in Group Treasury. Group Treasury in turn meets internal demands for funding by channeling funds from units generating surplus cash to those in need of financing. d e t i d u A d e t i d u A Our funding activities are planned by analyzing the overall liquidity and funding profile of our balance sheet, taking into ac- count the amount of stable funding that would be needed to support ongoing business activities through periods of difficult market conditions. Our liability portfolio is broadly diversified by market, product and currency. Our wealth management businesses and Retail & Corporate represent significant, cost-efficient and reliable sources of funding. In addition, we have numerous short-, medium- and long-term funding programs under which we issue senior unse- cured and structured notes. These programs allow institutional and private investors in Europe, the US and Asia Pacific to customize their investments in UBS’s debt. We also generate long-term fund- ing by pledging a portion of our portfolio of Swiss residential mort- gages as collateral for the Swiss Pfandbriefe and our own covered bond program. A short-term secured funding program sources funding globally, generally for the highest-quality assets. Collec- tively, these broad product offerings and the global scope of our business activities underpin our funding stability. We expect to have lower funding needs in the future as we continue to implement our strategy. Accordingly, we intend to repurchase debt selectively, as illustrated by our announcement in February 2013 of cash tender offers for various issues of outstanding notes. Group Treasury regu- larly monitors our funding status including concentration risks to ensure we maintain a well-balanced and diversified liability struc- ture and reports its findings on a monthly basis to the Group ALCO. Funding position and diversification The composition of our funding sources shifted in 2012 from se- cured to unsecured funding and within our unsecured funding sources from short-term wholesale products into client deposits from our wealth management and Retail & Corporate businesses and long-term debt issued. Overall our customer deposits increased by CHF 29 billion to CHF 372 billion, or 50% of our total funding sources compared with 42% at year-end 2011. Deposits from our wealth manage- ment businesses and from Retail & Corporate contributed 98%, or CHF 363 billion, of the total customer deposits (shown in the “UBS asset funding” graph) compared with 95% at year-end 2011. Our outstanding long-term debt, including financial liabili- ties at fair value, increased by CHF 7 billion during the year to CHF 165 billion. Long-term debt represented 22% of our funding sources as shown in the “UBS: funding by product and currency” table, up from 19% at prior year-end. During the year, we raised CHF 2.7 billion equivalent of public benchmark bonds with an average maturity of 3.3 years while CHF 6.4 billion matured. In addition, we issued CHF 5.0 billion equivalent of covered bonds with an average maturity of 4.4 years and Swiss Pfandbriefe of CHF 1.7 billion. Furthermore, we continued to raise medium- and long-term funds through medium-term notes and private place- ments throughout the year. In 2012, we executed two issuances 168 of loss-absorbing notes which qualify as tier 2 capital under Basel III rules, and count as progressive buffer capital in compli- ance with the “too-big-to-fail” law under Swiss regulations for systemically important banks, as well as contributing to our tar- geted loss-absorbing capital. On 22 February 2012, we issued USD 2.0 billion of tier 2 notes, and on 17 August 2012 we issued a further USD 2.0 billion of tier 2 loss-absorbing notes. Both issu- ances have a maturity of 10 years. Our short-term interbank deposits (due to banks) and out- standing short-term debt, as a percentage of total funding sources, decreased from 12.4% to 7.5%, mainly reflecting reduced fund- ing requirements as a result of the continued deleveraging of our balance sheet, but also due to the effects of the negative interest charge imposed on financial institutions for Swiss franc clearing accounts effective 21 December 2012. The secured financing (repurchase agreements and securities lent against cash collateral received) percentage of our funding sources decreased to 6.2% from 13.5%, as shown in the “UBS: funding by product and currency” table. At the end of the year, we borrowed CHF 121 billion less cash on a collateralized basis than we lent, lower than the previous year-end net balance of (cid:40)(cid:87)(cid:80)(cid:70)(cid:75)(cid:80)(cid:73)(cid:2)(cid:68)(cid:91)(cid:2)(cid:69)(cid:87)(cid:84)(cid:84)(cid:71)(cid:80)(cid:69)(cid:91)(cid:2)(cid:124)(cid:2) (cid:37)(cid:42)(cid:40)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:35)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:20) (cid:22)(cid:18)(cid:7)(cid:2)(cid:55)(cid:53)(cid:38)(cid:149)(cid:2)(cid:31)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:21)(cid:18)(cid:18)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:20)(cid:20)(cid:7)(cid:2)(cid:39)(cid:55)(cid:52)(cid:149)(cid:2)(cid:31)(cid:2)(cid:37)(cid:42)(cid:40)(cid:2)(cid:19)(cid:24)(cid:18)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:19)(cid:18) (cid:24) (cid:20) (cid:22)(cid:24) 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(cid:75)(cid:80)(cid:85)(cid:86)(cid:84)(cid:87)(cid:79)(cid:71)(cid:80)(cid:86)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:82)(cid:84)(cid:75)(cid:79)(cid:71)(cid:2)(cid:68)(cid:84)(cid:81)(cid:77)(cid:71)(cid:84)(cid:67)(cid:73)(cid:71)(cid:2)(cid:82)(cid:67)(cid:91)(cid:67)(cid:68)(cid:78)(cid:71)(cid:85)(cid:16) (cid:21)(cid:41)(cid:54)(cid:18)(cid:20)(cid:20)(cid:65)(cid:71) (cid:37)(cid:87)(cid:85)(cid:86)(cid:81)(cid:79)(cid:71)(cid:84)(cid:2)(cid:70)(cid:71)(cid:82)(cid:81)(cid:85)(cid:75)(cid:86)(cid:85) (cid:36)(cid:81)(cid:80)(cid:70)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:80)(cid:81)(cid:86)(cid:71)(cid:85)(cid:2)(cid:75)(cid:85)(cid:85)(cid:87)(cid:71)(cid:70) (cid:37)(cid:67)(cid:85)(cid:74)(cid:2)(cid:79)(cid:67)(cid:84)(cid:73)(cid:75)(cid:80)(cid:142) (cid:43)(cid:80)(cid:86)(cid:71)(cid:84)(cid:68)(cid:67)(cid:80)(cid:77) (cid:47)(cid:81)(cid:80)(cid:71)(cid:91)(cid:2)(cid:79)(cid:67)(cid:84)(cid:77)(cid:71)(cid:86)(cid:2)(cid:82)(cid:67)(cid:82)(cid:71)(cid:84)(cid:2)(cid:75)(cid:85)(cid:85)(cid:87)(cid:71)(cid:70) (cid:52)(cid:71)(cid:82)(cid:81)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:53)(cid:71)(cid:69)(cid:87)(cid:84)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85)(cid:2)(cid:78)(cid:71)(cid:80)(cid:70)(cid:75)(cid:80)(cid:73) (cid:37)(cid:87)(cid:85)(cid:86)(cid:81)(cid:79)(cid:71)(cid:84)(cid:2)(cid:70)(cid:71)(cid:82)(cid:81)(cid:85)(cid:75)(cid:86)(cid:85) (cid:36)(cid:81)(cid:80)(cid:70)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:80)(cid:81)(cid:86)(cid:71)(cid:85)(cid:2)(cid:75)(cid:85)(cid:85)(cid:87)(cid:71)(cid:70) (cid:37)(cid:67)(cid:85)(cid:74)(cid:2)(cid:79)(cid:67)(cid:84)(cid:73)(cid:75)(cid:80)(cid:142) (cid:43)(cid:80)(cid:86)(cid:71)(cid:84)(cid:68)(cid:67)(cid:80)(cid:77) (cid:47)(cid:81)(cid:80)(cid:71)(cid:91)(cid:2)(cid:79)(cid:67)(cid:84)(cid:77)(cid:71)(cid:86)(cid:2)(cid:82)(cid:67)(cid:82)(cid:71)(cid:84)(cid:2)(cid:75)(cid:85)(cid:85)(cid:87)(cid:71)(cid:70) (cid:52)(cid:71)(cid:82)(cid:81)(cid:85)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:53)(cid:71)(cid:69)(cid:87)(cid:84)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85)(cid:2)(cid:78)(cid:71)(cid:80)(cid:70)(cid:75)(cid:80)(cid:73) UBS: funding by product and currency In % 1 Securities lending Repurchase agreements Due to banks Short-term debt issued Retail savings / deposits Demand deposits Fiduciary deposits Time deposits Long-term debt issued Cash collateral payables on derivative instruments Prime brokerage payables Total All currencies CHF EUR USD Others 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 1.2 5.0 3.1 4.4 18.0 21.6 3.3 6.9 22.1 9.5 4.8 1.0 12.5 3.7 8.7 14.0 16.7 3.5 7.8 19.4 8.2 4.5 0.4 0.0 0.5 0.3 11.8 7.8 0.1 0.2 2.8 0.3 0.1 0.0 0.0 0.7 0.2 9.7 6.2 0.1 0.3 2.4 0.3 0.1 0.2 1.1 0.2 0.8 0.8 4.2 0.8 0.5 7.3 5.0 0.5 0.2 1.7 0.5 1.4 0.7 2.9 1.0 1.4 7.1 3.7 0.5 0.5 3.3 0.7 2.7 5.4 6.4 2.0 3.7 9.1 3.2 3.3 0.6 10.0 0.9 6.0 3.5 5.0 1.9 3.5 7.1 3.4 3.0 0.2 0.6 1.6 0.6 0.0 3.2 0.5 2.5 2.9 0.9 0.8 0.2 0.9 1.7 1.0 0.0 2.6 0.5 2.7 2.7 0.9 0.9 100.0 100.0 24.4 20.1 21.5 21.1 40.2 44.8 13.9 14.0 1 As a percent of total funding sources defined as the CHF 746 billion and the CHF 817 billion respectively on the balance sheet as of 31 December 2012 and 31 December 2011, comprising repurchase agreements, cash collateral on securities lent, due to banks, short-term debt issued, due to customers, long-term debt (including financial liabilities at fair value), cash collateral payables on derivative transactions and prime broker- age payables. CHF 162 billion. The decrease in secured funding and lending was mainly related to the ongoing deleveraging of our balance sheet. As of 31 December 2012, our coverage ratio of customer deposits to our outstanding loan balance was 133%, compared with 128% at the prior year-end. d e t i d u A Due to our progress in reducing balance sheet assets, we have generated capacity within our liquidity and funding position to be able to execute tender offers which will lower our interest ex- pense in the future and will allow for liability structure optimiza- tion. We executed the 5 February 2013 announced cash tender offers with respect to 14 senior unsecured note issuances, de- nominated in US dollar, euro and Italian lira, with tenors between June 2013 and January 2027 and set a total repurchase value of CHF 5.1 billion. Maturity breakdown of long-term straight debt portfolio The “Long-term straight debt – contractual maturities” graph shows a contractual maturity breakdown of our long-term straight debt portfolio, and therefore excludes all structured debt, which is predominantly booked as financial liabilities designated at fair value. The long-term straight debt portfolio amounted to CHF 71.6 billion on 31 December 2012. It is composed of CHF 61.0 billion of senior debt including both publicly and privately placed notes and bonds, as well as Swiss cash bonds, and CHF 10.6 bil- lion of subordinated debt. Of the positions shown in the graph, CHF 13.9 billion, or 19%, will mature within one year. In addition, there are CHF 0.9 billion equivalent subordinated debt positions with an early-call date during 2013. The long-term straight debt forms part of the CHF 105 billion shown on the Debt issued line on the balance sheet. ➔ Refer to “Note 20 Financial liabilities designated at fair value and debt issued” and “Note 21 Debt issued held at amortized cost” in the “Financial information” section of this report for Maturity analysis of financial liabilities Contractual maturity information about our assets and liabilities serves as a starting point for the stress testing analyses described earlier. Our liquidity risk management framework includes a be- havioral stress analysis, which involves a more detailed assessment of asset and liability cash flows as well as outflows from off-bal- ance sheet exposures. The contractual maturities of our non-derivative and non-trad- ing financial liabilities as of 31 December 2012 are based on the earliest date on which we could be required to pay. The total amounts that contractually mature in each time-band are also shown for 31 December 2011. Derivative positions and trading liabilities, predominantly made up of short sale transactions, are assigned to the column “On demand”, as this provides a conser- vative reflection of the nature of these trading activities. The con- tractual maturities may extend over significantly longer periods. (cid:46)(cid:81)(cid:80)(cid:73)(cid:15)(cid:86)(cid:71)(cid:84)(cid:79)(cid:2)(cid:85)(cid:86)(cid:84)(cid:67)(cid:75)(cid:73)(cid:74)(cid:86)(cid:2)(cid:70)(cid:71)(cid:68)(cid:86)(cid:2)(cid:115)(cid:2)(cid:69)(cid:81)(cid:80)(cid:86)(cid:84)(cid:67)(cid:69)(cid:86)(cid:87)(cid:67)(cid:78)(cid:2)(cid:79)(cid:67)(cid:86)(cid:87)(cid:84)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85) (cid:37)(cid:42)(cid:40)(cid:2)(cid:68)(cid:75)(cid:78)(cid:78)(cid:75)(cid:81)(cid:80) (cid:35)(cid:85)(cid:2)(cid:81)(cid:72)(cid:2)(cid:21)(cid:19)(cid:16)(cid:19)(cid:20)(cid:16)(cid:19)(cid:20) (cid:20)(cid:22) (cid:19)(cid:26) (cid:19)(cid:20) (cid:2)(cid:24) (cid:2)(cid:2)(cid:2) (cid:2)(cid:18) (cid:20)(cid:18)(cid:19)(cid:21) (cid:20)(cid:18)(cid:19)(cid:22) (cid:20)(cid:18)(cid:19)(cid:23) (cid:20)(cid:18)(cid:19)(cid:24)(cid:115)(cid:20)(cid:18)(cid:19)(cid:25) (cid:20)(cid:18)(cid:19)(cid:26)(cid:115)(cid:20)(cid:18)(cid:20)(cid:20) (cid:20)(cid:18)(cid:20)(cid:21)(cid:115)(cid:20)(cid:18)(cid:21)(cid:20) (cid:67)(cid:72)(cid:86)(cid:71)(cid:84)(cid:2)(cid:20)(cid:18)(cid:21)(cid:20) (cid:59)(cid:71)(cid:67)(cid:84)(cid:2)(cid:81)(cid:72)(cid:2)(cid:79)(cid:67)(cid:86)(cid:87)(cid:84)(cid:75)(cid:86)(cid:91) (cid:21)(cid:41)(cid:54)(cid:18)(cid:21)(cid:18)(cid:65)(cid:71) more information (cid:53)(cid:71)(cid:80)(cid:75)(cid:81)(cid:84)(cid:2)(cid:70)(cid:71)(cid:68)(cid:86) (cid:53)(cid:87)(cid:68)(cid:81)(cid:84)(cid:70)(cid:75)(cid:80)(cid:67)(cid:86)(cid:71)(cid:70)(cid:2)(cid:70)(cid:71)(cid:68)(cid:86) 169 (cid:20)(cid:22) (cid:19)(cid:26) (cid:19)(cid:20) (cid:24) (cid:18) Risk, treasury and capital management Risk, treasury and capital management Treasury management Maturity analysis of financial liabilities 1 d e t i d u A CHF billion Financial liabilities recognized on balance sheet 2 Due to banks Cash collateral on securities lent Repurchase agreements Trading portfolio liabilities 3, 4 Negative replacement values 3 Cash collateral payables on derivative instruments Financial liabilities designated at fair value 5 Due to customers Accrued expenses Debt issued 5 Other liabilities Total 31.12.12 Total 31.12.11 Financial liabilities not recognized on balance sheet 6 Commitments Loan commitments Underwriting commitments Total commitments Guarantees Forward starting transactions Reverse repurchase agreements Securities borrowing agreements Total 31.12.12 Total 31.12.11 On demand Due within 1 month Due between 1 and 3 months Due between 3 and 12 months Due between 1 and 5 years Due after 5 years 15.6 7.6 4.5 34.2 395.1 71.1 297.2 0.3 51.0 876.5 902.4 57.5 57.5 19.4 77.0 75.3 3.6 0.5 23.8 0.0 3.8 60.3 2.5 14.7 4.9 1.2 0.5 6.8 5.0 6.0 8.6 114.1 236.1 28.0 52.4 1.9 0.2 2.1 0.0 18.6 0.2 21.0 29.2 0.1 0.1 0.1 0.2 1.1 1.6 0.6 2.3 22.7 7.9 26.1 61.2 44.7 0.2 0.2 0.1 0.3 0.2 1.1 0.1 41.4 0.5 41.3 84.4 80.7 0.0 0.3 0.3 0.1 0.0 0.1 23.5 0.1 27.9 51.7 57.5 0.0 0.1 0.1 0.0 Total 23.1 9.2 37.7 34.2 395.1 71.1 96.4 372.1 2.8 118.5 55.8 1,215.9 1,374.1 59.8 0.2 60.0 20.1 18.6 0.2 98.8 105.9 1 Non-financial liabilities such as deferred income, deferred tax liabilities, provisions and liabilities on employee compensation plans are not included in this analysis. 2 Except for trading portfolio liabilities and negative replacement values (see footnote 3), the amounts presented generally represent undiscounted cash flows of future interest and principal payments. 3 Carrying value is fair value. Management believes that this best represents the cash flows that would have to be paid if these positions had to be settled or closed out. Refer to “Note 25 Derivative instruments and hedge accounting” in the “Financial information” section of this report for undiscounted cash flows of derivatives designated in hedge accounting relationships. 4 Contractual maturities of trading portfolio liabilities are: CHF 32.3 billion due within one month (2011: CHF 36.7 billion), CHF 0.5 billion due between one month and one year (2011: CHF 2.8 billion), and CHF 1.3 billion due between 1 and 5 years (2011: CHF 0 billion). 5 Future interest payments on variable rate liabilities are determined by reference to the applicable interest rate prevailing as of the reporting date. Future principal payments which are variable are determined by reference to the conditions existing at the reporting date. 6 Comprises the maximum irrevocable amount of guarantees, commitments and forward starting transactions. 170 Credit ratings Credit ratings can affect the cost and availability of funding, especially funding from wholesale unsecured sources. Our credit ratings can also influence the performance of some of our busi- nesses and levels of client and counterparty confidence. Rating agencies take into account a range of factors when assessing cred- itworthiness and setting credit ratings. These include the compa- ny’s strategy, its business position and franchise value, stability and quality of earnings, capital adequacy, risk profile and manage- ment, liquidity management, diversification of funding sources, asset quality and corporate governance. Credit ratings reflect the opinions of the rating agencies and can change at any time. On 15 February 2012, as part of an announcement of ratings reviews affecting 114 financial institutions in Europe, Moody’s placed UBS’s short-term ratings under review for a possible down- grade. On 21 June 2012, Moody’s announced its decision to lower the ratings of 15 global financial institutions with large capital mar- kets activities. UBS AG’s deposit and senior debt ratings were downgraded by two notches from “Aa3“ to “A2“ and the firm’s “Prime-1“ short-term rating was confirmed. As a result of this review, the outlook on our Moody’s ratings is stable. On 16 August 2012, Standard & Poor’s affirmed UBS’s “A” / “A-1” long- and short-term counterparty credit ratings and re- vised the outlook to stable from negative. On 20 December 2012, Standard & Poor’s affirmed UBS’s long-term rating of “A“ and stable outlook. On 1 November 2012, Fitch affirmed UBS’s long-term rating of “A“ (stable outlook) and put UBS’s “Viability Rating” of “a-“ on “Rating Watch Positive“. The abovementioned ratings actions had no discernible impact on our overall liquidity and funding position. If our credit ratings were to be downgraded, “rating trigger” clauses, especially in derivative transactions, could result in an immediate cash outflow due to the unwinding of derivative positions, the need to deliver additional collateral or other ratings-based requirements. ➔ Refer to the “Liquidity modeling” section and “Note 25 Deriva- tive instruments and hedge accounting” in the “Financial information” section of this report for more information relating to one or two notch downgrades 171 Risk, treasury and capital management Risk, treasury and capital management Treasury management Interest rate and currency management Management of non-trading interest rate risk d e t i d u A Our largest non-trading interest rate exposures arise within both our wealth management businesses and Retail & Corporate. With the exception of Wealth Management Americas, the inherent in- terest rate risk exposures are transferred from the originating business into Group Treasury, which manages the risks on an inte- grated basis allowing for netting across different sources. ➔ Refer to “Market risk” section of this report for more informa- tion on non-trading interest rate risk exposures d e t i d u A Group Treasury is responsible for the interest rate risk manage- ment of Wealth Management and Retail & Corporate transactions executed in the majority of locations. The fixed-rate products do not contain embedded options, such as early prepayment, which would allow clients to prepay at par. All prepayments are there- fore subject to market-based unwinding costs. Current and savings accounts as well as many other retail prod- ucts of Wealth Management and Retail & Corporate have no con- tractual maturity date or direct market-linked rate, and therefore their interest rate risk cannot be transferred by simple back-to- back transactions. Instead, they are managed on a pooled basis by replicating portfolios which seek to immunize originating business units as much as possible against market interest rate movements, while allowing the business units to retain and manage their own product margin. A replicating portfolio is a series of loans or deposits at market rates and fixed terms between the originating business unit and Group Treasury, and is structured to approximate the implied behavioral interest rate cash flow and repricing characteristics through simple back-to-back transactions. The portfolios are re- balanced monthly. Their structure and parameters are based on long-term market observations and client behavior, and are regu- larly reviewed and adjusted as necessary. A significant amount of interest rate risk also arises from the financing of non-monetary-related balance sheet items, such as the financing of bank property and equity investments in associ- ated companies. These risks are generally transferred to Group Treasury through replicating portfolios, which in this case are aligned with the tenor mandated by senior management. Group Treasury manages its residual open interest rate ex- posures, taking advantage of any offsets that arise between positions from different sources within its approved market risk limits, which include value-at-risk (VaR) and liquidity-adjusted stress (LAS). The preferred risk management instruments are in- terest rate swaps, for which there is a liquid and flexible mar- ket. All transactions are executed through the Investment Bank. Group Treasury does not directly access the external market for swap transactions. d e t i d u A In addition to its regular risk management activities, Group Treasury may execute transactions that aim to economically hedge negative effects on our net interest income stemming from the prolonged period of extraordinarily low yields, mainly through income-generating fixed receiver swaps. In the third quarter of 2012, we decided to offset certain posi- tions following further declining interest rate levels which limited the potential for additional hedging benefits. We expect the net interest income impact from these actions to be limited. While we recognize that this would increase our exposure to future interest rate margin compression, our assessment concluded that main- taining these hedges was no longer economical on a risk-return basis. ➔ Refer to the “Market risk“ section of this report for more information on our market risk measures and controls Market risk arising from management of consolidated capital d e t i d u A Key ratios on capital and risk-weighted assets (RWA) are moni- tored by regulators and analysts and are key indicators of our fi- nancial strength. The majority of our capital and many of our assets are de- nominated in Swiss francs, but we also hold RWA and some eli- gible capital in other currencies, primarily US dollars, euros and British pounds. Significant depreciation of the Swiss franc against these currencies can adversely affect our key ratios and Group Treasury is mandated with the task of minimizing such effects. Consolidated RWA increase or decrease relative to our capital as the Swiss franc depreciates or appreciates against these currencies. These currency fluctuations also lead to foreign currency translation gains or losses on consolidation, which im- pact IFRS equity. Thus, our consolidated equity rises or falls in line with the fluctuations in the RWA. The capital of UBS AG (Parent Bank) itself is held predominantly in Swiss francs in order to avoid any significant effects of currency fluctuations on its standalone financial results. The Group Asset and Liability Man- agement Committee (Group ALCO) can adjust the currency mix in capital within limits set by the Board of Directors, to balance the impact of foreign exchange movements on both the Basel III common equity tier 1 (CET1) capital ratio and the Basel III CET1 capital (fully applied). Limits are in place, both for the sensitivity of the Basel III CET1 capital ratio and the Basel III CET1 capital, to a ±10% change in the Swiss franc against other currencies. As of 31 December 2012, the estimated sensitivities of the Basel III CET1 capital ratio and Basel III CET1 capital (fully applied) to a 10% appreciation or depreciation of the Swiss franc against other currencies were 30 basis points and CHF 764 million, re- spectively. 172 d e t i d u A Furthermore, Group Treasury has the mandate to generate a stable interest income flow from capital. The capital of the Parent Bank and its subsidiaries is placed via interest-bearing cash depos- its internally within our entity network. Group Treasury maintains a further portfolio of fixed receiver transactions to achieve a tar- get tenor profile and return on invested equity. To provide a benchmark for investments of equity, senior man- agement defines a replicating portfolio of target tenors by cur- rency. The effective investment positions created by both internal cash deposits and interest rate swaps are then measured against this benchmark tenor replication portfolio. Mismatches between the two are measured, together with other non-trading interest rate risk positions, against Group Treasury’s market risk limits (VaR and stress loss). On 31 December 2012, our consolidated equity was invested as follows: in Swiss francs (including most of the capital of the Parent Bank) with an average duration of approximately four years and fair value sensitivity of CHF 11.0 million per basis point; in US dollars with an average duration of approximately four and a half years and a sensitivity of CHF 7.5 million per basis point; in euros with an average duration of approximately three years and a sensitivity of CHF 0.5 million per basis point; and in British pounds with a duration of approximately three years and a sensi- tivity of CHF 0.2 million per basis point. The sensitivities directly relate to the chosen durations. d e t i d u A Corporate currency management d e t i d u A Our corporate currency management activities are designed to reduce adverse currency effects on our reported financial results in Swiss francs, within regulatory constraints. We focus on three principal areas of currency risk management: currency-matched funding of investments in non-Swiss franc assets and liabilities; sell-down of non-Swiss franc profits and losses; and selective hedging of anticipated non-Swiss franc profits and losses. Non- trading foreign exchange risks are managed under market risk limits, with the exception of Group Treasury management of con- solidated capital activity. Currency-matched funding and investment of non-Swiss franc assets and liabilities For monetary balance sheet items and non-core investments, we follow the principle of matching the currency of our assets with the same currency of the liabilities from which they are funded, as far as it is practical and efficient to do so. A US dollar asset is thus typically funded in US dollars, while a euro liability is typically off- set by an asset in euros. This avoids profits and losses arising from the retranslation of foreign currency assets and liabilities at the prevailing exchange rates to the Swiss franc at quarter-ends. Net investment hedge accounting is applied to core invest- ments in foreign currency to reduce exposures exceeding the level needed to provide the desired off-set to currency fluctuations in our key-capital ratios. ➔ Refer to “Note 1a Significant accounting policies“ and “Note 25 Derivative instruments and hedge accounting” in the “Financial information” section of this report for more information Sell-down of reported profits and losses Reported profit and losses are translated each month from their original transaction currencies into Swiss francs at exchange rates fixed at the prevailing month-end. Monthly income statement items of foreign subsidiaries and branches with a functional cur- rency other than the Swiss franc are translated with month-end rates into Swiss franc. Weighted average rates for a year represent an average of twelve month-end rates, weighted according to the income and expense volumes of all foreign subsidiaries and branches with the same functional currency for each month. To eliminate earnings volatility on the retranslation of previously rec- ognized earnings in foreign currencies, Group Treasury centralizes the profits and losses arising in the Parent Bank and sells or buys them for Swiss francs. Our other operating entities follow a simi- lar monthly sell-down process into their own reporting currencies. Retained earnings in operating entities with a reporting currency other than the Swiss franc are integrated and managed as part of our consolidated equity. Hedging of anticipated future reported profits and losses At any time, the Group ALCO may instruct Group Treasury to ex- ecute hedges to protect anticipated future profit and losses in foreign currencies against possible adverse trends of foreign ex- change rates from one reporting period to the next. Although intended to hedge future earnings, these transactions are ac- counted for as open currency positions and are subject to internal market risk VaR and stress loss limits. 173 Risk, treasury and capital management Risk, treasury and capital management Capital management Capital management d e t i d u A Eligible capital must be available to support business activities, in accordance with both our own internal assessment and the require- ments of our regulators, in particular our lead regulator FINMA. In addition, we have set as an objective that the Basel III CET1 phase-in capital ratio remains at 10% or above if a severe stress event were to occur. We aim to maintain sound capital ratios at all times and therefore consider not only the current situation but also projected business and regulatory developments. The main tools we employ to manage our capital ratios are the active management of own shares, capital instruments, dividends and risk-weighted assets (RWA). Capital adequacy management ➔ Refer to the “Group risk appetite framework” section of this report for more information ➔ Refer to the “Our strategy” section of this report for more information about Basel III / TBTF implications for UBS ➔ Refer to “Note 1c International Financial Reporting Standards and Interpretations to be adopted in 2013 and later” in the “Financial information” section of this report for more information d e t i d u A d e t i d u A Ongoing compliance with regulatory capital requirements and tar- get capital ratios is central to our capital adequacy management. During 2012, we managed our capital according to various Basel 2.5 capital ratio targets, while also considering the changes that came into effect under Basel III on 1 January 2013. These include the establishment of new Basel III capital ratio targets and the issu- ance of Basel III-compliant loss-absorbing capital. In the target- setting process, we take into account the current and future mini- mum requirements set by regulators as well as their buffer expectations. Furthermore, we consider our own internal assess- ment of aggregate risk exposure in terms of capital-at-risk, the views of rating agencies and comparisons with peer institutions, as well as the impact of expected accounting policy changes. Regulatory requirements We have published our 31 December 2012 capital and RWA in accordance with the Basel 2.5 framework. However, for supervi- sory purposes our RWA are based on FINMA regulations. d e t i d u A FINMA regulatory capital requirements result in higher RWA than under the Bank for International Settlements (BIS) guide- lines. There were no differences in eligible capital between BIS guidelines and FINMA regulations as of 31 December 2012. Dur- ing 2012, we complied with all externally imposed capital require- ments. The Basel III framework which came into effect on 1 January 2013 will have an impact on capital. The main deferred effects are Capital ratios and RWA CHF billion Ratio in % Basel II Basel 2.5 0 1 . 3 . 1 3 20.0 209 16.0 0 1 . 6 . 0 3 20.4 205 16.4 0 1 . 9 . 0 3 20.2 208 16.7 0 1 . 2 1 . 1 3 20.4 17.8 199 1 1 . 3 . 1 3 19.4 17.9 203 1 1 . 6 . 0 3 19.5 18.1 206 1 1 . 9 . 0 3 20.0 18.4 207 1 1 . 2 1 . 1 3 21.6 19.6 198 1 1 . 2 1 . 1 3 241 17.2 15.9 1 1 . 9 . 0 3 284 14.2 13.2 19.4 2 1 . 3 . 1 3 21.1 18.7 211 2 1 . 6 . 0 3 21.8 19.2 215 2 1 . 9 . 0 3 23.6 20.2 210 2 1 . 2 1 . 1 3 25.2 21.3 193 4.1 4.1 4.4 4.5 4.6 4.8 5.4 5.4 5.4 5.4 5.6 5.6 6.1 6.3 25 20 15 10 5 0 Credit risk Non-counterparty related risk Market risk Operational risk BIS total capital ratio BIS tier 1 ratio FINMA leverage ratio 300 240 180 120 60 0 174 the deduction of deferred tax assets on net operating losses and the inclusion of the effects of IAS19R relating to pension liabilities. These impacts are phased in between 2014 and 2018 for the cal- culation of common equity. Furthermore, hybrid tier 1 capital in- struments will be phased out from 2013 to 2022. The Basel III framework will also result in significantly higher RWA as the cal- culation of our pro-forma Basel III RWA combines existing Basel 2.5 RWA, the revised treatment for low-rated securitization expo- sures, meaning such exposures are no longer deducted from cap- ital but are risk-weighted at 1250%, and new model-based capi- tal charges. Some of these new models still require regulatory approval and therefore our pro-forma calculations include esti- mates (discussed with our primary regulator) of the effect of these new capital charges which will be refined as models and the as- sociated systems are enhanced. Consequently, our 31 December 2012 Basel III common equity tier 1 (CET1) capital ratio would have been materially lower than our Basel 2.5 tier 1 capital ratio, if those requirements had been effective on that date. We continue to manage toward the 19% Swiss total capital requirement applicable in 2019 (although we currently expect this requirement to decline to 17.5%), with a target capital structure consisting of 13% Basel III CET1 capital and the remainder in loss- absorbing debt. As of 31 December 2012, our estimated Basel III CET1 capital ratio was 9.8% on a fully applied basis and 15.3% on a phase-in basis compared with 6.7% and 10.7%, respectively, on 31 De- cember 2011. We are committed to continuing to improve these ratios through a combination of earnings retention and efforts to reduce our RWA. In 2012, we made two issuances of low-trigger loss-absorbing notes which qualify as tier 2 capital under Basel III rules, and count as progressive buffer capital in compliance with the “too-big-to- fail” law under Swiss regulations for systemically important banks, as well as contributing to our targeted loss-absorbing capital. On 22 February 2012, we issued USD 2.0 billion of tier 2 notes, and on 17 August 2012 we issued a further USD 2.0 billion of tier 2 loss-absorbing notes. Both issuances have a maturity of 10 years. In addition to the low-trigger loss-absorbing notes issued, we are issuing deferred compensation awards with a high-trigger writedown feature. These awards are treated by our regulator as loss-absorbing tier 2 capital. A further significant development in Switzerland was FINMA’s requirement to apply a bank-specific multiplier for banks using the internal ratings-based (IRB) approach when calculating RWA for Swiss residential mortgages starting from 1 January 2013. Also, in February 2013, the Swiss Federal Council decided to activate the countercyclical capital buffer with respect to mort- gage loans financing residential property located in Switzerland, effective 30 September 2013. ➔ Refer to the “Regulatory developments“ section of this report for more information d e t i d u A Basel 2.5 Capital ratios BIS capital ratios compare eligible capital with total RWA. On 31 December 2012, our Basel 2.5 tier 1 capital ratio was 21.3% compared with 15.9% a year earlier. Our core tier 1 capital ratio increased to 19.0% from 14.1% over the same period. Our tier 1 capital rose by CHF 2.6 billion to CHF 41.0 billion and RWA de- creased by CHF 48.5 billion to CHF 192.5 billion. Our total capital ratio increased to 25.2% from 17.2%. ➔ Refer to the discussions on “Capital adequacy management” and “Eligible capital” in this section for more information Capital requirements d e t i d u A Our capital requirements are based on our consolidated financial statements in accordance with International Financial Reporting Standards (IFRS), adjusted for regulatory differences. Under IFRS, subsidiaries and special purpose entities that are directly or indi- rectly controlled by UBS must be consolidated, whereas for regu- latory capital purposes, different consolidation principles apply. For example, subsidiaries that are not active in the banking and finance business are not consolidated. ➔ Refer to the additional capital management disclosure in the “Basel 2.5 Pillar 3” section of this report for more information On 31 December 2012, our Basel 2.5 RWA were CHF 192.5 billion compared with CHF 241.0 billion at the end of 2011, a decrease in RWA of CHF 48.5 billion. This decrease was predomi- nantly due to the decline in market risk RWA of CHF 22.1 billion, in credit risk RWA of CHF 21.0 billion and, to a lesser extent, op- erational risk RWA of CHF 5.6 billion. Credit risk The Basel 2.5 RWA for credit risk amounted to CHF 105.8 billion on 31 December 2012 compared with Basel 2.5 RWA of CHF 126.8 billion on 31 December 2011. This decrease occurred predominately in the fourth quarter of 2012 and was mainly at- tributable to the accelerated implementation of our strategy, hedging activity and sales of certain student loan auction rate securities in the Legacy Portfolio. These activities impacted de- rivative, repo-style and drawn and undrawn loan exposures. This was partly offset in the third quarter by increased residential mortgage exposures due to the recalibration of risk parameters on residential mortgages. ➔ Refer to the “Credit risk” section of this report for more information Non-counterparty related assets The Basel 2.5 RWA for non-counterparty related assets remained stable and amounted to CHF 6.2 billion on 31 December 2012 compared with CHF 6.1 billion on 31 December 2011. 175 Risk, treasury and capital management Risk, treasury and capital management Capital management Basel 2.5 capital information CHF million, except where indicated BIS core tier 1 capital BIS tier 1 capital BIS total capital BIS core tier 1 capital ratio (%) BIS tier 1 capital ratio (%) BIS total capital ratio (%) BIS risk-weighted assets of which: credit risk 1 of which: non-counterparty related risk of which: market risk of which: operational risk 31.12.12 31.12.11 36,666 40,982 48,498 19.0 21.3 25.2 192,505 105,807 6,248 27,173 53,277 34,014 38,370 41,564 14.1 15.9 17.2 240,962 126,804 6,050 49,241 58,867 1 Includes securitization exposures and equity exposures not part of the trading book and capital requirements for settlement risk (failed trades). Market risk The Basel 2.5 market risk RWA decreased by CHF 22.1 billion to CHF 27.2 billion on 31 December 2012. The decrease was mainly due to the reduction in incremental risk charge RWA on reduced exposures, a model update for sovereign debt in the first quarter and hedging activity. VaR and stressed VaR declined due to re- duced risk positions and reduced credit spread risk. d e t i d u A ➔ Refer to the “Market risk” section of this report for more information the goodwill impairment in the Investment Bank and Legacy Port- folio asset sales, reversal of own credit losses for the purpose of the capital calculation and own-share-related components. These posi- tive capital effects were partially offset by the 2012 net loss of CHF 2.5 billion and other deduction items, including negative foreign currency effects and a dividend accrual. The adoption of IAS 19R had no effect on tier 1 capital. The regulatory capital effect of the adoption will be phased in annu- ally from 1 January 2014 under Basel III. Operational risk Basel 2.5 RWA for operational risk was CHF 53.3 billion on 31 De- cember 2012 compared with CHF 58.9 billion on 31 December 2011. This decrease was due to the annual model parameter re- view whereby all advanced measurement approach parameter updates that were approved by FINMA at the end of March 2012 were subsequently implemented. d e t i d u A ➔ Refer to the “Operational risk” section of this report for more information Basel 2.5 Eligible capital d e t i d u A Eligible capital, the capital available to support RWA, consists of tier 1 and tier 2 capital. To determine eligible capital, specific adjustments must be made to equity attributable to our share- holders as defined by IFRS. The most notable adjustments are the deductions for goodwill, intangible assets, investments in uncon- solidated entities engaged in banking and financial activities and own credit effects on liabilities designated at fair value (see further details in the “Reconciliation of IFRS equity to Basel 2.5 BIS capi- tal” table). d e t i d u A Basel 2.5 tier 1 capital Our tier 1 capital amounted to CHF 41.0 billion on 31 December 2012, compared with CHF 38.4 billion on 31 December 2011, an increase of CHF 2.6 billion. The positive contributors to this increase were lower capital deductions of CHF 5.1 billion, driven mainly by 176 Basel 2.5 hybrid tier 1 capital Hybrid tier 1 instruments represent innovative and non-innovative perpetual instruments. Hybrid tier 1 instruments are perpetual in- struments which can only be redeemed if they are called by the issuer after having received regulatory approval. If such a call is not exercised at the call date, the terms might include a change from fixed to floating coupon payments and, in the case of inno- vative instruments only, a limited step-up of the interest rate. Non-innovative instruments do not have a step-up of the interest rate and are therefore viewed as having a higher equity character- istic for regulatory capital purposes. The instruments are issued either through trusts or our subsidiaries and rank senior to our equity in dissolution. Payments under the instruments are subject to adherence to our minimum capital ratios and other require- ments. Any missed payment is non-cumulative. As of 31 December 2012, our hybrid tier 1 instruments amount- ed to CHF 4.3 billion, slightly down from CHF 4.4 billion as of 31 December 2011, mainly due to negative foreign currency effects. We intend to call the EUR 995 million hybrid tier 1 instrument with a first call date on 11 April 2013. Hybrid tier 1 instruments outstanding will continue to count towards regulatory capital (i.e. , Basel III phase-in capital), but the eligibility is reduced over time in line with the Basel III transition rules. Basel 2.5 tier 2 capital The major element in tier 2 capital is subordinated long-term debt. Tier 2 instruments have been issued in various currencies d e t i d u A Reconciliation of IFRS equity to Basel 2.5 BIS capital CHF million IFRS Equity attributable to UBS Shareholders of which: effect of the adoption of IAS 19R 1 Reversal of the effect of the adoption of IAS 19R 1 Treasury shares at cost / Equity classified as obligation to purchase own shares Own credit, net of tax 2 Unrealized gains from Financial investments available-for-sale, net of tax 2 Unrealized (gains) / losses from Cash flow hedges, net of tax 2 Other 3 BIS core tier 1 capital prior to deductions of which: paid-in share capital of which: share premium, retained earnings, currency translation differences and other elements Less: treasury shares / deduction for own shares 4 Less: goodwill & intangible assets Less: securitization exposures 5 Less: other deduction items 6 BIS core tier 1 capital Hybrid tier 1 capital of which: non-innovative capital instruments of which: innovative capital instruments BIS tier 1 capital Upper tier 2 capital Lower tier 2 capital Less: securitization exposures 5 Less: other deduction items 6 BIS total capital 31.12.12 31.12.11 45,895 (3,948) 3,948 1,108 292 (232) (2,983) (1,286) 46,742 384 46,358 (1,460) (6,461) (1,469) (685) 36,666 4,316 1,476 2,839 40,982 127 9,544 (1,469) (685) 48,498 48,530 (4,917) 4,917 1,198 (1,842) (228) (2,600) (798) 49,177 383 48,794 (2,131) (9,695) (2,627) (711) 34,014 4,356 1,490 2,866 38,370 388 6,145 (2,627) (711) 41,564 1 Refer to “Note 1 Summary of significant accounting policies” in the “Financial information” section of this report for more information on the adoption of IAS 19R. 2 IFRS equity components which are not recognized for capital purposes, adjusted for changes in foreign exchange. 3 Consists of: i) qualifying non-controlling interests; ii) the netted impact of the change in scope of consolidation; iii) other adjustments due to reclassifica- tions and revaluations of participations, prudential valuation, accrued dividend payment and the charge for compensation related increase in Basel III-compliant loss-absorbing tier 2 capital. 4 Consists of: i) net long po- sition in own shares held for trading purposes; ii) own shares bought for unvested or upcoming share awards and iii) accruals built for upcoming share awards. 5 Includes a 50% deduction of the fair value of our option to acquire the SNB StabFund’s equity (CHF 2,103 million on 31 December 2012 and CHF 1,629 million on 31 December 2011). 6 Positions to be deducted at 50% from tier 1 and 50% from total capital mainly consist of: i) net long position of non-consolidated participations in the finance sector; ii) expected loss on advanced internal ratings-based portfolio less general provisions (if difference is positive); iii) expected losses on non- trading equity exposures (simple risk weight method). d e t i d u A and with a range of maturities across capital markets globally. Tier 2 instruments rank senior to both our shares and to hybrid tier 1 instruments but are subordinated to all our senior obligations. In order to improve the quality of capital, regulators have pro- posed new requirements for capital instruments and created a new category of contingent capital instruments. The changes pro- posed are designed to increase resilience against a financial crisis, and are expected to provide a buffer to maintain the banks as going concerns or allow for an orderly liquidation. Regulators view these instruments as additional protection against the sys- temic risks of large banks. In 2012, we had two issuances of USD 2 billion of loss-absorb- ing notes which qualify as tier 2 capital under Basel III rules, and count as progressive buffer capital in compliance with the “too- big-to-fail” law under Swiss regulations for systemically impor- tant banks as well as contribute to our targeted loss-absorbing capital. Our tier 2 capital, net of tier 2 deductions, amounted to CHF 7.5 billion on 31 December 2012 compared with CHF 3.2 billion on 31 December 2011, an increase of CHF 4.3 billion. This in- crease was mainly due to the issuances of the aforementioned tier 2 loss-absorbing notes and lower capital deductions of CHF 1.2 billion resulting mainly from Legacy Portfolio asset sales. These positive effects of lower tier 2 deductions were mainly offset by a reduction in the eligibility of existing tier 2 notes. ➔ Refer to the “Regulatory developments” section of this report for more information with regard to regulation on systemically important banks Pro-forma Basel III common equity and risk-weighted assets The following pro-forma Basel III information is a voluntary disclo- sure as Basel III requirements were not in effect on 31 December 2012. Such measures are non-GAAP financial measures as defined by SEC regulations. We nevertheless include information on the ba- sis of Basel III requirements because they became effective on 1 Jan- uary 2013 and significantly impact our RWA and eligible capital. 177 Risk, treasury and capital management Risk, treasury and capital management Capital management Pro-forma BIS Basel III capital information CHF billion Basel 2.5 tier 1 capital Hybrid tier 1 capital Deferred tax assets related to net operating losses Deferred pension expenses Effect of the implementation of IAS 19R SNB StabFund option Low-rated securitization exposures Other adjustments 2 Basel III common equity tier 1 capital (fully applied) Basel III loss-absorbing capital Basel III total capital (fully applied) Basel III common equity tier 1 capital (phase-in) 3 Basel III loss-absorbing capital Basel III tier 2 capital (phase-in) Basel III total capital (phase-in) Basel 2.5 risk-weighted assets Basel III uplift 4 Basel III risk-weighted assets (fully applied) Basel III risk-weighted assets (phase-in) 5 Basel III common equity tier 1 capital ratio % (fully applied) Basel III common equity tier 1 capital ratio % (phase-in) Basel III total capital ratio % (fully applied) Basel III total capital ratio % (phase-in) 31.12.12 41.0 (4.3) (5.9) (4.6) (1.1) 0.4 (0.3) 25.2 4.2 29.3 40.0 4.2 5.4 49.6 193 66 258 262 9.8 15.3 11.4 18.9 31.12.11 1 38.4 (4.4) (8.0) (3.3) 0.8 1.8 0.1 25.3 0.0 25.3 41.0 0.0 6.1 47.1 241 139 380 383 6.7 10.7 6.7 12.3 1 Does not include the effect of the implementation of IAS 19R and calculation refinements affecting 31 December 2012 figures. 2 Includes the following deductions: qualifying non-controlling interests, own shares held by the Investment Bank, own credit on replacement values (DVA), expected losses on non-trading equity exposures, goodwill related to investments in associates and shortfall of general provisions vs. expected losses. Also includes the following additions: investments in non-consolidated entities, failed trades, goodwill-related deferred tax liabilities and unrealized gains on financial investments available-for-sale (only relevant for 31 Decem- ber 2011). 3 Basel III phase-in rules applied on goodwill covered by hybrid tier 1 capital, deferred tax assets on net operating losses and effects of pension accounting related components. 4 The Basel III RWA uplift consists mainly of revised treatment of low rated securitization exposures, credit valuation adjustments and other changes. 5 Includes the RWA effect of pension accounting related components, which are phased in. We provide information on pro-forma Basel III RWA and capital, both on a phase-in and on a fully applied basis. The information provided on a fully applied basis does not consider the effects of the transition period, during which new capital deductions are phased in and ineligible Basel 2.5 capital instruments are phased out. On 31 December 2012, our Basel III CET1 capital on a fully applied basis was CHF 25.2 billion, remaining relatively stable com- pared with the CHF 25.3 billion on 31 December 2011. The 2012 net loss, the impact of adopting IAS 19R and other negative effects including the deduction of the fair value of the option to purchase the SNB StabFund’s equity which was previously risk-weighted at 1250%, were almost offset by the reversal of own credit losses for the purpose of capital calculation and a lower deduction for de- ferred tax assets. Pro-forma Basel III RWA were estimated to be CHF 258 bil- lion on a fully applied basis on 31 December 2012, CHF 122 billion lower than a year earlier. CHF 48 billion of the decline in Basel III RWA was due to the same factors that caused a de- crease in Basel 2.5 RWA, and CHF 20 billion was associated with a change in the treatment of UBS’s option to purchase the SNB StabFund’s equity (now fully deducted from CET1 capital). The remainder of the decline was mostly attributable to RWA reductions in the Investment Bank and the Legacy Portfolio, re- sulting from sales and other reductions of exposures and from the net effect of changes in models and methodologies. The vast majority of the overall reductions achieved in the Invest- ment Bank and in the Legacy Portfolio resulted from sales and other reductions of exposures. We are targeting Group RWA on a fully applied Basel III basis of less than CHF 200 billion by the end of 2017. The resulting Basel III CET1 capital ratio stood at 9.8% on 31 December 2012 on a fully applied basis, an increase of 3.1 per- centage points from 6.7% on 31 December 2011. We are target- ing a CET1 fully applied ratio of 11.5% by the end of 2013 and 13% by the end of 2014. On a phase-in basis, our estimated Basel III CET1 capital ratio was 15.3% on 31 December 2012 compared with 10.7% on 31 December 2011. The regulatory capital effect of the adoption of IAS 19R, together with related changes in future periods, will be phased in annually from 1 January 2014 on an after-tax basis, such that regulatory capital becomes fully adjusted on 1 January 2018. ➔ Refer to the ”Our strategy” section of this report for more information about Basel III / TBTF implications for UBS and to “Note 1b Changes in accounting policies, comparability and other adjustments” in the “Financial information” section of this report for more information 178 FINMA leverage ratio CHF billion, except where indicated Total balance sheet assets (IFRS) 1 Less: netting of replacement values 2 Less: loans to Swiss clients (excluding banks) 3 Less: cash and balances with central banks Less: other 4 Total adjusted assets FINMA tier 1 capital (at year-end) 5 FINMA leverage ratio (%) Average 4Q12 Average 4Q11 1,287.0 1,390.7 (395.4) (166.2) (68.3) (8.7) 648.4 41.0 6.3 (436.6) (163.6) (65.8) (12.8) 711.9 38.4 5.4 1 Total assets are calculated as the average of the month-end values for the three months in the calculation period. 2 Includes the impact of netting agreements (including cash collateral) in accordance with Swiss Fed- eral Banking law, based on the IFRS scope of consolidation. 3 Includes mortgage loans to international clients for properties located in Switzerland. 4 Refer to the “Reconciliation IFRS equity to Basel 2.5 BIS capital” table for more information on deductions of assets from FINMA tier 1 capital. 5 FINMA tier 1 capital corresponds to Basel 2.5 tier 1 capital. Transfer of capital and funding within UBS Group Under Swiss company law, UBS is organized as an “Aktiengesell- schaft”, a corporation that has issued shares of common stock to investors. UBS AG is the parent company of the Group. The legal entity structure of the Group is designed to support our busi- nesses within an efficient legal, tax, regulatory and funding framework. We enter into intragroup transactions to provide funding and capital to individual UBS entities. As of 31 December 2012, UBS has not been subject to any material restrictions or other major impediments concerning the transfer of funds or regulatory capital within the Group apart from those which apply to these entities by way of local laws and regulations. FINMA leverage ratio FINMA requires a minimum leverage ratio of 3% at Group level, with the expectation that the ratio will exceed this level during normal times. On 31 December 2012, our leverage ratio was 6.3%, an increase of 0.9 percentage points compared with the prior year-end. In the first quarter of 2013, the existing FINMA leverage ratio will be replaced by a FINMA Basel III minimum leverage ratio for systemically important banks (FINMA Basel III leverage ratio). The leverage ratio requirement is set at a level of 24% of the minimum capital ratio requirement for the capital base, the buffer capital and the progressive component. Our pro-forma FINMA Basel III leverage ratio on a phase-in total capital requirement basis was 3.6% on 31 December 2012 compared with an estimated target requirement of 4.2% on 1 January 2019. Equity attribution framework The equity attribution framework reflects our objectives of main- taining a strong capital base and guiding businesses toward ac- tivities that appropriately balance profit potential, risk and capital usage. d e t i d u A Within this framework, the Board of Directors (BoD) attributes equity to the business divisions (including the Corporate Center) d e t i d u A after considering their risk exposure, Basel III RWA usage, Basel III leverage ratio denominator size, goodwill and intangible assets. The design of the equity attribution framework enables us to do the following: – calculate and assess return on attributed equity (RoAE) in each of our business divisions; RoAE is disclosed for all business divi- sions – integrate Group-wide capital management activities with those at business division and business unit levels – measure current period and historical performance in a consis- tent manner across business divisions and business units – make better comparisons between our businesses and those of our competitors d e t i d u A In our capital allocation methodology, we use three drivers to allocate tangible equity to our business divisions in order to pro- vide a comprehensive view of the resource usage and risk profile of our businesses. We use capital ratio and leverage ratio targets as well as risk-based capital, which is an internal measure of risk similar to economic capital. In addition to tangible equity, we allocate equity to support goodwill and intangibles. After reviewing the results of this formulaic approach, the Group Asset and Liability Management Committee may recom- mend and the BoD may make discretionary adjustments to the final equity attribution to reflect our views of the likely future risk profile and resource usage of the businesses. The BoD currently makes equity attribution decisions on a quarterly basis. The amount of equity attributed to all businesses corresponds to the amount we believe is required to maintain a strong capital base and support our businesses adequately. If the total equity at- tributed to the business divisions differs from the Group’s actual equity during a given period, the difference (positive or negative) is reflected as a separate line item. The amount of equity attributed to each business division is an important input into the calculation of economic profit for that business division. Broadly speaking, economic profit equals profit minus the product of attributed equity and the cost of equity. 179 Risk, treasury and capital management Risk, treasury and capital management Capital management Our equity allocation methodology is intended to measure the RoAE of each business in a way which is comparable to the busi- ness segments of international competitors and reflects the returns generated by businesses on resources under their direct control. In the second quarter of 2012, we refined our methodology for risk-based capital, which is one of the drivers in our equity attribu- tion framework, by expanding the risk capture and refining the parameters used for risk-based capital. Potential losses are now calculated across a broader set of risks at a very high confidence level of 99.97%. As outlined in the table “Average attributed equity”, the amount of average equity attributed to the business divisions de- creased by CHF 11 billion during 2012, including a decrease of CHF 9 billion in the Investment Bank. The decline in the Invest- ment Bank was mainly due to decreases in Basel III RWA, the Basel III leverage ratio denominator, and risk-based capital following the accelerated implementation of our strategy announced in Octo- ber 2012, as well as the goodwill impairment recorded at the end of the third quarter of 2012. From 1 January 2013, attributed equity required to underpin re- maining goodwill and intangible assets that arose from the Paine- Webber acquisition has been transferred to the Corporate Center. d e t i d u A Starting with reporting for the first quarter of 2013, the Cor- porate Center also includes attributed equity related to non-core businesses transferred from the Investment Bank following the accelerated implementation of our strategy announced in Octo- ber 2012. On a pro-forma basis (as if these non-core businesses had been fully transferred from the Investment Bank to the Corporate Cen- ter), the average equity attributed to these non-core businesses would have amounted to CHF 10.5 billion during the fourth quarter of 2012. On the same pro-forma basis, the Investment Bank’s attributed equity would have amounted to CHF 8.0 billion. UBS shares The majority of our tier 1 capital comprises share premium and retained earnings attributed to UBS shareholders. As of 31 Decem- ber 2012, total IFRS equity attributable to our shareholders amounted to CHF 45,895 million, and was represented by a total of 3,835,250,233 shares issued, of which 2.3% were held by UBS. In 2012, shares issued were increased by a total of 3,128,334 shares due to exercises of employee options. Each share has a par value of CHF 0.10 and generally entitles the holder to one vote at Average attributed equity CHF billion Wealth Management Wealth Management Americas Investment Bank1 Global Asset Management Retail & Corporate Corporate Center of which: Core Functions of which: Legacy Portfolio of which: Central items 2 Average equity attributed to the business divisions and Corporate Center Difference Average equity attributable to UBS shareholders 4Q12 4.3 5.9 18.5 2.1 4.4 10.3 2.9 5.4 2.0 45.5 1.5 47.0 4Q11 5.0 8.0 27.5 2.5 5.0 8.5 4.0 4.5 56.5 (8.5)3 48.0 1 Starting with reporting for the first quarter of 2013, the Corporate Center also includes attributed equity related to non-core businesses transferred from the Investment Bank following the accelerated implementation of our strategy announced in October 2012. On a pro-forma basis, the average equity attributed to these non-core businesses would have amounted to CHF 10.5 billion during the fourth quarter of 2012. Therefore, on the same pro-forma basis, the fourth quarter 2012 attributed equity for the Investment Bank amounts to CHF 8.0 billion of the 18.5 billion of attributed equity shown in the table above. 2 Central items within the Cor- porate Center carries common equity not allocated to the business divisions, reflecting, with respect to the risk-weighted assets driver, excess equity that we have targeted above a 10% Basel III common equity tier 1 ratio. 3 During the fourth quarter of 2012, UBS adopted IAS 19R retrospectively in accordance with the transitional provisions set out in the standard and prior periods have been restated. Refer to “Note 1 Significant accounting policies” in the “Financial information” section of this report for more information. Shareholder-approved issuance of shares Conditional capital SNB warrants Employee equity participation plans of UBS AG Conversion rights/ warrants granted in connection with bonds Total 180 Maximum number of shares to be issued Year approved by shareholder general meeting % of shares issued 31.12.12 100,000,000 145,510,992 380,000,000 625,510,992 2009 2006 2010 2.61% 3.79% 9.91% 16.31% d e t i d u A the shareholders’ meeting as well as a proportionate share of dis- tributed dividends. As per the articles of association of UBS, there are no other classes of shares and no preferential rights for share- holders. ➔ Refer to the “Shareholders’ participation rights” section of this report for more information Under Swiss company law, shareholders must approve in a shareholders’ meeting any increase in the total number of issued shares, which may arise from an ordinary share capital increase or the creation of conditional or authorized capital. The table below lists all shareholder-approved issuances of shares at year-end 2012. Holding of UBS shares We hold our own shares primarily to hedge employee share and option participation plans. A smaller number are held by the In- vestment Bank for hedging related derivatives and for market making in UBS shares. The holding of treasury shares on 31 December 2012 increased to 87,879,601, or 2.3% of shares issued, from 84,955,551, or 2.2%, on the same date one year prior. As of 31 December 2012, employee options and stock appre- ciation rights to receive 17.8 million shares were exercisable. Shares held in treasury or newly issued shares are delivered to the 31.12.12 31.12.11 3,835,250,233 3,832,121,899 3,128,334 87,879,601 1,281,386 84,955,551 3,747,370,632 3,747,166,348 45,895 6,461 39,434 12.25 10.52 48,530 9,695 38,835 12.95 10.36 UBS shares Shares outstanding Shares issued of which: issuance of shares related to employee option plans for the year ended Treasury shares Shares outstanding Shareholders’ equity (CHF million) Equity attributable to UBS shareholders Less: goodwill and intangible assets Tangible shareholders’ equity Book value per share (CHF) Total book value per share Tangible book value per share Treasury share activities Month of purchase January 2012 February 2012 March 2012 April 2012 May 2012 June 2012 July 2012 August 2012 September 2012 October 2012 November 2012 December 2012 Treasury shares purchased for employee share and option participation plans and acquisitions 1 Number of shares Average price in CHF Number of shares (Cumulative) Average price in CHF Total number of shares 0 0 20,371,525 5,628,475 46,450,000 0 1,250,000 0 0 0 0 0 0.00 0.00 12.56 12.64 11.18 0.00 10.76 0.00 0.00 0.00 0.00 0.00 0 0 20,371,525 26,000,000 72,450,000 72,450,000 73,700,000 73,700,000 73,700,000 73,700,000 73,700,000 73,700,000 0.00 0.00 12.56 12.58 11.68 11.68 11.66 11.66 11.66 11.66 11.66 11.66 1 This table excludes market-making and related hedging purchases by the Investment Bank and reallocated UBS shares from the employee share-based compensation awards. The table also excludes UBS shares purchased by investment funds managed by UBS for clients in accordance with specified investment strategies that are established by each fund manager acting independently of UBS; and UBS shares purchased by pension and retirement benefit plans for UBS employees, which are managed by a board of UBS management and employee representatives in accordance with Swiss law guidelines. UBS’s pension and retirement benefit plans purchased 635,500 UBS shares during the year and held 2,234,500 UBS shares as of 31 December 2012. 181 Risk, treasury and capital management Risk, treasury and capital management Capital management Trading volumes 1000 shares SIX Swiss Exchange total SIX Swiss Exchange daily average NYSE total NYSE daily average Source: Reuters 31.12.12 3,046,539 12,186 156,152 625 For the year ended 31.12.11 3,974,639 15,648 239,713 951 31.12.10 4,166,417 16,403 296,517 1,177 employee at exercise. On 31 December 2012, 74.1 million treasury shares were available for this purpose, and an additional 145.5 million unissued shares in conditional share capital were assigned to cover future employee option exercises. At the end of 2012, the shares available covered all exercisable employee obligations. The presentation in the table “Treasury share activities” shows the purchase of our shares by Group Treasury and does not in- clude the activities of the Investment Bank. Treasury shares held by the Investment Bank The Investment Bank, acting as a liquidity provider to the equity index futures market and as a market-maker in our shares and derivatives, has issued derivatives linked to UBS stock. Most of these instruments are classified as cash-settled derivatives and are primarily issued to meet client demand and for trading purposes. To hedge the economic exposure, a limited number of our shares are held by the Investment Bank. ➔ Refer to Note 8 “Earnings per share (EPS) and shares outstand- ing” for more information Distributions to shareholders The decision whether to pay a dividend, and the level of the divi- dend, are dependent on our progress to reach our targeted capi- tal ratios and cash flow generation. The decision on dividend pay- ments is proposed by the BoD to the shareholders and is subject to their approval at the Annual General Meeting in May 2013. We intend to propose a distribution of CHF 0.15 per share against reserves from capital contribution to the shareholders in 2012. This is a 50% increase from last year. Share liquidity During 2012, the average daily volume traded in UBS shares on the SIX Swiss Exchange (SIX) was 12.2 million shares. On the New York Stock Exchange (NYSE), it was 0.6 million shares. As the SIX trades a higher volume of UBS shares, it is expected to remain the main factor determining the movement in our share price. During the hours in which both the SIX and NYSE are simulta- neously open for trading (currently 3:30 p.m. to 5:30 p.m. Central European Time), price differences are likely to be arbitraged away by professional market-makers. The NYSE price will therefore typ- ically be expected to depend on both the SIX price and the prevail- ing US dollar / Swiss franc exchange rate. When the SIX is closed for trading, traded volumes will typically be lower. However, the specialist firm making a market in UBS shares on the NYSE is re- quired to facilitate sufficient liquidity and maintain an orderly market in UBS shares. 182 Stock exchange prices 1 SIX Swiss Exchange New York Stock Exchange High (CHF) Low (CHF) Period end (CHF) High (USD) Low (USD) Period end (USD) 2012 Fourth quarter 2012 December November October Third quarter 2012 September August July Second quarter 2012 June May April First quarter 2012 March February January 2011 Fourth quarter 2011 Third quarter 2011 Second quarter 2011 First quarter 2011 2010 Fourth quarter 2010 Third quarter 2010 Second quarter 2010 First quarter 2010 2009 Fourth quarter 2009 Third quarter 2009 Second quarter 2009 First quarter 2009 2008 Fourth quarter 2008 Third quarter 2008 Second quarter 2008 First quarter 2008 1 Historical share price adjusted for the rights issue and stock dividend 2008. 15.62 15.62 15.62 14.94 14.04 12.60 12.60 11.19 11.35 12.79 11.56 12.09 12.79 13.60 13.35 13.60 13.00 19.13 12.23 15.75 17.60 19.13 18.60 17.83 18.53 18.60 17.50 19.65 19.34 19.65 17.51 17.00 45.98 24.00 25.76 35.11 45.98 9.69 11.39 14.27 13.89 11.39 9.69 10.55 10.08 9.69 10.55 10.59 10.55 11.10 10.64 12.05 12.52 10.64 9.34 9.80 9.34 14.37 15.43 13.31 14.92 13.94 14.15 13.31 8.20 14.76 12.50 10.56 8.20 10.67 10.67 15.18 20.96 21.52 14.27 14.27 14.27 14.50 13.96 11.45 11.45 10.68 10.29 11.05 11.05 10.95 11.33 12.65 12.65 12.65 12.53 11.18 11.18 10.54 15.33 16.48 15.35 15.35 16.68 14.46 17.14 16.05 16.05 18.97 13.29 10.70 14.84 14.84 18.46 21.44 25.67 16.99 16.99 16.99 15.89 15.05 13.57 13.57 11.52 11.88 14.15 12.18 12.97 14.15 14.77 14.65 14.77 14.19 20.08 14.21 18.63 20.03 20.08 18.48 18.48 18.47 17.75 16.84 19.31 19.18 19.31 15.82 15.31 46.40 21.30 23.07 36.02 46.40 9.78 12.32 15.46 14.63 12.32 9.78 11.01 10.15 9.78 10.96 10.96 11.19 12.11 11.17 13.05 13.83 11.17 10.42 10.47 10.42 17.20 16.11 12.26 14.99 13.04 12.26 12.40 7.06 15.03 11.25 9.40 7.06 8.33 8.33 12.22 20.41 22.33 15.74 15.74 15.74 15.71 15.02 12.18 12.18 11.15 10.60 11.71 11.71 11.38 12.37 14.02 14.02 14.03 13.59 11.83 11.83 11.43 18.26 18.05 16.47 16.47 17.03 13.22 16.28 15.51 15.51 18.31 12.21 9.43 14.30 14.30 17.54 20.66 28.80 183 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 184 Basel 2.5 Pillar 3186Introduction186Table 1: Overview of disclosures186Risk exposure measures and derivation of risk-weighted assets187Scope of regulatory consolidation188Risk-weighted assets188Table 2: Detailed segmentation of BIS Basel 2.5 risk-weighted assets189Credit risk189Table 3: Credit risk exposures and RWA190Table 4: Regulatory gross credit exposure by geographical region190Table 5: Regulatory gross credit exposure by counterparty type191Table 6: Regulatory gross credit exposure by residual contractual maturity192Table 7: Derivation of regulatory net credit exposure193Table 8: Regulatory gross credit exposure covered by guarantees and credit derivatives194Advanced internal ratings-based approach194Table 9: Regulatory net credit exposure by internal UBS ratings194Table 10: Regulatory net exposure-weighted average loss given default by internal UBS ratings195Table 11: Regulatory net exposure-weighted average risk weight by internal UBS ratings195Standardized approach196Table 12: Regulatory gross and net credit exposure by risk weight under the standardized approach196Table 13: Eligible financial collateral recognized under the standardized approach197Impairment, default and credit loss197Table 14: Impaired assets by region197Table 15: Impaired assets by exposure segment198Table 16: Changes in allowances, provisions and specific credit valuation adjustments198Table 17: Total expected loss and actual credit loss199Other credit risk information199Table 18: Credit exposure of derivative instruments200Table 19: Credit derivatives200Table 20: Credit derivatives by counterparty201Investment positions201Table 21: Equity instruments for banking book positions202Market risk202Table 22: Group: regulatory value-at-risk (10-day, 99% confidence, 5 years of historical data) by business division and Corporate Center203Table 23: Group: regulatory value-at-risk (10-day, 99% confidence, 5 years of historical data) by risk type203Table 24: Group: regulatory value-at-risk (1-day, 99% confidence, 5 years of historical data) backtesting204Stressed value-at-risk204Table 25: Group: stressed value-at-risk (10-day, 99% confidence, 5 years of historical data) by business division and Corporate Center204Table 26: Group: stressed value-at-risk (10-day, 99% confidence, 5 years of historical data) by risk type205Incremental risk charge205Table 27: Group: incremental risk charge by business division and Corporate Center205Comprehensive risk charge205Table 28: Group: comprehensive risk charge206Securitization206Objectives, roles and involvement 208 208 209 210 211 211 212 213 214 214 215 215 216 217 218 218 219 Securitization in the banking and trading book Table 29: Securitization activity of the year in the banking book Table 30: Securitization activity of the year in the trading book Table 31: Outstanding securitized exposures Table 32: Impaired or past due securitized exposures and losses related to securitized exposures in the banking book Table 33: Exposures intended to be securitized in the banking and trading book Table 34: Securitization positions retained or purchased in the banking book Table 35: Securitization positions retained or purchased in the trading book Table 36: Capital requirement for securitization / re-securitization positions retained or purchased in the banking book Table 37: Positions deducted from BIS tier 1 and BIS tier 2 capital Securitization exposures subject to early amortizations in the banking book and trading book Table 38: Re-securitization positions retained or purchased in the banking book Table 39: Re-securitization positions retained or purchased in the trading book Table 40: Aggregated amount of securitized exposures subject to the market risk approach Table 41: Correlation products subject to the comprehensive risk measure or the securitization framework for specific risk Table 42: Securitization positions and capital requirement for trading book positions subject to the securitization framework Table 43: Capital requirement / Deductions for securitization positions related to correlation products 185 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Introduction Risk exposure measures and derivation of risk-weighted assets The capital adequacy framework consists of three pillars, each of which focuses on a different aspect of capital adequacy. Pillar 1 provides a framework for measuring minimum capital require- ments for the credit, market and operational risks faced by banks. Pillar 2 addresses the principles of the supervisory review process, emphasizing the need for a qualitative approach to supervising banks. Pillar 3 aims to encourage market discipline by requiring banks to publish a range of disclosures on risk and capital. The Swiss Financial Market Supervisory Authority (FINMA) re- quires us to publish comprehensive quantitative and qualitative Pillar 3 disclosures at least annually, as well as an update of quan- titative disclosures and any significant changes to qualitative in- formation at least semi-annually. In certain cases, our Pillar 3 disclosures may differ from the way we manage our risks and to how these risks are disclosed in our quarterly reports and other sections of this annual report. Measures of risk exposure may differ depending on whether the exposures are calculated for financial accounting under Interna- tional Financial Reporting Standards (IFRS), for determining our regulatory capital or for internal management of the firm. Our Basel 2.5 Pillar 3 disclosures are generally based on the measures of risk exposure used to calculate the regulatory capital required to underpin those risks. The table on the next page provides a more detailed summary of the approaches we use for the main risk categories for deter- mining regulatory capital. The naming conventions for the exposure segments used in the following tables are based on Bank for International Settle- ments (BIS) rules and differ from those under Swiss and EU regula- tions. For example, “sovereigns” under the BIS naming conven- tion equate to what are termed “central governments and central banks” under the Swiss and EU regulations. Similarly, “banks” equate to “institutions” and “residential mortgages” to “claims secured on residential real estate”. Although we use BIS guidelines to determine risk-weighted as- sets (RWA) in this report, our calculation of the regulatory capital requirement is based on FINMA regulations, which are more con- servative and result in higher RWA. Table 1: Overview of disclosures The following table provides an overview of our Basel 2.5 Pillar 3 disclosures in our Annual Report 2012. Basel 2.5 Pillar 3 requirement Scope of consolidation Capital structure Capital adequacy Risk management objectives, policies and methodologies (qualitative disclosures) Credit risk Investment positions Market risk Operational risk Interest rate risk in the banking book Securitization Remuneration 186 Disclosure in the Annual Report 2012 “Note 1”, “Note 34” in the “Financial information” section and Basel 2.5 Pillar 3 section “Capital management” section “Capital management” and “Basel 2.5 Pillar 3” sections “Risk management and control” section “Risk management and control” and “Basel 2.5 Pillar 3” sections “Basel 2.5 Pillar 3” section “Risk management and control” and “Basel 2.5 Pillar 3” sections “Risk management and control” section “Risk management and control” section “Basel 2.5 Pillar 3” section “Compensation” section and “Note 31” in the “Financial information” section Scope of regulatory consolidation Generally, the scope for consolidation when calculating regulato- ry capital requirements follows the IFRS consolidation rules for subsidiaries directly or indirectly controlled by UBS AG that are active in the banking and finance business, but excludes subsid- iaries in other sectors. The significant operating subsidiaries in the UBS Group (Group) consolidated for IFRS purposes and significant changes to the scope are listed in “Note 34 Significant subsidiar- ies and associates” in the “Financial information” section of this report. ➔ Refer to “Note 1” in the “Financial information” section of this report for more information The main differences in the basis of consolidation for IFRS and regulatory capital purposes relate to the following entity types, and apply regardless of our level of control. As of 31 De- cember 2012: – 175 real estate and commercial companies and investment schemes are not consolidated for regulatory capital purposes, but are risk-weighted. – 10 insurance companies are not consolidated for regulatory capital purposes, but are deducted from capital. – 2 joint ventures controlled by two ventures are fully consoli- dated for regulatory capital purposes, and are accounted for under the equity method for IFRS. – Securitization vehicles are not consolidated for regulatory capi- tal purposes but are treated under the securitization framework. Subsidiaries which are not included in the regulatory consoli- dation did not report any capital deficiencies in 2012. 109 entities are neither consolidated under IFRS nor consolidated under the regulatory scope of consolidation. These entities are deducted from eligible capital. This category mainly covers infrastructure holdings and joint operations (e.g. settlement and clearing institu- tions, stock and financial futures exchanges). Category Credit risk UBS approach Under the advanced internal ratings-based approach applied for the majority of our businesses, credit risk weights are determined by reference to internal counterparty ratings and loss given default estimates. We use internal models, approved by FINMA, to measure the credit risk exposures to third parties on over-the-counter derivatives and repurchase-style transactions. For a subset of our credit portfolio, we apply the standardized approach, based on external ratings. Non-counterparty related risk Non-counterparty-related assets such as our premises, other properties and equipment require capital under- pinning according to prescribed regulatory risk weights. Settlement risk Capital requirements for failed transactions are determined according to the rules for failed trades and non- delivery-versus-payment transactions under the Basel framework. Equity exposures outside trading book Simple risk-weight method under the advanced internal ratings-based approach. Market risk Operational risk Securitization exposures Regulatory capital requirement is derived from our value-at-risk (VaR), which is approved by FINMA. It includes regulatory VaR, stressed VaR, an incremental risk charge and the comprehensive risk measure. We have developed a model to quantify operational risk, which meets the regulatory capital standard under the advanced measurement approach and is approved by FINMA. Securitization exposures in the banking book are assessed using the advanced internal ratings-based approach, ap- plying risk weights based on external ratings. Securitization exposures in the trading book are assessed for their gen- eral market risk as well as for their specific risk. The capital charged for general market risk is determined by the VaR method, whereas the capital charge for specific risk is determined using the “comprehensive risk measure” method or the internal ratings-based approach applying risk weights based on external ratings. 187 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Risk-weighted assets The “Detailed segmentation of BIS Basel 2.5 risk-weighted as- sets” table provides a granular breakdown of our risk-weighted assets. The table also shows the net exposure at default (EaD) per category for the current disclosure period, which forms the basis for the calculation of the risk-weighted assets. ➔ Refer to the “Capital management” section of this report for more information ➔ Refer to the table “Derivation of regulatory net credit exposure” for BIS exposure segment definitions Table 2: Detailed segmentation of BIS Basel 2.5 risk-weighted assets CHF million Credit risk Sovereigns Banks Corporates Retail Residential mortgages Lombard lending Other retail Securitization / Re-securitization exposures 1 Banking book exposures Trading book exposures Non-counterparty related risk Settlement risk (failed trades) Equity exposures outside trading book 2 Market risk Value-at-risk (VaR) Stressed value-at-risk (sVaR) Incremental risk charge (IRC) Comprehensive risk measure (CRM) Operational risk 3 Total BIS Additional RWA according to FINMA regulations 4 Total FINMA RWA 5 Net EAD 566,505 142,150 54,580 154,433 215,342 128,676 82,271 4,396 21,448 14,995 6,453 26,610 141 798 31.12.12 RWA Advanced IRB approach Standardized approach 21,733 222 2,083 16,312 3,116 1,362 1,754 6,248 91 73,847 3,205 8,654 43,250 18,737 13,888 4,111 739 7,136 5,497 1,639 28 2,972 27,173 5,686 7,367 5,192 8,928 615,501 53,277 164,434 28,071 31.12.11 RWA Total 116,129 9,290 14,006 75,385 17,447 11,164 3,345 2,937 7,287 4,147 3,139 6,050 79 3,310 49,241 7,935 13,117 19,564 8,625 58,867 240,962 15,475 256,437 Total 95,580 3,427 10,737 59,562 21,854 15,250 4,111 2,493 7,136 5,497 1,639 6,248 118 2,972 27,173 5,686 7,367 5,192 8,928 53,277 192,505 15,190 207,695 1 On 31 December 2012, CHF 2.9 billion of the securitization exposures, including CHF 2.1 billion for the option to acquire the SNB StabFund’s equity, were deducted from capital and therefore did not generate RWA (on 31 December 2011, a total of CHF 5.3 billion of securitization exposures were deducted from capital, which included CHF 1.6 billion for the option to acquire the equity of the SNB StabFund). 2 Simple risk weight method. 3 Advanced measurement approach. 4 Reflects an additional charge of 10% on credit risk RWA for exposures treated under the standardized approach, a surcharge of 200% for RWA of non-counterparty related assets and additional requirements for market risk. 5 As of 31 December 2012, the FINMA tier 1 ratio amounts to 19.7% (15.0% for 31 December 2011) and the FINMA total capital ratio to 23.4% (16.2% for 31 December 2011). 188 Credit risk The tables in this section provide details on the exposures used to determine the firm’s credit risk regulatory capital. The parameters applied under the advanced internal ratings-based approach are generally based on the same methodologies, data and systems we use for internal credit risk quantification, except where certain treatments are specified by regulatory requirements. These in- clude, for example, the application of regulatory prescribed floors and multipliers, and differences with respect to eligibility criteria and exposure definitions. The exposure information presented in this section therefore differs from that disclosed in the “Risk man- agement and control” section of this report. Similarly, the regula- tory capital prescribed measure of credit risk exposure also differs from that required under IFRS. ➔ Refer to “Note 29c Maximum exposure to credit risk and credit quality information” in the “Financial information” section of this report for more information For the majority of our derivative exposures we determine our required regulatory capital by applying the effective expected positive exposure as defined in Annex 4 of the Basel framework. For a small portion of the derivatives portfolio we instead apply the current exposure method based on the replacement value of derivatives in combination with a regulatory prescribed add-on. The regulatory net credit exposure detailed in the tables in this section is shown as the regulatory exposure at default after apply- ing collateral, netting and other eligible risk mitigants permitted by the relevant regulations. This section also presents information on impaired and defaulted assets by segmentation which is con- sistent with the regulatory capital calculation. Table 3: Credit risk exposures and RWA This table shows the derivation of RWA from the regulatory gross credit exposure, broken down by major types of credit exposure according to classes of financial instruments. Exposure Average regulatory risk-weighting RWA 1 Average regulatory gross credit exposure Regulatory gross credit exposure Less: regulatory credit risk offsets and adjustments Regulatory net credit exposure CHF million Cash and balances with central banks Due from banks Loans Financial assets designated at fair value Off-balance sheet Banking products Derivatives Cash collateral receivables on derivative instruments Securities financing Traded products Trading portfolio assets Financial investments available-for-sale 2 Accrued income and prepaid expenses Other assets Other products Total 31.12.12 Total 31.12.11 81,614 26,874 267,708 5,737 40,625 422,558 59,733 5,794 50,306 115,833 7,027 62,320 6,299 13,105 88,751 627,142 601,644 64,102 19,668 273,988 3,786 36,866 398,411 53,576 2,922 40,937 97,436 6,341 65,324 6,183 11,268 89,116 584,963 585,364 (6,833) (4,257) (1,852) (371) (13,312) (52) (58) (5,036) (5,145) (18,458) (28,786) 64,102 12,835 269,731 1,934 36,496 385,098 53,576 2,922 40,937 97,436 6,290 65,324 6,125 6,232 83,971 566,505 556,577 0% 21% 15% 38% 26% 14% 42% 29% 7% 27% 63% 1% 77% 94% 18% 17% 21% 1 The derivation of RWA is based on the various credit risk parameters of the advanced IRB approach and the standardized approach, respectively. 2 Excludes equity positions. 226 2,758 40,644 742 9,493 53,862 22,383 836 3,049 26,268 3,955 870 4,741 5,885 15,450 95,580 116,129 189 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Table 4: Regulatory gross credit exposure by geographical region This table provides a breakdown of our portfolio by major types of credit exposure according to classes of financial instruments and also by geographical regions. The geographical distribution is based on the legal domicile of the counterparty or issuer. CHF million Cash and balances with central banks Due from banks Loans Financial assets designated at fair value Off-balance sheet Banking products Derivatives Cash collateral receivables on derivative instruments Securities financing Traded products Trading portfolio assets Financial investments available-for-sale 1 Accrued income and prepaid expenses Other assets Other products Total 31.12.12 Total 31.12.11 1 Excludes equity positions. Switzerland Rest of Europe North America Latin America Asia Pacific Middle East and Africa 24,142 529 163,590 94 7,313 4,891 10,484 23,106 1,216 7,594 30,166 4,071 62,004 2,099 19,823 4,903 4,305 78 5,263 15,969 52 469 36 1,302 200 4,056 288 366 195,669 47,291 118,163 5,861 26,515 4,910 5,406 70 2,523 7,999 1,436 374 4,634 6,444 23,861 1,752 21,013 46,626 2,592 24,328 1,269 3,136 17,282 649 13,730 31,661 2,452 34,952 4,323 3,006 31,325 44,733 210,112 125,242 194,557 210,181 120,612 189,198 519 26 272 817 72 21 17 9 119 6,798 7,582 5,802 215 2,767 8,784 1,184 4,556 187 462 6,390 41,690 51,312 706 209 633 1,549 40 31 12 22 105 6,564 6,479 Total regulatory gross credit exposure Total regulatory net credit exposure 64,102 19,668 273,988 3,786 36,866 398,411 53,576 2,922 40,937 97,436 6,341 65,324 6,183 11,268 89,116 584,963 585,364 64,102 12,835 269,731 1,934 36,496 385,098 53,576 2,922 40,937 97,436 6,290 65,324 6,125 6,232 83,971 566,505 556,577 Table 5: Regulatory gross credit exposure by counterparty type This table provides a breakdown of our portfolio by major types of credit exposure according to classes of financial instruments and also by counterparty type. The classification of counterparty type applied here is also used for the grouping of the balance sheet. The counterparty type is different from the exposure segments defined under the Basel framework and used in certain other tables in this section. CHF million Cash and balances with central banks Due from banks Loans Financial assets designated at fair value Off-balance sheet Banking products Derivatives Cash collateral receivables on derivative financial instruments Securities financing Traded products Trading portfolio assets Financial investments available-for-sale 2 Accrued income and prepaid expenses Other assets Other products Total 31.12.12 Total 31.12.11 1 Also includes non-bank financial institutions. 2 Excludes equity positions. 190 Private individuals Corporates 1 3 173,982 2,362 176,344 1,041 2 270 1,313 4,046 1,164 5,210 182,867 175,361 95,485 2,872 32,836 131,195 25,240 1,126 30,383 56,749 4,810 9,420 1,330 9,532 25,093 213,037 240,229 Public entities (including sovereigns and central banks) Banks and multilateral institutions Total regulatory gross credit exposure Total regulatory net credit exposure 63,812 633 4,521 67 201 69,235 9,831 280 4,627 14,738 1,194 49,555 160 346 51,255 135,228 105,319 288 19,035 847 1,468 21,637 17,464 1,514 5,657 24,636 337 6,348 646 226 7,558 53,830 64,454 64,102 19,668 273,988 3,786 36,866 398,411 53,576 2,922 40,937 97,436 6,341 65,324 6,183 11,268 89,116 584,963 585,364 64,102 12,835 269,731 1,934 36,496 385,098 53,576 2,922 40,937 97,436 6,290 65,324 6,125 6,232 83,971 566,505 556,577 Table 6: Regulatory gross credit exposure by residual contractual maturity This table provides a breakdown of our portfolio by major types of credit exposure according to classes of financial instruments and also by residual contractual maturity. CHF million Cash and balances with central banks Due from banks Loans Financial assets designated at fair value Off-balance sheet Banking products Derivatives Cash collateral receivables on derivative financial instruments Securities financing Traded products Trading portfolio assets Financial investments available-for-sale 2 Accrued income and prepaid expenses Other assets Other products Total 31.12.12 Total 31.12.11 Due in 1 year or less Due between 1 year and 5 years Due over 5 years 6,063 95,381 727 7,730 109,901 19,711 1 8,327 28,039 1,534 36,651 38,185 176,125 205,337 144 71,671 2,492 26,451 100,758 11,985 610 12,595 2,761 20,511 23,272 136,625 139,807 25 35,199 552 2,566 38,343 21,875 23 21,898 1,988 8,162 10,150 70,391 81,024 Other 1 64,102 13,435 71,737 15 119 149,409 6 2,921 31,978 34,905 58 6,183 11,268 17,509 201,822 159,196 Total regulatory gross credit exposure Total regulatory net credit exposure 64,102 19,668 273,988 3,786 36,866 398,411 53,576 2,922 40,937 97,436 6,341 65,324 6,183 11,268 89,116 584,963 585,364 64,102 12,835 269,731 1,934 36,496 385,098 53,576 2,922 40,937 97,436 6,290 65,324 6,125 6,232 83,971 566,505 556,577 1 Includes positions without an agreed residual contractual maturity, for example loans without a fixed term and cash collateral receivables on derivative financial instruments, on which notice of termination has not been given. 2 Excludes equity positions. 191 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Table 7: Derivation of regulatory net credit exposure This table provides a derivation of the regulatory net credit expo- sure from the regulatory gross credit exposure according to the advanced internal ratings-based approach and the standardized approach. The table also provides a breakdown according to BIS- defined exposure segments as follows: – Corporates, consisting of all exposures that do not fit into any of the other exposure segments listed below. This segment in- cludes private commercial entities such as corporations, part- nerships or proprietorships, insurance companies, funds, ex- changes and clearing houses. – Sovereigns (central governments and central banks as defined under Swiss and EU regulations), consisting of exposures relat- ing to sovereign states and their central banks, the BIS, the In- ternational Monetary Fund, the EU (including the European Central Bank) and eligible multilateral development banks. – Banks (as defined under Swiss and EU regulations), consisting of exposures to legal entities holding a banking license. This segment also includes securities firms subject to supervisory and regulatory arrangements, including risk-based capital re- quirements, which are comparable to those applied to banks according to the framework. The BIS regulation also includes exposures to public sector entities with tax-raising power or entities whose liabilities are fully guaranteed by a public entity in this segment. – Residential mortgages (claims secured on residential real estate as defined under Swiss and EU regulations), consisting of residential mortgages, regardless of exposure size, if the obligor owns and occupies or rents out the mortgaged property. – Lombard lending, consisting of loans made against the pledge of eligible marketable securities or cash. – Other retail, consisting of exposures to small businesses, pri- vate clients and other retail customers without mortgage fi- nancing. CHF million Total regulatory gross credit exposure Less: regulatory credit risk offsets and adjustments 1 Total regulatory net credit exposure Total 31.12.11 Breakdown of the regulatory net credit exposure by exposure segment Corporates Sovereigns 1 Banks Retail Residential mortgages Lombard lending Other retail Total regulatory net credit exposure Total 31.12.11 Advanced IRB approach Standardized approach Total 31.12.12 Total 31.12.11 441,859 (13,345) 428,513 468,796 132,829 37,796 48,506 125,051 82,271 2,060 428,513 468,796 143,104 (5,112) 137,992 87,781 21,604 104,354 6,073 3,625 2,336 137,992 87,781 584,963 (18,458) 566,505 154,433 142,150 54,580 128,676 82,271 4,396 566,505 585,364 (28,786) 556,577 183,816 107,479 63,651 123,650 73,681 4,300 556,577 1 Includes high-quality liquid short-term securities issued by governments, government-controlled institutions, and central banks. 192 Table 8: Regulatory gross credit exposure covered by guarantees and credit derivatives This table provides a breakdown of exposures covered by guaran- tees as well as those covered by credit derivatives, according to Basel-defined exposure segments. The amounts in the table reflect the values used for determin- ing regulatory capital to the extent collateral is eligible under the Basel framework. CHF million Exposure segment Corporates Sovereigns Banks Retail Residential mortgages Lombard lending Other retail Total 31.12.12 Total 31.12.11 1 Includes guarantees and stand-by letters of credit provided by third parties, mainly banks. Exposure covered by guarantees 1 Exposure covered by credit derivatives 5,923 59 363 7 408 52 6,813 7,003 16,147 87 97 16,331 17,297 193 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Advanced internal ratings-based approach Table 9: Advanced internal ratings-based approach: Regulatory net credit exposure by internal UBS ratings This table provides a breakdown of the regulatory net credit exposure of our credit portfolio (including loan commitments) using the advanced internal ratings-based approach according to our internal rating classes. CHF million, except where indicated Internal UBS rating Regulatory net credit exposure-weighted average probability of default Regulatory net credit exposure Corporates Sovereigns Banks Retail Residential mortgages Lombard lending Other retail Total 31.12.12 of which: loan commitments Total 31.12.11 of which: loan commitments Internal UBS rating Investment grade Sub-investment grade Defaulted 1 Total regulatory net credit exposure of which: loan commitments Total regulatory net credit exposure of which: loan commitments 0 / 1 2 / 3 4 / 5 6–8 9–13 31.12.12 31.12.11 0.005% 0.055% 0.301% 0.965% 5.385% 0.470% 7,780 32,360 1,111 54,790 3,043 36,839 2,001 70,868 130 27,488 2,303 8,095 95,736 6,718 80 41,251 167,672 140,420 104 41,555 201 17,370 196,225 17,982 3,304 146,031 5,517 31,238 54 1,923 23,663 3,382 491 60,752 2,356 64,353 2,244 10,412 1,120 132,829 9 461 3,212 1,289 1,349 16,732 2,674 18,151 3,268 27 76 440 14 9 37,796 48,506 125,051 82,271 2,060 1,686 428,513 15 2,482 56 13,069 122 12,057 273 300 2 25,824 0.471% 159,853 58,727 55,953 119,565 73,681 1,018 468,796 16,005 237 12,509 255 262 1 29,269 1 Values of defaulted derivative contracts (CHF 716 million) are based on replacement values including “add-ons” used in the calculation of regulatory capital. Table 10: Advanced internal ratings-based approach: Regulatory net exposure-weighted average loss given default by internal UBS ratings This table provides a breakdown of the net exposure-weighted average loss given default (LGD) for our credit portfolio exposures calculated using the advanced internal ratings-based approach, according to our internal rating classes. in % Internal UBS rating Regulatory net credit exposure-weighted average LGD Corporates Sovereigns Banks Retail Residential mortgages Lombard lending Other retail Average 31.12.12 Average 31.12.11 194 Internal UBS rating Investment grade Sub-investment grade Regulatory net credit exposure-weighted average LGD 0 / 1 2 / 3 4 / 5 6–8 9–13 31.12.12 31.12.11 23 26 32 26 21 24 41 29 22 20 20 24 26 31 67 29 13 20 7 19 19 25 26 25 17 20 38 21 22 24 27 32 15 20 40 23 25 26 30 29 14 20 37 22 28 34 31 10 20 38 23 Table 11: Advanced internal ratings-based approach: Regulatory net exposure-weighted average risk weight by internal UBS ratings This table provides a breakdown of the net exposure-weighted average risk weight for our credit portfolio exposures calculated using the advanced internal ratings-based approach according to our internal rating classes. in % Internal UBS rating Regulatory net credit exposure-weighted average risk weight Corporates Sovereigns Banks Retail Residential mortgages Lombard lending Other retail Average 31.12.12 Average 31.12.11 Internal UBS rating Investment grade Sub-investment grade Regulatory net credit exposure-weighted average risk weight 0 / 1 2 / 3 4 / 5 6–8 9–13 31.12.12 31.12.11 6 1 11 2 2 10 20 12 3 3 3 8 9 46 94 26 7 10 4 17 20 43 49 42 17 18 48 32 37 72 103 159 48 30 33 64 77 31 8 17 10 5 34 16 35 14 20 7 4 42 19 Standardized approach The standardized approach is generally applied where it is not possible to use the advanced internal ratings-based approach and / or where an exemption from the advanced internal ratings- based approach has been granted by FINMA. The standardized approach requires banks to use risk assessments prepared by ex- ternal credit assessment institutions (ECAI) or export credit agen- cies to determine the risk weightings applied to rated counter- parties. We use FINMA-recognized ECAI risk assessments to determine the risk weightings for certain counterparties in the following classes of exposure: – central governments and central banks – regional governments and local authorities – multilateral development banks – institutions – corporates We use three FINMA-recognized ECAI for this purpose: Standard & Poor’s Ratings Group, Moody’s Investors Service and Fitch Group. The mapping of external ratings to the standardized approach risk weights is determined by FINMA and published on its website. 195 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Table 12: Regulatory gross and net credit exposure by risk weight under the standardized approach This table provides a breakdown of the regulatory gross and net credit exposure by risk weight for our credit portfolio exposures treated under the standardized approach, according to Basel-defined exposure segments. CHF million Risk weight Regulatory gross credit exposure Corporates Sovereigns 1 Banks Retail Residential mortgages Lombard lending Other retail Total 31.12.12 Total 31.12.11 Regulatory net credit exposure 2 Corporates Sovereigns 1 Banks Retail Residential mortgages Lombard lending Other retail Total 31.12.12 Total 31.12.11 Total exposure Total exposure 0% >0–35% 36–75% 76–100% 150% 31.12.12 31.12.11 24 104,080 6,260 4 3,271 776 97 2,779 3,023 613 104,104 48,315 12,558 15,838 24 104,080 6,260 4 3,266 2,337 6,601 9,015 776 97 2,779 3,009 613 104,104 48,315 12,540 15,838 2,336 6,601 8,935 18,431 172 3 970 19,576 19,877 14,320 172 3 3 14,498 14,479 240 25 25,730 104,354 6,078 28,241 48,761 7,749 4,606 5,240 2,337 143,104 21,604 104,354 6,073 3,285 93,275 23,963 48,752 7,698 3,625 4,085 2,336 137,992 3,283 87,781 265 229 224 25 249 215 1 Includes high-quality liquid short-term securities issued by governments, government-controlled institutions and central banks. 2 For traded products, the regulatory gross credit exposure is equal to the regulatory net credit exposure. Table 13: Eligible financial collateral recognized under the standardized approach This table provides a breakdown of the financial collateral eligible for recognition in the regulatory capital calculation under the standardized approach, according to Basel-defined exposure segments. CHF million Exposure segment Corporates Sovereigns 2 Banks Retail Residential mortgages Lombard lending Other retail Total Regulatory net credit exposure under standardized approach Eligible financial collateral recognized in capital calculation 1 31.12.12 31.12.11 31.12.12 31.12.11 21,604 104,354 6,073 23,963 48,752 7,698 3,625 4,085 2,336 137,992 3,283 87,781 6,223 26 1,412 981 8,643 5,211 40 1,188 1,155 3 7,596 1 Reflects the impact of the application of regulatory haircuts. For traded products, it is the difference between the IFRS reported values and the regulatory net credit exposure. 2 Includes high-quality liquid short-term securities issued by governments, government-controlled institutions and central banks. 196 Impairment, default and credit loss As illustrated in the tables below, our impaired assets were 45% lower on 31 December 2012 compared with 31 December 2011, mainly due to a reduction in defaulted derivatives contracts with monolines as a result of trade commutations. Table 14: Impaired assets by region This table shows a breakdown of credit exposures arising from impaired assets, as well as allowances and provisions by region. Impaired asset exposures include loans, off-balance sheet claims, securities financing transactions and derivative transactions. Regulatory gross credit exposure 41,690 6,798 6,564 194,557 210,112 125,242 584,963 585,364 Impaired assets 1 58 49 65 721 837 737 2,467 4,465 Specific allowances, provisions and credit valuation adjustments Impaired assets net of specific allowances, provisions and credit valuation adjustments (58) (43) (35) (346) (426) (209) (1,117) (2,263) 6 30 374 411 528 1,349 2,201 Collective loan loss allowances 2 Total allowances, provisions and specific credit valuation adjustments 2 (58) (43) (35) (348) (539) (209) (1,232) (2) (113) (114) (131) Total allowances, provisions and specific credit valuation adjustments 31.12.11 (45) (27) (34) (1,465) (604) (220) (2,395) CHF million Asia Pacific Latin America Middle East and Africa North America Switzerland Rest of Europe Total 31.12.12 Total 31.12.11 1 Values of defaulted derivative contracts (CHF 716 million; 31 December 2011: CHF 2,143 million) are based on replacement values and do not include “add-ons” used in the calculation of regulatory capital. 2 Col- lective credit valuation adjustments of CHF 736 million (31 December 2011: CHF 1,073 million) are partially included in the upper tier 2 capital and therefore not included in this table. Table 15: Impaired assets by exposure segment This table provides a breakdown of credit exposures arising from impaired assets as well as allowances and provisions in accordance with Basel-defined exposure segments. Regulatory gross credit exposure 162,925 142,271 63,443 0 129,657 82,271 4,396 584,963 585,364 Impaired assets 1 2,077 14 64 186 66 60 2,467 4,465 Specific allowances, provisions and credit valuation adjustments (937) (10) (26) (51) (49) (43) (1,117) (2,263) Collective loan loss allowances 2 Total allowances, provisions and specific credit valuation adjustments 2 (937) (10) (26) (51) (49) (45) (113) (1,232) (114) (114) (131) Total allowances, provisions and specific credit valuation adjustments 31.12.11 Writeoffs for the year ended 31.12.12 (134) (1) 0 (26) (162) (299) 4 (2,081) (10) (15) (66) (37) (54) (131) (2,395) CHF million Corporates Sovereigns Banks Retail Residential mortgages Lombard lending Other retail Not allocated segment 3 Total 31.12.12 Total 31.12.11 1 Values of defaulted derivative contracts (CHF 716 million; 31 December 2011: CHF 2,143 million) are based on replacement values and do not include “add-ons” used in the calculation of regulatory capital. 2 Col- lective credit valuation adjustments of CHF 736 million (31 December 2011: CHF 1,073 million) are partially included in the upper tier 2 capital and therefore not included in this table. 3 Collective loan loss allow- ances are not allocated to individual counterparties and thus also not to exposure segments. 4 Does not include CHF 152 million securitization-related writeoffs (31 December 2011: CHF 202 million). 197 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Table 16: Changes in allowances, provisions and specific credit valuation adjustments This table provides a breakdown of movements in the specific and collective allowances and provisions for impaired assets, including changes in the credit valuation adjustments for defaulted derivatives. Specific allowances and provisions for banking products and securities financing 807 (312) 63 133 (11) Specific credit valuation adjustments for derivatives 1,457 (1,018) Total specific allowances, provisions and credit valuation adjustments 2,263 (312) 63 (885) (11) CHF million Opening balance as of 1.1.12 Write-offs/usage of provisions Recoveries (on written-off positions) Increase / (decrease) in allowances, provisions and specific credit valuation adjustments 2 Foreign currency translations and other adjustments Transfers Collective loan loss allowances 1 For the year ended 31.12.12 For the year ended 31.12.11 Opening balance as of 1.1.11 131 (2) (15) -0 2,395 (313) 63 (899) (12) 2,418 (501) 51 387 73 (32) 2,395 Closing balance as of 31.12.12 680 3 439 1,119 114 1,233 Closing balance as of 31.12.11 1 Collective credit valuation adjustments of CHF 736 million (31 December 2011: CHF 2,143 million) are partially included in the upper tier 2 capital and therefore not included in this table. 2 Total actual credit loss (credit loss expense and changes in specific credit valuation adjustments recognized in net trading income). 3 Includes CHF 2 million allowances for securities financing. Table 17: Total expected loss and actual credit loss This table provides a breakdown of the one-year expected loss estimate on our credit portfolios (including lending, derivative and securities financing portfolios) calculated as of 31 Decem- ber 2011, and the actual IFRS credit loss amount (including credit valuation adjustments on derivatives) charged against our income statement in 2012, according to Basel-defined exposure segments of the advanced internal ratings-based approach. Comparison between our expected and actual losses has certain limitations as the two measures are not directly comparable. In particular our expected loss estimate is an annualized average expected loss measure which takes into account our historical loss experience, whereas actual loss represents our credit loss expense charged to the income statement in the financial year. The difference in our expected and actual loss amounts resulted from credit recoveries and from lower-than-expected actual losses in 2012. Expected loss Actual credit (loss) / recovery and credit valuation adjustments CHF million 31.12.11 Corporates 1 Sovereigns Banks Retail Residential mortgages Lombard lending Other retail Not allocated segment 2 Total Total expected loss Actual credit (loss) / recovery (322) (19) (35) (59) (24) (5) (463) (133) 0 (1) 15 (12) (11) 24 (118) For the year ended 31.12.12 Specific credit valuation adjust- ments for defaulted derivatives 1,018 1,018 For the year ended 31.12.11 Total actual credit (loss) / recovery and specific credit valuation adjustments Total actual credit (loss) / recovery and specific credit valuation adjustments 884 0 (1) 15 (12) (11) 24 899 (321) (1) 3 12 (5) (75) (387) 1 Includes actual credit loss from Legacy Portfolio, which amounted to CHF 112 million. 2 Includes changes in collective loan loss allowances and provisions. 198 Other credit risk information Our credit derivatives trading is predominantly on a collateralized basis. This means that our credit exposures arising from our de- rivatives activities with collateralized counterparties are typically closed out in full or reduced to nominal levels on a regular basis by the use of collateral. Derivatives trading with counterparties with high credit ratings (for example a large bank or broker-dealer) is typically under an International Swaps and Derivatives Association (ISDA) master netting agreement. Credit exposures to those counterparties from credit default swaps (CDS), together with exposures from other over-the-counter (OTC) derivatives, are netted and included in the calculation of the collateral that is required to be posted. Trading with lower-rated counterparties such as hedge funds would gen- erally require an initial margin to be posted by the counterparty. We receive collateral from or post collateral to our counterpar- ties based on our open net receivable or net payable from OTC derivative activities. Under the terms of the ISDA master netting agreement and similar agreements, this collateral, which gener- ally takes the form of cash or highly liquid debt securities, is avail- able to cover any amounts due under those derivative trans- actions. Settlement risk, including payment risk of CDS, has been miti- gated to some extent by the development of a market-wide credit event auction process. This has resulted in a widespread shift to the cash settlement of CDS following a credit event on a refer- ence entity. We had no experience of any significant losses from failed settlements of CDS contracts in 2012. The vast majority of our CDS trading activity is conducted by the Investment Bank. The “Credit derivatives by counterparty category” table on the next page provides further analysis of the Investment Bank’s CDS counterparties based on the notional amount of CDS protection purchased and sold. The analysis shows that the vast majority of the Investment Bank’s CDS coun- terparties were market professionals. Based on the same notional measure, approximately 98% of these counter parties were rated investment grade and approximately 99% of the CDS activity was traded on a collateralized basis. Table 18: Credit exposure of derivative instruments This table provides an overview of our credit exposures arising from derivatives. Exposures are provided based on the balance sheet carrying values of derivatives as well as regulatory net credit exposures. The net balance sheet credit exposure differs from the regulatory net credit exposures because of differences in valuation methods and the netting and collateral deductions used for accounting and regulatory capital purposes. Net current credit exposure is derived from gross positive replacement values, whereas regulatory net credit exposure is calculated using our internal credit valuation models. CHF million Gross positive replacement values Netting benefits recognized Collateral held Net current credit exposure Regulatory net credit exposure (total counterparty credit risk) of which: treated with internal models (effective expected positive exposure [EPE]) of which: treated with supervisory approaches (current exposure method) Breakdown of the collateral held Cash collateral Securities collateral and debt instruments collateral (excluding equity) Equity instruments collateral Other collateral Total collateral held 31.12.12 418,029 (327,320) (55,890) 34,818 53,576 44,135 9,441 49,382 6,236 101 171 55,890 31.12.11 486,584 (383,338) (50,955) 52,291 72,558 57,874 14,684 45,572 5,055 109 218 50,955 199 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Table 19: Credit derivatives 1, 2 This table provides an overview of our credit derivative portfolio by product group using notional amounts. The table also provides a breakdown of credit derivative positions used to manage our own credit portfolio risks (banking book for regulatory purposes) and those arising through intermediation activities (trading book for regulatory capital purposes). Notional amounts, CHF million Credit default swaps Total return swaps Total 31.12.12 Total 31.12.11 Regulatory banking book Regulatory trading book Total Protection bought 13,711 Protection sold Total Protection bought Protection sold Total 31.12.12 31.12.11 119 13,831 1,068,447 1,059,970 2,128,417 2,142,248 2,541,632 13,711 22,348 119 3,719 4,212 1,524 5,736 13,831 1,072,659 1,061,494 2,134,153 5,736 2,147,984 3 4,403 26,067 1,283,606 1,236,362 2,519,968 2,546,035 1 Notional amounts of credit derivatives are based on accounting definitions and do not include any netting benefits. For capital underpinning of the counterparty credit risk of derivative positions, the effective expected positive exposure (or exposure according to current exposure method) is taken. 2 Notional amounts are reported based on regulatory scope of consolidation and do not include options and warrants. 3 Does not include notionals for credit derivatives traded via a central clearing counterparty of CHF 236.4 billion on December 2012 and CHF 172.4 billion on December 2011. Table 20: Credit derivatives by counterparty 1 Developed markets commercial banks Broker-dealers, investment and merchant banks Hedge funds All other % of total notional % of buy notional % of sell notional 31.12.12 31.12.11 31.12.12 31.12.11 31.12.12 31.12.11 60 24 3 13 60 23 1 16 60 23 2 15 59 23 1 18 61 24 4 11 61 23 2 14 1 Counterparty analysis based on notional CDS exposures of the Investment Bank sourced from credit risk systems. 200 Investment positions The regulatory capital view for investment positions differs from the IFRS view primarily due to the following: (i) Differences in the basis of valuation, e.g. financial investments available for sale are subject to fair value accounting under IFRS but have to be treated under the “lower-of-cost-or-mar- ket” concept for regulatory capital purposes. (ii) The use of different frameworks to determine regulatory cap- ital. Tradable assets, for example, are treated under market risk value-at-risk (VaR). (iii) Differences in the scope of consolidation. Certain special pur- pose entities, for example, are consolidated for IFRS but not for regulatory capital. Table 21: Equity instruments for banking book positions The table below shows the three different equity instrument cat- egories held in the banking book with their amounts as disclosed for IFRS, followed by the regulatory capital-adjustment amount. This adjustment considers the above mentioned differences to IFRS resulting in the total equity instruments exposure under BIS framework, the corresponding RWA and capital charge. The table also shows net realized gains and losses and unreal- ized revaluation gains relating to the equity investments. CHF million Equity instruments Financial investments available-for-sale Financial assets designated at fair value 1 Investments in associates Total equity instruments under IFRS Regulatory capital adjustment Total equity instruments under BIS of which: to be risk-weighted publicly traded privately held 2 of which: deducted from equity RWA according to simple risk weight method Capital requirement according to simple risk weight method Total capital charge Net realized gains / (losses) and unrealized gains from equity instruments Net realized gains / (losses) from disposals Unrealized revaluation gains of which: included in tier 2 capital Book value 31.12.12 31.12.11 725 25 858 1,608 1,071 2,678 184 1,198 1,297 2,972 238 1,535 122 41 18 699 730 795 2,223 778 3,001 173 1,427 1,402 3,310 265 1,667 (9) 49 22 1 Decrease was mainly due to a reclassification of investment fund units from equity to debt investments. For regulatory purposes, these investments are classified as equity and were included in the line “Regulatory capital adjustments”. 2 Includes CHF 584 million exposure booked in trust entities that did not generate risk-weighted assets (CHF 717 million on 31 December 2011). 201 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Market risk Risk-weighted assets (RWA) attributable to market risk decreased to CHF 27.2 billion as of 31 December 2012 compared with CHF 49.2 billion as of 31 December 2011. The decrease was mainly due to the reduction in incremental risk charge RWA on reduced exposures and a model update for sovereign debt in the first quarter and hedging activity. VaR and stressed VaR declined due to reduced risk positions and reduced credit spread risk. The mar- ket risk regulatory capital requirement is 8% of the respective RWA. Market risk regulatory capital and risk-weighted assets are based on our VaR model and subject to regulatory determined multipliers. The population of the portfolio within management and regu- latory VaR is slightly different. Management VaR includes all posi- tions subject to internal management VaR limits. The population within regulatory VaR is a subset of this total population that meets minimum regulatory requirements for inclusion in regulatory VaR. The following VaR tables include the market risks arising from the incident related to the Facebook initial public offering in the second quarter 2012. This affected the maximum and average VaR of Equities and the Investment Bank as a whole. ➔ Refer to the “Risk management and control” sections of this report for more information on market risk Table 22: Group: regulatory value-at-risk (10-day, 99% confidence, 5 years of historical data) by business division and Corporate Center This table provides a breakdown of the Group’s minimum, maximum, average and period-end regulatory VaR by business division. CHF million, except where indicated Wealth Management Wealth Management Americas Investment Bank 2 Global Asset Management Retail & Corporate Corporate Center 2 Diversification effect Total regulatory VaR, Group Diversification effect (%) For the year ended 31.12.12 Min. 0 14 58 0 0 8 – 3 56 Max. 0 25 769 1 1 117 – 3 776 Average 31.12.12 0 18 131 0 0 37 (54) 133 (29) 0 17 61 0 0 43 (58) 63 (48) For the year ended 31.12.11 1 0 24 132 0 0 9 (24) 142 (14) 1 The Basel 2.5 enhancements became effective as of 31 December 2011, therefore the minimum, maximum and average valued for the year ended 31 December 2011 are not shown. 2 Prior periods have not been restated for the transfer of legacy positions from the Investment Bank to the Corporate Center. 3 As the minimum and maximum occur on different days for different business divisions, it is not meaningful to calculate a portfolio diversification effect. 202 Table 23: Group: regulatory value-at-risk (10-day, 99% confidence, 5 years of historical data) by risk type This table provides a breakdown of the Group’s minimum, maximum, average and period-end regulatory VaR by risk type. CHF million, except where indicated Min. Max. Average 31.12.12 For the year ended 31.12.12 Equities Interest rates Credit spreads Foreign exchange Energy, metals and commodities Diversification effect Total regulatory VaR, Group Diversification effect (%) 24 40 99 21 6 – 2 56 713 162 296 149 75 – 2 776 52 79 186 51 17 (252) 133 (65) 27 40 104 38 21 (166) 63 (72) For the year ended 31.12.11 1 52 61 220 60 17 (269) 142 (65) 1 The Basel 2.5 enhancements became effective as of 31 December 2011, therefore the minimum, maximum and average values for the year ended 31 December 2011 are not shown. 2 As the minimum and maximum occur on different days for different risk types, it is not meaningful to calculate a portfolio diversification effect. Table 24: Group: regulatory value-at-risk (1-day, 99% confidence, 5 years of historical data) 1 This table provides a breakdown of the Group and Investment Bank’s minimum, maximum, average and period-end regulatory back- testing VaR. CHF million Investment Bank 3 Group 3 Min. 24 23 For the year ended 31.12.12 Max. 239 239 Average 31.12.12 47 47 24 25 For the year ended 31.12.11 2 55 58 1 10-day 99% regulatory VaR and 1-day 99% regulatory VaR results are calculated separately from underlying positions and historical market moves. They cannot be inferred from each other. 2 The Basel 2.5 enhance- ments became effective as of 31 December 2011, therefore the minimum, maximum and average values for the year ended 31 December 2011 are not shown. 3 Backtesting is based on 1-day 99% regulatory VaR. 203 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Stressed value-at-risk Stressed VaR is a 10-day 99% measure calibrated to a one-year period of significant financial stress relevant to the current portfolio of the Group. Stressed VaR adopts broadly the same methodology as VaR with modifications as required to calibrate the model to a his- torical stress period. Table 25: Group: stressed value-at-risk (10-day, 99% confidence, 5 years of historical data) by business division and Corporate Center This table provides a breakdown of the Group’s period-end regulatory stressed VaR by business division. CHF million, except where indicated Wealth Management Wealth Management Americas Investment Bank 2 Global Asset Management Retail & Corporate Corporate Center 2 Diversification effect Total stressed VaR, Group Diversification effect (%) For the year ended 31.12.12 Min. 0 18 100 0 0 12 – 3 105 Max. 1 31 1,111 1 0 200 – 3 1,127 Average 31.12.12 0 24 184 1 0 58 (78) 189 (29) 0 23 118 1 0 77 (94) 125 (43) For the year ended 31.12.11 1 0 31 173 0 0 14 (39) 181 (18) 1 The Basel 2.5 enhancements became effective as of 31 December 2011, therefore the minimum, maximum and average values for the year ended 31 December 2011 are not shown. 2 Prior periods have not been restated for the transfer of legacy positions from the Investment Bank to the Corporate Center. 3 As the minimum and maximum occur on different days for different business divisions, it is not meaningful to calculate a portfolio diversification effect. Table 26: Group: stressed value-at-risk (10-day, 99% confidence, 5 years of historical data) by risk type This table provides a breakdown of the Group’s period-end regulatory stressed VaR by risk type. CHF million, except where indicated Equities Interest rates Credit spreads Foreign exchange Energy, metals and commodities Diversification effect Total stressed VaR, Group Diversification effect (%) For the year ended 31.12.12 Min. 20 43 159 28 7 – 2 105 Max. 1,015 285 528 222 110 – 2 1,127 Average 31.12.12 76 93 326 83 23 (413) 189 (69) 38 43 163 61 40 (220) 125 (64) For the year ended 31.12.11 1 65 54 399 88 22 (446) 181 (71) 1 The Basel 2.5 enhancements became effective as of 31 December 2011, therefore the minimum, maximum and average values for the year ended 31 December 2011 are not shown. 2 As the minimum and maximum occur on different days for different risk types, it is not meaningful to calculate a portfolio diversification effect. 204 Incremental risk charge The incremental risk charge (IRC) represents an estimate of the default and migration risk of unsecuritized credit products held in the trading book, measured over a one-year time horizon at a 99.9% confidence level. To capture the risk over a one-year period, the calculation of the measure assumes all positions in the IRC portfolio have a one-year liquidity horizon and are kept un- changed over this period. The portfolio default and credit migrations loss distribution is estimated using a Monte Carlo simulation of correlated credit mi- gration events (defaults and credit rating changes) for all issuers in the IRC portfolio, based on a Merton-type model. For each posi- tion, default losses are calculated based on the maximum default exposure measure (loss on a current position in case of an immedi- ate default event and assuming zero recovery) and a random recov- ery concept. To account for the default basis risk, different recovery values may be generated for different instruments even if they be- long to the same issuer. To calculate credit migration losses a linear (delta) approximation is used: a loss due to a migration event is calculated as the credit spread change multiplied by the corre- sponding sensitivity of a position to the credit spread changes. Our IRC methodology and implementation is approved by FINMA, with ongoing methodology improvements also subject to regulatory approval. Table 27: Group: incremental risk charge by business division and Corporate Center This table provides a breakdown of the Group’s period-end regulatory incremental risk charge by business division. CHF million, except where indicated Wealth Management Wealth Management Americas Investment Bank 2 Global Asset Management Retail & Corporate Corporate Center 2 Diversification effect Total incremental risk charge, Group Diversification effect (%) Min. 0 5 109 0 0 143 – 3 131 For the year ended 31.12.12 Max. 2 32 1,074 0 0 258 – 3 1,045 Average 0 13 706 0 0 196 (212) 703 (23) 31.12.12 0 10 109 0 0 183 (168) 135 (56) For the year ended 31.12.11 1 0 82 1,349 0 306 (303) 1,435 (17) 1 The Basel 2.5 enhancements became effective as of 31 December 2011, therefore the minimum, maximum and average values for the year ended 31 December 2011 are not shown. 2 Prior periods have not been restated for the transfer of legacy positions from the Investment Bank to the Corporate Center. 3 As the minimum and maximum occur on different days for different business divisions, it is not meaningful to calculate a portfolio diversification effect. Comprehensive risk charge Comprehensive risk measure (CRM) represents an estimate of the default and complex price risk including the convexity and cross convexity of the correlation trading portfolio across spread, cor- relation and recovery, measured over a one-year time horizon at a 99.9% confidence level. To capture the risk over a one-year peri- od, the calculation of the measure assumes that all positions in the CRM portfolio have a one-year liquidity horizon and are kept unchanged over this time period. The CRM loss distribution is estimated using Monte Carlo sim- ulation of real-world defaults between the spot and the end of the one-year horizon date, and calculates resulting cash flows in the CRM portfolio. The portfolio is then revalued on the one-year horizon date, with inputs such as credit spreads and index basis being migrated from spot to horizon date. The 99.9% worst per- centile is then taken from the resulting profit or loss distribution, to give the CRM model result. Our CRM methodology and implementation is approved by FINMA, with ongoing methodology improvements also subject to regulatory approval. It is subject to qualitative minimum standards as well as stress testing requirements. The calculated CRM mea- sure for regulatory capital purposes is subject to a floor calculation equal to 8% of the equivalent capital charge under a the securiti- zation framework. Table 28: Group: comprehensive risk charge This table provides a breakdown of the Group’s period-end regulatory comprehensive risk charge for the Investment Bank. CHF million Investment Bank Group Min. 594 594 For the year ended 31.12.12 Max. 770 770 Average 31.12.12 675 675 604 604 1 The Basel 2.5 enhancements became effective as of 31 December 2011, therefore the minimum, maximum and average values for the year ended 31 December 2011 are not shown. For the year ended 31.12.11 1 636 636 205 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Securitization This section provides details of traditional and synthetic securitiza- tion exposures in the banking and trading book. It also provides details of the regulatory capital associated with these exposures, based on the enhancements made to the Basel II framework as well as the revised Basel II market risk framework, commonly re- ferred to as Basel 2.5. In a traditional securitization, a pool of loans (or other debt obligations) is typically transferred to a special purpose entity that has been established to own the loan pool and to issue tranched securities to third-party investors referenc- ing this pool of loans. In a synthetic securitization, legal owner- ship of securitized pools of assets is typically retained, but associ- ated credit risk is transferred to a special purpose entity typically through guarantees, credit derivatives or credit-linked notes. Hy- brid structures with a mix of traditional and synthetic features are disclosed as synthetic securitizations. We act in different roles in securitization transactions. As origi- nator, we create or purchase financial assets, which are then secu- ritized in traditional or synthetic securitization transactions, en- abling us to transfer significant risk to third-party investors. As sponsor, we manage or advise securitization programs. In line with the Basel framework, this sponsoring includes underwriting, that is, placing securities into the market. In all other cases, we act in the role of investor by taking securitization positions. Risk-weighted assets attributable to securitization positions decreased to CHF 7.1 billion as of 31 December 2012 from CHF 7.3 billion a year earlier. Ratings downgrades and new synthetic securitization transactions in the banking book contributed to in- creased risk-weighted assets of CHF 1.6 billion. This increase was more than offset by a CHF 1.8 billion reduction in risk-weighted assets related to the sale of student loan auction rate securities and commercial mortgage-backed securities mainly during the second half of the year. Objectives, roles and involvement Securitization in the banking book The majority of our securitization positions held in the banking book are legacy risk positions, a significant amount of which were a) reclassified under IFRS from Held for trading to Loans and receivables in the fourth quarter of 2008 and the first quar- ter of 2009, or b) classified as Loans and receivables when ac- quiring student loan auction rate securities from clients. As of 31 December 2012, this portfolio included mainly student loan auction rate securities, and to a lesser extent collateralized debt obligations and collateralized loan obligations some of which have credit default swap protection purchased from monoline insurers, as well as commercial mortgage-backed securities, resi- dential mortgage-backed securities and reference-linked note programs. New credit-risk hedging transactions in 2012 in- creased our position in synthetic securitizations of portfolios of counterparty credit risk in over-the-counter derivatives and loan exposures. These transactions are primarily used to reduce our credit risk by synthetically transferring counterparty risk. In 2012, we acted in the roles of both originator and sponsor. As originator, we sold originated commercial mortgage loans into securitization programs. Furthermore, we synthetically securitized portfolios of counterparty credit risk inherent in over-the-counter derivatives and loan exposures. As sponsor, we managed or ad- vised securitization programs and helped to place the securities into the market. The table “Table 29: Securitization activity of the year in the banking book” provides an overview of our originating and sponsoring activities in 2012 and 2011 respectively. With re- turning liquidity in the markets for commercial mortgage-backed securities, residential mortgage-backed securities as well as col- lateralized debt obligations, and in line with our market risk poli- cies, certain legacy risk positions were moved from the banking book to the trading book during 2012. Securitization and re-securitization positions in the banking book are measured either at fair value or at amortized cost less impairment. The impairment assessment is generally based on the net present value of future cash flows expected from a certain instrument that are derived from the underlying pool of assets. Securitization in the trading book Securitizations (including correlation products) held in the trading book are part of the trading activities, which typically include market-making and client facilitation. During 2012, certain legacy risk positions were moved from the banking book to the trading book, as liquidity returned to the markets. We were also involved in the placement of securitizations of assets originated by other institutions in the market, that is, we acted in the role of a spon- sor. In certain cases we provided warehouse financing to collater- alized loan obligation (CLO) managers. The table “Table 30: Secu- ritization activity of the year in the trading book” provides an overview of our originating and sponsoring activities in 2012 and 2011 respectively. Included in the trading book are positions in our correlation book and legacy positions in leveraged super se- nior tranches. In the trading book, securitization and re-securitiza- tion positions are measured at fair value reflecting market prices where available or are based on our internal pricing models. Type of special purpose entities and affiliated entities involved in the securitization transactions For the securitization of third-party exposures, the type of special purpose entity employed is selected as appropriate based on the type of transaction undertaken. Examples of this include limited liability corporations, common law trusts and depositor entities. We manage or advise significant groups of affiliated entities that invest in exposures we have securitized or in special purpose entities we sponsor. Significant groups of affiliated entities include 206 North Street, Brooklands / ELM, and East Street, which are in- volved in the US, European and Asia Pacific reference-linked note programs, respectively. the-counter derivatives and loan exposures for which an external rating was not sought. The supervisory formula approach is also applied to leveraged super senior tranches. ➔ Refer to the “Market risk” section of this report for more information on reference-linked notes and to “Note 1 a) 3) Special purpose entities” in the “Financial information” section of this report Managing and monitoring of the credit and market risk of securitization positions The banking book securitization portfolio is subject to specific risk monitoring, which may include interest rate and credit spread sensitivity analysis, as well as inclusion in firm-wide earnings-at- risk, capital-at-risk and combined stress test metrics. The trading book securitization positions are also subject to multiple risk limits, in the Investment Bank, such as management VaR and stress limits as well as market value limits. As part of managing risks within the pre-defined risk limits, traders may uti- lize hedging and risk mitigation strategies. Hedging may however expose the firm to basis risks as the hedging instrument and the position being hedged may not always move in parallel. Such ba- sis risks are managed within the overall limits. Any retained secu- ritization from origination activities and any purchased securitiza- tion positions are governed by risk limits together with any other trading positions. Regulatory capital treatment of securitization structures Except in the cases described below, in both the banking and trad- ing book we generally apply the ratings-based approach to secu- ritization positions using ratings, if available, from Standard & Poor’s, Moody’s and Fitch for all securitization and re-securitization exposures. If two of these rating agencies have issued a rating for a particular position, we would apply the worst credit rating of the two. If all three rating agencies have issued a rating for a particular position, we would apply the second worst credit rating of the three. Under the ratings-based approach, the amount of capital required for securitization and re-securitization exposures in the banking book is capped at the level of the capital requirement that would have been assessed against the underlying assets had they not been securitized. This treatment has been applied in par- ticular to the US and European reference-linked note programs. For the purposes of determining regulatory capital and the Pillar 3 disclosure for these positions, the underlying exposures are re- ported under the standardized approach, the advanced internal ratings-based approach or the securitization approach, depend- ing on the category of the underlying security. If the underlying security is reported under the standardized approach or the ad- vanced internal ratings-based approach, the related positions are excluded from the tables on the following pages. The supervisory formula approach is applied to synthetic secu- ritizations of portfolios of counterparty credit risk inherent in over- In the trading book, the comprehensive risk measure is used for the correlation portfolio as defined by Basel 2.5 requirements. This measure broadly covers securitizations of liquid corporate underly- ing assets as well as associated hedges that are not necessarily se- curitizations, for example, single name credit default swaps and credit default swaps on indices. We do not apply the concentration ratio approach or the inter- nal assessment approach to securitization positions. The counterparty risk of interest rate or foreign currency de- rivatives with securitization vehicles is treated under the advanced internal ratings-based approach, and is therefore not part of this disclosure. Accounting policies Refer to “Note 1 Summary of significant accounting policies” in the “Financial information” section of our 2012 Annual Report for information on our accounting policies that relate to our se- curitization activities, primarily “Note 1 a) 3) Special purpose en- tities” and “Note 1a) 12) Securitization structures set up by UBS”. We disclose our intention to securitize exposures as an originator if assets are designated for securitization and a tenta- tive pricing date for a transaction is known as of the balance sheet date or if a pricing of a transaction has been fixed. In 2012, for the first time we included assets intended to be securitized for which a tentative transaction pricing date was set at the bal- ance sheet date. This scope change did not affect disclosed 2011 numbers. Exposures intended to be securitized continue to be valued in the same way until such time as the securitization transaction takes place. Presentation principles It is our policy to present Pillar 3 disclosures for securitization transactions and balances in line with the capital adequacy treat- ments which were applied under Pillar 1 in the respective period presented. We do not amend comparative prior period numbers for pre- sentational changes triggered by new and revised information from third-party data providers, as long as the updated informa- tion does not impact the Pillar 1 treatments of prior periods. Good practice guidelines On 18 December 2008, the European Banking Federation, the Association for Financial Markets in Europe, the European Savings Banks Group and the European Association of Public Banks and Funding Agencies published the “Industry good practice guide- lines on Pillar 3 disclosure requirement for securitization”. These guidelines were slightly revised in 2009 / 2010, and this report complies with that publication in all material respects. 207 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Securitization in the banking and trading book These tables outline the exposures, that is, the transaction size at inception we securitized in the banking and trading book in the years 2012 and 2011. The activity is further broken down by our role (originator / sponsor) and by type (traditional / synthetic). Amounts disclosed under the “Traditional” column of these tables reflect the total outstanding notes at par value issued by the securitization vehicle at issuance. For synthetic securitization transactions, the amounts disclosed generally reflect the balance sheet carrying values of the securitized exposures at issuance. For securitization transactions where we acted as originator, ex- posures are split into two parts, those in which we have retained securitization positions and / or continue to be involved on an on- going basis (e.g. credit enhancement, implicit support), and those in which we have no retained securitization positions and / or have no further involvement. Where we acted as both originator and sponsor to a securitiza- tion, originated assets are reported under “Originator”, and the total amount of the underlying assets securitized is reported un- der “Sponsor”. As a result, as of 31 December 2012 and 31 De- cember 2011, amounts of CHF 3.8 billion and CHF 2.8 billion, respectively, were included in the banking book table under both, “Originator” and “Sponsor”. Table 29: Securitization activity of the year in the banking book Originator Sponsor Traditional Synthetic Securitization positions retained No securitization positions retained Securitization positions retained No securitization positions retained Realized gains / (losses) on traditional securitizations Traditional Synthetic 3,768 166 7,189 3,768 0 6,735 6,735 0 166 7,189 0 2,789 80 6,232 2,789 0 0 0 80 6,232 0 CHF million Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other 1 Total 31.12.12 Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.11 1 New credit risk hedging transactions increased our position in synthetic securitizations in over-the-counter derivatives and loan exposures. These transactions are primarily used to reduce our credit risk by synthetically transferring counterparty risk. 208 Table 30: Securitization activity of the year in the trading book Originator Sponsor 1 Traditional Synthetic Securitization positions retained No securitization positions retained Securitization positions retained No securitization positions retained Realized gains / (losses) on traditional securitizations Traditional Synthetic 0 0 0 0 0 0 1,033 1,033 495 422 0 0 0 0 0 917 0 CHF million Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.12 Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.11 1 In 2012, we adjusted the scope of this disclosure such that we do not include sponsor-only activity where we do not retain a position. In these cases we advised the originator or placed securities in the market for a fee, and did not otherwise impact our capital. 31 December 2011 comparatives are presented on this adjusted basis. This better reflects the objective of the disclosure to provide transparency on the use of securitization transactions for risk management or funding purposes. 209 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Table 31: Outstanding securitized exposures This table outlines exposures (i.e. outstanding transaction size) in which we have originated and / or retained securitization positions at the balance sheet date in the banking or trading book and / or are otherwise involved on an ongoing basis (e.g. credit enhance- ment, implicit support). Amounts disclosed under the “Traditional” column in this ta- ble reflect the total outstanding notes at par value issued by the securitization vehicle. For synthetic securitization transactions, we generally disclose the balance sheet carrying values of the expo- sures securitized or, for hybrid structures, the outstanding notes at par value issued by the securitization vehicle. The table also includes securitization activities conducted in 2012 and 2011 in which we retained / purchased positions. These can also be found in the tables “Banking book / trading book – securitization activity of the year”. Where no positions were re- tained, the outstanding transaction size is only disclosed in the year of inception for originator transactions. All values in this table are as of the balance sheet date. Banking Book Trading Book 1 Originator Sponsor Originator Sponsor Traditional Synthetic Traditional Synthetic Traditional Synthetic 554 Synthetic Traditional 2 7,578 17,989 CHF million Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.12 Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.11 1,288 3,768 840 5,896 2,589 2,767 782 8,590 9,372 150 5,034 597 10,987 3,594 1,861 5,605 2,474 14,772 0 306 394 0 13,296 0 3,489 2,801 37,532 6,071 22,210 341 872 20,295 3,210 1,760 54,759 1,779 976 908 2,604 1,236 0 2,333 976 30,315 0 897 14,223 14,955 282 920 0 897 0 4,595 34,975 0 1 Until 31 December 2013 the higher of the net long or the net short securitization positions in the trading book are to be underpinned for the regulatory capital purposes. In line with our disclosure principles we disclose the UBS originated and sponsored deals only where the positions result in RWA or a capital deduction under Pillar 1. 2 In 2012, we have adjusted the scope of this disclosure such that we do not include sponsor-only activity where we do not retain a position. In these cases we advised the originator or placed securities in the market for a fee, and did not otherwise impact our capital. 31 December 2011 comparatives are presented on this adjusted basis. This better reflects the objective of the disclosure to provide transparency on the use of securitization transactions for risk management or funding purposes. 210 Table 32: Impaired or past due securitized exposures and losses related to securitized exposures in the banking book This table provides a breakdown of the outstanding impaired or past due exposures at the balance sheet date and 2012 losses recognized in our income statement for transactions in which we acted as originator or sponsor in the banking book. Losses are reported after taking into account the offsetting effects of any credit protection that is an eligible risk mitigation instrument under the Basel 2.5 framework for the retained or purchased positions. Where we did not retain positions, impaired or past due infor- mation is only reported in the year of inception of a transaction. Where available, past due information was derived from investor reports. Past due is generally defined as delinquency above 60 days. Where investor reports do not provide this information, al- ternative methods have been applied, which may include an as- sessment of the fair value of the retained position or reference assets, or identification of any credit events. CHF million Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 1 31.12.12 31.12.11 Originator Sponsor Originator Sponsor Impaired or past due in securitized exposures Recognized losses in income statement Impaired or past due in securitized exposures Recognized losses in income statement Impaired or past due in securitized exposures Recognized losses in income statement Impaired or past due in securitized exposures Recognized losses in income statement 791 373 67 1,232 0 1 1 67 68 468 761 0 787 2,016 0 0 8 0 1 9 1,531 43 5,547 1,010 8,131 2 4 1 7 1,486 975 1,122 30 3,613 1 11 1 4 5 4 26 1 Year-on-year reduction is mainly due to principal repayment / losses from underlying loans in retained positions, sales and the move of certain re-securitization positions to the trading book. Table 33: Exposures intended to be securitized in the banking and trading book This table provides the amount of exposures by exposure type we intend to securitize in the banking and trading book. We disclose our intention to securitize exposures as an originator if assets are designated for securitization and a tentative pricing date for a transaction is known at the balance sheet date or if a pricing of a transaction has been fixed. CHF million Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.12 31.12.11 Banking Book Trading Book Banking Book Trading Book 447 447 0 0 0 211 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Table 34: Securitization positions retained or purchased in the banking book This table provides a breakdown of securitization positions we retained or purchased in the banking book, irrespective of our role in the securitization transaction. The increase in the “Other” line is mainly due to new synthetic hedging transactions entered into in 2012. The value disclosed is either the net exposure amount at default subject to risk-weighting or the carrying value subject to capital deduction according to the Basel 2.5 framework at the balance sheet date. CHF million Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 1 31.12.12 31.12.11 On balance sheet Off balance sheet On balance sheet Off balance sheet 600 553 47 240 1 3,892 800 9,334 15,466 810 584 62 331 1 5,468 1,632 3,303 12,189 1,000 1,000 147 33 180 1 Amounts presented for 31 December 2012 include CHF 0.7 billion which were deducted from capital – refer to “Table 37: Positions deducted from BIS tier 1 and BIS tier 2 capital”. The exposure excluding items deducted from capital (approximately CHF 15 billion) is also disclosed in the “Securitization / Re-securitization exposures” line of “Table 2: Detailed segmentation of BIS Basel 2.5 risk-weighted assets”. 212 Table 35: Securitization positions retained or purchased in the trading book This table provides a breakdown of securitization positions we purchased or retained in the trading book subject to the securi- tization framework for specific market risk, irrespective of our role in the securitization transaction. Gross long and gross short amounts reflect the positions prior to the eligible offsetting of cash and derivative positions. Net long and net short amounts are the result of offsetting cash and derivative positions to the extent eligible under Basel 2.5. The amounts disclosed are either the fair value or, in the case of derivative positions, the aggre- gate of the notional amount and the associated replacement value at the balance sheet date. Cash positions Derivative positions Total CHF million Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.12 1 Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.11 1 Gross long Gross short Gross long Gross short 49 869 3 7 1 411 15 1,355 212 482 3 4 6 1 4 4 395 299 1,410 25 3 1 29 2 12 4 14 8 40 1,066 5,871 1,175 6,704 235 7,172 807 6,467 551 8,430 1,068 3 7,059 3 939 84 17 7,376 150 200 9,416 Net long 2 141 923 3 7 1 168 14 1,257 526 1,317 3 3 5 1 3 4 480 199 2,542 Net short 125 926 81 1 1,134 549 2,125 469 4 163 197 3,506 1 Leveraged super senior tranches and re-securitized corporate credit exposure (both subject to the securitization framework) are not included in this table, but disclosed in “Table 41: Correlation products subject to the comprehensive risk measure or the securitization framework for specific risk” (re-securitized corporate credit exposure only for 2011). 2 31 December 2012 includes CHF 0.2 billion (CHF 0.6 billion as of 31 December 2011) which is deducted from capital and disclosed in “Table 37: Positions deducted from BIS tier 1 and BIS tier 2 capital”. The net exposure at default of CHF 6.5 billion as of 31 December 2012 disclosed in “Table 2: Detailed segmentation of BIS Basel 2.5 risk-weighted assets” (line “Securitization / re-securitization exposures”) comprises of the total net long position of CHF 1.3 billion (included in this table) and CHF 5.4 billion for leveraged super senior tranches less securitizations subject to capital deductions of CHF 0.2 billion (“Table 37: Positions deducted from BIS tier 1 and BIS tier 2 capital”). 3 In 2012, 31 December 2011 figures have been restated due to a reclassification of positions from Residential mortgages to Commercial mortgages. The reclassification did neither impact our risk-weighted assets nor our eligible capital. 213 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Table 36: Capital requirement for securitization / re-securitization positions retained or purchased in the banking book The table provides the capital requirements for securitization and re-securitization positions we purchased or retained in the bank- ing book, irrespective of our role in the securitization transaction, split by risk weight bands and regulatory capital approach. The tables below exclude securitization and re-securitization positions deducted from capital. 31.12.12 31.12.11 Ratings-based approach Supervisory formula approach Ratings-based approach Supervisory formula approach Securitization Re-securitization Securitization Re-securitization Securitization Re-securitization Securitization Re-securitization 4 40 10 7 4 17 23 44 114 263 5 9 1 23 65 103 49 2 45 27 7 4 7 10 47 87 49 0 237 1 1 38 2 1 4 14 61 15 15 0 CHF million over 0 – 10% over 10 – 15% over 15 – 20% over 20 – 35% over 35 – 50% over 50 – 75% over 75 – 100% over 100 – 250% over 250 – 1,250% Total 1 1 Refer to “Table 2: Detailed segmentation of BIS Basel 2.5 risk-weighted assets”; on 31 December 2012, CHF 5.5 billion (on 31 December 2011, CHF 4.1 billion) banking book securitization exposures translate to a capital requirement of overall CHF 0.4 billion (on 31 December 2011, CHF 0.3 billion) without applying a scaling factor of 1.06. Table 37: Positions deducted from BIS tier 1 and BIS tier 2 capital This table outlines the capital deductions related to securitization positions we retained or purchased in the banking- and trading book, irrespective of our role in the securitization transaction. The significant reduction at year end 2012 compared to 2011 year end is mainly due to sales of retained or purchased securitiza- tion positions which were subject to a capital deduction. As of 31 December 2012, we did not have securitization positions or credit-enhancing interest-only strips that were required to be de- ducted entirely from BIS tier 1 capital. CHF million Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.12 31.12.11 Banking Book deductions Trading Book deductions Banking Book deductions 147 201 27 14 1 43 154 65 652 19 71 93 183 672 242 38 27 1 496 432 1,116 3,024 Trading Book deductions 87 1 264 1 4 1 230 6 591 1 In 2012, December 2011 figures have been restated due to a reclassification of positions from Residential mortgages to Commercial mortgages. The reclassification did neither impact our risk-weighted assets nor our eligible capital. 214 Securitization exposures subject to early amortizations in the banking and trading book In 2012 and 2011, we had no securitization structures in the banking and trading book that are subject to early amortization treat- ment. Table 38: Re-securitization positions retained or purchased in the banking book The upper part of this table shows the total of re-securitization positions (cash as well as synthetic) held in the banking book, bro- ken down into positions for which credit risk mitigation has been recognized and those for which no credit risk mitigation has been recognized. Credit risk mitigation includes protection bought by entering into credit derivatives with third-party protection sellers, as well as financial collateral received. Both bought credit protec- tion and financial collateral must be eligible under Basel 2.5 regu- lations. The lower part of this table shows the re-securitization posi- tions which have an integrated insurance wrapper, split into posi- tions with investment grade, sub-investment grade and defaulted insurance. The values disclosed in both tables are the net expo- sure amount at default at the balance sheet date. CHF million Total 31.12.12 Total 31.12.11 With credit risk mitigation Without credit risk mitigation 0 0 947 1,632 Re-securitization positions with integrated insurance wrapper broken down according to guarantor credit worthiness categories 1 CHF million 0–5 6–13 14 Total 31.12.12 0–5 6–13 14 Total 31.12.11 1 Internal UBS rating. Investment grade Sub-investment grade Defaulted Investment grade Sub-investment grade Defaulted Total 947 1,632 22 22 6 34 16 57 215 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Table 39: Re-securitization positions retained or purchased in the trading book The upper part of the table below outlines re-securitization posi- tions retained or purchased subject to the securitization frame- work for specific market risk held in the trading book on a gross long and gross short basis, including synthetic long and short po- sitions resulting from derivative transactions. It also includes posi- tions on a net long and net short basis, that is, gross long and short positions after offsetting to the extent it is eligible under Basel 2.5. The lower part of the table discloses the total re-securi- tization positions which have an integrated insurance wrapper, split by positions with investment grade, sub-investment grade and defaulted insurance. CHF million Total 31.12.12 Total 31.12.11 Gross long Gross short Net long Net short 646 480 554 163 168 480 Re-securitization positions with integrated insurance wrapper broken down according to guarantor credit worthiness categories 1 CHF million 0–5 6–13 14 Total 31.12.12 CHF million 0–5 6–13 14 Total 31.12.11 1 Internal UBS rating. Investment grade Sub-investment grade Defaulted Investment grade Sub-investment grade Defaulted 42 2 25 69 3 3 46 0 18 64 31 31 3 2 10 15 3 3 216 81 163 7 3 10 31 31 Table 40: Aggregated amount of securitized exposures subject to the market risk approach This table provides a split of the total outstanding exposures we have securitized in the trading book in the role of originator and / or sponsor. Disclosure is made only where we have retained positions in the trading book. The amount disclosed is the notional amount of the outstanding notes issued by the securitization vehicle at the balance sheet date. Originator Sponsor Synthetic Traditional Synthetic CHF million Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Traditional 554 Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.12 1 Residential mortgages Commercial mortgages Credit card receivables Leasing Loans to corporates or small and medium-sized enterprises Consumer loans Student loans Trade receivables Re-securitizations Other Total 31.12.11 1 1,779 2,333 897 976 976 897 0 7,578 17,989 908 2,604 1,236 30,315 14,223 14,955 282 920 4,595 34,975 0 0 1 Until 31 December 2013, the higher of the net long or the net short securitization positions in the trading book are to be underpinned for the regulatory capital purposes. In line with our disclosure principles, we disclose the UBS originated and sponsored deals only where the positions result in RWA or a capital deduction under Pillar 1. 217 Risk, treasury and capital management Risk, treasury and capital management Basel 2.5 Pillar 3 Table 41: Correlation products subject to the comprehensive risk measure or the securitization framework for specific risk This table outlines products in the correlation portfolio that we retained or purchased in the trading book, irrespective of our role in the securitization transaction. They are either subject to the comprehensive risk measure or the securitization framework for specific risk. Correlation products subject to the securitization framework are leveraged super senior positions. The values dis- closed are market values for cash positions, replacement values and notional values for derivative positions. Derivatives are split by positive replacement value and negative replacement value which is a change from the “Basel 2.5 Pillar 3” section of the Annual Report 2011 where derivative positions were split by long and short positions. This aligns the format of the disclosure with the presentation of derivatives in the Financial statements. Compara- tives as of 31 December 2011 are presented on this changed basis. CHF million 31.12.12 Positions subject to comprehensive risk measure Positions subject to securitization framework 1 31.12.11 Positions subject to comprehensive risk measure Positions subject to securitization framework 1 Cash positions Derivative positions Assets Liabilities Assets Liabilities Market value Market value Positive replacement value Positive replacement value notionals Negative replacement value Negative replacement value notionals 191 1,748 167 44 1,067 4,518 152 8,742 432 110,653 12,316 113,842 24,757 4,949 52 9,377 376 91,266 20,810 98,182 10,690 1 Includes leveraged super senior tranches and for 31 December 2011 additionally re-securitized corporate credit exposure. Table 42: Securitization positions and capital requirement for trading book positions subject to the securitization framework This table outlines securitization positions we purchased or retained and the capital charge in the trading book subject to the securiti- zation framework for specific market risk, irrespective of our role in the securitization transaction, broken down by risk weight bands and regulatory capital approach. The amounts disclosed for securitization positions are market values at the balance sheet date after eligible netting under Basel 2.5. This table does not contain capital deductions. Ratings-based approach Supervisory formula approach Ratings-based approach Supervisory formula approach 31.12.12 31.12.11 Capital require- ment Net long Net short Capital require- ment Net long Net short 2,998 1 CHF million over 0 – 10% over 10 – 15% over 15 – 20% over 20 – 35% over 35 – 50% over 50 – 75% over 75 – 100% over 100 – 250% over 250 – 1,250% Total 2 Net long Net short 987 1 7 442 293 135 38 93 20 29 1,057 987 0 0 7 7 5 2 7 4 12 45 332 80 348 372 118 139 297 78 185 Capital require- ment Net long Net short Capital require- ment 2 6 9 4 8 13 12 75 130 0 0 0 0 0 0 1,950 2,998 1 As per FINMA Circular “Market-risk Banks”, only the higher of the net long or the net short securitization positions in the trading book are to be underpinned for the regulatory capital purposes. The interim relief is granted until 31 December 2013. After the transition period both net long and net short positions require a capital charge. The amount disclosed under net short is for information only, i.e. a 0% risk weight was ap- plied. 2 Leveraged super senior tranches (subject to the securitization framework) are not included in this table, but disclosed in “Table 41: Correlation products subject to the comprehensive risk measure or the secu- ritization framework for specific risk”. 218 Table 43: Capital requirement / Deductions for securitization positions related to correlation products This table outlines the capital requirement for securitization positions in the trading book for correlation products, including positions subject to comprehensive risk measure and positions related to leveraged super senior positions and certain re-securitized corporate credit exposures positions subject to the securitization framework. Our model does not distinguish between “default risk”, “migration risk” and “correlation risk”. CHF million Positions subject to comprehensive risk measure Positions subject to securitization framework 1 31.12.12 31.12.11 Capital requirement Capital deduction Capital requirement Capital deduction 714 86 690 121 9 1 Leveraged super senior tranches and and for 31 December 2011 additionally re-securitized corporate credit exposure. 219 Risk, treasury and capital management Corporate governance, responsibility and compensation Audited information according to the Swiss Code of Obligations and applicable regulatory requirements and guidance Disclosures provided in line with the requirements of articles 663bbis and 663c para. 3 of the Swiss Code of Obligations (supplemen- tary disclosures for companies whose shares are listed on a stock exchange: compensations and participations) and applicable regula- tions and guidance are also included in the audited financial statements of UBS AG (Parent Bank) in the “Financial information” section of this report. Tables containing such information are marked by a bar “audited” throughout this section. Information assured according to the Global Reporting Initiative (GRI) Content of the sections “Corporate responsibility” and “Our employees” has been reviewed by Ernst & Young Ltd. against the GRI Sustainability Reporting Guidelines for application level A+, as evidenced in the Ernst & Young assurance report on www.ubs.com/ global/en/about_ubs/corporate_responsibility/commitment_strategy/reporting_assurance.html. The assurance by Ernst & Young also covered other relevant text and data in the Annual Report 2012 and on the website of UBS which is referenced in the GRI Index (www.ubs.com/gri) Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance Corporate governance Our corporate governance principles are designed to support our objective of sustainable profitability, as well as to create value and protect the interests of our shareholders and other stakeholders. We use the term “corporate governance” when referring to the organizational structure of UBS and operational practices of our management. We are subject to, and act in compliance with, all relevant Swiss legal and regulatory requirements regarding corporate gover- nance, including the SIX Swiss Exchange’s (SIX) Directive on Infor- mation Relating to Corporate Governance, as well as the stan- dards established in the Swiss Code of Best Practice for Corporate Governance, including the appendix on executive compensation. In addition, as a foreign company with shares listed on the New York Stock Exchange (NYSE), we are in compliance with all relevant corporate governance standards applicable to foreign listed companies. Based on article 716b of the Swiss Code of Obligations and ar- ticles 24 and 26 of the Articles of Association of UBS AG (Articles of Association), the Board of Directors (BoD) has adopted the Orga- nization Regulations of UBS AG (Organization Regulations), which constitute our corporate governance guidelines. The currently ap- plicable Organization Regulations date from 1 January 2013. The BoD has also adopted the currently applicable UBS Code of Busi- ness Conduct and Ethics (the Code) in September 2012. ➔ Refer to www.ubs.com/governance for the Articles of Association, the Organization Regulations and the Code Differences from corporate governance standards relevant to US-listed companies According to the NYSE listing standards on corporate governance, foreign private issuers are required to disclose any significant ways in which their corporate governance practices differ from those to be followed by domestic companies. Responsibility of the Audit Committee for appointment, compen- sation, retention and oversight of the independent auditors The Audit Committee has been assigned all the abovementioned responsibilities, except for appointment of the independent audi- tors, who are elected by the shareholders as per Swiss company law. The Audit Committee assesses the performance and qualifi- cation of the external auditors and submits its proposal for ap- pointment, reappointment or removal to the full BoD, which brings its proposal to the shareholders for vote at the Annual General Meeting of Shareholders (AGM). Discussion of risk assessment and risk management policies by the Risk Committee In accordance with our Organization Regulations, the Risk Committee has the authority to define our risk principles and risk capacity. The Risk Committee is responsible for monitoring our adherence to those risk principles and for monitoring whether business divisions and con- trol units run appropriate systems for risk management and control. Supervision of the internal audit function The Chairman of the BoD (Chairman), the Risk Committee and the Audit Committee share responsibility for and authority to su- pervise the internal audit function. Responsibility of the Human Resources and Compensation Committee for oversight of management and evaluation by the Board of Directors Performance evaluations of our senior management, comprising the Group Chief Executive Officer (Group CEO) and Group Execu- tive Board members, are completed by the Chairman and the Hu- man Resources and Compensation Committee, and are reported to the full BoD. Responsibility of the Governance and Nominating Committee for the evaluation of the Board of Directors The BoD has direct responsibility and authority to evaluate its own performance, with preparation by the Governance and Nomi- nating Committee. All BoD committees perform a self-assessment of their activities and report back to the full BoD. Proxy statement reports of the Audit Committee and Human Resources and Compensation Committee Under Swiss company law, all reports addressed to shareholders are provided and signed by the full BoD, which has ultimate re- sponsibility vis-à-vis shareholders. The committees submit their reports to the full BoD. Shareholders’ votes on equity compensation plans Swiss company law authorizes the BoD to approve compensation plans. Though Swiss law does not allocate such authority to share- holders as part of the AGM, it requires that Swiss companies deter- mine the nature and components of capital in their articles of as- sociation, and each increase in capital is required to be submitted for shareholder approval. This means that, if equity-based compen- sation plans result in a need for an increase in capital, AGM ap- proval is mandatory. If, however, shares for such plans are pur- chased in the market, shareholders do not have approval authority. ➔ Refer to the “Board of Directors” section for more information about the Board of Directors’ committees ➔ Refer to the “Capital structure” section for more information on capital 222 Group structure and shareholders UBS Group legal entity structure Listed and non-listed companies belonging to the Group Under Swiss company law, UBS AG is organized as an Aktien- gesellschaft (AG), a corporation that has issued shares of common stock to investors. UBS AG is the parent bank (Parent Bank or UBS) of the UBS Group (Group). Our legal entity structure is designed to support our businesses with an efficient legal, tax and funding framework considering regulatory restrictions in the countries where we operate. Neither our business divisions nor the Corporate Center are separate legal entities; they primarily operate out of the Parent Bank, UBS AG, through its branches worldwide. This structure is designed to capitalize on the increased business opportunities and cost effi- ciencies offered by the use of a single legal platform, and to en- able the flexible and efficient use of capital. Where it is neither possible nor efficient to operate out of the Parent Bank, busi- nesses operate through local subsidiaries. This can be the case when required for legal, tax or regulatory purposes, or when legal entities join the Group through acquisition. Operational Group structure On 31 December 2012, the operational structure of the Group comprised five business divisions: Wealth Management, Wealth Management Americas, Investment Bank, Global Asset Manage- ment and Retail & Corporate, as well as the Corporate Center with its components, Core Functions and Legacy Portfolio. ➔ Refer to the “Financial and operating performance” section and “Note 2a Segment Reporting” in the “Financial information” section of this report for more information The Group includes a number of consolidated entities, none of which, however, are listed companies on the stock exchange, other than UBS AG. ➔ Refer to “Note 34 Significant subsidiaries and associates” in the “Financial information” section of this report for details of the significant subsidiaries of the Group Significant shareholders Under the Federal Act on Stock Exchanges and Securities Trading of 24 March 1995, as amended (the Swiss Stock Exchange Act), anyone holding shares in a company listed in Switzerland, or holding derivative rights related to shares of such a company, must notify the company and the SIX Swiss Exchange (SIX), if the holding attains, falls below or exceeds one of the following threshold percentages: 3, 5, 10, 15, 20, 25, 331⁄3, 50, or 662⁄3% of the voting rights, whether they are exercisable or not. The detailed disclosure requirements and the methodology for calcu- lating the thresholds are defined in the Swiss Financial Market Supervisory Authority (FINMA) Ordinance on Stock Exchanges and Securities Trading (SESTO-FINMA). In particular, the SESTO- FINMA sets forth that all future potential share obligations irre- spective of their possible contingent nature must be taken into account, and prohibits the netting of acquisition positions (in particular shares, conversion rights and acquisition rights or obli- gations) with disposal positions (i.e. rights or obligations to sell). It also requires that each such position be calculated separately and reported as soon as it reaches one of the abovementioned d e t i d u A Shareholders registered in the UBS share register with 3% or more of total share capital % of share capital Chase Nominees Ltd., London Government of Singapore Investment Corp., Singapore DTC (Cede & Co.), New York 1 Nortrust Nominees Ltd., London 1 DTC (Cede & Co.), New York, “The Depository Trust Company”, is a US securities clearing organization. 31.12.12 11.94 6.40 5.28 3.84 31.12.11 10.95 6.41 7.07 4.20 31.12.10 10.70 6.41 7.32 3.79 223 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance thresholds. Nominee companies which cannot autonomously de- cide how voting rights are exercised are not obligated to notify UBS and SIX if they reach, exceed or fall below the threshold percentages. In addition, pursuant to the Swiss Code of Obligations, UBS must disclose in the notes to its financial statements the identity of any shareholder with a holding of more than 5% of the total share capital of UBS AG. According to disclosure notifications filed with UBS AG and the SIX under the Swiss Stock Exchange Act, on 30 September 2011, Norges Bank (the Central Bank of Norway), Oslo, disclosed a hold- ing of 3.04%. On 12 March 2010, the Government of Singapore Investment Corp., Singapore, as beneficial owner, disclosed a hold- ing by the Government of Singapore Investment Corp. of 6.45%. On 17 December 2009, BlackRock Inc., New York, disclosed a hold- ing of 3.45%. In accordance with the Swiss Stock Exchange Act, the percentages indicated above were calculated in relation to the total UBS share capital reflected in the Articles of Association at the time of the respective disclosure notification. Information on disclo- sures under the Swiss Stock Exchange Act can be found on the following website of the SIX: www.six-exchange-regulation.com/ obligations/disclosure/major_shareholders_en.html. According to our share register, the shareholders (acting in their own name or in their capacity as nominees for other inves- tors or beneficial owners) listed in the table on the previous page were registered with 3% or more of the total share capital on 31 December 2012, 2011 and 2010. Cross-shareholdings We have no cross-shareholdings in excess of a reciprocal 5% of capital or voting rights with any other company. 224 Capital structure Capital Under Swiss company law, shareholders must approve in a share- holders’ meeting any increase in the total number of issued shares, which may arise from an ordinary share capital increase, or the creation of conditional or authorized capital. At year-end 2012, 3,835,250,233 shares were issued with a par value of CHF 0.10 each, leading to a share capital of CHF 383,525,023.30. Conditional share capital At year-end 2012, the following conditional share capital was available to the Board of Directors (BoD): – At the Annual General Meeting of Shareholders (AGM) held in 2006, shareholders approved conditional capital in the maxi- mum amount of 150,000,000 fully paid regis tered shares, with a nominal value of CHF 0.10 each, to be used for employee option grants. Options are exercisable at any time between their vesting and expiration dates. Shareholders have no pre- emptive rights. In 2012, options on 3,128,334 shares were exercised under the option plans with a total of 145,510,992 conditional capital shares being available to satisfy further ex- ercises of options. – At the AGM held in 2009, our shareholders approved the creation of conditional capital for the potential issuance of 100,000,000 fully paid registered shares, with a nominal value of CHF 0.10 each, in the event of the exercise of warrants granted to the Swiss National Bank (SNB) in connection with the loan granted by the SNB to the SNB StabFund. Sharehold- ers have no pre-emptive rights. The SNB as owner of the war- rants shall be entitled to subscribe for the new shares. – At the AGM held in 2010, shareholders approved conditional capital in the amount of up to 380,000,000 fully paid regis- tered shares, with a nominal value of CHF 0.10 each, for the exercise of conversion rights and / or warrants granted in con- nection with the issuance of bonds or similar financial instru- ments by UBS or one of its group companies. Shareholders have no pre-emptive rights. The owners of conversion rights and / or warrants would be entitled to subscribe to the new shares. At year-end 2012, the BoD had not made use of the allowance to issue bonds or warrants with conversion rights covered by conditional share capital. ➔ Refer to the discussion of “UBS shares” in the “Capital manage- ment” section of this report for more information on conditional share capital Authorized share capital The BoD has no authorized share capital available. Changes of shareholders’ equity and shares According to International Financial Reporting Standards (IFRS), Group equity attributable to UBS shareholders amounted to CHF 45.9 billion on 31 December 2012 (2011: CHF 48.5 billion; 2010: CHF 43.7 billion). UBS Group shareholders’ equity was represent- ed by 3,835,250,233 issued shares on 31 December 2012 (2011: 3,832,121,899; 2010: 3,830,840,513). ➔ Refer to the “Statement of changes in equity” in the “Financial information” section of this report for more information on changes in shareholders’ equity over the last three years Shares and participation certificates We have only one unified class of shares issued. Our shares are issued in registered form, and are traded and settled as global registered shares. Each registered share has a par value of CHF 0.10 and carries one vote subject to the restrictions set out under “Transferability, voting rights and nominee registration”. Global registered shares provide direct and equal ownership for all share- holders, irrespective of the country and stock exchange on which they are traded. Ownership of UBS shares is widely spread. The tables on the following page provide information about the distribution of our shareholders by category and geographical location. This informa- tion relates only to registered shareholders and cannot be as- sumed to be representative of our entire investor base nor the actual beneficial ownership. Only shareholders registered in the share register as “shareholders with voting rights” are entitled to exercise voting rights. ➔ Refer to the “Shareholders’ participation rights” section of this report for more information On 31 December 2012, 2,093,113,878 shares carried voting rights, 425,566,918 shares were entered in the share register without voting rights, and 1,316,569,437 shares were not regis- tered. All 3,835,250,233 shares were fully paid up and eligible for dividends. There are no preferential rights for shareholders, and no other classes of shares are issued by the Parent Bank. At year-end 2012, we owned UBS registered shares corre- sponding to 2.3% of the total share capital of UBS AG. At the same time, we had disposal positions relating to 422,236,769 225 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance d e t i d u A Distribution of UBS shares On 31 December 2012 Number of shares registered 1–100 101–1,000 1,001–10,000 10,001–100,000 100,001–1,000,000 1,000,001–5,000,000 5,000,001–38,352,502 (1%) 1–2% 2–3% 3–4% 4–5% Over 5% Total registered Unregistered 3 Total shares issued Shareholders registered Shares registered Number 36,523 175,175 96,582 9,932 831 97 25 0 2 1 0 3 1 319,171 % 11.4 54.9 30.3 3.1 0.3 0.0 0.0 0.0 0.0 0.0 0.0 0.0 100.0 Number % of shares issued 2,094,363 80,703,313 268,211,534 254,257,984 205,015,248 205,566,885 253,469,711 0 196,546,584 147,144,758 0 905,670,416 2,518,680,796 2 1,316,569,437 3,835,250,233 0.1 2.2 7.0 6.6 5.3 5.4 6.6 0.0 5.1 3.8 0.0 23.6 65.7 34.3 100.0 1 On 31 December 2012, Chase Nominees Ltd., London, entered as a trustee / nominee, was registered with 11.94% of all UBS shares issued. However, according to the provisions of UBS, voting rights of a trustee / nominee are limited to a maximum of 5% of all UBS shares issued. The US securities clearing organization DTC (Cede & Co), New York, was registered with 5.28% of all UBS shares issued and is not subject to this 5% voting limit as securities clearing organization. The same applies to the Government of Singapore Investment Corp., Singapore, which is registered as beneficial owner with 6.40% of all UBS shares issued. 2 Of the total shares registered, 425,566,918 shares did not carry voting rights. 3 Shares not entered in the share register on 31 December 2012. Shareholders: type and geographical distribution d e t i d u A On 31 December 2012 Individual shareholders Legal entities Nominees, fiduciaries Unregistered Total Americas of which: USA Asia Pacific Europe, Middle East and Africa of which: Germany of which: UK of which: Rest of Europe of which: Middle East and Africa Switzerland Unregistered Total Share capital d e t i d u A On 31 December 2010 Issue of shares out of conditional capital due to employee options exercised On 31 December 2011 Issue of shares out of conditional capital due to employee options exercised On 31 December 2012 226 Shareholders registered Shares registered Number 311,923 6,722 526 % 97.7 2.1 0.2 Number 645,899,792 715,669,363 1,157,111,641 1,316,569,437 % 16.8 18.7 30.2 34.3 319,171 100.0 3,835,250,233 100.0 10,508 9,228 6,755 17,734 5,417 6,126 5,855 336 3.3 2.9 2.1 5.6 1.8 1.9 1.8 0.1 442,964,426 436,853,595 337,130,466 948,286,653 27,657,258 723,850,149 195,478,601 1,300,645 284,174 89.0 790,299,251 1,316,569,437 11.5 11.4 8.9 24.7 0.7 18.9 5.1 0.0 20.6 34.3 319,171 100.0 3,835,250,233 100.0 Share capital in CHF Number of shares Par value in CHF 383,084,051 3,830,840,513 128,139 1,281,386 383,212,190 3,832,121,899 312,833 3,128,334 383,525,023 3,835,250,233 0.10 0.10 0.10 0.10 0.10 voting rights of UBS AG, corresponding to 11.02% of the total voting rights of UBS AG. 8.20% of this consisted of voting rights on shares deliverable in respect of employee awards. The calcula- tion methodology for the disposal position is based on the SESTO- FINMA, which sets forth that all future potential share delivery obligations irrespective of the contingent nature of the delivery must be taken into account. We have no participation certificates outstanding. Transferability, voting rights and nominee registration We do not apply any restrictions or limitations on the transfer- ability of shares. Voting rights may be exercised without any re- strictions by shareholders entered into the share register, if they expressly render a declaration of beneficial ownership according to the provisions of the Articles of Association. We have special provisions for the registration of fiduciaries and nominees. Fiduciaries and nominees are entered in the share register with voting rights up to a total of 5% of all issued UBS shares, if they agree to disclose upon our request, beneficial own- ers holding 0.3% or more of all issued UBS shares. An exception to the 5% voting limit rule exists for securities clearing organiza- tions, such as The Depository Trust Company in New York. ➔ Refer to the “Shareholders’ participation rights” section of Convertible bonds and options On 31 December 2012, there were no contingent capital securi- ties or convertible bonds outstanding requiring the issuance of new shares. ➔ Refer to the “Capital management” section for information on our outstanding capital instruments In connection with the loan granted by the Swiss National Bank (SNB) to the SNB StabFund, we have issued warrants granted to the SNB sourced by conditional capital for which 100,000,000 shares were approved by our shareholders. The warrants are exer- cisable only if the SNB incurs a loss on its loan to the fund. On 31 December 2012, there were 191,230,290 employee op- tions outstanding, including stock appreciation rights. Delivery obligations equivalent to 17,831,904 shares were exercisable. We source our option-based compensation plans either by purchasing UBS shares in the market, or through the issuance of new shares out of conditional capital. On 31 December 2012, 74,085,342 treasury shares were available for this purpose, and an additional 145,510,992 unissued shares in conditional share capital were as- signed to future employee option exercises. At year-end 2012, the shares available covered all exercisable employee obligations. ➔ Refer to the discussion of “UBS shares” in the ”Capital manage- this report for more information ment” section of this report for more information 227 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance Shareholders’ participation rights We are committed to shareholder participation in our decision- making process. Around 320,000 directly registered shareholders, as well as some 90,000 US shareholders registered via nominee companies, are regularly informed about our activities and perfor- mance as well as personally invited to shareholder meetings. Since March 2013, our shareholder portal (www.ubs.com/ shareholderportal) allows our registered shareholders to access personalized services and important information about share register entries and our shareholder meetings year-round. The shareholder portal enables registered shareholders to enter their voting instructions electronically ahead of our shareholder meetings. Shareholders can verify their voting instructions be- fore and after shareholder meetings using an encryption meth- od (crypto graphy). This method of encryption ensures that the voting instructions remain secret throughout the entire voting process. In addition, shareholders can order admission cards and register changes to their address details. It also enables them to manage their subscriptions to shareholder-related pub- lications and to communicate directly with UBS Shareholder Services via a secure channel. The shareholder portal is fully integrated into our internet platform. shareholders with large stakes being entered in the share register. Securities clearing organizations, such as The Depository Trust Company in New York, are not subject to this 5% voting limit. In order to be recorded in the share register with voting rights, shareholders must confirm that they acquired UBS shares in their own name and for their own account. Nominee companies and trustees are required to sign an agreement confirming their will- ingness to disclose, upon our request, individual beneficial owners holding more than 0.3% of all issued UBS shares. All shareholders registered with voting rights are entitled to participate in shareholder meetings. If they do not wish to attend in person, they can issue instructions to accept, reject or abstain on each individual item on the meeting agenda, either by giving instructions to an independent proxy designated by UBS or by ap- pointing another bank or another registered shareholder of their choice to vote on their behalf. Alternatively, registered sharehold- ers can issue their voting instructions to the independent proxy electronically using our shareholder portal. Nominee companies normally submit the proxy material to the beneficial owners and transmit the collected votes to the independent proxy. ➔ Refer to the “Information policy” section of this report for more Statutory quorums information Relationships with shareholders We fully subscribe to the principle of equal treatment of all share- holders, who range from large institutions to individual investors, and regularly inform them about the development of the com- pany. The Annual General Meeting of Shareholders (AGM) offers shareholders the opportunity to raise any questions regarding our development and the events of the year that are under review. Members of both the Board of Directors (BoD) and Group Execu- tive Board (GEB), as well as our internal and external auditors, are present to answer these questions. Voting rights, restrictions and representation Shareholder resolutions, including the election and reelection of BoD members and the appointment of the auditors are decided at the AGM by an absolute majority of the votes cast, excluding blank and invalid ballots. Swiss company law requires that, for certain specific issues, a majority of two-thirds of the votes repre- sented at the AGM, and the absolute majority of the par value of shares represented at the AGM, must vote in favor of the resolu- tion for it to be approved. These issues include the creation of shares with privileged voting rights, the introduction of restric- tions on the transferability of registered shares, conditional and authorized capital increases, and restrictions or exclusions of shareholders’ pre-emptive rights. The Articles of Association also require a two-thirds majority of votes represented for approval of any change to its provisions re- garding the number of BoD members, and any decision to remove a quarter or more of the BoD members. We place no restrictions on share ownership and voting rights. However, nominee companies and trustees, who normally repre- sent a large number of individual shareholders and may hold an unlimited number of shares, have voting rights limited to a maxi- mum of 5% of all issued UBS shares to avoid the risk of unknown Votes and elections are normally conducted electronically to as- certain the exact number of votes cast. Voting by a show of hands remains possible if a clear majority is predictable. Shareholders representing at least 3% of the votes represented may request that a vote or election takes place electronically or by written ballot. In 228 order to allow shareholders to clearly express their views on all indi- vidual topics, each item on the agenda is put to a vote separately and BoD elections are made on a person-by-person basis. Convocation of general meetings of shareholders The AGM must occur within six months of the close of the finan- cial year and normally takes place in late April or early May. A personal invitation including a detailed agenda and explana- tion of each motion is sent to every registered shareholder at least 20 days ahead of the scheduled AGM. The meeting agenda is also published in the Swiss Official Gazette of Commerce and in selected Swiss newspapers as well as on the internet at www.ubs.com/agm. Extraordinary General Meetings may be convened whenever the BoD or the auditors consider it necessary. Shareholders indi- vidually or jointly representing at least 10% of the share capital may at any time ask in writing for an Extraordinary General Meet- ing to be convened to address a specific issue put forward by them. Such a request may also be brought forward during the AGM. Placing of items on the agenda Pursuant to our Articles of Association, shareholders individually or jointly representing shares with an aggregate par value of CHF 62,500 may submit proposals for matters to be placed on the agenda for consideration at the next shareholders’ meeting. We publish the deadline for submitting such proposals in the Swiss Official Gazette of Commerce and on our website www. ubs.com/agm. Requests for items to be placed on the agenda must include the actual motions to be put forward, together with a short explanation, if necessary. The BoD formulates opinions on the proposals, which are published together with the motions. Registrations in the share register The general rules for entry with voting rights into our Swiss share register also apply before shareholder meetings. The same rules apply for our US transfer agent that operates the US share register for all UBS shares in a custodian account in the US. There is no closing of the share register in the days before the shareholder meeting. Registrations, including the transfer of voting rights, are processed for as long as technically possible, normally until two days before the shareholder meeting. 229 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance Board of Directors The Board of Directors (BoD), under the leadership of the Chairman, decides on the strategy of the Group upon recom- mendation of the Group Chief Executive Officer (Group CEO), exercises the ultimate supervision over senior management, and appoints all Group Executive Board (GEB) members. The BoD also approves all financial statements for issue. Shareholders elect each member of the BoD, which in turn appoints its Chairman, Vice Chairmen, Senior Independent Director, mem- bers of BoD committees, their respective Chairpersons and the Company Secretary. Members of the Board of Directors At the Annual General Meeting of Shareholders (AGM) held on 3 May 2012, Michel Demaré, David Sidwell, Rainer-Marc Frey, Ann F. God behere, Axel P. Lehmann, Wolfgang Mayrhuber, Helmut Panke, William G. Parrett and Joseph Yam were reelected as their terms of office expired. Kaspar Villiger and Bruno Gehrig did not stand for reelection. Isabelle Romy, Axel A. Weber and Beatrice Weder di Mauro were elected to their first term on the BoD. Following their election, Axel A. Weber replaced Kaspar Vil- liger as full-time Chairman of the BoD and the BoD appointed Michel Demaré as Vice Chairman and David Sidwell as Senior In- dependent Director. The following biographies provide information on the BoD mem- bers and the Company Secretary. Axel A. Weber German, born 8 March 1957 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Functions in UBS Chairman of the Board of Directors / Chairperson of the Governance and Nominating Committee / member of the Corporate Responsibility Committee Year of initial appointment: 2012 Professional history and education Axel A. Weber was elected to the Board of Directors (BoD) at the 2012 AGM and was thereafter appointed Chairman of the BoD. He chairs the Governance and Nominating Committee and became a member of the Corporate Responsibility Committee in 2012. Mr. Weber was president of the German Bundesbank between 2004 and 2011, during which time he also served as a member of the Governing Council of the European Central Bank, a member of the Board of Directors of the Bank for International Settlements, German governor of the International Monetary Fund, and as a member of the G7 and G20 Ministers and Governors. He was a member of the steering committees of the European Systemic Risk Board in 2011 and the Financial Stability Board from 2010 to 2011. On leave from the University of Cologne from 2004 to 2012, he was a visiting professor at the University of Chicago Booth School of Business from 2011 to 2012. From 2002 to 2004 Mr. Weber served as a member of the German Council of Economic Experts. He was a professor of international economics and Director of the Center for Financial Research at the University of Cologne from 2001 to 2004, and a professor of monetary econom- ics and Director of the Center for Financial Studies at the Goethe University in Frankfurt/Main from 1998 to 2001. Mr. Weber holds a PhD in economics from the University of Siegen, where he also received his habilitation. He graduated with a mas- ter’s degree in economics at the University of Constance and holds honorary doctorates from the universities of Duisburg- Essen and Constance. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Weber is a member of the Group of Thirty, Washington, D.C., and a research fellow at the Center for Economic Policy Research in London and at the Center for Financial Research in Cologne. He is a member of the board of the International Institute of Finance, a senior research fellow at the Center for Financial Studies in Frankfurt/Main and a member of the Monetary Economics and International Economics Councils of the leading association of German-speaking economists, the Verein für Socialpolitik. In addition, he is a member of the Advisory Board of the German Market Economy Foundation and a member of the Advisory Council (Hochschulrat) of the Goethe University in Frankfurt/Main. 230 Professional history and education Michel Demaré was elected to the BoD at the 2009 AGM, and in April 2010, was appointed independent Vice Chairman. He has been a member of the Audit Committee since 2009 and the Governance and Nominating Committee since 2010. Mr. Demaré joined ABB in 2005 as Chief Financial Officer (CFO) and as a member of the Group Executive Committee. He stepped down from his function in ABB in January 2013. Between February and August 2008 he acted as the interim CEO of ABB. From September 2008 to March 2011 he combined his role as CFO with that of President of Global Markets. Mr. Demaré joined ABB from Baxter International Inc., where he was CFO Europe from 2002 to 2005. Prior to this, he spent 18 years at the Dow Chemical Company, holding various treasury and risk management positions in Belgium, France, the US and Switzerland. Between 1997 and 2002 Mr. Demaré was the CFO of the Global Polyolefins and Elastomers division. He began his career as an officer in the multinational banking division of Continental Illinois National Bank of Chicago, and was based in Antwerp. Mr. Demaré graduated with an MBA from the Katholieke Universiteit Leuven, Belgium, and holds a degree in applied economics from the Université Catholique de Louvain, Belgium. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Demaré is a member of the board of Syngenta, of the IMD Foundation in Lausanne and of SwissHoldings in Berne. Professional history and education David Sidwell was elected to the BoD at the 2008 AGM. In April 2010, he was appointed Senior Independent Director. He has chaired the Risk Committee since 2008 and has been a member of the Governance and Nominating Committee since 2011. Mr. Sidwell was Executive Vice President and CFO of Morgan Stanley between 2004 and 2007. Before joining Morgan Stanley he worked for JPMorgan Chase & Co., where, in his 20 years of service, he held a number of different positions, including controller and, from 2000 to 2004, CFO of the Investment Bank. Prior to this, he was with Price Waterhouse in both London and New York. Mr. Sidwell graduated from Cambridge University and qualified as a chartered accountant with the Institute of Chartered Accountants in England and Wales. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Sidwell is a director and Chairperson of the Risk Policy and Capital Committee of Fannie Mae, Washington, D.C., and is a senior advisor at Oliver Wyman, New York. He is the Chairman of the Board of Village Care, New York, and is a director of the National Council on Aging, Washington, D.C. Professional history and education Rainer-Marc Frey was elected to the BoD at the October 2008 Extraordinary General Meeting and has been a member of the Human Resources and Compensation Committee since 2012 and of the Risk Committee since 2008. Mr. Frey is the founder of the investment management company Horizon21 AG. He is Chairman of Horizon21 AG as well as its holding company and related entities and subsidiaries. In 1992, he founded and was appointed CEO of RMF Investment Group. RMF was acquired by Man Group plc in 2002. Between 2002 and 2004 he held a number of senior roles within Man Group. From 1989 to 1992 Mr. Frey served as a director at Salomon Brothers in Zurich, Frankfurt and London, where he was primarily involved with equity derivatives. Between 1987 and 1989 he worked for Merrill Lynch covering equity, fixed income and swaps markets. Mr. Frey holds a degree in economics from the University of St. Gallen. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Frey is a member of the board of DKSH Group, Zurich, as well as of the Frey Charitable Foundation, Freienbach. Michel Demaré Belgian, born 31 August 1956 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Functions in UBS Independent Vice Chairman / member of the Audit Committee / member of the Governance and Nominating Committee Year of initial appointment: 2009 David Sidwell American (US) and British, born 28 March 1953 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Functions in UBS Senior Independent Director / Chairperson of the Risk Committee / member of the Governance and Nominating Committee Year of initial appointment: 2008 Rainer-Marc Frey Swiss, born 10 January 1963 Office of Rainer-Marc Frey, Seeweg 39, CH-8807 Freienbach Functions in UBS Member of the Human Resources and Compensation Committee / member of the Risk Committee Year of initial appointment: 2008 231 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance Professional history and education Ann F. Godbehere was elected to the BoD at the 2009 AGM. She has chaired the Human Resources and Compensation Committee since 2011 and has been a member of the Audit Committee since 2009. Ms. Godbehere was appointed CFO and Executive Director of Northern Rock in February 2008, serving in these roles during the initial phase of the business’s public ownership until the end of January 2009. Prior to this role, she served as CFO of Swiss Re Group from 2003 to 2007. Ms. Godbehere was CFO of its Property & Casualty division in Zurich for two years. Before this she served as CFO of the Life & Health division in London for three years. From 1997 to 1998 she was CEO of Swiss Re Life & Health in Canada. Between 1996 and 1997 she was CFO of Swiss Re Life & Health North America. Ms. Godbehere is a certified general accountant and in 2003 was made a fellow of the Certified General Accountants Association of Canada. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Ms. Godbehere is a board member and Chairperson of the audit committees of Prudential plc, Rio Tinto plc and Rio Tinto Limited in London. She is on the board of Atrium Underwriters Ltd. and Atrium Underwriting Group Ltd., London, and chairs the audit committee. She is also a member of the boards of Arden Holdings Ltd., Bermuda, and of British American Tobacco plc. Professional history and education Axel P. Lehmann was elected to the BoD at the 2009 AGM and has been a member of the Governance and Nominating Committee since 2011 and of the Risk Committee since 2009. He is a member of the Group Executive Committee of Zurich Insurance Group (Zurich) and has been Group Chief Risk Officer since January 2008 and Regional Chairman Europe since October 2011. In July 2011, he was appointed Chairman of the Board of Farmers Group, Inc., and was responsible for Group IT from 2008 to 2010. In September 2004, Mr. Lehmann was appointed CEO of Zurich American Insurance Company and the North America Commercial business division in Schaumburg, Illinois. He became a member of Zurich’s Group Executive Committee and CEO of its Continental Europe business division in 2002, and was in 2004 responsible for integrating it with UK, Ireland and South Africa. In 2001, he took over responsibility for Northern, Central and Eastern Europe and was ap- pointed CEO of Zurich Group Germany. In 2000, Mr. Lehmann became a member of the Group Management Board with responsibility for group-wide business development functions. Mr. Lehmann holds a PhD and a master’s degree in business administration and economics from the University of St. Gallen. He is also a graduate of the Wharton Advanced Management Program and an honorary professor of business administration and service management at the University of St. Gallen. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Lehmann is Chairman of the Board of the Institute of Insurance Economics at the University of St. Gallen, and is a member of the Chief Risk Officer Forum and a board member of Economiesuisse. Professional history and education Wolfgang Mayrhuber was elected to the BoD at the 2010 AGM. He has chaired the Corporate Responsibility Committee since 2011 and has been a member of the Human Resources and Compensation Committee since 2010. He was Chairman of the Executive Board and CEO of Deutsche Lufthansa AG from 2003 to 2010. In 2002, he was elected Deputy Chairman of the Executive Board and, in 2001, he was appointed to the Executive Board with responsibility for the passenger airline business. From 1994 to the end of 2000 he was Chairman of the Executive Board of the newly founded Lufthansa Technik AG. After holding a variety of management positions in the maintenance, repair and overhaul division, he was appointed Executive Vice President and Chief Operating Officer Technical in 1992. In 1970, he joined Lufthansa as an engineer at the engine overhaul facility in Hamburg. Mr. Mayrhuber studied mechanical engineering (dipl. Ing.) at the Technical College in Steyr, Austria, and at the Bloor Collegiate Institute in Canada. In 1990, he completed an executive management training course at the MIT. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Mayrhuber is Chairman of the Supervisory Board and Chairperson of the Mediation Committee, the Nomination Committee and the Executive Committee of Infineon Technologies AG, as well as a member of the supervisory boards of Munich Re Group, BMW Group, Lufthansa Technik AG and Austrian Airlines AG. Furthermore, he serves on the board of HEICO Corporation, Hollywood, FL, and the executive board of Acatech (Deutsche Akademie der Technikwissenschaften). Ann F. Godbehere Canadian and British, born 14 April 1955 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Functions in UBS Chairperson of the Human Resources and Compensation Committee / member of the Audit Committee Year of initial appointment: 2009 Axel P. Lehmann Swiss, born 23 March 1959 Zurich Insurance Group, Mythenquai 2, CH-8002 Zurich Functions in UBS Member of the Governance and Nominating Committee / member of the Risk Committee Year of initial appointment: 2009 Wolfgang Mayrhuber Austrian, born 22 March 1947 Deutsche Lufthansa AG, Aviation Center, D-60546 Frankfurt am Main Functions in UBS Chairperson of the Corporate Responsibility Committee / member of the Human Resources and Compensation Committee Year of initial appointment: 2010 232 Professional history and education Helmut Panke was elected to the BoD at the 2004 AGM. He has been a member of the Human Resources and Compensation Committee and the Risk Committee since 2008. Between 2002 and 2006 Mr. Panke was Chairman of the Board of Management of BMW Group after becoming a member of BMW’s Board of Management in 1996. Between 1993 and 1996 he was Chairman and CEO of BMW Holding Corporation in the US. Subsequent to joining BMW as Head of Planning and Controlling, Research and Development in 1982, he assumed management functions in corporate planning, organization and corporate strategy. Prior to this, he worked as a consultant at McKinsey & Company in both Düsseldorf and Munich. Mr. Panke graduated from the University of Munich with a PhD in physics, and undertook research work at both the University of Munich and the Swiss Institute for Nuclear Research. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Panke is a member of the boards of Microsoft Corporation (Chairperson of the Regulatory and Public Policy Committee) and Singapore Airlines Ltd. (Chairperson of the Safety & Risk Committee). He is a member of the supervisory board of Bayer AG. Professional history and education William G. Parrett was elected to the BoD at the October 2008 Extraordinary General Meeting. He has chaired the Audit Committee since 2009 and has been a member of the Corporate Responsibility Committee since 2012. Mr. Parrett served his entire career with Deloitte Touche Tohmatsu. He was CEO from 2003 until his retirement in 2007. Between 1999 and 2003 he was a Managing Partner of Deloitte & Touche USA LLP and served on Deloitte’s Global Executive Committee between 1999 and 2007. Mr. Parrett founded Deloitte’s US National Financial Services Industry Group in 1995 and its Global Financial Services Industry Group in 1997, both of which he led as Chairman. In his 40 years of experience in profes- sional services, Mr. Parrett served public, private, governmental, and state-owned clients worldwide. Mr. Parrett has a bachelor’s degree in accounting from St. Francis College, New York, and is a certified public accountant. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Parrett is on the boards of the Eastman Kodak Company, the Blackstone Group LP, and Thermo Fisher Scientific Inc., and chairs each company’s audit committee. He is also Past Chairman of the Board of the United States Council for International Business and United Way Worldwide, and a Carnegie Hall Board of Trustees member. Professional history and education Isabelle Romy was elected to the BoD at the 2012 AGM. She has been a member of the Audit Committee and the Governance and Nominating Committee since 2012. Ms. Romy is a partner at Froriep Renggli, a large Swiss business law firm. From 1995 to 2012 she worked for another major Swiss law firm based in Zurich, where she was a partner from 2003 to 2012. Her legal practice includes litigation and arbitration in cross-border cases. Ms. Romy has been an associate profes- sor at the University of Fribourg and at the Federal Institute of Technology in Lausanne (EPFL) since 1996. Between 2003 and 2008 she served as a deputy judge at the Swiss Federal Supreme Court. From 1999 to 2006 she was a member of the Ethics Commission at the EPFL. Ms. Romy completed her PhD (Dr. iur.) at the University of Lausanne in 1990 and has been a qualified attorney-at-law admitted to the bar since 1991. From 1992 to 1994 she was a visiting scholar at Boalt Hall School of Law, University of California, Berkeley, and completed her professorial thesis at the University of Fribourg in 1996. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Ms. Romy has been a member of the sanction commission of SIX Swiss Exchange since 2002, serving as Vice Chairman since 2008. Helmut Panke German, born 31 August 1946 BMW AG, Petuelring 130, D-80788 Munich Functions in UBS Member of the Human Resources and Compensation Committee / member of the Risk Committee Year of initial appointment: 2004 William G. Parrett American (US), born 4 June 1945 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Functions in UBS Chairperson of the Audit Committee / member of the Corporate Responsibility Committee Year of initial appointment: 2008 Isabelle Romy Swiss, born 4 January 1965 Froriep Renggli, Bellerivestrasse 201, CH-8034 Zurich Functions in UBS Member of the Audit Committee / member of the Governance and Nominating Committee Year of initial appointment: 2012 233 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance Professional history and education Beatrice Weder di Mauro was elected to the BoD at the 2012 AGM. She has been a member of the Audit Committee and Corporate Responsibility Committee since 2012. She has been a professor of economics, economic policy and international macroeconomics at the Johannes Gutenberg University of Mainz since 2001. Ms. Weder di Mauro was a member of the German Council of Economic Experts from 2004 to 2012. In 2010, she was a resident scholar at the International Monetary Fund (IMF) in Washington, D.C., and in 2006 a visiting scholar at the National Bureau of Economic Research, Cambridge, MA. Since 2003 Ms. Weder di Mauro has been a research fellow of the Center for Economic Policy Research in London. She was an associate professor of economics at the University of Basel between 1998 and 2001 and a research fellow at the United Nations University in Tokyo from 1997 to 1998. Prior to this she worked as an economist for the World Bank and the IMF in Washington, D.C. Ms. Weder di Mauro completed her PhD in economics at the University of Basel in 1993 and received her habilitation there in 1999. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Ms. Weder di Mauro is on the board of Roche Holding Ltd., Basel, and on the supervisory boards of ThyssenKrupp AG, Essen, and the Deutsche Investitions- und Entwicklungsgesellschaft, Cologne. Professional history and education Joseph Yam was elected to the BoD at the 2011 AGM. He has been a member of the Corporate Responsibility Committee and the Risk Committee since 2011. He is Executive Vice President of the China Society for Finance and Banking and in that capacity has served as an advisor to the People’s Bank of China since 2009. Mr. Yam was instrumental in the establishment of the Hong Kong Monetary Authority and served as Chief Executive from 1993 until his retirement in 2009. He began his career in Hong Kong as a statistician in 1971 and served the public for over 38 years. During his service, he occupied several positions such as Director of the Office of the Exchange Fund from 1991, Deputy Secretary for Monetary Affairs from 1985 and Principal Assistant Secretary for Monetary Affairs from 1982. Mr. Yam graduated from the University of Hong Kong in 1970 with first class honors in social sciences. He holds honorary doctorate degrees and professorships from a number of universities in Hong Kong and overseas. Mr. Yam is a Distinguished Research Fellow of the Institute of Global Economics and Finance at the Chinese University of Hong Kong. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Yam sits on the international advisory councils of a number of government and academic institutions. He is a board member and chairs the Risk Committee of the China Construction Bank. He is on the boards of Johnson Electric Holdings Limited and UnionPay International Co., Ltd. Professional history and education Luzius Cameron was appointed Company Secretary by the BoD for the first time in 2005. He is a Group Managing Director and was appointed to the former Group Managing Board in 2002. From 2002 to 2005 Mr. Cameron was the Director of Strategic Planning and New Business Development, Wealth Management USA. Prior to this role, he was Head of Group Strategic Analysis, and before that, Head of Corporate Business Analysis. Mr. Cameron joined Swiss Bank Corporation in 1989, where he started out in Corporate Controlling before assuming a number of senior roles at Warburg Dillon Read, including Chief of Staff to the Chief Operating Officer in London and Business Manager of the Global Rates Business in Zurich. From 1984 to 1989 he was a lecturer in astrophysics at the University of Basel. Between 1980 and 1989 he was a research analyst at the Institute of Astronomy at the University of Basel and European Southern Observatory. Mr. Cameron holds a PhD in astrophysics from the University of Basel. Beatrice Weder di Mauro Italian and Swiss, born 3 August 1965 Johannes Gutenberg-University Mainz, Jakob Welder-Weg 4, D-55099 Mainz Functions in UBS Member of the Audit Committee / member of the Corporate Responsibility Committee Year of initial appointment: 2012 Joseph Yam Chinese and Hong Kong citizen, born 9 September 1948 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Functions in UBS Member of the Corporate Responsibility Committee / member of the Risk Committee Year of initial appointment: 2011 Company Secretary Luzius Cameron Australian and Swiss, born 11 September 1955 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Function in UBS Company Secretary since 2005 234 Elections and terms of office In accordance with article 19 para. 1 of the Articles of Association, all BoD members are to be elected on an individual basis for a one-year term of office. As a result, shareholders must confirm the entire membership of the BoD on a yearly basis at the next AGM, which will take place on 2 May 2013. BoD members are normally expected to serve for a minimum of three years. No BoD member can serve for more than 10 con- secutive terms of office or continue to serve beyond the AGM held in the calendar year following his 70th birthday; in excep- tional circumstances the BoD can extend both these limits. Organizational principles and structure The Organization Regulations were revised during 2012 and are valid as of 1 January 2013. The main changes made included reflecting “Wealth Management” and “Retail & Corporate” as sep- arate business divisions, the joint responsibility assigned to the Audit Committee and the Risk Committee with regard to Group Internal Audit, the transfer of the succession planning for all GEB members from the Human Resources and Compensation Committee to the Governance and Nominating Committee and the introduction of a new section regarding “Global Recovery and Resolution Planning”. Following each AGM, the BoD meets to appoint its Chairman, Vice Chairmen, Senior Independent Director, BoD committee members and their respective Chairpersons. At the same meeting, the BoD appoints a Company Secretary, who acts as secretary to the BoD and its committees. According to the Articles of Association, the BoD meets as often as business requires, but must meet at least six times a year. In 2012, a total of 27 meetings were held, eight times with the presence of GEB members and 19 times for meetings and calls without GEB participation. On average, 90% of BoD members were present at BoD meetings without GEB participation, and 91% at meetings with GEB participation. The average duration of these meetings and calls was two and a half hours. In addition, the BoD met for a one-day seminar. At every BoD meeting, each committee chairperson provides the BoD with updates on current activities of his or her committee as well as important committee issues. At least once per year, the BoD reviews its own performance as well as the performance of each of its committees. This review is based on an assessment of the BoD under the auspices of the Governance and Nominating Committee, as well as a self-assess- ment of the BoD committees, and seeks to determine whether the BoD and its committees are functioning effectively and effi- ciently. The last self-assessment was completed in spring 2012 and the BoD found that it is operating effectively. In spring 2013, the assessment will be conducted by an external company. The committees listed below assist the BoD in the performance of its responsibilities. These committees and their charters are described in the Organization Regulations, published on www. ubs.com/governance. Audit Committee The Audit Committee comprises five BoD members, with all members having been determined by the BoD to be fully indepen- dent and financially literate. On 31 December 2012, William G. Parrett chaired the Audit Committee with Michel Demaré, Ann F. Godbehere, Isabelle Romy and Beatrice Weder di Mauro as additional members. All members have accounting or related financial management expertise and the majority qualify as “financial expert” in terms of the rules established pursuant to the US Sarbanes-Oxley Act of 2002. The Audit Committee itself does not perform audits, but moni- tors the work of the external auditors, Ernst & Young Ltd., Basel (Ernst & Young), who in turn are responsible for auditing UBS’s and the Group’s annual financial statements and for reviewing the quarterly financial statements. The function of the Audit Committee is to serve as an indepen- dent and objective body with oversight of: (i) the UBS Group’s accounting policies, financial reporting and disclosure controls and procedures; (ii) the quality, adequacy and scope of external audit; (iii) UBS’s compliance with financial reporting requirements; (iv) the senior management’s approach to internal controls with respect to the production and integrity of the financial statements and disclosure of the financial performance; and (v) the perfor- mance of Group Internal Audit in conjunction with the Chairman and the Risk Committee. For these purposes, the Audit Commit- tee has the authority to meet with regulators and external bodies in consultation with the Group CEO. Senior management is re- sponsible for the preparation, presentation and integrity of the financial statements. The Audit Committee reviews the annual and quarterly finan- cial statements of UBS and the Group, as proposed by manage- ment, with the external auditors and Group Internal Audit in or- der to recommend their approval (including any adjustments the Audit Committee considers appropriate) to the BoD. Periodically, and at least annually, the Audit Committee as- sesses the qualifications, expertise, effectiveness, independence and performance of the external auditors and their lead audit partner, in order to support the BoD in reaching a decision in rela- tion to the appointment or dismissal of the external auditors and the rotation of the lead audit partner. The BoD then submits these proposals for approval at the AGM. During 2012, the Audit Committee held a total of 10 meetings and 15 telephone conferences. The meetings had an average du- ration of three hours and the telephone conferences lasted ap- proximately one hour. Participation was 93%. Also present at the meetings were the Group Chief Financial Officer (Group CFO), the Head Group Internal Audit, the Group Finance Chief Operating Officer, the Head of Group Controlling & Accounting and Ernst & Young. The conference calls were conducted in the presence of the Audit Committee members, the Group CFO and selected management members. Joint Audit Committee / Risk Committee sessions were held at least every quarter. In addition, the Audit Committee held one session with FINMA. The Audit Committee reports back to the BoD about its discus- 235 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance sions with our external auditors. Once per year, the lead represen- tatives of our external auditors present their long-form report to the BoD, as required by FINMA. The NYSE listing standards on corporate governance set more stringent independence requirements for members of audit com- mittees than for the other members of the BoD. Each of the five members of our Audit Committee is an external BoD member who, in addition to satisfying our independence criteria, does not receive, directly or indirectly, any consulting, advisory or other compensatory fees from UBS other than in his or her capacity as a BoD member; does not hold, directly or indirectly, UBS shares in excess of 5% of the outstanding capital; and (except as noted below) does not serve on the audit committees of more than two other public companies. The NYSE listing standards on corporate governance allow for an exemption for audit committee members to serve on more than three audit committees of public compa- nies, provided that all BoD members determine that the candidate has the time and the availability to fulfill his or her obligations. Considering the credentials of William G. Parrett and Ann F. God- behere, the BoD has granted this exemption in their cases. Corporate Responsibility Committee The Corporate Responsibility Committee supports the BoD in fulfilling its duty to safeguard and advance the Group’s reputa- tion for responsible corporate conduct. It reviews and assesses stakeholder concerns and expectations for responsible corporate conduct and their possible consequences for UBS, and recom- mends appropriate actions to the BoD. The majority of the Cor- porate Responsibility Committee’s members must be indepen- dent. The Corporate Responsibility Committee comprises four independent BoD members and, on 31 December 2012, was chaired by Wolfgang Mayrhuber with Axel A. Weber, William G. Parrett, Beatrice Weder di Mauro and Joseph Yam as additional members. The Corporate Responsibility Committee is advised and supported by a number of senior business representatives. It met twice for approximately one and a half hours on average in 2012, and 90% of Corporate Responsibility Committee mem- bers were present. ➔ Refer to the “Corporate responsibility” section of this report for more information Governance and Nominating Committee The Governance and Nominating Committee supports the BoD in fulfilling its duty to establish best practices in corporate gover- nance across the Group, to conduct a BoD annual self-assess- ment, to establish and maintain a process for appointing new BoD and GEB members (in the latter case, upon proposal by the Group CEO), and to manage the succession planning of all GEB members. The Governance and Nominating Committee compris- es four independent BoD members and, on 31 December 2012, Axel A. Weber chaired the Governance and Nominating Commit- tee, with Michel Demaré, Axel P. Lehmann, Isabelle Romy and David Sidwell as additional members. In 2012, eight meetings were held with an average participation of 85% of members and a duration averaging one hour. One meeting was held with exter- nal advisors. Human Resources and Compensation Committee The Human Resources and Compensation Committee is respon- sible for the following functions: (i) supporting the BoD in its du- ties to set guidelines on compensation and benefits; (ii) approving the total compensation for the Chairman and the non-indepen- dent BoD members; (iii) proposing, together with the Chairman, total individual compensation for the independent BoD members and Group CEO for approval by the BoD; and (iv) proposing to the BoD for approval, upon recommendation of the Group CEO, the total individual compensation for GEB members. The Human Resources and Compensation Committee also reviews the com- pensation disclosure included in this report. The Human Resources and Compensation Committee com- prises four independent BoD members and, on 31 December 2012, Ann F. Godbehere chaired it with Rainer-Marc Frey, Wolf- gang Mayrhuber and Helmut Panke as additional members. In 2012, six meetings and seven telephone conferences were held with an average duration of 100 minutes and participation rate of 85%. Of those meetings and calls, 11 were held with external advisors and 13 with the Chairman and Group CEO. ➔ Refer to the “Compensation governance” section of this report for more information on the Human Resources and Compensa- tion Committee’s decision-making procedures Risk Committee The Risk Committee is responsible for overseeing and supporting the BoD in fulfilling its duty to supervise and set appropriate risk management and control principles in the following areas: (i) risk management and control, including credit, market, country, legal and operational risks; (ii) treasury and capital management, includ- ing funding, liquidity and equity attribution; and (iii) balance sheet management. The Risk Committee considers the potential effects of the aforementioned risks on the Group’s reputation. For these purposes, the Risk Committee receives all relevant information from the GEB and has the authority to meet with regulators and external bodies in consultation with the Group CEO. On 31 December 2012, the Risk Committee comprised five independent BoD members. David Sidwell chaired the Risk Committee with Rainer-Marc Frey, Axel P. Lehmann, Helmut Panke and Joseph Yam as additional members. During 2012, the Risk Committee held a total of eight meetings and six calls, with an average participation rate of 87% of members. The average meeting duration was five and a half hours and the calls lasted approximately one hour and a quarter. The Audit Committee Chairperson regularly attended part or all of the Risk Committee meetings. In 2012, the Chairman, the Group CEO, the Group CFO, the Group Chief Risk Officer, the Group General Counsel, the co-CEOs or the CEO of the Invest- ment Bank, the Group Treasurer, the Head Group Internal Audit and Ernst & Young were also regularly present. In addition, the Risk Committee and Human Resources and Compensation Com- mittee met jointly to discuss topics on which they have shared 236 responsibility. Annually, one session is held with the Governing Board of the SNB and one with FINMA. Two meetings were held with the Federal Reserve Bank of New York and the Connecticut Department of Banking and one meeting was held with the UK Financial Services Authority. Ad-hoc Strategy Committee In 2012, an ad-hoc committee on strategy (the Strategy Commit- tee) was created to discuss details of the acceleration of UBS’s strategy with the senior management. On 31 December 2012, the Strategy Committee comprised four BoD members. Axel A. Weber chaired the Strategy Committee with Michel Demaré, Rainer-Marc Frey and David Sidwell as additional members. Two telephone conferences and one meeting were held with an aver- age duration of 60 minutes and participation of 92%. All these events were attended by the Group CEO, the Group CFO and the Group Chief Operating Officer. Special Committee conducting an independent internal investigation In light of the unauthorized trading incident announced in Sep- tember 2011, the BoD in the same month created a Special Com- mittee comprised of three independent Risk Committee and Au- dit Committee members. Its role was, with assistance from Group Internal Audit, to conduct an independent internal investigation into the event, its causes, disciplinary consequences and proposed remedial actions, and to report its findings to the BoD. David Sidwell chaired the Special Committee with Ann F. God- behere and Joseph Yam as additional members. In 2012, the com- mittee held five conference calls and one meeting. All of the Spe- cial Committee members were present and the meetings lasted for one hour on average. In June the committee decided that, for the time being, no further Special Committee meetings or actions were required and that the Special Committee would going for- ward be convened if necessary. Roles and responsibilities of the Chairman of the Board of Directors Axel A. Weber, the Chairman of the BoD (Chairman), has entered into a full-time employment contract with UBS in connection with his service on the BoD. The Chairman coordinates the tasks within the BoD, calls BoD meetings and sets their agendas. Under the leadership of the Chairman, the BoD decides on the strategy of the Group upon the recommendation of the Group CEO, exercises the ultimate super- vision over management and appoints all GEB members. The Chairman presides over all our shareholders’ meetings, and works with the committee chairpersons to coordinate the work of all BoD committees. Together with the Group CEO, the Chairman is responsible for ensuring effective communication with shareholders and other stakeholders, including government officials, regulators and public organizations. This is in addition to establishing and maintaining a close working relationship with the Group CEO and the other GEB members, providing advice and support while respecting the fact that day-to-day manage- ment responsibility is delegated to the GEB. Roles and responsibilities of the Vice Chairmen and the Senior Independent Director The BoD appoints one or more Vice Chairmen and a Senior Inde- pendent Director. If the BoD appoints more than one Vice Chair- man, one of them must be independent. Michel Demaré has been appointed as Vice Chairman and David Sidwell has been appointed as Senior Independent Director. A Vice Chairman is required to lead the BoD in the absence of the Chairman and to provide support and advice to the Chairman. At least twice a year, the Senior Inde- pendent Director organizes and leads a meeting of the indepen- dent BoD members in the absence of the Chairman. In 2012, three independent BoD meetings were held for a duration of one and a half hours each. The Senior Independent Director relays any issues or concerns of independent BoD members to the Chairman and acts as a contact point for shareholders and stakeholders wishing to engage in discussions with an independent BoD member. Important business connections of independent members of the Board of Directors with UBS As a global financial services provider and a major bank in Swit- zerland, we have business relationships with many large compa- nies, including those in which our BoD members assume manage- ment or independent board responsibilities. The Governance and Nominating Committee determines if the nature of the relation- ships between UBS and the companies whose chair, chief execu- tive or other officer is a member of our BoD does not compromise his or her capacity for independent judgment. Our Organization Regulations require three-quarters of the BoD members to be independent. As a general rule, for a BoD member to be considered independent, he or she may not have a material relationship with UBS, either directly or as a partner, con- trolling shareholder or executive officer of a company that has a relationship with UBS. In addition, in order to be considered inde- pendent, our BoD members have to fulfill the additional criteria our BoD has established based on the requirements set forth in the NYSE listing standards on corporate governance, the FINMA Circular 08 / 24 on the supervision and internal controls at banks and the standards established in the Swiss Code of Best Practice for Corporate Governance. These criteria, together with a defini- tion of what constitutes a material relationship, are published on our website under www.ubs.com/governance. Based thereupon, on 31 December 2012, all our BoD members were considered independent by the BoD, with the exception of our Chairman Axel A. Weber. In accordance with the abovemen- tioned independence criteria and due to our Chairman’s full-time employment by UBS AG, he is not considered independent. All relationships and transactions with UBS’s independent BoD members are conducted in the ordinary course of business, and 237 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance are on the same terms as those prevailing at the time for compa- rable transactions with non-affiliated persons. All relationships and transactions with UBS BoD members’ associated companies are conducted at arm’s length. ➔ Refer to “Note 32 Related parties” in the “Financial information” section of this report for more information Checks and balances: Board of Directors and Group Executive Board We operate under a strict dual board structure, as mandated by Swiss banking law. The separation of responsibilities between the BoD and the GEB is clearly defined in the Organization Regula- tions. The BoD decides on the strategy of the Group upon the recommendation of the Group CEO, and supervises and moni- tors the business, whereas the GEB, headed by the Group CEO, has executive management responsibility. The functions of Chair- man of the BoD and Group CEO are assigned to two different people, ensuring a separation of power. This structure establishes checks and balances and preserves the institutional indepen- dence of the BoD from the day-to-day management of the firm, for which responsibility is delegated to the GEB under the leader- ship of the Group CEO. No member of one board may be a mem- ber of the other. Supervision and control of the GEB remains with the BoD. The authorities and responsibilities of the two bodies are governed by the Articles of Association and the Organization Regulations, including the latter document’s “Annex B – Responsibilities and authorities”. Information and control instruments vis-à-vis the Group Executive Board The BoD is kept informed of the activities of the GEB in various ways. The minutes of the GEB meetings are made available to the BoD members. At BoD meetings, the Group CEO and GEB mem- bers regularly update the BoD on important issues. At BoD meetings, BoD members may request from BoD or GEB members any information about matters concerning UBS that they require to fulfill their duties. Outside meetings, BoD mem- bers may request information from other BoD and GEB members, in which case such requests must be approved by the Chairman. Group Internal Audit independently, objectively and systemati- cally assesses the adherence to our strategy, effectiveness of gov- ernance, risk management and control processes at Group, divi- sional and regional levels, and monitors compliance with legal, regulatory and statutory requirements, as well as with internal policies and contracts. This internal audit organization has a func- tional reporting line to the Risk Committee and the Audit Com- mittee in line with their responsibilities as set forth in our Organi- zation Regulations. The Risk Committee and the Audit Committee must be informed of the results of the annual internal audit plan and status of annual internal audit objectives and must be in reg- ular contact with the Head Group Internal Audit. Our compliance function provided an annual compliance re- port to the BoD in March 2012. This report is required by sections 109 and 112 of the FINMA Circular 08 / 24 on the supervision and internal controls at banks. ➔ Refer to the “Risk management and control” section of this ➔ Refer to www.ubs.com/governance for more details on checks report for more information and balances for the BoD and GEB 238 Group Executive Board UBS operates under a strict dual board structure, as required by Swiss banking law. The management of the business is delegated by the BoD to the Group Executive Board (GEB). Members of the Group Executive Board and changes in 2012 Since the first quarter of 2012, UBS has reported Wealth Manage- ment and Retail & Corporate as separate business divisions, with Wealth Management & Swiss Bank ceasing to exist as a business division. Lukas Gähwiler became CEO of Retail & Corporate in addition to his position as CEO of UBS Switzerland, and Jürg Zeltner became CEO of UBS Wealth Management. On 22 March 2012, the Board appointed Andrea Orcel as co-CEO of the Invest- ment Bank alongside Carsten Kengeter, effective 1 July 2012. On 1 April 2012, Alexander Wilmot-Sitwell stepped down as co-CEO of UBS Group Asia Pacific and GEB member. As a consequence Chi-Won Yoon became sole CEO of UBS Group Asia Pacific on that date. On 1 November 2012, Andrea Orcel became sole CEO of the Investment Bank and Carsten Kengeter stepped down from the GEB to lead the management of the businesses and positions to be exited by the Investment Bank. In spring 2013, the GEB decided that all responsibilities and authorities of the Corporate Center CEO are assumed by the Group Chief Operating Officer and to eliminate the role of the Corporate Center CEO. The following biographies provide information on the GEB members. Professional history and education Sergio P. Ermotti was appointed Group CEO in November 2011, having held the position of Group CEO on an interim basis since September 2011. Mr. Ermotti became a member of the GEB in April 2011 and was Chairman and CEO of UBS Group Europe, Middle East and Africa from April to November 2011. From 2007 to 2010 he was Group Deputy Chief Executive Officer at UniCredit, Milan, and was responsible for the strategic business areas of Corporate and Investment Banking, and Private Banking. He joined UniCredit in 2005 as Head of Markets & Investment Banking Division. Between 2001 and 2003 he worked at Merrill Lynch, serving as co-Head of Global Equity Markets and as a member of the Executive Management Committee for Global Markets & Investment Banking. He began his career with Merrill Lynch in 1987, and held various positions within equity derivatives and capital markets. Mr. Ermotti is a Swiss-certified banking expert and is a graduate of the Advanced Management Program at Oxford University. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Ermotti is a non-executive director of the London Stock Exchange Group. Professional history and education Markus U. Diethelm was appointed Group General Counsel of UBS and became a member of the GEB in September 2008. From 1998 to 2008 he served as Group Chief Legal Officer at Swiss Re, and was appointed to its Group Executive Board in 2007. Prior to that, he was at the Los Angeles-based law firm Gibson, Dunn & Crutcher, and focused on corporate matters, securities transactions, litigation and regulatory investigations while working out of the firm’s Brussels and Paris offices. From 1989 to 1992 he practiced at Shearman & Sterling in New York, specializing in mergers and acquisitions. In 1988, he worked at Paul, Weiss, Rifkind, Wharton & Garrison in New York, after starting his career in 1983 with Bär & Karrer. Mr. Diethelm holds a law degree from the University of Zurich and a master’s degree and PhD from Stanford Law School. Mr. Diethelm is a qualified attorney-at-law admitted to the bar in Zurich and in New York State. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Diethelm is Chairman of the Swiss-American Chamber of Commerce’s legal committee, and a member of the Swiss Advisory Council of the American Swiss Foundation, of the UBS Foundation of Economics in Society and of the Conseil de Fondation du Musée International de la Croix-Rouge et du Croissant-Rouge. Sergio P. Ermotti Swiss, born 11 May 1960 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Function in UBS Group CEO Year of initial appointment: 2011 Markus U. Diethelm Swiss, born 22 October 1957 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Function in UBS Group General Counsel Year of initial appointment: 2008 239 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance Professional history and education John A. Fraser was appointed Chairman and CEO of Global Asset Management in December 2001, and became a member of the GEB in July 2002. Since 2008 he has been Chairman of UBS Saudi Arabia. From 1998 to 2001 he was President and Chief Operating Officer of UBS Asset Management and Head of Asia Pacific. From 1994 to 1998 he was the Executive Chairman and CEO of the Australia funds management business. Before joining UBS, Mr. Fraser spent over 20 years in various positions at the Australian Treasury, including two international postings in Washington, D.C., first, at the International Monetary Fund and, subsequently, as the Economic Minister at the Australian Embassy in Washington, D.C. He was the Deputy Secretary (Economic) of the Australian Treasury from 1990 to 1993. Mr. Fraser graduated from Monash University, Melbourne, in 1972, and holds a first-class honors degree in economics. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Fraser is a member of the Advisory Council of AccountAbility and Chairman of the Victorian Funds Management Corporation in Melbourne. Professional history and education Lukas Gähwiler became a member of the GEB and was appointed CEO of UBS Switzerland in April 2010. In his role as CEO of UBS Switzerland he is responsible for all businesses – retail, wealth management, corporate and institutional, investment banking and asset management – in UBS’s home market. Since January 2012 he has also been CEO of Retail & Corporate. Between April 2010 and January 2012 he combined the position of CEO of UBS Switzerland with the role of co-CEO of UBS Wealth Management & Swiss Bank. From 2003 to 2010 he was the Chief Credit Officer at Credit Suisse and was accountable for the worldwide credit business of Private Banking, including Commercial Banking in Switzerland. In 1998, Mr. Gähwiler was appointed Chief of Staff to the CEO of Credit Suisse’s Private and Corporate business unit and, previous to that, held various front-office positions in Switzerland and North America. He earned a bachelor’s degree in business administration from the University of Applied Sciences in St. Gallen. Mr. Gähwiler completed an MBA program in corporate finance at the International Bankers School in New York, as well as the Advanced Management Program at Harvard Business School. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Gähwiler is a member of the board of Economiesuisse, the Zurich Chamber of Commerce and Opernhaus Zurich. He is Vice Chairman of the Swiss Finance Institute, as well as a member of the Foundation Board of the UBS pension fund and of the UBS Foundation of Economics in Society. Professional history and education Ulrich Körner was appointed Group Chief Operating Officer and CEO Corporate Center, and became a member of the GEB in April 2009. In addition to this function, he was appointed CEO of UBS Group Europe, Middle East and Africa in December 2011. In 1998, Mr. Körner joined Credit Suisse. He served as a member of the Credit Suisse Group Executive Board from 2003 to 2008, holding various management positions, including CFO and Chief Operating Officer. From 2006 to 2008 he was responsible for the entire Swiss client business as CEO Credit Suisse Switzerland. Mr. Körner received a PhD in business administration from the University of St. Gallen, and for several years was an auditor at Price Waterhouse and a manage- ment consultant at McKinsey & Company. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Körner is Vice Chairman of the Committee of the Governing Board of the Swiss Bankers Association, Chairman of the Widder Hotel in Zurich, and is Vice President of the Board of Lyceum Alpinum Zuoz. He is Deputy Chairman of the Supervisory Board of UBS Deutschland AG, Chairman of the Foundation Board of the UBS pension fund, a member of the Financial Service Chapter Board of the Swiss-American Chamber of Commerce, a member of the Advisory Board of the Department of Banking and Finance at the University of Zurich and a member of the business advisory council of the Laureus Foundation Switzerland. John A. Fraser Australian and British, born 8 August 1951 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Functions in UBS Chairman and CEO Global Asset Management Year of initial appointment: 2002 Lukas Gähwiler Swiss, born 4 May 1965 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Functions in UBS CEO UBS Switzerland and CEO Retail & Corporate Year of initial appointment: 2010 Ulrich Körner German and Swiss, born 25 October 1962 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Functions in UBS Group Chief Operating Officer and CEO Corporate Center CEO UBS Group Europe, Middle East and Africa Year of initial appointment: 2009 240 Professional history and education Philip J. Lofts became a GEB member in 2008, and was re-appointed as Group Chief Risk Officer in December 2011 after serving in the same role from 2008 to 2010. He was CEO of UBS Group Americas from January to November 2011. Mr. Lofts, who began his career with UBS over 25 years ago, became Group Risk Chief Operating Officer in 2008 after three years serving as Group Chief Credit Officer. Before this, Mr. Lofts worked for the Investment Bank in a number of business and risk control positions in Europe, Asia Pacific and the US. Mr. Lofts joined Union Bank of Switzerland in 1984 as a credit analyst and was appointed Head of Structured Finance in Japan in 1998. Mr. Lofts successfully completed his A-levels at Cranbrook School. From 1981 to 1984 he was a trainee at Charterhouse Japhet plc, a merchant bank, which was acquired by the Royal Bank of Scotland in 1985. Professional history and education Robert J. McCann was appointed CEO of Wealth Management Americas and became a member of the GEB in October 2009. In addition, he has been CEO of UBS Group Americas since December 2011. From 2003 to 2009 he worked for Merrill Lynch as Vice Chairman and President of the Global Wealth Management Group. In 2003, he served as Vice Chairman of Distribution and Marketing for AXA Financial. He began his career with Merrill Lynch in 1982, working in various positions in capital markets and research. From 2001 to 2003 he was Head of Global Securities Research and Economics. In 2000, he was appointed Chief Operating Officer of Global Markets and Investment Banking. From 1998 to 2000 he was Global Head of Global Institutional Debt and Equity Sales. Mr. McCann graduated with a bachelor’s in economics from Bethany College, West Virginia, and holds an MBA from Texas Christian University. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. McCann is a board member of the American Ireland Fund, and is Vice Chairman of the Bethany College Board of Trustees. He is a member of the Clearing House Advisory Board, a member of the Presidents Circle of No Greater Sacrifice in Washington, D.C., a member of the Committee Encouraging Corporate Philanthropy and a member of the board of the Catholic Charities of the Archdiocese of New York. Professional history and education Tom Naratil was appointed Group CFO and became a member of the GEB in June 2011. He served as CFO and Chief Risk Officer of Wealth Management Americas from 2009 until his current appointment. Before 2009, he held various senior management positions within UBS, including heading the Auction Rate Securities Solutions Group during the financial cri- sis in 2008. He was named Global Head of Marketing, Segment & Client Development in 2007, Global Head of Market Strategy & Development in 2005, and Director of Banking and Transactional Solutions, Wealth Management USA, in 2002. During this time, he was a member of the Group Managing Board. He joined Paine Webber Incorporated in 1983, and after the merger with UBS became Director of the Investment Products Group. Mr. Naratil holds an MBA in economics from New York University and a bachelor of arts degree in history from Yale University. Philip J. Lofts British, born 9 April 1962 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Function in UBS Group Chief Risk Officer Year of initial appointment: 2008 Robert J. McCann American (US) and Irish, born 15 March 1958 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Functions in UBS CEO Wealth Management Americas CEO UBS Group Americas Year of initial appointment: 2009 Tom Naratil American (US), born 1 December 1961 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Function in UBS Group CFO Year of initial appointment: 2011 241 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance Professional history and education Andrea Orcel was appointed CEO of the Investment Bank in November 2012. He had been appointed co-CEO of the Investment Bank and a member of the GEB in July 2012. He joined UBS from Bank of America Merrill Lynch, where he had been Executive Chairman since 2009, President of Emerging Markets (ex Asia) since 2010 and CEO of European Card Services since 2011. Prior to Merrill Lynch’s acquisition by Bank of America, Mr. Orcel was a member of Merrill Lynch’s global manage- ment committee and Head of Global Origination, which combined Investment Banking and Capital Markets. He held a number of other leadership positions, including President of Global Markets & Investment Banking for Europe, Middle East and Africa (EMEA) and Head of EMEA Origination beginning in 2004. Between 2003 and 2007 he led the Global Financial Institutions Group, of which he had been part since joining Merrill Lynch in 1992. Prior to this, he worked at Goldman Sachs and the Boston Consulting Group. Mr. Orcel holds an MBA from INSEAD and a degree in economics and commerce, summa cum laude, from the University of Rome. Professional history and education Chi-Won Yoon was appointed CEO of UBS Group Asia Pacific in April 2012 and has been a member of the GEB since June 2009. He held the position of co-Chairman and co-CEO of UBS Group Asia Pacific from November 2010 to March 2012. From June 2009 to November 2010 he served as sole Chairman and CEO of UBS AG, Asia Pacific. Prior to his current role, Mr. Yoon served as Head of UBS’s securities business in Asia Pacific: Asia Equities, which he oversaw from 2004, and Asia Pacific Fixed Income, Currencies and Commodities, which he led from 2009. When he first joined the firm in 1997, he served as Head of Equity Derivatives. Mr. Yoon began his career in financial services in 1986, working first at Merrill Lynch in New York and then at Lehman Brothers in New York and Hong Kong. Before embarking on a Wall Street career, he worked as an electrical engineer in satellite communications. In 1982, Mr. Yoon earned a bachelor’s degree in electrical engineering from the MIT, and in 1986, a master’s degree in management from MIT’s Sloan School of Management. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Yoon is on the board of UBS Securities Co. Ltd. and a member of the Asian Executive Board of MIT’s Sloan School of Management. Professional history and education Jürg Zeltner became a member of the GEB in February 2009 and is CEO of UBS Wealth Management. Between February 2009 and January 2012 he served as co-CEO of UBS Wealth Management & Swiss Bank. In November 2007, he was appointed as Head of Wealth Management North, East & Central Europe. From 2005 to 2007 he was the CEO of UBS Deutschland, Frankfurt and, prior to that, he held various management positions in the former Wealth Management division of UBS. Between 1987 and 1998 he was with Swiss Bank Corporation in various roles within the Private and Corporate Client divi- sion in Berne, New York and Zurich. Mr. Zeltner holds a diploma in business administration from the College of Higher Vocational Education in Berne and is a graduate of the Advanced Management Program at Harvard Business School. Other activities and functions Mandates on boards of important corporations, organizations and foundations or interest groups: Mr. Zeltner is a board member of the German-Swiss Chamber of Commerce and Chairman of the UBS Optimus Foundation Board. Andrea Orcel Italian, born 14 May 1963 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Function in UBS CEO Investment Bank Year of initial appointment: 2012 Chi-Won Yoon Korean, born 2 June 1959 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Function in UBS CEO UBS Group Asia Pacific Year of initial appointment: 2009 Jürg Zeltner Swiss, born 4 May 1967 UBS AG, Bahnhofstrasse 45, CH-8098 Zurich Function in UBS CEO UBS Wealth Management Year of initial appointment: 2009 242 Responsibilities, authorities and organizational principles of the Group Executive Board Responsibilities and authorities of the Group Asset and Liability Management Committee Under the leadership of the Group CEO, the GEB has executive management responsibility for the Group and its business. It as- sumes overall responsibility for the development of the Group and business division strategies and the implementation of approved strategies. The GEB constitutes itself as the risk council of the Group. In this function, the GEB has overall responsibility for the following: establishing and supervising the implementation of risk management and control principles; approving major risk policies as proposed primarily by the Group Chief Risk Officer; and con- trolling the risk profile of the Group as a whole as determined by the BoD and the Risk Committee. In 2012, the GEB held a total 22 meetings, not including two GEB offsite meetings and two ad hoc conference calls. ➔ Refer to the Organization Regulations, which are available at www.ubs.com/governance, for more information on the authorities of the Group Executive Board The Group Asset and Liability Management Committee (Group ALCO), established by the GEB, is responsible for setting strate- gies to maximize the financial performance of the Group, and is subject to the guidelines, constraints and risk tolerances set by the BoD. The Group ALCO is also responsible for managing the bal- ance sheet of the business divisions through allocation and moni- toring of limits as well as managing capital, liquidity and funding; and promoting a one-firm financial management culture. The Or- ganization Regulations additionally specify which powers of the GEB are delegated to the Group ALCO. In 2012, the Group ALCO held nine meetings. Management contracts We have not entered into management contracts with any third parties. 243 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance Change of control and defense measures We refrain from restrictions that would hinder developments initi- ated in, or supported by, the financial markets. We also do not have any specific defenses in place to prevent hostile takeovers. Duty to make an offer An investor who acquired more than 33 % of all voting rights of UBS AG (directly, indirectly or in concert with third parties), whether they are exercisable or not, would be required to submit a takeover offer for all shares outstanding, according to the Swiss Stock Exchange Act. We have not elected to change or opt out of this rule. Clauses on change of control Neither the employment agreement with the Chairman of the BoD, nor the employment contracts with the Group Executive Board (GEB) members and employees holding key functions with- in the company (Group Managing Directors), contains change of control clauses. All employment contracts with GEB members contain a notice period of six months, except for one which contains a 12-month notice period. During the notice period, GEB members are enti- tled to their salary and continuation of existing employment ben- efits. In case of a change of control, UBS may, at its discretion, ac- celerate the vesting of and / or relax applicable forfeiture provi- sions of employees’ awards, and defer lapse date of options or stock appreciation rights. According to the agreement we have entered into with the Swiss National Bank (SNB), in the event of a change in control of UBS, the SNB has the right, but not the obligation, to require that we purchase the loan the SNB provided to the SNB StabFund at its outstanding principal amount plus accrued interest, and that we purchase the SNB StabFund’s equity at 50% of its value at the time. 244 Auditors Audit is an integral part of corporate governance. While safe- guarding their independence, the external auditors closely coordi- nate their work with Group Internal Audit (GIA). The Audit Com- mittee, and ultimately the Board of Directors (BoD), supervises the effectiveness of audit work. ➔ Refer to the “Board of Directors” section of this report for more information on the Audit Committee External independent auditors At the 2012 Annual General Meeting of Shareholders (AGM), Ernst & Young were reelected as auditors for the Group for a further one- year term of office. Ernst & Young assume virtually all auditing functions according to laws, regulatory requests and the Articles of Association. The Ernst & Young lead partner in charge of the UBS financial audit has been Jonathan Bourne since 2010 and his in- cumbency is limited to five years. The co-signing partner for the fi- nancial statement audit is Troy J. Butner who has been on the audit since 2011 and his incumbency is limited to seven years. The Lead Auditor to FINMA is Iqbal Khan; he has been in charge of auditing UBS since 2011. The co-signing partner for the FINMA audit was Marc Ryser since 2012 with an incumbency of seven years. Fees paid to external independent auditors The fees (including expenses) paid to our auditors Ernst & Young are set forth in the table below. In addition, Ernst & Young re- ceived CHF 33,327,000 in 2012 (CHF 30,106,000 in 2011) for services performed on behalf of our investment funds, many of which have independent fund boards or trustees. Audit work includes all services necessary to perform the audit in accordance with applicable laws and generally accepted auditing standards, as well as other assurance services that conventionally only the auditor can provide. These include statutory and regula- tory audits, attest services, and the review of documents to be filed with regulatory bodies. The additional services classified as audit in 2012 included several engagements for which Ernst & Young were mandated at the request of FINMA to review new or remediated processes, whether in response to regulatory changes, such as Ba- sel III, or as a result of control deficiency remediation, for example, in connection with the 2011 unauthorized trading incident. Audit-related work comprises assurance and related services that traditionally are performed by the auditor, such as attest ser- vices related to financial reporting, internal control reviews, per- formance standard reviews, consultation concerning financial ac- counting and reporting standards and due diligence investigations on transactions in which we propose to engage. Special auditor for capital increase At the 2012 AGM, BDO AG was appointed as special auditor for a three-year term of office. The special auditors provide audit opinions independently from the auditors in connection with cap- ital increases. Tax work involves services performed by professional staff in Ernst & Young’s tax division, and includes tax compliance, tax con- sultation and tax planning with respect to our own affairs. “Other” services are permitted services which comprise on-call advisory services and in 2012 also an assessment of the opera- Fees paid to external auditors d e t i d u A UBS paid the following fees (including expenses) to its external auditors Ernst & Young Ltd.: CHF thousand Audit Global audit fees Additional services classified as audit (services required by law or statute, including work of a non-recurring nature mandated by regulators) Total audit Non-audit Audit-related fees of which assurance and attest services of which control and performance reports of which advisory on accounting standards, transaction consulting including due diligence, other Tax services Other Total non-audit 31.12.12 31.12.11 53,900 23,648 77,548 8,401 3,427 4,134 840 817 1,990 11,208 52,600 5,240 57,840 8,190 3,123 4,626 441 1,021 1,483 10,694 245 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance tional risk framework. In addition, 2012 and 2011 included non- recurring expenses. Pre-approval procedures and policies To ensure Ernst & Young’s independence, all services provided by them have to be pre-approved by the Audit Committee. A pre- approval may be granted either for a specific mandate, or in the form of a blanket pre-approval authorizing a limited and well- defined type and amount of services. The Audit Committee has delegated pre-approval authority to its Chairperson, and the Group Chief Financial Officer (Group CFO) submits all proposals for services by Ernst & Young to the Chairper- son of the Audit Committee for approval, unless there is a blanket pre-approval in place. At each quarterly meeting, the Audit Com- mittee is informed of the approvals granted by its Chairperson and of services authorized under blanket pre-approvals. Group Internal Audit With 357 personnel worldwide on 31 December 2012, GIA per- forms the internal auditing function for the entire Group. GIA is an independent and objective function that supports the firm in achieving its defined strategic, operational, financial and compli- ance objectives, and the BoD and its committees in discharging their governance responsibilities. GIA provides assurance by as- sessing the reliability of financial and operational information, as well as compliance with legal, regulatory and statutory require- ments. All reports with key issues are provided to the Group CEO, the Group Executive Board members responsible for the business divisions and other responsible management. In addition, the Chairman, the Risk Committee and the Audit Committee are reg- ularly informed about important issues. GIA further assures the closure and successful remediation of issues, irrespective of the function which identified them (issues identified by GIA, local in- ternal audit functions, external auditors, legal and compliance, regulators, as well as self-identified issues raised by management). GIA closely cooperates with internal and external legal advisors and risk control units on investigations into major control issues. To maximize its independence from management, the Head of GIA, James P. Oates, reports directly to the Chairman of the BoD as well as to the Risk Committee and the Audit Committee. GIA has unrestricted access to all accounts, books, records, systems, property and personnel, and must be provided with all informa- tion and data needed to fulfill its auditing duties. The Risk Com- mittee and the Audit Committee may order special audits to be conducted. Other BoD members, committees or the Group CEO may request such audits with the approval of the Audit Commit- tee or the Risk Committee. Coordination and close cooperation with the external auditors enhance the efficiency of GIA’s work. 246 Information policy We provide regular information to our shareholders and to the financial community. Financial disclosure principles Financial results will be published as follows First quarter 2013 Second quarter 2013 Third quarter 2013 30 April 2013 30 July 2013 29 October 2013 The Annual General Meeting of shareholders will take place as follows 2013 2014 2 May 2013 7 May 2014 We meet with institutional investors worldwide throughout the year and regularly hold results presentations, special investor seminars as well as deal-related and non-deal road shows. Meetings include members of the investor relations team and, where possible, senior management. We make use of diverse technologies such as webcasting, audio links and cross-location video-conferencing to widen our audience and maintain con- tact with shareholders around the world. Registered shareholders may opt to receive our annual report or review booklet, which reflects on specific 2012 initiatives and achievements of the firm and provides an overview of our activi- ties during the year as well as some key financial information. Each quarter, shareholders have the option to receive a brief mailed update on our quarterly financial performance. Sharehold- ers can also request our complete financial reports, produced on a quarterly and annual basis. We make our publications available to all shareholders simultane- ously to ensure they have equal access to our financial information. Shareholders can help us to achieve our environmental ambi- tions by opting to read our financial publications electronically through our Investor Relations website instead of taking delivery of printed copies. We have reviewed and shortened our distribution lists to internal and external stakeholders and reduced stocks, yielding significant annual savings in terms of both paper and costs. In addition, shareholders can change their subscription pref- erences at any time using our shareholder portal (www.ubs.com/ shareholderportal). ➔ Refer to www.ubs.com/investors for a complete set of published reporting documents and a selection of senior management Based on discussions with analysts, investors, regulators and other stakeholders, we believe the market rewards companies that pro- vide clear, consistent and informative disclosure about their busi- ness. Therefore, we aim to communicate our strategy and results in a manner that allows stakeholders to gain an understanding of how our firm works, what our growth prospects are and what risks our strategy entails. We continually assess feedback from analysts and investors and, where appropriate, reflect this in our quarterly and annual reports. To continue achieving these goals, we apply the following principles in our financial reporting and disclosure: – Transparency in disclosure that enhances understanding of the economic drivers and builds trust and credibility – Consistency in disclosure within each reporting period and be- tween reporting periods – Simplicity in disclosure that allows readers to gain an under- standing of the performance of our businesses – Relevance in disclosure that prevents information overload by focusing on what is required by regulation or statute and what is relevant to our stakeholders – Best practice, leading the way to improved standards We endorse the work of the Enhanced Disclosure Task Force (EDTF) and the recommendations issued by the EDTF on 29 Octo- ber 2012 in its report “Enhancing the Risk Disclosures of Banks.” Our Annual Report for 2011 contained disclosures consistent with many of the recommendations of the EDTF, including some refer- enced in their report as “leading practice.” We have incorporated further changes to our disclosures in our Annual Report for 2012 in light of these recommendations and will further enhance our Annual Report in 2013. Financial reporting policies We report our results after the end of every quarter, including a breakdown of results by business division and disclosures relating to risk management and control, capital, liquidity and funding management. Our consolidated financial statements are prepared according to International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board. ➔ Refer to “Note 1 Summary of significant accounting policies” in the “Financial information” section of this report for a detailed industry conference presentations explanation of the basis of UBS’s accounting ➔ Refer to the corporate calendar at www.ubs.com/investors for future financial report publication and other key dates We are committed to maintaining the transparency of our re- ported results and to ensuring that analysts and investors can make meaningful comparisons with previous periods. If there is a 247 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate governance major reorganization of our business divisions, or if changes to accounting standards or interpretations lead to a material change in the Group’s reported results, our results are restated for previ- ous periods, when required by applicable accounting standards. These restatements show how results would have been reported according to the new basis and provide clear explanations of all relevant changes. US regulatory disclosure requirements As a “foreign private issuer”, we must file reports and other infor- mation, including certain financial reports, with the US Securities and Exchange Commission (SEC) under the US federal securities laws. We file an annual report on Form 20-F, and submit our quar- terly financial reports and other material information, including materials sent to shareholders in connection with shareholders’ meetings, under cover of Form 6-K to the SEC. These reports are all available at www.ubs.com/investors and also on the SEC’s website at www.sec.gov. An evaluation was carried out under the supervision of man- agement including the Group CEO and the Group CFO, of the effectiveness of our disclosure controls and procedures (as de- fined in Rule 13a–15e) under the US Securities Exchange Act of 1934. Based upon that evaluation, the Group CEO and Group CFO concluded that our disclosure controls and procedures were effective as of 31 December 2012. No significant changes have been made to our internal controls or to other factors that could significantly affect these controls subsequent to the date of their evaluation. In accordance with Section 404 of the US Sarbanes-Oxley Act of 2002, our management is responsible for establishing and maintaining adequate internal control over financial reporting. The financial information of this report contain the management’s assessment of the effectiveness of internal control over financial reporting as of 31 December 2012. The external auditors’ report on this assessment is also included in this report. ➔ Refer to the “Financial information” section of this report 248 Corporate responsibility Our firm’s commitment to corporate responsibility demands careful management of our relationships with our stake- holders. Our engagement with them makes a critical contribution to our understanding and management of topics relevant to our firm and to advancing our corporate responsibility strategy. In 2012, we directed our efforts at key societal topics, met key corporate responsibility objectives and delivered on our external corporate responsibility commitments to the benefit of our firm and its stakeholders. The successful delivery of our corporate responsibility commitments and activities is founded on the firm conviction that, above all, our firm must conduct its business in a sustainable way. We have made good on this belief over the course of our 150-year history and have demonstrated resilience in the face of the many political, eco- nomic and regulatory changes and challenges that came to pass during this period. As shown in detail elsewhere in this report, 2012 was a milestone year for UBS in more ways than one. Historically, we celebrated the firm’s 150th anniversary together with clients and others around the globe. We continued to successfully execute our plans to improve our already strong capital position and reduce risk-weighted assets and costs. In October, from this position of strength, we announced a significant acceleration in the implemen- tation of our strategy that will define the future of UBS. We aim to conduct our business in a sustainable way by com- plying with all our policies, guidelines and procedures relating to appropriate and responsible corporate behavior. Our definition of corporate responsibility encompasses the legal, ethical and social responsibilities that we as a company and as employees have to- wards our stakeholders. These responsibilities are reflected in our Code of Business Conduct and Ethics. By adhering to this code, we demonstrate our commitment to being a responsible corporate institution and acting with integrity in all our interactions with our stakeholders. Proper implementa- tion of the Code of Business Conduct and Ethics contributes to the wider societal goal of sustainable development. Policies and guidelines as well as associated objectives related to this aspira- tion are guided and supervised at the highest level of our firm. We demonstrate accountability for our corporate responsibility com- mitments and activities at both Board of Directors (BoD) and Group Executive Board (GEB) level. 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We did so by expanding our comprehensive range of sustainabil- ity products and services, including impact investing, sustainable real estate funds, socially responsible investment products and advisory on sustainability challenges. We have established a leading position in values-based investing and providing environmental, social and governance (ESG) research. In 2012, we demonstrat- ed this, for example, through the global roll-out of our Investment Bank’s ESG Analyzer and through the honors we received in the annual Thomson Reuters Extel/UKSIF Socially Responsible Investing & Sustainability survey. Our firm’s efforts also received external recognition in the S&P Carbon Disclosure Project report. We apply a robust framework to manage environmental and social risk in our businesses. In 2012, we continued to strengthen the implementation of key policies and standards, including our Position on Controversial Activities, supported by a sustained roll-out of training and awareness-raising activities for client-facing staff. In doing so, we were able to draw from an industry-lead- ing environmental and social risk screening process, which we established through a successful collaboration between our risk and compliance functions in 2011. Our compliance function is a significant contributor to ensuring that our corpo- rate responsibility commitments are met and plays a key role in protecting our firm from reputational, business or financial damage. At the same time, it makes a valuable and significant contribution to the fight against financial crime, in particular by deploying our global sanctions, anti-money laundering and anti-bribery programs to deny rogue states, suspected criminals and terrorists access to the financial system via UBS or its products and services. A comprehen- sive legal and compliance risk assessment in 2011 did not identify any significant incidents of non-compliance with our anti-corruption policy and other regula- tions related to anti-corruption. Nonethe- less, in 2012 an anti-corruption initiative was put in place to strengthen our defenses against corruption involving the firm. Our environmental and social risk management and our global sanctions, anti-money laundering and anti-bribery programs are important examples of the need for effective outreach and internal collaboration between our business divisions and external collaboration with our stakeholder community. In 2012, we once again demonstrated our commit- ment to engaging with various initiatives and partners to develop and, where appropriate, enhance our standards. We joined the Roundtable on Sustainable Palm Oil as part of its “Banks & Inves- tors” membership category. We also joined other organizations focused on topics of major relevance to society, including the European Venture Philan- thropy Association and the World Demographic & Ageing Forum. We are among the thought leaders in corporate responsibility in banking and participate actively in key international corporate responsibility initiatives. These include the Wolfsberg Group (on anti-money laundering), the UN Principles for Responsible Investment (on responsible investing), the UN Global Compact and the UN Environment Program (UNEP) Finance Initiative. Our long-standing involvement in the UNEP Finance Initiative reflects our commitment to managing our environ- mental footprint. Our worldwide environmental management system covers in-house operations, risk man- agement and products and services. In 2012, UBS successfully passed its ISO 14001 surveillance audit. We accom- plished our Group-wide CO2 emission reduction target of 40% below 2004 levels, as originally decided by the GEB in February 2006. In addition, we renewed our climate change strategy and are determined to prepare our clients for success in an increasingly carbon-con- strained world. Our well-established and vigorous community investment program formed an integral part of our firm’s 150th anniversary celebrations. UBS Community Affairs teams around the world imple- mented an Employee Recognition Award, recognizing 150 UBS employees or teams of employees for their outstanding community involvement. In Switzerland, we launched a major education initiative, consisting of six sub-projects centering on the UBS International Center of Econom- ics in Society at the University of Zurich. This initiative will benefit the entire Swiss population notably by providing support to projects aimed at apprentices, young entrepreneurs, start-up companies and employees of all age groups. ➔ Refer to www.ubs.com/responsibility for more information on the contents of this section 250 Governance, strategy and commitments Corporate responsibility governance The BoD is responsible for formulating our firm’s values and stan- dards and ensuring we meet our obligations to our stakeholders. Both the Chairman of the BoD and the Group Chief Executive Officer (Group CEO) play a key role in safeguarding our reputation and ensuring we communicate effectively with all our stakeholders. All BoD committees are focused on achieving our goal of creat- ing sustainable value. Of the five BoD committees, the Corporate Responsibility Committee shoulders the main undertaking for cor- porate responsibility. As set out in the committee’s charter, the Corporate Responsibility Committee actively reviews and assesses how we meet the existing and evolving corporate responsibility expectations of our stakeholders. It also monitors and reviews our corporate responsibility policies and regulations, as well as the implementation of our corporate responsibility activities and com- mitments. Moreover, it regularly reviews the Code of Business Conduct and Ethics. In 2012, an external review of this code, un- dertaken at the behest of the BoD, praised the high quality of the document. The reviewers proposed various minor modifications which were subsequently implemented and a revised version of the Code of Business Conduct and Ethics was published. ➔ Refer to www.ubs.com/code for a copy of the UBS Code of Business Conduct and Ethics ➔ Refer to the Organization Regulations of UBS for the Charter of the Corporate Responsibility Committee In 2012, the Corporate Responsibility Committee continued to be chaired by Wolfgang Mayrhuber. The committee has four ad- ditional members, including the Chairman of the BoD, and is ad- vised by a panel of ten members mainly from the GEB, including the Group CEO and all regional CEOs. The members of the advi- sory panel participate in Corporate Responsibility Committee meetings and are responsible for implementing its recommenda- tions. The advisory panel benefits from direct connections to op- erational corporate responsibility activities such as anti-money laundering (through the membership of the Group General Coun- sel) and environmental & social risk management (through the membership of the Group Chief Risk Officer, who also holds the role of Group Environmental Representative). The GEB is responsible for the development and implementation of our Group and business division strategies, including those per- taining to corporate responsibility. At, or directly below, GEB level there are various committees or boards concerned with tasks and activities relating to particular aspects of corporate responsibility, including the Global Environmental & Social Risk Committee chaired by the Group Chief Risk Officer. Additionally, our Environmental & Human Rights Committee oversees the operational execution of UBS’s Environmental Policy and Statement on Human Rights. ➔ Refer to www.ubs.com/environment for more information on our environmental and human rights governance The GEB monitors our efforts to combat money laundering, corruption and terrorist financing. These efforts are led by the Head of Global AML (anti-money laundering) Compliance and supported by a network of expert global business teams. The GEB also monitors the implementation of our diversity and inclusion- related strategies and plans for each business division. Our global diversity and inclusion team supports senior management and Human Resources business partners in developing these plans. Our global head of Human Resources is also a member of the Corporate Responsibility Committee’s advisory panel. ➔ Refer to the “Our employees” section of this report for more information on labor standards and diversity programs The Global Community Affairs Steering Committee is chaired by the Group CEO and composed of several members of our se- nior management. This GEB-level committee sets the overall stra- tegic direction and aims of our community affairs. In addition, it is ultimately responsible for determining our response to worldwide disasters. ➔ Refer to the discussion on community investment below for more information on our charitable and related activities (cid:49)(cid:87)(cid:84)(cid:2)(cid:69)(cid:81)(cid:84)(cid:82)(cid:81)(cid:84)(cid:67)(cid:86)(cid:71)(cid:2)(cid:84)(cid:71)(cid:85)(cid:82)(cid:81)(cid:80)(cid:85)(cid:75)(cid:68)(cid:75)(cid:78)(cid:75)(cid:86)(cid:91)(cid:2)(cid:73)(cid:81)(cid:88)(cid:71)(cid:84)(cid:80)(cid:67)(cid:80)(cid:69)(cid:71)(cid:2)(cid:82)(cid:84)(cid:81)(cid:69)(cid:71)(cid:85)(cid:85)(cid:2) (cid:37)(cid:81)(cid:84)(cid:82)(cid:81)(cid:84)(cid:67)(cid:86)(cid:71)(cid:2)(cid:52)(cid:71)(cid:85)(cid:82)(cid:81)(cid:80)(cid:85)(cid:75)(cid:68)(cid:75)(cid:78)(cid:75)(cid:86)(cid:91)(cid:2)(cid:37)(cid:81)(cid:79)(cid:79)(cid:75)(cid:86)(cid:86)(cid:71)(cid:71) (cid:35)(cid:73)(cid:71)(cid:80)(cid:70)(cid:67) (cid:38)(cid:81)(cid:69)(cid:87)(cid:79)(cid:71)(cid:80)(cid:86)(cid:67)(cid:86)(cid:75)(cid:81)(cid:80) (cid:50)(cid:84)(cid:81)(cid:82)(cid:81)(cid:85)(cid:67)(cid:78)(cid:2)(cid:72)(cid:81)(cid:84)(cid:2)(cid:67)(cid:69)(cid:86)(cid:75)(cid:81)(cid:80) (cid:35)(cid:70)(cid:88)(cid:75)(cid:69)(cid:71) (cid:47)(cid:67)(cid:80)(cid:70)(cid:67)(cid:86)(cid:71) (cid:72)(cid:81)(cid:84)(cid:2)(cid:67)(cid:69)(cid:86)(cid:75)(cid:81)(cid:80) (cid:39)(cid:90)(cid:86)(cid:71)(cid:84)(cid:80)(cid:67)(cid:78) (cid:71)(cid:90)(cid:82)(cid:71)(cid:84)(cid:86)(cid:85) (cid:37)(cid:81)(cid:84)(cid:82)(cid:81)(cid:84)(cid:67)(cid:86)(cid:71)(cid:2)(cid:84)(cid:71)(cid:85)(cid:82)(cid:81)(cid:80)(cid:85)(cid:75)(cid:68)(cid:75)(cid:78)(cid:75)(cid:86)(cid:91)(cid:2)(cid:79)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86) (cid:37)(cid:81)(cid:84)(cid:82)(cid:81)(cid:84)(cid:67)(cid:86)(cid:71)(cid:2)(cid:52)(cid:71)(cid:85)(cid:82)(cid:81)(cid:80)(cid:85)(cid:75)(cid:68)(cid:75)(cid:78)(cid:75)(cid:86)(cid:91)(cid:2)(cid:37)(cid:81)(cid:79)(cid:79)(cid:75)(cid:86)(cid:86)(cid:71)(cid:71)(cid:2)(cid:67)(cid:70)(cid:88)(cid:75)(cid:85)(cid:81)(cid:84)(cid:91)(cid:2)(cid:82)(cid:67)(cid:80)(cid:71)(cid:78) (cid:48)(cid:71)(cid:86)(cid:89)(cid:81)(cid:84)(cid:77)(cid:2)(cid:81)(cid:72)(cid:2) (cid:75)(cid:80)(cid:86)(cid:71)(cid:84)(cid:80)(cid:67)(cid:78)(cid:2)(cid:71)(cid:90)(cid:82)(cid:71)(cid:84)(cid:86)(cid:85) (cid:35)(cid:69)(cid:86)(cid:75)(cid:81)(cid:80) (cid:57)(cid:71)(cid:67)(cid:78)(cid:86)(cid:74)(cid:2)(cid:47)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86) (cid:57)(cid:71)(cid:67)(cid:78)(cid:86)(cid:74)(cid:2)(cid:47)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2) (cid:35)(cid:79)(cid:71)(cid:84)(cid:75)(cid:69)(cid:67)(cid:85) (cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:79)(cid:71)(cid:80)(cid:86) (cid:36)(cid:67)(cid:80)(cid:77) (cid:41)(cid:78)(cid:81)(cid:68)(cid:67)(cid:78)(cid:2)(cid:35)(cid:85)(cid:85)(cid:71)(cid:86)(cid:2) (cid:47)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86) (cid:52)(cid:71)(cid:86)(cid:67)(cid:75)(cid:78)(cid:2)(cid:8)(cid:2)(cid:37)(cid:81)(cid:84)(cid:82)(cid:81)(cid:84)(cid:67)(cid:86)(cid:71) (cid:37)(cid:81)(cid:84)(cid:82)(cid:81)(cid:84)(cid:67)(cid:86)(cid:71)(cid:2) (cid:37)(cid:71)(cid:80)(cid:86)(cid:71)(cid:84) (cid:19)(cid:37)(cid:52)(cid:18)(cid:18)(cid:20)(cid:65)(cid:71) 251 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate responsibility Our commitment to responsible banking requires us to under- take regular and critical assessments of our policies and practices. This in turn requires the careful consideration and assessment of societal issues of potential relevance to UBS. With committees focused on corporate responsibility topics and issues both at BoD and GEB level, we demonstrate that we have firmly established responsibility for the oversight of this important and complex task at the highest level of the firm. External commitments and initiatives We are committed to engaging in external corporate responsibil- ity initiatives. These support us in our efforts to advance in areas that are already mandated by government and regulators as well as in areas that, while still largely voluntary, are nonetheless of significance to strengthening our corporate responsibility agenda. In 2012, UBS joined the Roundtable on Sustainable Palm Oil (RSPO), thereby reinforcing our commitment to responsible palm oil production. As part of the RSPO’s “Banks & Investors” mem- bership category, UBS actively promotes RSPO in its business rela- tionships in the palm oil sector, for example by requiring that our clients are members in good standing of the RSPO and by actively seeking to enhance certification of their palm oil production. In May 2011, directly prior to the United Nations’ endorsement of the Guiding Principles for the Implementation of the “Protect, Respect and Remedy” Framework on business and human rights (the Guiding Principles), UBS convened a meeting in Thun, Swit- zerland, with a number of universal banks (subsequently referred to as the Thun Group) to consider the Guiding Principles. In 2012, a discussion document setting out the challenges and best prac- tice examples of operationalizing the Guiding Principles in univer- sal banks was drafted and developed. Work is currently ongoing in order to finalize the document. External ratings, assurance and awards Our performance and success in the area of sustainability is re- flected in the key external ratings and rankings we have achieved. As one of the top 10 companies worldwide in the 2012 Carbon Disclosure Project, UBS was ranked as excellent in its measures to combat climate change. We are included in the Carbon Performance Leadership Index, which is produced by the Carbon Disclosure Project and features companies that have distinguished themselves through their ef- forts to reduce emissions and their strategies for combating cli- mate change. We are also represented in the Carbon Disclosure Leadership Index, putting us among the companies which are set- ting the standards in reporting on the risks and opportunities aris- ing for businesses in connection with climate change. We are among the few financial sector companies represented in both Carbon Disclosure Project indices. We have been a member of the FTSE4Good index series since its inception and obtained a top ranking in 2012. We are, how- ever, disappointed that we were removed from the Dow Jones Sustainability Index World (DJSI World). Our overall assessment had risen to 76 points in 2011, a score we maintained throughout 2012, but as the benchmark was raised in 2012, we no longer qualified for inclusion in the index. We received several honors in the 10th annual Thomson Re- uters Extel/UKSIF Socially Responsible Investing & Sustainability Survey of over 500 investment professionals from 27 countries. We were named the leading brokerage firm for renewable energy research and our head of global sustainability research in the In- vestment Bank was honored as the leading brokerage individual for thematic research. UBS was ranked second in the leading bro- kerage firm for thematic research and leading brokerage individ- ual for renewable energy research categories, as well as third in the leading brokerage firm for integrated research on climate change and leading brokerage firm for SRI & sustainability overall categories. Furthermore, we were ranked third in Lundquist’s CSR Online Awards Switzerland 2012, maintaining our top-three ranking for the fourth consecutive year. These awards consider how well cor- porate websites are used as a platform for corporate social re- sponsibility communications and stakeholder engagement. Stakeholder dialogue We regularly engage with our stakeholders on a wide range of topics, yielding important information on their expectations and concerns. This provides a critical contribution to our understand- ing and management of issues relevant to our firm. Our relation- ships with stakeholders are multi-faceted and include major single interactions with large groups (e.g. the 2012 employee survey), regular communications throughout the year with representatives from a particular group (e.g. media), as well as dialogue meetings with single individuals (e.g. client enquiries). In 2012, we engaged with experts and stakeholders on a range of topics. These included discussions with clients on values-based investing, including those taking place at the 2012 UBS Philan- thropy Forum. At the annual UBS Q-Series® conference, global thought leaders were joined by nearly 200 clients and investors. The conference featured 40 speakers from some of the world’s leading academic and business institutions, who identified inflec- tion points – ranging from current environmental, social and gov- ernance issues to the impact of changing dynamics – and dis- cussed how these can affect a company’s business objectives and ultimate profitability. Discussions with employees covered various sustainability top- ics, including energy. Working together with investors and rating agencies, we considered key environmental, social and gover- nance topics such as climate change, while discussions with non- governmental organizations focused on the subjects of deforesta- tion, mining, controversial weapons, and climate change, particularly in relation to coal. In addition, we sought input from our employees regarding our corporate responsibility strategy and associated activities. An internal, cross-divisional and cross-re- gional network of experts continues to play a particularly impor- tant role, with its members providing critical input on stakeholder expectations and concerns. These contributions are relayed back to the Corporate Responsibility Committee and provide a very 252 valuable addition to information gathered through other monitor- ing channels. We believe it is crucial that we keep our stakeholders informed about our sustainability commitments and activities. To this end, we include sections in our Annual Report 2012 dedicated to “Corporate responsibility” and “Our employees”. The content of these sections, other relevant Annual Report text and data and information on the UBS website are reviewed by Ernst & Young Ltd according to the Global Reporting Initiative’s Sustainability Re- porting Guidelines. ➔ Refer to www.ubs.com/gri for more information Training and awareness-raising We actively engage in internal and external education and aware- ness-raising on corporate responsibility topics and issues. Through induction, education and broader awareness-raising activities we en- sure that our employees are in no doubt as to the importance of our societal commitments. General information is published on our in- tranet and on our corporate responsibility website. In 2012, training and awareness-raising activities for employees continued to embrace the Code of Business Conduct and Ethics, notably through induction events for all new employees. Employees were also made aware of the firm’s corporate responsibility strategy and activities through other training and awareness-raising activities. Some 4,514 employ- ees received training on environmental issues, of which, 3,548 re- ceived a general education on our environmental policy and pro- grams and 966 participated in specialist training targeted within their area of expertise and influence. Employee speaker sessions, exhibitions and lunchtime training sessions were delivered in all re- gions alongside specific technical training for the regional environ- mental teams. Employees are also required to undergo regular re- fresher training in anti-money laundering-related issues. This includes online training, awareness campaigns and seminars. ➔ Refer to the “Education and talent development” section of this report for more information Corporate responsibility in banking We are focused on gaining and retaining the trust of all our stake- holders alongside our goal of generating sustainable earnings and creating long-term shareholder value. We are aligned with the demands of our shareholders, clients, employees and society in general and our banking activities are undertaken in a responsible manner. In addition, we are constantly striving to ensure that our products and services are suited to the needs and requirements of our clients. Through our corporate responsibility efforts we dem- onstrate that we are not only listening to our stakeholders, but also aiming to be in an industry-leading position and meet their expectations. lustrated by the way we take responsibility in our own operations for preserving the integrity of the financial system. We employ a rigorous risk-based approach to ensure our policies and proce- dures are able to detect risks and that relationships which are classified as higher risk are dealt with appropriately. We adhere to strict know-your-client regulations without undermining clients’ legitimate right to privacy. Ongoing due diligence and monitor- ing, including the use of advanced technology to help identify transaction patterns or unusual dealings, assists in the identifica- tion of suspicious activities. If suspicious activities are discovered, they are promptly escalated to management or control functions. During 2012, Global AML (anti-money laundering) Compli- ance worked closely with the Environmental and Social Risk group to develop and introduce new and more effective ways to screen potential business partners, vendors and clients with regards to potential issues relating to environmental and social risk. In 2011, all business divisions were required to perform a legal and compliance risk assessment. This comprehensive process, which included an assessment of corruption, sanction and anti-money laundering risks, is also forward-looking with follow-up actions to highlight the priorities and objectives for each business division. This risk assessment did not identify any significant incidents of non- compliance with our anti-corruption policy and other anti-corrup- tion regulations. Nonetheless, in 2012 an anti-corruption initiative was put in place to strengthen our defenses against corruption. As part of our extensive and ongoing efforts to prevent money laundering, corruption and terrorist financing, our internal global anti-money laundering policies were reviewed in 2011 and en- hancements to address more specific risks in relation to corrup- tion and terrorist financing were implemented globally. We have also reviewed and amended our approach to controversial weap- ons in order to comply with the Swiss law that came into effect on 1 February 2013. This law implements the Oslo Convention ban on the use, stockpiling, production and transfer of cluster muni- tions and the ban on the use, stockpiling, production and transfer of anti-personnel mines and on their destruction. We are a founding member of the Wolfsberg Group, an asso- ciation of 11 global banks established in 2000 which aims to de- velop financial services industry standards and related products (cid:49)(cid:87)(cid:84)(cid:2)(cid:71)(cid:80)(cid:88)(cid:75)(cid:84)(cid:81)(cid:80)(cid:79)(cid:71)(cid:80)(cid:86)(cid:67)(cid:78)(cid:2)(cid:82)(cid:81)(cid:78)(cid:75)(cid:69)(cid:91) (cid:39)(cid:80)(cid:88)(cid:75)(cid:84)(cid:81)(cid:80)(cid:79)(cid:71)(cid:80)(cid:86)(cid:67)(cid:78)(cid:2)(cid:82)(cid:81)(cid:78)(cid:75)(cid:69)(cid:91) (cid:52)(cid:75)(cid:85)(cid:77)(cid:2)(cid:79)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86) (cid:36)(cid:87)(cid:85)(cid:75)(cid:80)(cid:71)(cid:85)(cid:85)(cid:2)(cid:81)(cid:82)(cid:82)(cid:81)(cid:84)(cid:86)(cid:87)(cid:80)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85) (cid:43)(cid:80)(cid:15)(cid:74)(cid:81)(cid:87)(cid:85)(cid:71)(cid:2)(cid:81)(cid:82)(cid:71)(cid:84)(cid:67)(cid:86)(cid:75)(cid:81)(cid:80)(cid:85)(cid:2) (cid:67)(cid:80)(cid:70)(cid:2)(cid:85)(cid:87)(cid:82)(cid:82)(cid:78)(cid:91)(cid:2)(cid:69)(cid:74)(cid:67)(cid:75)(cid:80) Combating financial crime We continue to further strengthen our efforts to prevent and combat financial crime. Our commitment to assisting in the fight against money laundering, corruption and terrorist financing is il- (cid:37)(cid:71)(cid:84)(cid:86)(cid:75)(cid:386)(cid:71)(cid:70)(cid:2)(cid:71)(cid:80)(cid:88)(cid:75)(cid:84)(cid:81)(cid:80)(cid:79)(cid:71)(cid:80)(cid:86)(cid:67)(cid:78)(cid:2)(cid:79)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:85)(cid:91)(cid:85)(cid:86)(cid:71)(cid:79) (cid:54)(cid:84)(cid:67)(cid:75)(cid:80)(cid:75)(cid:80)(cid:73)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:69)(cid:81)(cid:79)(cid:79)(cid:87)(cid:80)(cid:75)(cid:69)(cid:67)(cid:86)(cid:75)(cid:81)(cid:80)(cid:2) (cid:22)(cid:37)(cid:52)(cid:18)(cid:18)(cid:21)(cid:65)(cid:71) 253 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate responsibility for know-your-client, anti-money laundering and counter-terrorist financing policies. Together with the other members of the group, we continue to work closely with the Financial Action Task Force, an inter-governmental body that develops and promotes national and international policies to combat money laundering and ter- rorist financing through consultation with the private sector. We will always act decisively to prevent potentially irresponsi- ble or harmful actions by individuals. First and foremost, this means that our employees must uphold the law, adhere to rele- vant regulations, and behave in a responsible and principled man- ner. To this effect, our business processes and control mechanisms are constantly reviewed to enhance our prevention capabilities. Managing environmental and social risks UBS applies a risk framework to all transactions, products, services and activities in order to identify, assess and manage environmen- tal and social risks. Environmental and social (including human rights) risks are broadly defined as the possibility of UBS suffering reputational or financial harm from transactions, products, servic- es or activities such as lending, capital raising, advisory services or investments that involve a party associated with environmentally or socially sensitive activities. For products, services and activities identified as having significant environmental and social risk po- tential, procedures and tools for the timely identification, assess- ment, escalation and monitoring of such risks are applied and in- tegrated into standard risk, compliance and operations processes. – Client on-boarding or conflict clearance: new corporate clients are assessed for environmental and social risks associated with their business activities. – Transaction due diligence: before proceeding with a transac- tion, environmental and social risks are identified and analyzed as part of standard transaction due diligence processes. – Product development: new financial products and services are reviewed before launch to assess their compatibility and con- sistency with UBS’s environmental and human rights principles. – Supply chain management: prior to any new or renewed con- tract being awarded, standardized checks are completed to as- sess supplier- and commodity-specific environmental, labor and human rights risks. – In-house environmental management: our operational activi- ties and employees, or contractors working on UBS premises, are assessed for compliance with relevant environmental regu- lations. Business or control functions are responsible for identifying and assessing environmental and social risks as part of the client, supplier or transaction due diligence process. Where these func- tions determine the existence of potential material risk, they refer the client, supplier or transaction to a specialized environmental and social risk unit for enhanced due diligence. To support the consistent identification and assessment of such risks, we devel- oped internal industry sector guidelines in 2009. These guidelines provide an overview of key environmental and human rights is- sues that arise in the various life cycles of the sector, and summa- rize industry standards in dealing with them. The guidelines cur- rently cover six sectors: chemicals; forestry products and biofuels; infrastructure; metals and mining; oil and gas; and utilities. If identified risks are determined to create significant potential repu- tational risk, they are escalated for approval to senior manage- ment, at divisional, regional, or group level, depending on the significance of the risk. In 2011, we strengthened our environmental and social (in- cluding human rights) risks framework by defining controversial activities that we will not engage in, or will only engage in under stringent pre-established guidelines. ➔ Refer to the “UBS position on relationships with clients and suppliers associated with controversial activities” section below for more information Environmental and social risk assessments Cases referred to environmental and social risk functions 2 by region Americas Asia Pacific Europe, Middle East and Africa Switzerland by business division Investment Bank Wealth Management Retail & Corporate Wealth Management Americas Global Asset Management Corporate Center 3 GRI 1 FS2 FS2 FS2 FS2 FS2 FS2 FS2 FS2 FS2 FS2 FS2 31.12.12 1,039 288 222 225 304 533 157 223 5 12 109 For the year ended 31.12.11 416 111 136 119 50 330 59 22 5 n / a n / a 31.12.10 194 48 84 32 30 147 20 24 3 n / a n / a % change from 31.12.11 150 159 63 89 508 62 166 914 0 n / a n / a 1 Global Reporting Initiative (see also www.globalreporting.org). FS stands for the Performance Indicators defined in the GRI Financial Services Sector Supplement. 2 Transactions and onboarding requests referred to and assessed by environmental and social risk functions. 3 Relates to procurement / sourcing of products and services. 254 Clients, transactions or suppliers potentially in breach of UBS’s position, or otherwise subject to significant environmental and human rights controversies, are identified as part of UBS’s know- your-client compliance processes. This was made possible by inte- grating advanced data analytics on companies associated with such risks into the web-based compliance tool used by UBS staff before they enter into a client or supplier relationship, or a trans- action. The systematic nature of this tool vastly enhances our abil- ity to identify potential reputational risk, and is evidenced by the increasing number of cases referred for assessment to our envi- ronmental and social risk units in 2012. ➔ Refer to the “Environmental and social risk assessments” table above for more information Sustainable products and services By integrating environmental and social considerations into our advisory, research, investment, finance and ownership processes across all our businesses, we provide financial products and ser- vices which help our clients benefit from environmentally and so- cially related business opportunities. philanthropy and sustainable investing teams have continued to develop the holistic service offered within our wealth manage- ment business. These teams provide thought leadership, advice, products and solutions to existing and prospective private clients who wish to make investments in accordance with their own per- sonal values. These services also extend to aiding philanthropic or investment decisions intended to effect positive change. For example, UBS Portfolio Screening Services help Wealth Manage- ment clients align their portfolios to their sustainability values by assessing client portfolios using specific sustainability criteria. Based on increased interest among our clients, we screened CHF 1.2 billion of client assets in 2012. In 2012, we also developed a prototype UBS Sustainability Health Check which highlights any discrepancies between clients’ sustainability preferences and the actual composition of their portfolio. We plan to develop this ad- visory service in 2013 with planned roll out to clients in 2014. Also in 2012, the Arbor Group within Wealth Management Americas established a new program by which UBS donates a portion of their standard management fee to the Conservation Agreement Fund for all interested investors. Our services also include – mission-related investing for donor-advised funds and private Investment advisory UBS offers investment advisory services for wealth management clients helping them to consider the potential social and environ- mental impacts of their investments as well as the potential financial returns when selecting an investment opportunity. Our foundations – sustainable portfolio management, such as mandate solutions and separately managed accounts for private clients and insti- tutions with a strong focus on sustainability across all asset classes UBS position on relationships with clients and suppliers associated with controversial activities This position stipulates activities that we will not engage in, or will only engage in under stringent pre-established guidelines. We will not knowingly provide financial services to corporate clients, or purchase goods or services from suppliers, where the use of proceeds or primary business activity of the client, supplier or acquisition target involves environ mental and social risks, defined as follows: Extractive industries, heavy infrastructure, forestry and plantations operations that risk severe environmental damage to or through: – endangered species of wild flora and fauna listed in Appendix 1 of the Convention on International Trade in Endangered Species United Nations Educational, Scientific and Cultural Organization (UNESCO) – high-conservation-value forests as defined by the six categories of the Forest Stewardship Council – uncontrolled and / or illegal use of fire for land clearance – illegal logging, including the purchase of illegally harvested timber (logs or roundwood) – palm oil production unless a member in good standing of the Roundtable on Sustainable Palm Oil and actively seeking to enhance certification of its production All commercial activities that: – engage in child labor as defined by the International Labor Organization’s Conventions 138 (minimum age) and 182 (worst forms) – engage in forced labor as defined by the International Labor Organization’s Convention 29 – threaten indigenous peoples’ rights as defined by the International Finance Corporation’s Performance Standard 7 – wetlands on the Ramsar List of – engage in diamond mining and Wetlands of International Importance – world heritage sites as classified by the trading of rough diamonds unless Kimberley Process-certified 255 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate responsibility – managed accounts with environmental, social and governance criteria (sourced from third-party data provider MSCI) embed- ded into private clients’ fundamental investment process, enabling them to identify and exclude securities based on is- sue-oriented screens (offered in the US). For institutional clients, Global Asset Management offers cus- tomized portfolios in the form of segregated mandates and insti- tutional accounts that allow clients to define and exclude certain controversial stocks or sectors due to their perceived social or en- vironmental impact. Research UBS produces award-wining research into the impact of environ- mental, social and governance issues on sectors and companies. Our specialized teams have published research regularly into topics that will shape our future, including climate change, energy effi- ciency, resource scarcity and demographics. Our experience and sector knowledge helps us to determine what is material by raising questions about the effect environmental, social and governance issues are having on the competitive landscape for the global sec- tors we cover as well as about how companies are affected in rela- tive terms. Increasing client demand for integrating sustainability issues into fundamental investment analysis, in a systematic man- ner, is reflected in our publications and client conferences: – Our UBS Q-series® reports focus on thought-provoking discus- sions on pivotal investment questions, and on making clear investment conclusions, leading to a firm-wide drive for more thoughtful, proprietary and valuable research. Examples of Q-series® reports published in 2012 include “Global Pharma- ceuticals – Will vaccines transform pharma growth?”, “Global Marine Sector: Is green shipping just a storm in a teacup?” and “What is ‘Integrated Reporting’? – How good disclosure con- nects to value”. – The Investment Bank’s UBS Q-series® ESG Analyzer seeks to answer one of the most frequently asked questions in the field of sustainability, namely which environmental, social and gov- ernance issues are material in the context of a typical invest- ment portfolio? The ESG Analyzer identifies top-positioned stocks for sustainability themes and identifies environmental, social and governance issues in more than 30 sectors and across close to 500 stocks. This comprehensive view is made possible by the input of more than 80 UBS sector analysts worldwide. – The Investment Bank hosted the UBS Q-series® conference, which this year focused on “Inflection Points Towards Sustain- ability” and joined global thought leaders with nearly 200 cli- ents and investors. The Investment Bank also hosted the UBS European Conference “Sustainability Track”, which featured sessions on food provision and on corporate governance. – In 2012, one of the flagship publications of UBS Wealth Man- agement, UBS research focus (”Investing in the future with energy”), discussed how sustainable energy sources are in- creasing in importance and identified the key implications of this trend for private investors. Sustainable investment topics are also covered in the UBS CIO Monthly Letter, which is avail- able in ten languages. – We also offer our bundled expertise for example in summits for family offices and young successors where clients can meet our experts from all businesses across the firm, including research, advisory and investment. Our outreach and dialogue programs include a partnership with the Smith School of Enterprise and the Environment at the University of Oxford, with which UBS hosts a series of events, open to both UBS clients and employees, and feature thought leaders from around the globe. Sir David King, who was the founding director of the Smith School, is a Senior Scientific Advi- sor to UBS and, in this capacity, advises UBS’s clients on all scien- tific matters with specific emphasis on climate change and the challenges it poses to sustainable economic growth. Investment products Global Asset Management is committed to environmental, social and governance integration and has been a signatory to the UN Principles for Responsible Investment since 2009. These Principles provide a voluntary framework according to which all investors can incorporate environmental, social and governance issues into their decision-making and ownership practices and align their ob- jectives with those of society at large. Global Asset Management offers a range of sustainable invest- ment funds that integrate material sustainability factors with a rigorous fundamental investment process. Their focus is on inno- vative companies, referred to as sustainability champions, which provide solutions to sustainability challenges. Our investment themes include energy savings, environment, social and health care and demographics. Our objective is to identify winning sus- tainable business models at attractive valuations, providing our investors with strong excess returns. We also manage four Ex- change Traded Funds which track MSCI’s Socially Responsible Indices and are listed on the Deutsche Börse (Xetra), SIX Swiss Exchange and the London Stock Exchange. Global Asset Management launched UBS Clean Energy Infra- structure Switzerland at the end of 2012. This investment solution for institutional investors offers unprecedented access to a diversi- fied portfolio of Swiss infrastructure facilities and companies in the field of renewable energies and energy efficiency. By the first closing date for subscriptions, on 31 December 2012, capital commitments had reached some CHF 250 million from 18 institu- tional investors. Furthermore, Global Asset Management’s Global Real Estate business has defined and implemented a Sustainability and Re- sponsible Property Investment strategy for its real estate products and mandates. As a responsible property investor, the financial objectives of clients remain the primary focus, but we also con- sider long-term social and environmental aspects. Through our open architecture, we also offer our wealth man- agement clients the opportunity to invest in socially responsible 256 investment bonds, equity and microfinance products from leading third-party providers. As of 31 December 2012, invested assets held in socially responsible investments (SRI) totaled USD 253.73 billion, representing 11.38% of our total invested assets. The in- crease in our reported SRI invested assets in 2012 is largely due to growing demand for screening services and the expansion of the Sustainability and Responsible Property Investment strategy to an increased number of investment funds. ➔ Refer to the “Socially responsible investments invested assets” table below for more information Corporate and private clients finance and advisory UBS provides capital raising and strategic advisory services to renewable energy and clean technology companies globally, including those in the solar, wind, energy efficiency, biofuels and renewable chemicals sectors. Our Renewable Energy & Clean Technology team (RE&CT) within the Investment Bank includes senior employees on four continents. In 2012, the team raised approximately USD 5.7 billion from 12 transactions, further establishing RE&CT as one of the leading clean technology practices globally. Transactions we supported included the USD 350 million initial public offering (IPO) of Borregaard SA – the first internationally book-run IPO in the Nordic region since May 2011 – and the USD 220 million convertible bond transaction for GT Solar, which was the largest offering of its kind for a solar com- pany in 2012. We also supported the USD 319 million H share IPO of Huadian Fuxin – the third-largest IPO in Hong Kong in 2012 – and the USD 72 million IPO of Renewable Energy Group, which is the largest independent biodiesel producer in the United States. In cap and trade emissions markets, such as the EU Emissions Trading Scheme (EU ETS), companies have annual caps on the amount of emissions their facilities are allowed to produce. Com- panies that are able to reduce their emissions below their cap can sell their unused quota to other entities, thereby creating an emis- sions market. Through the use of financial instruments, we are able to help our clients manage their exposure to the emissions markets. UBS Exchange Traded Derivatives is an active member of the major emission exchanges in Europe and North America, and offers execution and full service clearing for contracts on EU ETS allowances, UN Certified Emissions Reductions, Regional Green- house Gas Initiative allowances, and permits for nitrogen oxide and sulfur dioxide. In Switzerland, our home market, we reward energy-efficient renovations and support the goals of the Swiss nationwide build- ing efficiency program. Our Swiss private clients benefit from the UBS “eco” Mortgage when building energy-efficient homes and a cash benefit (funded by proceeds from the Swiss CO2 levy re- fund) when renovating their homes sustainably. From 2013 onward, we will incentivize Swiss SMEs to save en- ergy by promoting the Swiss Energy Agency’s SME Model. Clients will profit from the “Energy check-up for SMEs” at reduced costs and, in addition, we will offer a cash premium to clients who com- mit to an energy reduction plan within this scheme. Voting rights We believe that voting rights have economic value and should be treated accordingly. Where Global Asset Management has been given the discretion to vote on behalf of our clients, we will exer- cise our delegated fiduciary responsibility by voting in the manner we believe will be most favorable to the value of their invest- ments. We are strongly supportive of the Stewardship Code pub- lished by the Financial Reporting Council of the United Kingdom in 2010. This aims to enhance engagement between institutional investors and companies. Good corporate governance should, in the long term, lead towards both better corporate performance and improved value for shareholders and other stakeholders. In 2012, we voted on more than 59,000 separate resolutions at 5,945 company meetings. Our approach to corporate gover- nance is an active one and is integral to our investment process. We are an active member of a number of collaborative share- holder bodies. Socially responsible investments invested assets 1 For the year ended % change from CHF billion, except where indicated GRI 2 31.12.12 31.12.11 31.12.10 31.12.11 UBS total invested assets UBS SRI products and mandates positive criteria positive criteria / RPI exclusion criteria 3 exclusion criteria / policy-based restrictions 4 Third-party 5 Total SRI invested assets Proportion of total invested assets (%) 7 2,230 2,167 2,152 FS11 FS11 FS11 FS11 FS11 FS11 1.60 32.15 35.68 181.64 2.66 253.73 11.38 1.84 28.19 27.46 180.85 6 2.58 240.92 11.12 2.00 na 21.27 na 2.40 25.67 1.19 3 (13) 14 30 0 3 5 1 All figures are based on the level of knowledge as of January 2013. 2 FS stands for the performance indicators defined in the Global Reporting Initiative Financial Services Sector Supplement. 3 Includes customized screening services (single or multiple exclusion criteria). 4 Assets subject to restrictions under UBS policy on the prohibition of investments in companies related to anti-personnel mines and cluster munitions. 5 SRI products from third-party providers apply either positive and exclusion criteria or a combination thereof. 6 Invested assets subject to policy-based restrictions in 2011 has been restated. 7 Total SRI / UBS’s invested assets. Socially responsible investments (SRI) are products that consider environmental, social or ethical criteria alongside financial returns. SRI can take various forms, including positive screening, exclusion or engagement. Positive criteria apply to the active selection of companies, focusing on how a company’s strategies, processes and products impact its financial success, the environment and society. This includes best-in-class or thematic investments. Exclusion criteria one or several sectors are excluded based on environmental, social or ethical criteria, for example, companies involved in weapons, tobacco or gambling, or companies with high negative environmen- tal impacts. This also includes faith-based investing consistent with principles and values of a particular religion. 257 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate responsibility (cid:55)(cid:36)(cid:53)(cid:111)(cid:85)(cid:2)(cid:73)(cid:84)(cid:71)(cid:71)(cid:80)(cid:74)(cid:81)(cid:87)(cid:85)(cid:71)(cid:2)(cid:73)(cid:67)(cid:85)(cid:2)(cid:10)(cid:41)(cid:42)(cid:41)(cid:11)(cid:2)(cid:72)(cid:81)(cid:81)(cid:86)(cid:82)(cid:84)(cid:75)(cid:80)(cid:86)(cid:124)(cid:2) (cid:43)(cid:80)(cid:2)(cid:86)(cid:81)(cid:80)(cid:80)(cid:71)(cid:85)(cid:2)(cid:37)(cid:49)(cid:20) (cid:71)(cid:2) (cid:53)(cid:74)(cid:67)(cid:84)(cid:71)(cid:2)(cid:81)(cid:72)(cid:2)(cid:84)(cid:71)(cid:80)(cid:71)(cid:89)(cid:67)(cid:68)(cid:78)(cid:71)(cid:2)(cid:71)(cid:80)(cid:71)(cid:84)(cid:73)(cid:91)(cid:2)(cid:10)(cid:75)(cid:80)(cid:2)(cid:7)(cid:11) greenhouse gas emissions data externally verified according to ISO 14064 standards. (cid:22)(cid:18)(cid:18)(cid:14)(cid:18)(cid:18)(cid:18) (cid:21)(cid:18)(cid:18)(cid:14)(cid:18)(cid:18)(cid:18) (cid:20)(cid:18)(cid:18)(cid:14)(cid:18)(cid:18)(cid:18) (cid:19)(cid:18)(cid:18)(cid:14)(cid:18)(cid:18)(cid:18) (cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:18) (cid:21)(cid:24)(cid:18)(cid:14)(cid:23)(cid:18)(cid:20) (cid:21)(cid:25)(cid:20)(cid:14)(cid:19)(cid:26)(cid:22) (cid:20)(cid:27)(cid:21)(cid:14)(cid:19)(cid:24)(cid:27) (cid:20)(cid:26)(cid:19)(cid:14)(cid:25)(cid:18)(cid:23) (cid:20)(cid:24)(cid:22)(cid:14)(cid:19)(cid:27)(cid:25) (cid:20)(cid:22)(cid:27)(cid:14)(cid:19)(cid:18)(cid:19) (cid:2)(cid:20)(cid:21)(cid:27)(cid:14)(cid:24)(cid:20)(cid:22)(cid:2) (cid:2)(cid:20)(cid:20)(cid:18)(cid:14)(cid:23)(cid:27)(cid:21) (cid:20)(cid:19)(cid:23)(cid:14)(cid:20)(cid:25)(cid:27) (cid:22)(cid:26) (cid:23)(cid:19) (cid:22)(cid:23) (cid:22)(cid:21) (cid:22)(cid:23) (cid:22)(cid:20) (cid:21)(cid:22) (cid:20)(cid:22) (cid:20)(cid:21) (cid:20)(cid:18)(cid:18)(cid:22) (cid:20)(cid:18)(cid:18)(cid:23) (cid:20)(cid:18)(cid:18)(cid:24) (cid:20)(cid:18)(cid:18)(cid:25) (cid:20)(cid:18)(cid:18)(cid:26) (cid:20)(cid:18)(cid:18)(cid:27) (cid:20)(cid:18)(cid:19)(cid:18) (cid:20)(cid:18)(cid:19)(cid:19) (cid:20)(cid:18)(cid:19)(cid:20) (cid:38)(cid:75)(cid:84)(cid:71)(cid:69)(cid:86)(cid:2)(cid:41)(cid:42)(cid:41)(cid:2)(cid:71)(cid:79)(cid:75)(cid:85)(cid:85)(cid:75)(cid:81)(cid:80)(cid:85)(cid:2)(cid:10)(cid:81)(cid:75)(cid:78)(cid:14)(cid:2)(cid:73)(cid:67)(cid:85)(cid:14)(cid:2)(cid:72)(cid:87)(cid:71)(cid:78)(cid:85)(cid:11) (cid:43)(cid:80)(cid:70)(cid:75)(cid:84)(cid:71)(cid:69)(cid:86)(cid:2)(cid:41)(cid:42)(cid:41)(cid:2)(cid:71)(cid:79)(cid:75)(cid:85)(cid:85)(cid:75)(cid:81)(cid:80)(cid:85)(cid:2)(cid:10)(cid:71)(cid:78)(cid:71)(cid:69)(cid:86)(cid:84)(cid:75)(cid:69)(cid:75)(cid:86)(cid:91)(cid:14)(cid:2)(cid:74)(cid:71)(cid:67)(cid:86)(cid:11) (cid:49)(cid:86)(cid:74)(cid:71)(cid:84)(cid:2)(cid:75)(cid:80)(cid:70)(cid:75)(cid:84)(cid:71)(cid:69)(cid:86)(cid:2)(cid:41)(cid:42)(cid:41)(cid:2)(cid:71)(cid:79)(cid:75)(cid:85)(cid:85)(cid:75)(cid:81)(cid:80)(cid:85)(cid:2)(cid:10)(cid:86)(cid:84)(cid:67)(cid:88)(cid:71)(cid:78)(cid:2)(cid:75)(cid:80)(cid:69)(cid:78)(cid:16)(cid:2)(cid:81)(cid:72)(cid:72)(cid:85)(cid:71)(cid:86)(cid:86)(cid:75)(cid:80)(cid:73)(cid:14)(cid:2)(cid:82)(cid:67)(cid:82)(cid:71)(cid:84)(cid:14)(cid:2)(cid:89)(cid:67)(cid:85)(cid:86)(cid:71)(cid:11) (cid:53)(cid:74)(cid:67)(cid:84)(cid:71)(cid:2)(cid:81)(cid:72)(cid:2)(cid:84)(cid:71)(cid:80)(cid:71)(cid:89)(cid:67)(cid:68)(cid:78)(cid:71)(cid:2)(cid:71)(cid:80)(cid:71)(cid:84)(cid:73)(cid:91)(cid:2)(cid:10)(cid:75)(cid:80)(cid:2)(cid:7)(cid:11) (cid:2)(cid:2)(cid:2)(cid:19)(cid:18)(cid:18) (cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:25)(cid:23) (cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:23)(cid:18) (cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:20)(cid:23) (cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:2)(cid:18) Climate change strategy In 2006, the GEB endorsed a firm-wide CO2 emission reduction target of 40% below 2004 levels by 2012 which was achieved in the reporting year. Steps taken towards achieving this target in- cluded adopting internal efficiency measures, increasing the pro- portion of renewable energy used and offsetting emissions we cannot avoid, such as business air travel. (cid:19)(cid:19)(cid:19)(cid:14)(cid:25)(cid:25)(cid:21) (cid:21)(cid:24)(cid:14)(cid:21)(cid:20)(cid:21) (cid:21)(cid:19)(cid:14)(cid:24)(cid:21)(cid:23) (cid:27)(cid:26)(cid:14)(cid:27)(cid:19)(cid:26) (cid:20)(cid:19)(cid:27)(cid:14)(cid:25)(cid:20)(cid:25) (cid:20)(cid:20)(cid:23)(cid:14)(cid:26)(cid:23)(cid:22) We have set a new target as part of our renewed climate change strategy and will aim to reduce our CO2 emissions by a further 15% by 2016, resulting in an overall reduction of 50% below 2004 levels. (cid:22)(cid:19)(cid:14)(cid:26)(cid:23)(cid:26) ➔ Refer to “Our climate change commitment” in this section of the (cid:22)(cid:37)(cid:52)(cid:18)(cid:18)(cid:24)(cid:65)(cid:71) report for more information (cid:20)(cid:19)(cid:26)(cid:14)(cid:24)(cid:26)(cid:19) (cid:20)(cid:21)(cid:18)(cid:14)(cid:18)(cid:19)(cid:23) (cid:20)(cid:24)(cid:14)(cid:25)(cid:18)(cid:19) (cid:21)(cid:19)(cid:14)(cid:23)(cid:19)(cid:27) (cid:21)(cid:22)(cid:14)(cid:23)(cid:23)(cid:24) Since 2010, Global Asset Management in Switzerland has of- fered UBS Voice, a free service enabling holders of Swiss institu- tional funds to express voting preferences ahead of shareholders’ meetings of major Swiss corporations. This allows additional shareholder input into the voting decisions of the funds’ manage- ment company. More than 40% of invested assets for which UBS Voice is offered participate in this service. Corporate responsibility in operations Reducing our environmental impact We have been managing our internal environmental impact for decades. Since the 1970s, we have focused on improving energy efficiency, reducing consumption of paper and other resources, actively managing waste volumes and encouraging our employ- ees to replace air travel with more sustainable options. We man- age the UBS Environmental Program through an Environmental Management System in accordance with ISO 14001 and have Energy consumption and efficiency Energy consumption has a significant environmental impact and is the biggest contributor to our overall greenhouse gas emissions. Since baseline year 2009, we have reduced our energy consump- tion by 21%. This reduction comes as the result of, for example, engineering teams ensuring that heating, air-conditioning and lighting controls of buildings we occupy are optimized. In addi- tion, we apply externally verified standards to validate building performance. Information technology (IT) consumes half of the electricity used by the global business and our IT-driven initiatives contrib- uted significantly to these energy savings. Consolidation and vir- tualization have reduced average IT server energy consumption by 22% since 2011. The Desktop Transformation Program initiated in 2010 and continued through 2012 is designed to reduce the number of personal computers by 14% whilst ensuring that new computers and monitors are more energy-efficient than the equipment they replace. Environmental targets and performance in our operations 1 Total net greenhouse gas (GHG) emissions (GHG footprint) in t CO2e 3 Energy consumption in GWh Share of renewable energy GHG offsetting (business air travel) in t CO2e Paper consumption in kg per FTE Share of recycled and FSC paper Waste in kg per FTE Waste recycling ratio Water consumption in m m3 2012 Target 2012 215,279 761 42% 73,024 122 55.8% 230 54.2% 1.95 –40% –10% increase 100% stabilize 50% stabilize 70% –5% Baseline 4 360,501 5 957 24% 5 0 5 130 33.8% 265 54.4% 2.55 Change from baseline Achievement 6 2011 2010 –40% –21% 73% 100% –6% 65% –13% –0.3% –23% 220,593 239,624 827 45% 88,867 122 44.3% 242 54.2% 2.00 859 43% 69,152 119 42.8% 251 53.7% 2.27 Legend: CO2e = CO2 equivalents; FTE = full-time employee; GWh = gigawatt hour; kWh = kilowatt hour; km = kilometer; kg = kilogram; m m3 = million cubic meter; t = tonne 1 Detailed environmental indicators according to the Global Reporting Initiative are available on the internet at www.ubs.com/environment. 2 Gross GHG emissions include: direct GHG emissions by UBS; indirect GHG emissions associated with the generation of imported / purchased electricity (grid average emission factor), heat or steam and other indirect GHG emissions associated with business travel, paper consumption and waste disposal. 3 GHG footprint equals gross GHG emissions minus GHG reductions from renewable energy and GHG offsets. 4 Baseline year 2009 if not indicated otherwise. 5 Baseline year 2004. 6 Green: target achieved / red: target not achieved. 258 500000 437500 375000 312500 250000 187500 125000 62500 0 Renewable energy We are reducing our use of carbon-intensive energy by including a high proportion of renewable energy. In 2004, we sourced 24% of our energy consumption from renewable energy and district heating, increasing this to 42% by 2012. – Our water consumption decreased 23% compared with 2009 levels, exceeding our target of 5%. ➔ Refer to http://www.ubs.com/global/en/about_ubs/corporate_ responsibility/cr_in_operations/ecology.html for information on our new targets aiming to reduce our environmental footprint Business travel and offsetting CO2 emissions We try to minimize our CO2 emissions and encourage our em- ployees to choose alternatives to air travel such as high-speed rail, recording an 8% reduction in the number of flights taken and a 5.7% increase in global employee rail travel in 2012. Our investments in video conferencing solutions contributed to this reduction and we also recorded a 31% increase in video confer- ence volumes compared with the previous year. The marketing and events team adopted environmental guidelines for client conferences and considered the impact of delegate travel, ho- tels, venue facilities and catering as part of their logistics and planning. Over the past six years, we have offset all CO2 emissions result- ing from agency booked business air travel and client events and conferences. We neutralized over 600,000 metric tons of CO2 emissions and thereby supported renewable energy and other projects reducing CO2 emissions with an amount of CHF 5.3 mil- lion. Projects we selected meet the requirements of the Gold Standard for voluntary emissions reductions while providing posi- tive community benefits. Schemes selected include a wind power project in Turkey and community biofuel projects in China, South Africa and India. Paper, waste and water targets To complement our climate change strategy, we are committed to further reducing our environmental footprint and set targets to reduce paper consumption, waste generation and water us- age. In 2012, we surpassed all of these targets, except for the one set for waste recycling, as evidenced by the data provided in the table “Environmental targets & performance in our opera- tions”. – The amount of paper used per employee decreased 6% com- pared with baseline year 2009. Double-sided printing and copying, now the default setting for printers used by the ma- jority of our employees, combined with an ongoing shift to- wards the distribution of electronic documents, contributed to our surpassing the target to stabilize paper use. We increased the percentage of office paper from Forest Stewardship Coun- cil (FSC) or recycled sources from 34% in 2009 to 56% in 2012, surpassing our 50% target. – The continued implementation of bin-less offices in many larg- er locations has reduced the waste per employee by 13% since 2009, surpassing the target to stabilize this at 2009 levels. However, our waste recycling ratio has stabilized at 54%, fall- ing short of our target of 70%. Paradoxically, this is due to our success in reducing annual paper consumption, a significant recyclable waste stream, from 130 kg to 122 kg per full-time employee. further Engaging our employees By educating, increasing awareness among and offering incen- tives to employees on environmental matters, we hope to help them behave in a sustainable way both at work and at home. As part of our commitment to reducing CO2 emissions, we continued to support Earth Hour in March 2012, switching off lights in UBS offices in 58 cities around the world, for one hour. This was also the starting signal for our annual internal and external environ- mental awareness campaign. The theme in 2012 was ‘Less is more’ and focused on energy efficiency, with activities including environmental fairs, an online environmental quiz and video mes- sages from experts, as well as articles and interviews with senior management posted on our internal and external websites. Responsible supply chain management We purchase products and services ranging from office mainte- nance services across information technology infrastructure to items such as stationery. Responsible supply chain management principles serve to embed our ethics and values with our suppliers, contractors, service partners and project teams. As part of this commitment, we have implemented a framework to identify, as- sess and monitor supplier practices in the areas of human and la- bor rights, the environment and corruption. In 2012, we refined our risk rating concept and initiated training with our procure- ment and sourcing specialists. All our significant active suppliers have been screened for existing environmental and human rights issues. These screenings identified no critical issues according to UBS’s requirements. In addition, over 400 suppliers completed a responsible supply chain questionnaire assessing environmental and social management practices. Community investment We continued our well-established tradition of supporting the ad- vancement and empowerment of organizations and individuals within the communities in which we do business. Our initial focus was centered on direct cash donations, but our community invest- ment program now encompasses employee volunteering, matched-giving schemes, in-kind donations, disaster relief efforts and partnerships with community groups, educational institutions and cultural organizations in all of our business regions. Community Affairs In 2012, UBS and our affiliated foundations made direct cash do- nations totaling CHF 27.5 million to carefully selected non-profit partner organizations and charities, compared with CHF 31.1 mil- lion in 2011. Additionally, spending on the UBS Anniversary Edu- 259 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate responsibility cation Initiative amounted to CHF 16.7 million. These donations were primarily aimed at our Community Affairs key themes of education and entrepreneurship. Contributions were also made to other causes, in particular disaster relief, including a commit- ment of more than USD 1.2 million in total financial contributions to long-term relief and rebuilding efforts in response to the devas- tation caused by Hurricane Sandy in the United States. These do- nations, combined with other significant activities, notably the volunteering activities of employees, have continued to provide substantial benefits to projects and people around the world, as demonstrated by the examples provided below. Across all business regions, our employees continue to play a very active role in our community investment efforts, in particu- lar through their volunteering activities. In 2012, 12,563 em- ployees spent 110,065 hours volunteering, an increase of 8% and 5%, respectively, compared with 2011. We support their commitment by offering up to two working days a year for vol- unteering efforts, and also match employee donations to select- ed charities. In Switzerland, our community investment efforts are also ad- vanced by the UBS Culture Foundation, the UBS Foundation for Social Issues and Education, and the A Helping Hand from UBS Our climate change commitment Climate change is one of the most significant challenges of our time. The world’s key environmental and social challenges, such as population growth, energy security, loss of biodiversity and access to drinking water and food are all closely intertwined with climate change. This makes the transition to a low-carbon economy vital. We recognize that financial institutions are increasingly expected to play a key role in the transition to a low-car- bon economy, and we are determined to support our clients in preparing for success in an increasingly carbon- constrained world. As one of the leading wealth management firms worldwide, and the leading universal bank in Switzerland backed by a top asset management business and a client-centered investment bank, our climate change strategy focuses on the following areas. It is in these areas where we believe we can make the greatest contribution to the transition towards a low-carbon economy: – Risk management: seeking to protect our clients’, and our own, assets from climate change risks, within our sphere of influence. Recognizing that the transition to a low-carbon economy will take time and that fossil fuels will continue to dominate energy production for decades to come, we are determined to understand the risks that our clients’, and our own, assets are exposed to in the context of uncertain policy and technology developments addressing climate change. This includes developing a metrics-based approach to measure our exposure to climate change risks in high-risk sectors such as real estate and energy. – Investments: helping to mobilize private and institutional capital towards investments facilitating climate change mitigation and adaptation. Our clients will continue to look for investment opportunities and some will increasingly focus on investments facilitating climate change mitigation and adaptation. – Finance: supporting this transition as corporate advisor, and/or with our lending capacity. We are helping corporate clients raise capital on domestic/international capital markets in order to meet the high investment levels required for the transition to a low-carbon economy. In Switzerland, we are also supporting private clients in renovating their private homes sustainably and innovative small and medium-sized enterprises (SMEs) in providing solutions for climate change mitigation and adaptation. – Research: offering world-class research capacity to our clients on climate change issues. Building on our renowned expertise, we act as a thought leader and expert advisor to our clients on financial impacts of, and solutions for, climate change. – In-house operations: reducing our own greenhouse gas emissions. We are positioning our in-house operations in support of a low-carbon economy by further investing in 260 Our climate change commitment Employees association. In 2012, these organizations made valu- able contributions to important social causes, including fostering the humanities and the creative arts, supporting communities in need, and helping disabled and disadvantaged people. its establishment, the Foundation has received more than 18,000 donations totaling over CHF 175 million, enabling it to support 275 projects in 75 countries. Because UBS bears all administrative costs related to the UBS Optimus Foundation, 100% of every do- nation goes directly towards the projects funded. Client foundation Established in 1999, the UBS Optimus Foundation works to break down the barriers that prevent children from reaching their po- tential. The Foundation works with carefully selected partners globally on projects which help children in the areas of health, education and protection against violence and sexual abuse. Since In 2012, we published the Optimus Study, the most compre- hensive research ever conducted in Switzerland into the extent of sexual assault on children and adolescents. The study’s findings are helping the government and child protection agencies to im- prove in delivering child protection services for children and in turn, reduce the incidence of child sexual victimization. sustainable real estate and efficient IT infrastructure and limiting business travel-related CO2 emissions. – Engagement & disclosure: report- ing and communicating transpar- ently about the progress of our strategy. We are engaging with our stakeholders on climate change issues and continue to raise awareness among our employees. In addition, we will continue to disclose progress we make in executing our climate change strategy through established standards, such as the Global Reporting Initiative and the Carbon Disclosure Project. These efforts build on a history and strong track record of reducing our environmental footprint in a consistent and transparent manner. In the reporting year 2012, we reached our ambitious goal set in 2006 to reduce CO2 emissions by 40% compared with 2004 baseline levels. A target on which we delivered successfully by adopting energy efficiency measures to reduce the energy consump- tion of the buildings we occupy, and of critical facilities such as the data centers we use, while increasing the proportion of renewable energy used. Emissions that cannot be reduced by other means (e.g. business air travel) are offset. Our achievements have been recognized by external experts, in particular by the most significant climate-change-focused investors’ initiative, the Carbon Disclosure Project, which in 2012 ranked UBS as one of the top 10 companies worldwide for excellence in transparency and achieve- ment in combating climate change. We will regularly report on the progress we make in executing our new climate change strategy which, in 2013, will focus on the following elements: – Participating in an industry-wide initiative to develop accounting metrics for CO2 emissions associated with lending and investments; – Reducing the environmental impact of our Global Real Estate investment portfolios; – Offering the “Energy check-up for SMEs” to Swiss SMEs in partnership with the Swiss Private Sector Energy Agency and renewing the cash bonus to support private clients in renovating their private homes sustainably; – Launching UBS Clean Energy Infra- structure Switzerland for institutional clients to invest in renewable energy infrastructure; – Continuing to support renewable energy and clean technology financing through our Investment Bank; – Developing the UBS Sustainability Health Check, which will allow Wealth Management clients to identify discrepancies between their sustain- ability preferences (including climate change) and the composition of their portfolio; and – Reducing our greenhouse gas footprint by 50% compared with 2004 baseline levels, another 15% below 2012 levels, and reducing our overall energy consumption by 10% compared with 2012 levels by 2016. 261 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Corporate responsibility Key examples of UBS’s community investment activities across the globe Switzerland To mark UBS’s 150th anniversary, UBS Employee Volunteering teamed up with the Swiss Foundation for Landscape Conservation for 10 jubilee projects. More than 330 UBS volunteers worked for more than 3,300 hours across all UBS regions helping to restore the Swiss landscape. One of the projects took place on an alpine pasture in Gantrisch nature reserve where employees helped to preserve the species-rich meadows and alpine pastures as well as other important landscape features. Another of these projects took place in Liddes where UBS employees had the opportunity to work on the historic irrigation canal “Bisse de la Tour”, under expert supervision. Americas In 2012, Community Affairs Americas expanded the Elevating Entrepreneurs program and teamed up with lenders in two new locations, Chicago and Los Angeles, to provide USD 15 million in financing solutions for qualified small businesses. Through a variety of student mentoring programs sponsored by UBS, we also contributed 8,148 volunteer hours to supporting children and young adults in developing their career and computer skills and providing them with work experience to help them achieve academic success and economic empowerment. Additionally, we launched Season of Service, a community impact initiative which resulted in approximately 161 different volunteer activities being undertaken from October to December and 4,473 volunteer hours logged by UBS employees across the Americas region. In response to the devastation caused by Hurricane Sandy in late October, Com- munity Affairs Americas announced that UBS is committing more than USD 1.2 million in total financial contributions to aid in the long-term relief and rebuilding efforts. Asia Pacific In March 2011, an earthquake and resulting tsunamis devastated Kamaishi City in the Tohoku region of northeast Japan, causing the deaths of 1,250 residents. In response, UBS initiated the UBS Tohoku Project; a five-year strategy to bring relief to the disaster-struck region. In 2012, UBS and Japanese partner organization RCF Tohoku Earthquake Consulting Team, a recon- struction support organization, imple- mented the second phase of this strategy to help regenerate and rebuild the local community. Asia Pacific volunteers were first introduced to the work of RCF Tohoku Earthquake Consulting Team and the local rebuilding strategy Create-Play- Learn-Eat, allowing them to learn about the situation in Kamaishi before working on respective proposals for each of the focus areas to support the regeneration and rebuilding efforts. UBS volunteers also spent a day harvest- ing rice at the UBS RICE Project paddy field. The UBS RICE Project aims to improve the water quality and bio- diversity of Lake Kasumigaura, north of Tokyo, and it is part of a larger program led by UBS’s community partner, Asaza Fund, to provide local children with the opportunity to learn about ecosystems and develop environ- mental awareness. Through UBS’s investment, the environment around the previously abandoned paddy field has been enriched and continues to thrive. Europe, Middle East and Africa UBS was given the 25th Anniversary Lord Mayor of London’s Dragon Award in recognition of the achievements of the firm’s community affairs program in London over the past 25 years. Some 90 young performers from On-track, UBS’s community partnership with the London Symphony Orchestra, performed at the opening ceremony of the Olympics. Across the region, rapidly increasing numbers of UBS employees are sharing their business skills through strategic volunteering in their local communities: In Israel 90% of employees are support- ing young social entrepreneurs in partner- ship with Ashoka Ventures, and in Turkey 40% of employees are supporting students in developing their science and math skills. ➔ Refer to www.ubs.com/community for more information 262 Our employees Our employees’ drive, ability, insight and experience are key to meeting the needs of our clients and building our businesses. We are committed to attracting, developing and retaining the best in their field of expertise and to further- ing our reputation as a leading employer. We promote a culture that is centered around our principles of client focus, excellence and sustainable performance. This helps maximize opportunities to create value for all of our stakeholders on the basis of our employees’ development and success. Our workforce Our competitive strength depends on the quality of our people. We want to be the best in all the businesses that we choose to be in. Therefore, hiring, developing and retaining high-caliber em- ployees are fundamental priorities. On 30 October 2012, we an- nounced a significant acceleration in the implementation of our strategy to transform the firm. This involves further sharpening our focus in the Investment Bank, reducing costs significantly and implementing further efficiencies more rapidly. Specifically, we announced that we would concentrate on our core strengths in advisory, research, equities and foreign exchange and that we would exit uneconomical business lines, predominantly in fixed income. As a result, by 2015, we are likely to have a full-time equivalent headcount of around 54,000 compared with 62,628 at the end of 2012. We will continue to act as a responsible em- ployer during the process of reducing headcount, making use of our internal labor market and career transition support services. As of 31 December 2012, we employed 62,628 people, 2,192 fewer than a year earlier. In 2012, our employees worked in 56 countries, with approximately 36% of our staff employed in Swit- zerland, 35% in the Americas, 17% in Europe, Middle East and Africa and 12% in Asia Pacific. Employee turnover, as a percent- age of average overall headcount, was 12.9% in 2012 compared with 13.2% in 2011. Employee-initiated turnover was 6.7%, down 1.1% from 2011. Internal mobility encourages cross-divisional collaboration and innovation, as well as individual career development. In 2012, we supported employee mobility across business divisions and re- gions. Opportunities for internal movement declined in 2012 due Personnel by region Full-time equivalents Americas of which: USA Asia Pacific Europe, Middle East and Africa of which: UK of which: Rest of Europe of which: Middle East and Africa Switzerland Total Personnel by business divisions and Corporate Center Full-time equivalents Wealth Management Wealth Management Americas Investment Bank Global Asset Management Retail & Corporate Corporate Center Total of which: Corporate Center personnel (before allocations) 1 31.12.12 21,995 20,833 7,426 10,829 6,459 4,202 167 22,378 62,628 31.12.12 16,210 16,094 15,866 3,781 10,156 522 62,628 25,255 1 Comparative figures in this table may differ from those published in quarterly and annual reports (for example due to adjustments following organizational changes). As of 31.12.11 % change from 31.12.10 31.12.11 22,924 21,746 7,690 11,019 6,674 4,182 162 23,188 64,820 As of 31.12.11 15,904 16,207 17,007 3,750 11,430 523 64,820 26,269 23,178 22,031 7,263 10,892 6,634 4,122 137 23,284 64,617 (4) (4) (3) (2) (3) 0 3 (3) (3) % change from 31.12.10 31.12.11 15,663 16,330 16,488 3,481 12,089 566 64,617 26,565 2 (1) (7) 1 (11) 0 (3) (4) 263 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Our employees to personnel reductions and cost focus. However, 906 employees still transferred between business divisions compared with 1,228 in 2011 and 366 moved to roles in a different region compared with 472 in 2011. Recruiting new employees Our recruitment of new talent in 2012 generally was more re- strained than in 2011. Ongoing challenges in our operating envi- ronment dampened demand in several business areas throughout 2012, and our announcement in October of a significant accel- eration of the implementation of our strategy curbed recruitment further. While one of our primary goals in 2012 was to retain and, where necessary, redeploy employees to other functions, we were still committed to hiring the best available talent to sustain and grow our core businesses. One priority was to continue recruiting experienced client advisors in our asset-gathering businesses. We also invested in our future by hiring graduates and interns in each of our operating regions, as well as apprentices in Switzerland. Existing staff were a key source of hiring in 2012, with 41% of all positions being filled by internal talent compared with 28% in 2011. Recruitment using agencies was reduced to 9% in 2012 from 16% in the previous year. In 2012, we filled 5,381 positions across the firm, with lower than usual hiring in the Investment Bank. Our wealth manage- ment businesses continued to hire steadily, with UBS Wealth Man- agement recruiting 275 client advisors and Wealth Management Americas hiring 620 financial advisors. Throughout 2012 we worked to ensure that we had a continu- ous and visible presence on our target campuses, consistent with our commitment to graduate hiring. Senior leaders from across the firm were actively present on campus and at UBS recruiting events, underscoring UBS’s commitment to recruiting and devel- oping young talent. 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(cid:55)(cid:36)(cid:53)(cid:2)(cid:37)(cid:67)(cid:84)(cid:70)(cid:2)(cid:37)(cid:71)(cid:80)(cid:86)(cid:71)(cid:84)(cid:14)(cid:2)(cid:42)(cid:81)(cid:86)(cid:71)(cid:78)(cid:2)(cid:53)(cid:71)(cid:71)(cid:82)(cid:67)(cid:84)(cid:77)(cid:2)(cid:54)(cid:74)(cid:87)(cid:80)(cid:14)(cid:2)(cid:57)(cid:81)(cid:78)(cid:72)(cid:85)(cid:68)(cid:71)(cid:84)(cid:73)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:57)(cid:75)(cid:70)(cid:70)(cid:71)(cid:84)(cid:2)(cid:42)(cid:81)(cid:86)(cid:71)(cid:78)(cid:16) 264 graduate talent. Our graduate trainees continued to benefit from unique educational opportunities and business-specific activities as part of a structured Graduate Training Program. In 2012, 782 university graduates were hired into one of UBS’s undergraduate or MBA graduate training programs. An additional 968 interns were hired globally over the course of the year. Our apprentice- ship program in Switzerland continued to be strong in 2012, hir- ing 247 business and 38 IT apprentices. Despite the relatively challenging conditions, we continued to be seen as an attractive employer. Globally, 95% of candidates accepted our offer of employment in 2012, with 97% of individu- als in Switzerland accepting. Notably, UBS ranked fourth, among both business students and experienced business professionals, in global employer branding firm Universum’s 2012 Ideal Employer surveys in Switzerland. Globally, UBS ranked in the top 50 in Uni- versum’s 2012 World’s Most Attractive Employers list. ➔ Refer to “www.ubs.com/awards” for additional information regarding UBS’s standing as an employer Strengthening and sustaining our diverse workforce and inclusive work environment We believe it is essential to have a workforce of individuals from widely diverse backgrounds, cultures and life experiences. A var- ied and inclusive workforce results in a more innovative, dynamic and, ultimately, more successful company. Additionally, diversity in elements such as gender, ethnicity, business experience, educa- tion, nationality, religion, age, disability and sexual orientation help us to further understand and meet the needs of our diverse client base. We are committed to increasing the diversity of our workforce by attracting, developing and retaining employees who promote the diverse culture we seek. At the same time, we are building an inclusive work environment that encourages development and collaboration and is focused on enhancing client relationships. Our workforce is truly global. We have 891 offices in 56 coun- tries, and our employees are citizens of 145 countries. In 2012, the average age of our employees was 39 years and the average length of employment with the firm was 8.9 years. In Switzerland, more than 51% of employees have worked at UBS for more than 10 years. Our global diversity strategy is realized through action plans for each business division, integration into all our people processes and a range of regional initiatives. In 2012, we expanded our strategy to focus on new business development, particularly among underserved client groups. For example, Wealth Manage- ment Americas launched a program called “Elevating Entrepre- neurs”. This program matches small business owners in under- served communities with a UBS financial advisor and a client who mentor the entrepreneur, providing strategic financial and busi- ness advice. (cid:22)(cid:42)(cid:52)(cid:18)(cid:18)(cid:24)(cid:65)(cid:71) We continued to integrate diversity aspects into our workforce management and development processes during 2012, incorpo- rating concepts like recognizing and avoiding unconscious bias into our leadership development offering. Business areas such as (cid:20)(cid:22)(cid:18)(cid:18)(cid:18) (cid:19)(cid:26)(cid:18)(cid:18)(cid:18) (cid:19)(cid:20)(cid:18)(cid:18)(cid:18) (cid:24)(cid:18)(cid:18)(cid:18) (cid:18) Gender distribution by employee category 1 As of 31.12.12 Male Female Total Officers (Director and above) Officers (other officers) Non-officers Total Number 18,189 4,974 23,163 % 78.5 21.5 100.0 Number 13,724 8,108 21,832 % 62.9 37.1 100.0 Number 8,220 11,217 19,437 % 42.3 57.7 100.0 Number 40,133 24,299 64,432 % 62.3 37.7 100.0 1 Calculated on the basis that a person (working full-time or part-time) is considered one headcount (in this table only). This accounts for the total UBS end-2012 employee number of 64,432, which excludes staff from UBS Card Center, Hotel Seepark Thun, Wolfsberg and Hotel Widder. Finance sponsored training sessions for all of their employees aimed at avoiding unconscious bias. In 2012, regional diversity teams worked with business and human resource leaders on diversity initiatives that were closely linked to regional talent strategies. As examples, a mentoring pro- gram in Switzerland that helps women Associate Directors and Directors focus on career progression was extended to include more women in our IT organization. Several business areas in Switzerland piloted “TeilzeitMann”, a federally-funded project promoting gender equality and helping to remove barriers to part-time roles for men. The UK hosted its third annual Diversity & Inclusion Week to raise awareness among employees about the value of a diverse and inclusive workplace. We piloted mentoring programs for senior-level women in Hong Kong and Japan during 2012 to increase their career development and networking op- portunities. In Singapore and Beijing, we held a series of events for female undergraduates to help them prepare for a successful job search upon graduation. In the US, an ongoing recruitment initiative hired diverse financial advisors to provide access to un- derserved markets. We also engaged with a number of colleges and workforce development programs like “Year Up” and “NPower” to give diverse talent from underserved communities professional experience. In 2012, 20 of these students were hired as UBS interns, enabling them to be coached and mentored while gaining work experience in a financial services organization. In 2012, approximately 14,000 employees across UBS were members of 21 employee networks. These networks, represent- ing affinities such as gender, culture, life stage or sexual orienta- tion, help build relationships across our businesses and an open climate where employees feel their values are welcomed in a pro- fessional capacity. Our global network guidelines enable employ- ees to set up or join employee networks/affinity groups in all our operating regions. Additionally, our human resource policies and processes have global coverage and outline our commitment to a non-discriminating, harassment-free workplace and equal oppor- tunities for all employees. Managing performance We are committed to ensuring that employees are clear on their goals, and we provide the support they need to be effective in their jobs as well as to advance their careers. Our performance management framework features regular opportunities for em- ployee-manager dialogue throughout the yearly cycle, consistent and transparent assessment processes, and a clear link between performance, demonstrated achievements and compensation. In 2012, we streamlined our performance management pro- cess and timetable considerably. This helped employees and man- agers focus on it appropriately during an extremely active part of their business cycle. Our overarching goal for performance man- agement remains the same: to strengthen our performance cul- ture and focus on our strategy so we can achieve long-term, sus- tainable profitability. Employees’ performance reviews are based on their contribu- tion and whether their individual performance appropriately re- flects factors like leadership, collaboration and teamwork, client focus and professional behavior. Risk objectives were integrated for all employees in 2012 as part of a concerted effort to raise risk awareness and incorporate it into performance and reward deci- sions. In 2012, 99% of the employees eligible to participate in the firm’s global performance assessment cycle received a perfor- mance review. Performance management for our senior executives and cer- tain other key employees is especially rigorous. Senior leaders re- ceive a comprehensive evaluation based on key achievements relative to their objectives, including business performance, risk management, leadership and change impact. A thorough assess- ment includes feedback from peers as well as direct reports. Employees identified as “Key Risk Takers” continue to be sub- ject to extended performance management procedures. These individuals may work in front-office, logistics or control functions. (cid:49)(cid:87)(cid:84)(cid:2)(cid:67)(cid:82)(cid:82)(cid:84)(cid:81)(cid:67)(cid:69)(cid:74)(cid:2)(cid:86)(cid:81)(cid:2)(cid:82)(cid:71)(cid:81)(cid:82)(cid:78)(cid:71)(cid:2)(cid:79)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:2) (cid:40)(cid:81)(cid:69)(cid:87)(cid:85)(cid:75)(cid:80)(cid:73)(cid:2)(cid:81)(cid:80)(cid:2)(cid:68)(cid:87)(cid:85)(cid:75)(cid:80)(cid:71)(cid:85)(cid:85)(cid:2)(cid:82)(cid:84)(cid:75)(cid:81)(cid:84)(cid:75)(cid:86)(cid:75)(cid:71)(cid:85)(cid:14)(cid:2)(cid:84)(cid:75)(cid:73)(cid:81)(cid:84)(cid:81)(cid:87)(cid:85)(cid:2)(cid:84)(cid:75)(cid:85)(cid:77)(cid:2)(cid:79)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:68)(cid:87)(cid:75)(cid:78)(cid:70)(cid:75)(cid:80)(cid:73)(cid:2)(cid:78)(cid:71)(cid:67)(cid:70)(cid:71)(cid:84)(cid:85)(cid:74)(cid:75)(cid:82)(cid:2)(cid:85)(cid:86)(cid:84)(cid:71)(cid:80)(cid:73)(cid:86)(cid:74) (cid:80) (cid:80) (cid:75) (cid:80) (cid:73) (cid:75) (cid:80) (cid:73) (cid:69) (cid:52)(cid:71)(cid:85)(cid:81) (cid:87)(cid:84)(cid:69) (cid:71) (cid:2) (cid:82) (cid:78) (cid:67) (cid:67)(cid:80) (cid:70)(cid:2)(cid:85) (cid:81) (cid:87) (cid:84) (cid:75) (cid:80) (cid:71) (cid:85) (cid:85)(cid:2)(cid:85)(cid:86)(cid:84)(cid:67)(cid:86)(cid:71)(cid:73)(cid:91) (cid:85) (cid:87) (cid:36) (cid:49)(cid:68)(cid:76)(cid:71)(cid:69)(cid:86)(cid:75)(cid:88)(cid:71)(cid:2)(cid:85) (cid:71) (cid:86) (cid:86)(cid:75) (cid:80) (cid:80) (cid:75)(cid:81) (cid:85) (cid:85) (cid:71) (cid:69) (cid:69) (cid:87) (cid:85) (cid:17) (cid:86) (cid:80) (cid:71) (cid:86) (cid:80) (cid:71) (cid:79) (cid:71) (cid:73) (cid:67) (cid:80) (cid:67) (cid:79) (cid:40)(cid:81)(cid:85)(cid:86)(cid:71)(cid:84)(cid:75)(cid:80)(cid:73)(cid:2)(cid:67) (cid:82)(cid:71)(cid:84)(cid:72)(cid:81)(cid:84)(cid:79)(cid:67)(cid:80)(cid:69)(cid:71)(cid:14)(cid:2)(cid:84)(cid:71)(cid:85)(cid:87)(cid:78)(cid:86)(cid:85) (cid:67)(cid:80)(cid:70)(cid:2)(cid:71)(cid:79)(cid:82)(cid:78)(cid:81)(cid:91)(cid:71)(cid:71) (cid:70)(cid:71)(cid:88)(cid:71)(cid:78)(cid:81)(cid:82)(cid:79)(cid:71)(cid:80)(cid:86) (cid:69)(cid:87)(cid:78)(cid:86)(cid:87)(cid:84)(cid:71) (cid:78) (cid:67) (cid:54) (cid:38) (cid:39) (cid:79) (cid:82) (cid:78) (cid:81) (cid:91)(cid:71)(cid:71)(cid:2)(cid:82)(cid:81)(cid:78)(cid:75)(cid:69)(cid:75)(cid:71)(cid:85) (cid:2) (cid:67) (cid:80) (cid:70) (cid:2) (cid:82) (cid:84) (cid:67)(cid:69)(cid:86)(cid:75)(cid:69)(cid:71)(cid:85) (cid:71)(cid:78)(cid:81)(cid:82)(cid:79)(cid:71)(cid:80)(cid:86) (cid:67) (cid:84) (cid:70) (cid:89) (cid:52) (cid:71) (cid:71) (cid:88) (cid:73) (cid:79) (cid:50) (cid:67) (cid:71) (cid:84) (cid:80) (cid:67) (cid:73) (cid:71) (cid:79) (cid:71) (cid:80) (cid:86) (cid:72) (cid:81) (cid:84) (cid:79) (cid:67) (cid:80) (cid:69) (cid:71) 265 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Our employees Due to their role, they are able to materially commit, use or con- trol the firm’s resources and exert significant influence over our risk profile. In addition to self, manager and relevant 360-degree reviews, at least one person in a control function such as risk, fi- nance or compliance must critically review the Key Risk Taker’s performance to attest to the person’s attitudes and actions to- ward managing risk. As part of our overarching people management processes, we have Group-wide ranks and salary ranges that are applicable to all employees, as well as a standardized role classification model. Many human resource processes are based on these global role profiles that provide a foundation for more clearly defined career paths and development plans for all employees. Education and talent development We take a structured and integrated approach to our talent, lead- ership and development practices. Our goal is to give our employ- ees and leaders what they need to excel in their roles, progress in their careers, and ultimately create value for our stakeholders. The UBS Business University manages all of UBS’s learning and development activities, aligning them with Group-wide, divisional and regional business strategies. In 2012, our employees partici- pated in a total of 599,763 development activities, averaging 9.6 training experiences per employee (FTE), which equates to an av- erage investment of 2.1 training days. One of the Business University’s primary objectives is to help our senior leaders and key talent to lead people in line with our principles and leadership culture. Our leadership and talent devel- opment offerings were enhanced in 2012 to better support them and this training, along with a comprehensive suite of manage- ment skills training and new hire programs, provides current and future leaders with the necessary skills to lead UBS forward. We introduced Client Leadership Experience workshops in 2008 that bring together client-facing employees from all busi- ness divisions to build the knowledge, skills and networks needed to deliver the best solutions from across the firm to our clients. In 2012, 25 workshops were held in 10 cities in the Americas, Eu- rope, Asia Pacific and Switzerland and attended by over 800 Di- rectors, Executive Directors and Managing Directors. Since incep- tion, 3,700 employees have participated in a Client Leadership Experience workshop. A comprehensive business education offering is provided through more than 110 role-specific learning pathways. These pathways, covering topics such as risk, compliance, sales, advisory and markets, are a series of activities, events and experiences that help ensure consistent training across similar job roles worldwide. Client-facing staff participate in tailored advisory and sales train- ing programs. As an example, in 2012, UBS launched a compre- hensive certification program for all client advisors in our Private Clients, Wealth Management Switzerland and Corporate & Insti- tutional Clients areas. This rigorous training, examination and cer- tification process has been externally accredited by the State Sec- retariat for Economic Affairs (SECO) in Switzerland. We expect over 5,000 UBS client advisors in Switzerland to undergo the cer- tification process over the next three years. All employees can access a broad range of development and training as part of their daily work and through various programs. Our eLearning portfolio consists of more than 2,000 courses. In 2012, around 18,000 employees participated in volun- tary online learning on topics such as communication skills, man- agement and leadership, financial markets and IT. As an example, more than 6,000 employees completed one or more Understanding our Business modules in 2012 to broaden their understanding of our business divisions and their primary activities. Other learning modules on risk, general finance and compliance topics help em- ployees develop the skills they need to work effectively in their roles and within the evolving business and regulatory environ- ments. Mandatory online training helps ensure that compliance and regulatory requirements are met by the relevant employees. In 2012, employees across all business divisions completed more than 378,000 mandatory training sessions. All employees are expected to consider career and skill develop- ment opportunities as part of the firm’s continuous performance management process. To support this, we give employees an over- arching structure, tools and individual development opportunities within an integrated talent management framework. In addition, we invest in talent development and succession planning for the most critical roles across the firm. An annual firm-wide talent re- view helps to identify and build the skills and competencies of employees who are identified as having leadership potential. Pos- sible successors for senior leadership roles are identified and tracked on a firm-wide basis, and they are offered specialized de- velopment opportunities in addition to on-the-job training. UBS Wealth Management Master Launched in late 2012, the UBS Wealth Management Master is the highest internal certification available to client- facing staff in Wealth Management. It enables senior professionals to acquire in-depth expertise in account, investment and relationship management. Combining structured training with on-the-job development, the two-year program enables participants to deepen their skill sets and learn how to accelerate profit- able growth for both clients and the firm. The teaching staff comprises notable academics from leading universities and business schools, senior consultants, industry experts, and UBS subject matter experts. These specialists share cutting- edge business views and financial market expertise, as well as best practices to help participants attain the highest level of professional excellence. 266 Compensation We strive to offer our employees competitive pay and incentives, while carefully considering our obligations to shareholders and regulators. Our approach recognizes the need to compensate in- dividuals for their performance within the context of market con- ditions, a fast-changing commercial environment and evolving regulatory oversight. Our foremost priority is to encourage and reward behavior that contributes to sustainable profitability and the firm’s long-term success. In 2012, we continued to actively consider risk and account for risk-adjusted profitability in our compensation approach. Our compensation structure is designed to be appropriately balanced between fixed and variable elements. We emphasize the variable component as an incentive to excel and to foster a performance-driven culture, while supporting appropriate and controlled risk taking. Employee compensation is viewed within a total reward framework that takes into account base salary, dis- cretionary incentives and benefits. Our Total Reward Principles are the foundation of our compen- sation framework, particularly for integrating risk control and managing performance, as well as specifying how we structure our compensation and performance award pool funding. They reflect our long-standing focus on pay for performance, sustained profitability, risk awareness and sound governance. ➔ Refer to “Our deferred variable compensation plans” in the “Compensation” section of this report for more information Employee share ownership We support employee share ownership because we believe per- sonal accountability for business actions and decisions can be en- couraged through equity-based awards. Our employee share pur- chase plan, Equity Plus, is a voluntary equity-based program whereby eligible employees can purchase UBS shares at market price and receive one free share for every three shares purchased. These shares vest in three years, subject to continued employment at UBS and retention of the purchased shares. We also use UBS equity as a significant component in our performance award de- ferral programs. On 31 December 2012, current employees held an estimated 6% of UBS shares outstanding (including approxi- mately 4% in unvested/blocked shares from our compensation programs), based on all known shareholdings from employee par- ticipation plans, personal holdings and individual retirement plans. At the end of 2012, an estimated 50% of all employees held UBS shares, while an estimated 36% held UBS stock options. ➔ Refer to the “Compensation” section of this report for more information Our identity and our commitment to being a responsible employer Relationships based on respect, trust and mutual understanding are the foundation for all of our business activities. The firm’s Code of Business Conduct and Ethics demonstrates the impor- tance we place on responsible workplace behavior. This code sets out the principles and practices employees are expected to follow and forms the basis for all UBS employee policies and guidelines. The UBS Identity outlines what we strive to be – the choice of clients worldwide – and how we intend to fulfill that vision. The firm’s guiding principles, confirmed to employees in mid-2012, characterize the way we work together and the promises we make to our clients that shape how we are perceived. Unrivaled client fo- cus is at the heart of our business model, and we strive for excel- lence in everything we do. We aim to deliver sustainable perfor- mance by strengthening our reputation and by delivering consistent returns to our shareholders. These principles are integrated into our corporate decision-making and people management processes, and they are intended to shape the daily actions of our employees. Our vision Our principles We want to become: To achieve this, our actions are driven by three principles: Our attitude And we promise that: The choice of clients – worldwide Client focus Excellence Sustainable performance “We will not rest, until …” We demonstrate an unrivalled client focus at every level of our business, building relationships that create long-term value. We strive for excellence in everything we do, from the products and services we develop to the way we collaborate across the firm to deliver the best of what UBS has to offer. We work continuously to strengthen our reputation as a rock-solid firm and provide consistent returns to our shareholders. … we’ve helped our clients reach their goals. We’re relentless in our efforts to do the best for our clients. 267 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Our employees Listening to the voice of our employees In June and July 2012, we conducted a Group-wide survey to get employees’ views on where we stand in relation to living up to our principles, achieving our strategy and providing a work environ- ment where employees can succeed. These elements are prereq- uisites to achieving our vision to be the choice of clients world- wide. We openly communicated the findings to our employees and will use these year-one results as a benchmark for continuous improvement. Globally, 39,142 employees participated in the survey. Overall the results conveyed a largely positive picture of the firm relative to our external benchmark, especially around client focus (with an 80% positive rating). UBS outperformed a benchmark of more than 50 banks, mutual fund companies and insurers in overall sat- isfaction with the firm as a place to work and with regard to op- portunities for employees to have challenging and interesting work. We were encouraged to learn that our employees appreciate the high quality of our solutions and services and the value we place on cross-business collaboration. Results for employee en- gagement showed that our employees are highly motivated to contribute in their jobs beyond what is expected (significantly higher than the benchmark), but pride in the firm was below ex- pectations. We fully recognize that we need to rebuild employees’ trust and confidence. Feedback on measures of respect and recognition were en- couraging. These elements are essential for effective cooperation across the firm and they have a positive effect on client service and sustainable results. The survey also provided insights into areas in need of improvement such as the communication of our strategy. We have already taken action to change this view, start- ing with the announcement in October 2012 of the acceleration of the implementation of our strategy. In addition, we are ad- dressing feedback on our talent management and recruiting pro- cesses as well as suggestions of ways to increase efficiency. Following the conclusion of the survey, the GEB, as well as busi- ness divisions and functions, had numerous follow-up discussions and agreed on specific action plans to reinforce our strengths and address the most significant areas of perceived weakness. Regular, targeted “check-in” surveys will help us measure progress and keep us on track as we continue to build our corporate culture. Benefits and well-being We strive to be a responsible employer and invest in all of our employees, whether full- or part-time, by offering a comprehen- Engagement1 Enablement1 Overall I am very satisfied with UBS as a place to work There are no significant barriers at work to doing my job well Given your choice, how long are you likely to work for UBS? I am highly motivated to contribute in my job beyond what is expected of me 90 80 70 60 50 40 I am proud to tell others that I work for UBS I would recommend UBS to family or friends as a place to work Source: UBS UBS motivates me to contribute more than is required 90 80 70 60 50 My job provides me with the opportunity to do challenging and interesting work Conditions in my job allow me to be about as productive as I can be UBS makes good use of my skills and abilities Global Financial UBS Global Financial UBS 1 The 2012 survey of UBS employees and development of the Global Financial benchmark was conducted by Hay Group. The scale ranges from “strongly agree” to “strongly disagree”. The results shown in the graph above are the percentage of responses that were “strongly agree” or “agree”. For the question “Given your choice, how long are you likely to work for UBS?”, the scale ranges from “less than 1 year”, “1–2 years”, “3–5 years”, and “more than 5 years / until retirement”. The graph above shows the percentage of people who answered “more than 5 years / until retirement”. 1 The 2012 survey of UBS employees and development of the Global Financial benchmark was conducted by Hay Group. The results shown in the graph above are the percentage of responses that were “strongly agree” or “agree”. 268 sive suite of benefits such as insurance, pension, retirement and time off that are competitive in our markets. We also offer addi- tional benefits, such as flexible working arrangements, to employ- ees in many of our major markets. As examples, in Switzerland, employees who are part of a “Workplace for the Future” (WFF) initiative can work at their desk or any other WFF-equipped space in or out of their office building. An open layout and enhanced IT infrastructure increase productivity and collaboration, while desk sharing and standardization reduce the firm’s rental and operat- ing costs. WFF was expanded to the UK in 2012 and is intended to be rolled out worldwide in the coming years. In addition, in 2012 we revised our “teleworking” policy in order to make it easier for employees in Switzerland to work outside UBS premis- es. We also encourage and support employee volunteering in the many communities in which we operate. To help employees manage life and work issues, we offer employee assistance programs in a number of locations. In the UK, employee assistance programs provide access to specialist support on topics such as finances, family, bereavement and legal/consumer rights. A health and well-being program pro- vides an on-site general practitioner, physiotherapist and den- tist, as well as occupational health services. Emergency child care, emergency home care for elderly or disabled adults and a booking service for out-of-school care are provided by an exter- nal provider. In the US, the Work/Life Assistance Program offers around-the- clock online and telephone counseling and referral services to em- ployees and their families to help resolve issues that may affect their health, personal life, or job performance. Counselors are available to address issues such as emotional conflicts, depression, marital issues, grief and work performance. The program also of- fers referral services for child care, prenatal care, adoption, aca- demic services and adult care. In addition, UBS provides on-site child care at our Stamford, Connecticut site and emergency / back- up child care in most other US locations. Employee assistance initiatives in Asia Pacific are generally con- ducted on a country-by-country basis. In Hong Kong, for exam- ple, consultants from an external provider help employees and their immediate family members manage work and life stress, family, mental health, grief or trauma, and other challenges. In Japan, these services are available through another outside team of consultants trained in fields such as counseling, law, account- ing and psychology. In Switzerland, assistance for current and retired employees as well as their family members is provided through our Social Counseling and Retiree Services functions. Services include counseling for personal issues, difficulties in the workplace, sick- ness or disability, financial difficulties and retirement. Employees also have access to an internal ombudsman’s office and a child- care referral service. An HR Health Care function considers local health and safety matters. In Switzerland, work days lost to ac- cident or illness are tracked, with 18,619 and 117,226 days re- spectively in 2012. This amounts to five work days per employee in Switzerland. Programs are in place in every region to provide transitional support to employees impacted by restructuring exercises. For ex- ample, in Switzerland, we have a long-standing initiative called COACH to help redeploy employees within UBS or help them find jobs outside the firm in the event of restructuring. COACH advi- sors provide support and assistance in finding a new job by work- ing closely with our internal recruitment center and outside em- ployment services. During the process, employees retain full salary and benefits, and financial assistance is available for job-related training, if needed. In Switzerland, employees below the level of Director partici- pate in a social plan that covers employees whose jobs are subject to the Agreement on Conditions of Employment for Bank Staff. This plan lays out the terms and conditions for any necessary re- dundancies. It also governs the requirements and procedures for internal hiring, job transfers, and, when needed, severance. The aim is to make any necessary job cuts or operational changes in a responsible manner, making full use of our internal labor market, and to offer support and career advice to these employees. ➔ Refer to www.ubs.com/health-safety for our health and safety statement Employee representation As part of our commitment to being a responsible employer, we work with all of our employee representation groups to maintain an active dialogue between employees and management. The UBS Employee Forum was established in 2002 and has representatives from 18 countries across Europe. It facilitates an open exchange of views and information on pan-European issues that can affect our regional performance, prospects or opera- tions. Additionally, local forums address issues such as health and safety, changes to workplace conditions, pension arrangements and consultation on collective redundancies and business trans- fers. In Switzerland, for example, the Employee Representation Committee partners with UBS management in annual salary ne- gotiations and represents employee interests on specific topics outlined in the collaboration and co-determination clauses of staff policies. Employee Representation Committee representatives are elected to represent employees whose work contracts are gov- erned by Swiss law and the Agreement on Conditions of Employ- ment for Bank Staff. The UK Employee Forum, which is formed by elected representatives from all of our UK businesses and appoint- ed management representatives, focuses on local economic, fi- nancial and social activities concerning UK employees. It may also be used to develop workforce agreements affecting UK employ- ees. Collectively, the UBS Employee Forum, including the Employ- ee Representation Committee and UK Employee Forum, repre- sents about 50% of our global workforce. 269 Corporate governance, responsibility and compensation Corporate governance, responsibility and compensation Compensation Compensation Letter from the Human Resources and Compensation Committee of the Board of Directors Dear shareholders, Following the advisory vote on UBS’s Compensation Report at last year’s Annual General Meeting (AGM), we consulted widely with our shareholders to better understand your views with regard to improving our compensation plans and disclosures. We incorporated the findings from these consultations into our review process and have implemented wide- ranging changes for 2012. I and the rest of the Board of Directors (BoD) are convinced that the revamped compensa- tion framework will help us achieve our primary objective of delivering attractive and sustainable returns over the medium to longer-term to our shareholders. Our compensation philosophy is to provide our employees with compensation that recognizes their individual contributions and that clearly links their pay not just to the delivery of business targets but also to demonstrating the right behaviors. It is also important to recognize that UBS is undergoing a fundamental transformation which takes time to achieve and it remains critical that we continue to attract, motivate and retain the right people in order to execute our strategy. employees, by having just two deferred variable compensation plans – a deferred share plan and a new deferred contingent capital plan (DCCP). These instruments incorporate: – longer deferral periods (share plan with three to five years for full vesting and DCCP with five-year cliff vesting); – more challenging multi-year perfor- mance conditions and forfeiture triggers; – enhanced “harmful acts” provisions; and – no leverage. Furthermore, in relation to Group Executive Board (GEB) members specifi- cally, we have: – increased the UBS share retention requirement by 67% for the Group CEO, and 75% for other GEB members; – introduced a cap on the GEB perfor- mance award pool of up to 2.5% of adjusted pre-tax profit – for 2012 the actual size of the award pool was well below the cap at 1.7% of the adjusted pre-tax profit; and – introduced additional performance conditions such that 100% of GEB deferred compensation is subject to forfeiture if performance conditions are not met. link between compensation and the firm’s medium to longer-term performance. Put simply, we believe our new compen- sation structure will help to promote a stronger pay-for-performance culture and will discourage excessive risk-taking. With regard to the actual awards for 2012, the HRCC and the BoD have tried to balance the many positive develop- ments during the year, including: – the firm’s strong share price perfor- mance, which was up 28% over the year; – significant progress in building our industry-leading capital ratios; – the target for reducing risk-weighted assets being exceeded; – substantial net new money inflows; and – sufficient progress in executing the firm’s strategy set out in 2011 to enable UBS to announce an accelera- tion of its implementation in October 2012, with the disappointing loss for the year, which was primarily driven by goodwill impairment charges, increased charges for litigation and regulatory matters, includ- ing the cost of the LIBOR settlement, as well as own credit losses. The 2012 changes to our compensation framework start with the elimination of all plans with upside leverage and a com- plete alignment of our model for all The far-reaching changes to our compen- sation framework and the alignment of our plans to our strategy strengthen the Taking all these factors into consideration and recognizing the tremendous efforts of our people to make progress towards achieving the firm’s targets, we have 270 Advisory vote Letter from the Human Resources and Compensation Committee of the Board of Directors reduced the overall performance award pool to CHF 2.5 billion (a 7% decrease on 2011 and a 42% decrease on 2010). The performance award pools for individual business areas reflect their particular performance. In some business areas within the Investment Bank and the Corporate Center, pool funding has shrunk by as much as 20%, while other business areas have seen modest rises in the size of their pools. The BoD and I would like to thank our shareholders for the time they took to meet with us and share their views on compensation. Over the following pages you will find the details on UBS’s compen- sation for 2012, for which we will seek your support at our AGM in May 2013. The BoD and I are committed to continu- ally improving our reporting to you on compensation matters and we welcome your feedback on this report. Ann F. Godbehere Chair of the Human Resources and Compensation Committee of the Board of Directors In addition, we determined that the GEB would receive no part of their 2012 performance awards in cash. Therefore 100% of every GEB member’s perfor- mance award for 2012 is deferred and subject to forfeiture if performance conditions are not achieved. Taken together, we believe 2012’s reduced performance award pool and the significant adjustments we have made to UBS’s compensation plans demonstrate our commitment to strengthen employee focus on and accountability for longer- term performance. We recognize that certain features in our plans such as the longer deferrals are more demanding when compared with others in the industry. However, we are convinced that the framework is the right one for the firm and provides a balanced approach whereby we reward employees who execute the firm’s strategy successfully and responsibly. 271 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation Our compensation governance Ensuring we have strong governance and oversight of our compensation process is the responsibility of the Human Resources and Compensation Committee. Such governance is crucial to ensure that our compensation processes are transparent and fair, that we set appropriate incentives to attract and retain the best people, and that we support and reward sustainable value creation in the longer-term interests of our shareholders. The Human Resources and Compensation Committee (HRCC) is a committee of the Board of Directors (BoD) and consists of four independent BoD members. On 31 December 2012, the HRCC members were Ann F. Godbehere, who chairs the committee, Rainer-Marc Frey, Wolfgang Mayrhuber and Helmut Panke. ➔ Refer to the “Board of Directors” section of this report for further information about the Human Resources and Compensa- tion Committee Overview of the HRCC’s work The HRCC meets regularly and works closely with the Risk Com- mittee to ensure that risk considerations are embedded in our compensation framework and processes. Helmut Panke and Rainer-Marc Frey are members of both the HRCC and the Risk Committee and this affords the HRCC an invaluable risk perspec- tive when considering compensation-related issues. The HRCC also appoints external advisors to provide impartial advice on compensation-related matters as well as data on market trends and benchmarks, including in relation to Group Executive Board (GEB) and BoD compensation. Among its other responsibilities, the HRCC, on behalf of the BoD: – reviews our Total Reward Principles; – reviews and approves annually the design of the total compen- sation framework, including compensation strategy, programs and plans; – reviews performance award funding throughout the year and Compensation authorities The BoD has the ultimate responsibility for approving the compensation strategy proposed by the HRCC, a BoD committee that determines the appropriate level of resources for compensation matters. Recipients Compensation recommendations developed by Chairman of the BoD Chairperson of the HRCC Approved by HRCC Communicated by HRCC Independent BoD members (remuneration system and fees) Chairman of the BoD and HRCC BoD Chairman of the BoD Group CEO Chairman of the BoD and HRCC GEB members HRCC and Group CEO BoD BoD Key Risk Takers Responsible GEB member together with functional management team Divisional pools: HRCC Overall pool: BoD Recipients Employees 272 Variable compensation recommendations developed by Approved by Responsible GEB member together with functional management team Divisional pools: HRCC Overall pool: BoD Chairman of the BoD Group CEO Line manager Communicated by Line manager Advisory vote proposes the final performance award pool to the full BoD for approval; – together with the Group Chief Executive Officer (Group CEO), proposes base salaries and annual performance awards for GEB members to the BoD, which approves the total compensa- tion of the GEB; – together with the Chairman of the BoD, proposes the compen- sation for the Group CEO; – approves the total compensation for the Chairman of the BoD; – together with the Chairman, proposes the total individual compensation for independent BoD members for approval by the BoD; and – ensures that there is an appropriate focus on talent develop- ment and management with respect to our business heads and key senior leaders. It is important to note that the Group CEO and the Chairman of the BoD may not attend any parts of committee meetings at which specific decisions are made about their own individual compensation. These decisions are at the discretion of the HRCC and the BoD. Base fees and committee retainers received by inde- pendent BoD members are subject to an annual review. A pro- posal is submitted by the Chairman of the BoD to the HRCC, which then submits a recommendation to the BoD. If you would like more information regarding the responsibili- ties and authorities for compensation-related decisions illustrated in the table “Compensation authorities” on the previous page, please see “Annex B – Responsibilities and authorities” and “An- nex C – Charter of the Committees of the Board of Directors of UBS AG” of the Organization Regulations of UBS AG. These can be found at www.ubs.com. The Risk Committee’s input is critical to ensuring our compensation plans continue to fully reflect our approach to risk management and control Ours is a risk management business and our success depends on prudent risk-taking. We will not tolerate inappropriate behavior that can harm the firm, its reputation or the interests of our many stakeholders. The Risk Committee works closely with the HRCC to ensure our compensation plans reflect our approach to risk man- agement and control. The Risk Committee supervises and sets ap- propriate risk management and control principles and receives regular briefings on how risk is factored into the compensation process. It also monitors Group Risk Control’s involvement in com- pensation programs and reviews whether the risk-related aspects of the compensation process have been adhered to. Human Resources and Compensation Committee – additional information The HRCC held 13 meetings in 2012. Each meeting had an aver- age attendance of 85%. External advisors attended 11 of those meetings. The Chairman of the BoD and the Group CEO were present at all 13 of those meetings, although they were absent during discussions related to their own compensation. During the year, the HRCC reappointed Hostettler, Kramarsch & Partner to provide impartial external advice on compensation-related mat- ters. The company has no other mandates with UBS. The HRCC reviewed the company’s certification of its independence based on the factors outlined in the New York Stock Exchange listing rules. Compensation consulting firm Towers Watson, appointed by Group Human Resources, continued to provide the HRCC with data on market trends and benchmarks, including in rela- tion to GEB and BoD compensation. Various subsidiaries of Tow- ers Watson provide similar data to Group Human Resources in relation to compensation at lower levels of the organization. Towers Watson has no other compensation-related mandates with UBS. 273 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation Our Total Reward Principles Our compensation philosophy and objectives are embodied in our Total Reward Principles. They influence how we structure compensation and provide funding for our performance award pool. They reflect our focus on pay for performance, sustainable profitability, sound governance and risk awareness, and support the firm’s strategy by pro- moting and rewarding behavior that enhances the firm’s position and reputation. The Total Reward Principles were reconfirmed by the Human Resources and Compensation Committee on 24 October 2012. Ensuring we attract and engage a diverse, talented workforce How we foster effective individual performance manage- ment and communication The success of the business is dependent upon attracting and re- taining talented people who will help us successfully execute our strategy in a responsible manner and thus create longer-term, sus- tainable value for our shareholders. We aim to offer market-com- petitive compensation that strikes an appropriate balance be- tween fixed and variable elements. We believe base salaries need to be sufficient to allow for a flexible policy when it comes to performance awards. We set performance award levels that en- courage our employees to perform and to be entrepreneurial, while at the same time placing an emphasis on strong risk man- agement and measured risk-taking. Throughout the firm, sustainable performance is the key factor in determining compensation. Our assessment of an employee’s performance goes beyond the achievement of financial objectives and takes account of the longer-term risk impact of an employee’s actions and any relevant reputational issues. In determining an employee’s performance award, we not only consider their contri- bution to UBS’s Group or business division results and whether they have achieved their individual performance objectives, but also take into account whether they: – adhere to our corporate values and principles; – implement our strategic goals of client focus, excellence and ➔ Refer to the “Overview of our compensation model” section of sustainable performance; this report for more information about our compensation system – demonstrate leadership when it comes to our clients, business, Total Reward Principles The four Total Reward Principles establish a framework for managing performance and integrating risk control. They also specify how we structure compensation and provide necessary funding for our performance award pool. These principles apply to all employees, but may vary in certain locations due to local laws and regulations. Attract and engage a diverse, talented workforce Foster effective individual performance management and communication Total Reward Principles people and change; – lead or support effective collaboration and teamwork; – operate with a high level of integrity and ensure compliance with UBS policies; – actively manage risk, including reducing operational risk, and strike an appropriate balance between risk and reward; and – exhibit professional and ethical behavior. Employees are assessed not just against defined objectives, but also on a relative basis against their peers within the firm. This enables us to fairly differentiate performance, and conse- quently compensation, in an objective, transparent and disci- plined manner. ➔ Refer to the “Our employees” section of this report for more information on our performance management processes Support appropriate and controlled risk-taking Align reward with sustainable performance Ensuring rewards are aligned with sustainable performance Funding based on profitability Allocation of per- formance award based on performance At least 60% of performance award deferred and at risk of forfeiture for senior employees Throughout the firm, sustainable performance is the key factor in determining compensation. Refer to the following sections of this report for more details. 274 Advisory vote How we support and promote appropriate and controlled risk-taking We place a strong emphasis on sound risk control in our compen- sation policies. Our performance reviews recognize that different businesses have different risk profiles, and that additional factors should be considered, including the fact that earnings may vary in quality over time based on the risks taken, the full impact of which may only emerge in subsequent years. Employees are required to dem- onstrate an appropriate understanding of the nature of their busi- ness and its associated risks, including operational risks, to con- sider their actions in light of UBS’s reputation and risk appetite, and to accept responsibility for all risks that arise, which includes taking steps to manage and mitigate them. As part of their com- pliance training, employees are required to certify annually that they are compliant with various UBS policies. In determining performance award funding, whether on a Group, divisional or business area level, we take the following key risks into account, where applicable: credit risk; market risk; trea- sury risk; operational risk, including legal and compliance risks; and reputational risk. The quantitative risk measures we consider when determining performance awards include, but are not lim- ited to, the liquidity-adjusted stress ratio, the number of days on which the daily value-at-risk is exceeded, and the number of op- erational risks and audit recommendations that are effectively resolved. Our risk measures are reinforced by qualitative assess- ments conducted by Risk and Legal & Compliance relating to how the businesses manage such matters. To keep our employees focused on the longer-term profitability of the firm, we require that a significant part of their performance award be deferred for up to five years if their total compensation exceeds CHF / USD 250,000. Part, or all, of the unvested deferred portion may be forfeited in certain cases. Examples include where an employee has acted contrary to the firm’s interests by contrib- uting to significant financial losses or restatements; causing repu- tational harm; or breaching risk policy, legal or regulatory require- ments, all of which constitute harmful acts. In addition, we take specific measures regarding the compen- sation of our Key Risk Takers. They are the most senior members of management, together with selected individuals who, by the nature of their role, exert significant influence over the firm’s risk profile. We identify these individuals, whether they are in front- office, control or logistics functions (such as IT), consistent with specific regulatory guidance and best practice in the industry. Dur- ing 2012, the number of individuals identified as Key Risk Takers increased to more than 500. Key Risk Takers are subject to more rigorous scrutiny, which they receive in the form of performance evaluations from the control functions, and part of their compen- sation is subject to performance conditions. To monitor risk effectively, our control functions, primarily Le- gal & Compliance, Risk Control and Finance, must be indepen- dent. To support this, their compensation is determined indepen- dently from the revenue producers that they oversee, supervise or support. Their performance award pool is not based on the per- formance of these businesses, but instead reflects the perfor- mance of the firm as a whole. In addition, we consider other fac- tors such as how well the function has performed, together with our market positioning. Decisions regarding individual compensa- tion for the leaders of these control functions are made by the function heads and approved by the Group CEO. Additionally, we have an internal disciplinary process which is relevant to all employees, the Incident & Consequences Process, that evaluates the behavior of employees involved in disciplinary events, incidents in which controls have been violated and cases of financial loss each year, and imposes compensation-related sanctions on the employees concerned. ➔ Refer to the “Overview of our compensation model” section of this report for more information about key performance indicators and Key Risk Takers 275 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation Updated benchmarking against peers We benchmark GEB compensation and benefit levels against those of our peers by referring to a peer group of companies selected based on the comparability of their size, business mix, geographic mix, and the extent to which they are our competitors for talent. We also consider the regulatory environment, and the culture and practices of these peers that may have an impact on their pay strategy and pay levels. These companies, which are predominantly large European and US banks operating interna- tionally, are our main competitors when it comes to hiring. In 2012, the HRCC reviewed our peer benchmarking process. The committee decided that to improve comparability, it was appropriate to expand our peer comparison group by adding BNP Paribas, Goldman Sachs, Julius Baer, and Nomura. Consequently, our peer comparison group now consists of the following companies: Bank of America, Barclays, BNP Paribas, Citigroup, Credit Suisse, Deutsche Bank, Goldman Sachs, HSBC, JP Morgan Chase, Julius Baer, Morgan Stanley and Nomura. The committee decided that a more diverse comparison group is appropriate given the wider variation in business models that is emerging across financial services and thus the broader array of competitors, particularly for talent. In the view of the HRCC and the BoD, our executive compensation structure is appropriate relative to this peer group. It will continue to review the peer group regularly to ensure that the firms that constitute it remain relevant benchmarks for the purposes of determining GEB compen- sation. With regard to compensation for other employees, given the diversity of our businesses, the companies we use as benchmarks vary with and are dependent on the relevant business divisions and locations, as well as the nature of the positions involved. For certain businesses or positions, we may take into account other major international banks, additional large Swiss private banks, private equity firms, hedge funds and non-financial firms. Furthermore, we also benchmark employee compensation internally for comparable roles within and across business divisions and locations. We believe that the extended length of our deferral periods and the scope of employees subject to the DCCP five- year cliff-vesting will go further than comparable requirements at many firms in our peer group. While these changes, coupled with reduced performance award pools in certain business areas, will require close management focus, we are confident that our compensation framework is right for the firm and reinforces our focus on medium- and longer-term performance. Comparability assessment against main peers1 Benchmarking ensures that our executive compensation is appropriate relative to our peer group. The key benchmarking criteria are summarized in the following table. Size2 Business mix3 Geographic mix4 Competitors for talent5 HQ location: regulatory6 HQ location: geography7 Firm Bank of America BNP Paribas Barclays Citigroup Credit Suisse Deutsche Bank Goldman Sachs HSBC JP Morgan Chase Julius Baer Morgan Stanley Nomura Less comparable Moderately comparable Comparable 1 Source: Group Corporate Development assessed the criteria Size, Business and Geographic Mix and Group HR assessed the criteria Competitors for Talent and HQ locations. 2 Size: evaluated in terms of revenue, prof- itability, assets and employee size. This would potentially impact management complexity outside of the impact of product mix and geography. 3 Business mix in terms of type and size of major businesses would impact pay strategy, pay levels and approach and, importantly, risk profile. 4 Geographic mix: evaluated not only in terms of mix, but also from a European HQ perspective. Impacts executive role definition and management complexity. 5 Competitors for talent: firms from which UBS recruits and / or firms which recruit from UBS. 6 HQ location / regulatory: impact of the regulatory environment based on home regulator. 7 HQ location / ge- ography: culture and practice that impacts pay strategy, levels. 276 Advisory vote Overview of our compensation model Our strategy places our clients’ best interests at the center of everything we do and is designed to help us deliver attractive and sustainable returns to our shareholders. Our success in doing so will ultimately depend on the efforts of our employees and we believe it is essential to provide them with the opportunity to participate in the firm’s longer-term success. However, we must clearly link pay with performance. To reinforce this link, the key performance indicators we use to measure our progress in executing our strategy are taken into account when determining the size of each divisional performance award pool and used as a basis for setting the performance conditions of our com- pensation plans. Overview of key changes to compensation framework for performance year 20121 Group Executive Board (GEB) All other employees with total compensation above CHF / USD 250,000 – GEB overall performance award pool capped at 2.5% of the firm’s adjust- – Cap on immediate cash paid as part of performance award reduced to ed pre-tax profit for each year. CHF / USD 1 million (down from CHF / USD 2 million). – Minimum number of UBS shares to be held up from 200,000 to 350,000 shares for each member, and from 300,000 to 500,000 shares for the Group CEO. – Cap on immediate cash paid as part of performance award reduced to CHF / USD 1 million (down from CHF / USD 2 million). – Deferred compensation mix now half in form of Equity Ownership Plan (EOP) awards and half in form of new Deferred Contingent Capital Plan (DCCP) awards. Total percentage of deferred compensation increased to at least 80%, from at least 76%. – Deferred compensation mix now half in form of EOP awards and half in form of new DCCP awards. – DCCP awards consist of a notional bond which replicates many of the features of UBS contingent loss-absorbing bond placed in the market in 2012, with annual interest payments. Awards vest in their entirety after five years, provided no trigger or viability event occurs. Interest will only be awarded for each year in which the firm achieves an adjusted pre-tax profit. – Vesting for EOP awards occurs in years 2 and 3, previously in years 1 to 3. – DCCP awards consist of a notional bond which replicates many of the – New compensation framework increases the average deferral period to features of UBS contingent loss-absorbing bond placed in the market in 2012, with annual interest payments. Awards vest in their entirety after five years, provided no trigger or viability event occurs. 20% of the award may be forfeited for each year the firm does not achieve an adjusted pre- tax profit. 100% of award at risk of forfeiture. Interest will only be award- ed for each year in which the firm achieves an adjusted pre-tax profit. – Vesting of EOP awards occurs in years 3 to 5, previously in years 1 to 5. – New compensation framework increases average deferral period for the GEB to 4.5 years (from 2.7 years for 2011). – More stringent performance conditions for EOP awards based on Group and divisional performance, so that 100% of the award is at risk of forfeiture (previously up to 50% at risk). – Discontinuation of Cash Balance Plan and Performance Equity Plan. – Enhanced harmful acts provisions. 1 There are variations in plans for Global Asset Management employees, which are not reflected in this table. 3.8 years (from 2.0 years for 2011). – More stringent performance conditions for EOP awards based on Group and divisional performance apply to Group Managing Directors, Key Risk Takers and Highly Paid Employees (i.e employees with a perfor- mance award of CHF / USD 2 million or more), so that 100% of their awards are at risk of forfeiture (previously up to 50% at risk). – Enhanced harmful acts provisions. How we determine an individual’s pay We focus on an employee’s total compensation, which consists of two elements: a fixed element, generally the base salary; and an annual discretionary performance award. The level of perfor- mance award depends on several factors, including the firm’s overall performance, the performance of the employee’s business division, and the individual’s performance. To safeguard against excessive pay in 2012, we introduced a cap on the size of the GEB performance award pool of up to 2.5% of the Group adjusted operating profit. We also capped the amount of immediate cash that can be paid as part of the total performance award granted to any employee at CHF / USD 1 million, which is a 50% reduction on the previous cash cap. Base salary The base salary reflects an employee’s skills, role and experience while taking local market practices into consideration. It is fixed and usually paid monthly or semi-monthly. We review base sala- ries every year to ensure they remain competitive, comparing them with relevant internal and external benchmarks. Adjust- 277 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation Compensation overview 1 A balanced mix of fixed and variable compensation ensures appropriate risk-taking and behavior that produces sustainable business results. Chairman of the BoD Board of Directors Group Executive Board Key Risk Takers Other employees Base salary 2 Cash performance award Equity Ownership Plan (EOP) 3, 4 Deferred Contingent Capital Plan (DCCP) 3, 5 Base fee and committee retainer(s) 6 1 All monetary figures stated in the “Compensation” section are gross figures (compensation before applicable withholdings and deductions).” 2 The base salary of the Chairman of the BoD consists of a cash amount and a fixed number of shares. 3 All employees with a total compensation of CHF / USD 250,000 or more are eligible. 4 Additional profitability performance condition for GEB members, Key Risk Takers, Group Manag- ing Directors and other employees with a total performance award exceeding CHF / USD 2 million. 5 Additional performance condition if our Basel III common equity tier 1 ratio falls below 7% or if a viability event occurs. 6 At least 50% of the base fee is paid in blocked UBS shares. ments are made when there is a significant change in job respon- sibility, and we may make annual adjustments to reflect perfor- mance and respond to movements in the marketplace. In 2011, we made very limited salary increases, and we con- tinued this approach in 2012 to keep our fixed-cost base down. With effect from March 2013, base salaries were increased by a total of CHF 62 million or 1% of the monthly salary run rate for February 2013. This compares with a base salary in- crease made for the 2012 performance year of approximately 1.5%. The increases for 2013 apply primarily to employees who were promoted and those whose base salary fell signifi- cantly short of the market benchmark for their role. Our total salary expense for 2012 was CHF 6,814 million, down 1% from 2011 and down 3% from 2010. Performance award The majority of our permanent employees are considered for an annual discretionary performance award. The amount of any per- formance award depends on the factors, including, but not limited to, those mentioned at the start of this section, and is at the com- plete discretion of the firm. As previously stated, performance awards are fully discretionary. For the 2012 performance year, for employees across the Group, the performance award was, on average, approximately 37% of the base salary. Among GEB members in office at the end of 2012, it was, on average, 321% of a GEB member’s base salary. For 2011, the comparable figures were 40% and 331%, respectively. For example: – we assess the performance of business areas in our wealth management businesses using criteria such as the level of net new money over the year; – in the Investment Bank, we consider factors such as revenue and profitability, the cost-income ratio and return on risk- weighted assets; – the financial performance of business areas in Global Asset Management is assessed using criteria such as the level of as- sets under management and investment performance. Risk-related objectives also vary between businesses and include: – the client credit documentation and operational costs in our wealth management businesses; – the number of days during which the daily value-at-risk limit is exceeded in the Investment Bank; – whether risk investment guidelines and Group and risk policies have been adhered to, and whether significant risk events oc- cur in Global Asset Management; and – broader qualitative indicators taking into account our market position for a large part of the Corporate Center. For the Group as a whole, we consider progress against our strategic initiatives, including, but not limited to, risk-weighted asset reduction, balance sheet reduction, delivery of cost efficien- cies and capital accretion. Key performance indicators The performance of the Group is assessed using criteria such as risk-adjusted profits, performance relative to the industry and general market competitiveness. In addition, we look at the organization’s risk profile and cul- ture, including the extent to which operational risks and audit is- sues are identified and resolved and the quality of its engagement in risk initiatives. In addition to the key performance metric of risk-adjusted prof- itability, we use a number of additional criteria to assess the per- formance of each of our business divisions. On a business area level, the size of the pool depends on its performance and that of the business division to which it belongs. This means an individual’s performance award depends on the 278 Advisory vote available funding for their business area and business division, as well as on their personal achievements. However, any perfor- mance award is made at UBS’s sole discretion and we do not ap- ply a formula or assign weightings to specific performance indica- tors in determining individual performance awards. Performance award levels can fluctuate significantly from year to year and it is possible that an individual receives no performance award in a given year. We evaluate performance on an ongoing basis. If performance is weak, we reduce our performance award pool accruals accord- ingly. ➔ Refer to the “Compensation funding and expenses” section of this report for more information Deferral of performance awards A significant part of our performance awards is deferred over several years. The unvested deferred amounts are forfeited or reduced if any applicable performance conditions are not met or if employees commit harmful acts. Employees with a total compensation of CHF / USD 250,000 or more receive 40% of their performance awards in cash, subject to the cash cap of CHF / USD 1 million. Above the total compensation threshold of CHF / USD 250,000, a minimum of 60% of their annual perfor- mance awards are deferred, with 30% in UBS shares that are deferred under the Equity Ownership Plan (EOP) with the re- maining 30% granted under the Deferred Contingent Capital Plan (DCCP). Global Asset Management employees receive 45% of their performance awards in cash-settled notional funds under the EOP and the remaining 15% under the DCCP. A high-level overview of the framework is provided on the fol- lowing page. ➔ Refer to the “Deferred variable compensation plans” section of this report for more information about the terms of our deferred variable compensation plans, including the forfeiture provisions to which they are subject, and the terms applicable to Global Asset Management employees ➔ Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for details of specific local plans with deferral provisions that differ from those described here Other variable compensation To support hiring or retention, particularly at senior levels, we may offer certain incentives. These include the following: – replacement payments to compensate employees for deferred awards forfeited as a result of joining UBS. Such payments are standard industry practice and are often necessary to attract se- nior candidates who generally have a significant portion of their awards deferred at their current employer and where continued employment is required to avoid forfeiture. As a general principle, these “forfeited equity replacements” take into account the terms and features of any deferred award that an individual has forfeit- ed upon joining UBS. As such, if, by joining UBS, an employee has forfeited deferred equity compensation, this will be replaced by an award under the EOP. Replacement awards are not considered part of an employee’s total compensation although they consti- tute costs that the bank must incur to hire such employees. – on a very limited basis, guarantees may be required to attract individuals with certain skills and experience. These awards, which are fixed incentives either in cash or in equity awarded under a plan, are paid regardless of future events, but are lim- ited to the first performance year. – sign-on payments are occasionally offered to important top-level candidates to increase the chances of their accepting an offer. Awards made to employees hired at the end of the year to re- place performance awards that they have forfeited, as well as those offered to certain graduate hires, are also reported as sign- on payments. – retention payments made to key senior employees to induce them to stay, particularly during critical periods for the firm. Replacement payments, guarantees and sign-on payments are generally agreed at the time of hiring. The table on page 282 shows the amount of such payments made in 2012, together with the number of beneficiaries. Employment contracts for those holding the rank of Director and above generally contain a notice period of between one and six months, depending on the location, which such employees must serve and during which time they are paid their base salary. We provide for severance payments in redundancy cases when employees are asked to leave as part of a reduction in the work- force. These are governed by location-specific severance policies. At a minimum, we offer severance terms which comply with the applicable local laws (“legally obligated severance”). In certain lo- cations, we may provide severance packages that are negotiated with our local social partners that go beyond these minimum legal requirements (“standard severance”). In addition, we may make severance payments that exceed legally obligated or standard sev- erance payments (“supplemental severance”) where we believe that they are appropriate under the circumstances. For example, we may grant a performance award on a pro-rated basis to em- ployees who have performed well but have been made redundant after the third quarter of the year. In the exceptional cases that special payments are made outside the circumstances described above, or where substantial severance payments are made, a fur- ther stringent approval process applies. With the exception of severance payments made in redundan- cy cases, all the payments described above, though typical in our industry, are only offered in special circumstances. They are highly restricted, take into account the specific circumstances of each case and are normally one-time payments with substantial defer- ral. They generally require the approval of the divisional CEO and Human Resources heads, and, in certain circumstances, the Group Head of Human Resources, the Group CEO or the HRCC. Further- more, such payments may be forfeited or reduced should an em- ployee subsequently act in a manner detrimental to the interests of the firm. 279 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation 2012 compensation framework for all employees with total compensation of CHF /USD 250,000 or more, except GEB members 1 The graph below provides an illustrative overview of the 2012 compensation framework for all employees with total compensation of CHF/USD 250,000 or more, excluding GEB members and Global Asset Management employees. It also provides a comparison with the framework for 2011. Of the annual performance award, 40% is paid immediately in cash, 30% under the EOP and 30% under the DCCP.² Shares awarded. Award vests in equal installments in years 2 and 3. Subject to forfeiture in the event of a harmful act or termination of employment. For GMDs, Key Risk Takers and Highly Paid Employees, the award is subject to both Group and divisional performance over the financial years during the vesting period. The amount forfeited may be up to 100% of the award installment due to vest. Replicates the features of loss-absorbing bonds. Award cliff vests in in year 5, subject to forfeiture if a capital ratio trigger or a viability event occurs. Notional interest payments will be awarded annually in years where adjusted pre-tax profit is achieved. Awards are subject to continued employment and harmful acts provisions. 40% paid out immediately, subject to a cash cap of CHF /USD 1 million, down from CHF/USD 2 million for 2011. e r u t i e f r o f f o k s i r t a d r a w a e c n a m r o f r e p f o % 0 6 30% Payout of performance award 15% 15% 40% 2012 EOP 30% DCCP 30% Cash 40% Base salary Payout of performance award 20% 20% 20% 40% e r u t i e f r o f f o k s i r t a d r a w a e c n a m r o f r e p f o % 0 6 2011 EOP 60% Cash 40% Base salary 1 h s a c d e t a i d e m m i n i d i a p d r a w a e c n a m r o f r e p f o % 0 4 ¹ h s a c d e t a i d e m m i n i d i a p d r a w a e c n a m r o f r e p f o % 0 4 2012 2013 2014 2015 2016 2017 2018 2011 2012 2013 2014 2015 2016 2017 1 Except for Global Asset Management employees and employees in certain locations subject to specific local plans with different deferral provisions. 2 Code Staff receive 50% in the form of blocked UBS shares. Pensions and benefits We offer certain benefits such as health insurance and retirement benefits. These benefits vary depending on the location, but are competitive within each of the markets in which we operate. Pensions give employees and their dependents a level of secu- rity after their retirement or in the event of disability or death. While pension plans may vary across locations in accordance with local requirements, pension plan rules in any one location are gen- erally the same for all employees in that location, including man- agement. ➔ Refer to “Note 30 Pension and other post-employment benefit plans” in the “Financial Information” section of this report for more information Employee share purchase program We believe it is important that all our employees have the oppor- tunity to take a personal stake in the success of the firm. Our em- ployee share purchase program, the Equity Plus Plan, allows em- ployees to contribute up to 30% of their base salary and / or up to 35% of their performance award toward the purchase of UBS shares. All employees below the rank of Managing Director are eligible to participate. Employees can purchase UBS shares at mar- ket price, and receive one free share for every three purchased through the program. Shares purchased under the Equity Plus Plan are generally restricted from disposal for a maximum of three years from the time of purchase. The free shares vest after three years, with vesting subject to continued employment with the firm. Compensation for financial advisors in Wealth Management Americas In line with market practice in the US for brokerage businesses, the compensation system for financial advisors in Wealth Man- agement Americas is based on commissions. The commissions, paid monthly, are based on revenue and other strategic perfor- mance measures and objectives. We reduce payout rates if finan- cial advisors make repeated or significant client account or trans- 280 Advisory vote action errors. In addition to these commissions, advisors may also qualify for year-end awards, most of which are deferred over ei- ther a six- or 10-year period. The size of these awards may be based on length of service, coupled with the amount of net new money brought in, or the amount of revenue generated from wealth management-based services or products. For 2012, we paid a total of CHF 2,793 million in compensation to financial advisors in Wealth Management Americas. These amounts are neither part of nor expensed in our discretionary performance award pools and are categorized as “Wealth Management Amer- icas financial advisor compensation”. conditions to which Key Risk Takers are subject. Furthermore, any immediate cash award in excess of the CHF / USD 1 million cap is deferred as shares under the EOP. ➔ Refer to the discussion “Support appropriate and controlled risk-taking” in the “Total Reward Principles” section of this report for more information We believe that we are fully compliant with the relevant Swiss Fi- nancial Market Supervisory Authority (FINMA) requirements regarding risk-takers, and we also consult with our other regulators around the globe on the topic. We make separate disclosures about risk takers in our local annual reports in line with local disclosure requirements. Identifying our Key Risk Takers Identifying Key Risk Takers is important to ensure we incentivize only appropriate risk-taking. Key Risk Takers are defined as those employees who can materially set, commit or control significant amounts of the firm’s resources and / or exert significant influence over its risk profile. This includes employees who work in front- office roles, logistics or control functions. There are currently more than 500 individuals classified as Key Risk Takers, including GEB members. We also include employees with a performance award exceeding CHF / USD 2 million (Highly Paid Employees) in this category if they have not already been identified as Key Risk Takers. All GEB members are Key Risk Takers, but disclosed sepa- rately in this report. Compensation measures for Key Risk Takers and Highly Paid Employees Key Risk Takers identified at the beginning of the performance year are subject to a performance evaluation by the control func- tions. Additionally, the vesting of their deferred awards is partially contingent on the profitability of the business division in which they work, or, in the case of Corporate Center employees, on the profitability of the Group as a whole. Like all other employees, they also face forfeiture or reduction of the deferred portion of their compensation if they commit harmful acts. Equivalent compensation measures for Group Managing Directors The same compensation measures apply to all Group Managing Directors (GMDs) regardless of whether they are determined to be Key Risk Takers or not. They receive part of their annual perfor- mance award under the EOP and the DCCP, with the vesting of their deferred EOP awards contingent on the same performance Identifying our UK Code Staff In accordance with guidance from the UK Financial Services Au- thority (UK FSA), we have identified 185 employees, consisting of senior management and employees whose professional activities could have a material impact on the firm’s risk profile in the UK, as so-called “Code Staff”. Compensation measures that apply to Code Staff are generally similar to those applied to Key Risk Tak- ers. However, due to specific UK FSA requirements, 50% of Code Staff performance awards that are paid out immediately are de- livered in UBS shares. Furthermore, any shares granted to Code Staff under the EOP for their performance in 2012 will be subject to an additional six-month blocking period upon vesting. Identifying our Covered Employees In the US, the Federal Reserve has recommended a more expan- sive approach for identifying employees who expose their firms to material amounts of risk. Based on guidance from the Federal Reserve Bank of New York, we have identified those employees, known as “Covered Employees”. For 2012 there are 805 senior executives, employees who manage revenue-producing lines of business and revenue producers in the US who individually or col- lectively expose the firm to material amounts of risk. Group Executive Board (GEB) Performance objectives for GEB members are linked to Group and divisional key performance indicators. The Group CEO’s perfor- mance award depends on the performance of the Group as a whole, while GEB members who are divisional Chief Executive Officers are assessed based on Group and divisional profitability. Key Risk Takers1 Classification GEB members Key Risk Takers Location Number of employees Global Global 11 501, excluding GEB members 1 Includes employees with a performance award exceeding CHF / USD 2 million (Highly Paid Employees). 281 Corporate governance, responsibility and compensationAdvisory vote d e t i d u A Corporate governance, responsibility and compensation Compensation Sign-on payments, replacement payments, severance payments and guarantees CHF million, except where indicated Total sign-on payments 1 Amount Number of beneficiaries of which Group Executive Board (GEB) members Amount Number of beneficiaries of which Key Risk Takers 2 Amount Number of beneficiaries Total replacement payments 1 Amount Number of beneficiaries of which GEB members 2 Amount Number of beneficiaries of which Key Risk Takers 2 Amount Number of beneficiaries Total guarantees Amount Number of beneficiaries of which GEB members Amount Number of beneficiaries of which Key Risk Takers 2 Amount Number of beneficiaries Total severance payments 3 Amount Number of beneficiaries of which GEB members Amount Number of beneficiaries of which Key Risk Takers 2 Amount Number of beneficiaries Total 2012 Of which expenses recognized in 2012 4 Of which expenses to be recognized in 2013 and later Total 2011 1 17 182 – – 4 5 96 203 25 1 32 16 40 68 – – 20 10 319 2,321 – – 0.2 1 11 – 2 23 10 6 15 – 6 314 – 0.2 6 – 2 72 15 26 26 – 14 5 – – 29 342 – – 3 2 154 518 – – 59 35 237 359 – – 84 34 239 1,530 – – 5 4 1 In 2011 sign-on payments and replacement payments were reported together. Total 2011 was restated correspondingly. 2 Expenses for Key Risk Takers are full-year amounts for individuals in office on 31 December 2012. Key Risk Takers include employees with a performance award of CHF / USD 2 million or more (Highly Paid Employees). 3 Severance payments include legally obligated and standard severance , as well as supple- mental severance payments of CHF 16 million. 4 Expenses before post vesting transfer restrictions. 282 Advisory vote 2012 compensation framework for GEB members The graph below provides an illustrative overview of the 2012 compensation for GEB members, comparing it with the framework in 2011. Of the annual performance award, up to 20% is paid immediately in cash, a minimum of 40% is deferred under the EOP and another 40% under the DCCP. 2012 EOP 40% DCCP 40% Cash Up to 20% Base salary Payout of performance award 13% 13% 14% 40% Shares awarded. Award vests in equal installments in years 3, 4 and 5, subject to both Group and divisional performance over the three financial years before vesting. The amount forfeited may be up to 100% of the installment due to vest. Subject to forfeiture in the event of financial loss, harmful acts or termination of employment. Replicates many of the features of loss-absorbing bonds. Award cliff vests in year 5, subject to forfeiture if a capital ratio trigger or a viability event occurs. Awards are subject to 20% forfeiture if UBS does not achieve an adjusted pre-tax profit. Notional interest will be awarded annually in years where the firm achieves an adjusted pre-tax profit. Awards are also subject to continued employment and harmful acts provisions. e r u t i e f r o f f o k s i r t a d r a w a e c n a m r o f r e p f o % 0 8 t s a e l t A 20% % 0 2 o t p U e c n a m r o f - r e p f o y l e t a i d e m m i d i a p d r a w a 1 h s a c n i Up to 20% paid out immediately, subject to a cash cap of CHF /USD 1 million (down from CHF /USD 2 million for 2011). To the extent that less than 20% is paid in immediate cash, that amount will be delivered in EOP. Payout of performance award 8% 8% 8% 8% 8% 0– 40% 8% 8% e r u t i e f r o f f o k s i r t a d r a w a e c n a m r o f r e p f o % 6 7 24% n i y l e t a i d e m m i e c n a m r o f r e p d i a p d r a w a f o % 4 2 h s a c 2011 SEEOP 40% PEP 20% CBP 40% Base salary 2012 2013 2014 2015 2016 2017 2018 Share retention 500,000 shares for Group CEO 350,000 shares for other GEB members 1 Code Staff receive 50% in the form of blocked UBS shares. GEB members are required to hold a certain number of UBS shares as long as they are in office. This holding has to be built up within a maximum period of five years from the date of their appointment to the GEB. 2011 2012 2013 2014 2015 2016 2017 Share retention 300,000 shares for Group CEO 200,000 shares for other GEB members Those who lead Group control functions or who are regional CEOs are assessed based on the performance of the Group and the regions that they oversee. We also apply various qualitative criteria in evaluating the performance of GEB members. These include: their ability to manage risk; bring about change in the organization; establish strong teams; and develop new leadership talent. GEB members are also assessed on how effectively they adhere to our strategic principles and apply our values. ➔ Refer to the “2012 compensation for the Group Executive Board and Board of Directors” section of this report for more information Base salary and performance awards GEB members receive a base salary and are eligible to receive an an- nual discretionary performance award. While GEB awards are at the discretion of the BoD, they take into account the overall performance of the Group and are dependent on the available performance award pool funding. Overall, the GEB performance award pool is limited to up to 2.5% of the Group’s adjusted pre-tax profit. ➔ Refer to the discussion in the “2012 compensation for the Group Executive Board and Board of Directors” and “Compensation fund ing and expenses” sections of this report for more information At least 80% of a GEB member’s performance award is deferred in line with our focus on sustainable performance. Of this, 40% is awarded under the Deferred Contingent Capital Plan (DCCP), a minimum of 40% is awarded under the Equity Ownership Plan (EOP) and a maximum of 20% is paid out immediately, subject to a cash cap of CHF / USD 1 million (any amount above the cash cap is paid in UBS shares or notional shares under the EOP). For GEB members, EOP awards vest from year 3 to 5 in three equal install- ments, subject to the applicable performance conditions being met. DCCP awards vest in their entirety in year 5, although no- 283 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation tional interest is awarded annually, provided that the firm achieves an adjusted pre-tax profit for that year. In addition to the capital ratio trigger of 7%, DCCP awards for GEB members will be subject to an additional performance condition. If UBS does not achieve an adjusted pre-tax profit during the vesting period, GEB members would forfeit 20% of the award for each loss-making year. As such, 100% of the award is at additional risk of forfeiture. By discontinuing our previous deferred variable compensation plans, we have eliminated all leverage from our compensation plans, thereby further discouraging excessive risk-taking. ➔ Refer to the “Deferred variable compensation plans” section of this report for more information ➔ A high-level overview of the 2012 compensation framework for GEB members is provided on the following page, which includes the 2011 framework (shaded) for comparison purposes To further align their interests with those of our shareholders, as well as to further ensure that they remain focused on the longer-term success of the firm, we operate a formal share own- ership requirement, under which GEB members must hold a minimum number of UBS shares. In 2012, the minimum holding requirement levels were increased. Each GEB member must now hold a minimum of 350,000 shares compared with the previous requirement of 200,000 shares. The Group CEO is now required to hold 500,000 shares compared with the previous minimum of 300,000 shares. These shareholdings must be built up within a maximum period of five years from the date a GEB member is appointed and must be retained for as long as he or she remains in office. The number of UBS shares held by each GEB member is determined by adding any vested or unvested shares to pri- vately held shares. GEB members are not permitted to sell their UBS shares until the abovementioned thresholds have been reached. Employment contract terms Employment contracts for GEB members do not provide for “golden parachutes”, that is, special severance terms, including supplementary contributions to pension plans. All employment contracts with GEB members contain a notice period of six months, except for one which contains a 12-month notice period. If a GEB member leaves the firm before the end of a performance year, he or she may be considered for a discretionary performance award based on his or her contribution during the time worked in that performance year. Such awards are at the full discretion of the firm, which may decide not to grant any awards. Benefits Benefits for GEB members are in line with local practices for other employees. ➔ Refer to the “2012 compensation for the Group Executive Board and the Board of Directors” section of this report for more information Fixed and variable compensation 1 d e t i d u A Total for the year ended 2012 Not deferred Deferred 3 CHF million, except where indicated amount % amount % amount % Total for the year ended 2011 4 Group Executive Board (GEB) members 2 Total compensation Amount Number of beneficiaries Fixed compensation Base salary Variable compensation Immediate cash Equity Ownership Plan Deferred Contingent Capital Plan Discontinued deferred compensation plans 5 Key Risk Takers 6 Total compensation Amount Number of beneficiaries Fixed compensation Base salary Variable compensation 100 25 75 70 13 18 52 0 31 21 18 18 0 0 0 0 25 100 0 0 0 0 52 0 52 0 31 21 N/A N/A N/A N/A N/A 790 501 218 572 100 403 51 387 28 72 218 185 100 32 0 387 75 0 100 0 100 100 N/A 49 0 68 75 15 20 55 N/A N/A N/A 55 656 448 194 462 1 The compensation of GEB members who assumed their roles in 2012 is reflected in the GEB and Key Risk Taker numbers in this table on a pro-rated basis. 2 The figures refer to all GEB members in office in 2012 and all GEB members who stepped down during 2012. 3 This is based on the specific plan vesting which may differ from the accounting expensing. 4 Year 2011 as reported in Annual Report 2011. 5 Cash Balance Plan, Senior Executive Equity Ownership Plan and Performance Equity Plan. 6 Includes employees with a performance award of CHF / USD 2 million or more (Highly Paid Employees). 284 Advisory vote How the LIBOR-related settlements and fines have impacted our compensation for 2012 In December 2012, UBS reached a settlement with the UK Financial Services Authority (FSA), the US Department of Justice (DOJ) and the Commodity Futures Trading Commission (CFTC) resolving LIBOR and other benchmark-related investigations, under which UBS agreed to pay fines totaling approximately CHF 1.4 billion. At the same time, the Swiss Financial Market Supervisory Authority (FINMA) issued an order concluding its formal proceedings with respect to UBS, requiring UBS to pay CHF 59 million in disgorgements. Shareholders, clients and our employees are understandably concerned about the conduct identified in the LIBOR investi- gations. From the time management discovered the wrongdoing and promptly reported it to regulators, we have fully cooperated with these regulators and taken significant remedial action to improve policies, protocols and controls. Termination of employment and other disciplinary measures We took disciplinary measures against those employees who were found to have been involved in the misconduct or who failed in their supervisory duties, including terminating their employment. 26 employ- ees left UBS before disciplinary action could be taken. 25 employees had their employ- ment terminated, either by separation agreement or termination for cause. 27 individuals were sanctioned with various warnings, reductions in their compensation and forfeiture of part of their deferred compensation, and by not being consid- ered for promotions. We continue to assess whether sanctions against other current and former employees should be taken based on our ongoing reviews or informa- tion we receive from regulators. Forfeiture of unvested deferred performance awards In addition to the reduction or elimination of performance awards paid to individuals for 2011 and 2012, we estimate that approximately CHF 60 million of unvested deferred performance awards has been forfeited. These forfeitures were principally due to the following: – terminations – resignations – performance conditions in our deferred variable compensation plans being deemed not to have been met – the application of the harmful acts forfeiture provisions Performance award pool funding Given the serious nature of the matter and the financial and reputational impact that it had on the firm, the cost of the LIBOR-related settlements was taken fully into account in determining the size of the overall performance award pool for 2012. In addition, the HRCC recommend- ed to the BoD that the performance award pools for the Investment Bank and the Corporate Center should be reduced to reflect the gravity of the matter. In doing so, they considered both the direct actions of those who attempted to influence LIBOR rates and the fact that UBS’s controls and procedures did not detect or prevent these actions. Investment Bank In determining the size of the perfor- mance award pool for the Investment Bank, the HRCC considered the division’s financial performance for the year, adjusted for items such as goodwill impairment and restructuring charges. To assist in its thinking, it factored in a discretionary adjustment equivalent to approximately 50% of the LIBOR-related costs for the year. Finally, the HRCC also took into account the Investment Bank’s significant achievements in reducing its risk-weighted assets and balance sheet and accelerating the implementation of the firm’s strategy. Taking all these factors into consideration, the HRCC determined that the Investment Bank’s overall performance award pool should be reduced by approximately 20% compared to the level of performance awards for the division for 2011. In addition, unlike in 2012, no special awards will be granted to Investment Bank employees in 2013. The HRCC also determined that performance awards subject to performance condi- tions that were due to vest in March 2013 for the Investment Bank should be reduced by 10%. This 10% forfeiture, amounting to over CHF 14 million at the time of forfeiture, applied to over 300 individuals. Corporate Center The Corporate Center performance award pool was also reduced as a result of the LIBOR matter. However, no forfeiture of performance awards with performance-linked vesting condi- tions was deemed appropriate in the Corporate Center as the relevant performance condition, that is, the firm’s overall profitability, as measured on an adjusted performance basis, was met. 285 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation Our deferred variable compensation plans To ensure our employees’ and shareholders’ interests are aligned, we pay part of our performance awards in UBS shares. To keep our employees focused on the medium and longer-term profitability of the firm, all variable compensa- tion plans require a significant part of an employee’s performance award to be deferred for up to five years and include forfeiture provisions. In 2012, we simplified and at the same time strengthened our compensation framework by eliminating a number of plans and introducing two universal plans that apply to all employees with a total compensation above CHF / USD 250,000 – the revised Equity Ownership Plan (EOP) and the new Deferred Contingent Capital Plan (DCCP). We have also extended the deferral period for our performance award plans. The introduction of the DCCP and changes to vesting conditions for the EOP have resulted in the average deferral period for the GEB increasing to 4.5 years (from 2.7 years for 2011) and to 3.8 years for other employees (from 2.0 years for 2011). The previous plans for members of the GEB, namely the Cash Balance Plan (CBP), Senior Executive Equity Ownership Plan (SEEOP) and the Performance Equity Plan (PEP) have been discontinued. The forfeiture provisions in our deferred variable compensa- tion plans, which have been enhanced, enable the firm to forfeit some, or all, of the unvested deferred portion if an employee commits certain harmful acts. Generally, we regard the following as harmful acts: – contributing substantially to a significant downward restate- ment of the Group’s or a business division’s results or to the Group incurring significant financial losses – engaging in conduct and / or failing to discharge supervisory or managerial responsibilities that results in detriment to UBS, in- cluding reputational harm – engaging in conduct that materially violates legal and regula- tory requirements or internal policies and procedures – disclosing confidential or proprietary information – soliciting UBS employees or clients As a result of the changes described above we believe we have the largest proportion of deferred compensation in our peer group, and that our employees would have more deferred com- pensation at risk than at any other competitor firm. Thus we pro- vide greater protection to our stakeholders in the event of poor performance or harmful acts. ➔ Refer to “Note 31 Equity participation and other compensation plans” in the “Financial Information” section of this report for more information on valuation principles and valuation of the awards granted Overview of variable compensation plans Compensation is closely linked to longer-term sustainable performance. All of our variable compensation plans feature performance conditions for certain employees. A substantial part of variable compensation is deferred and at risk of forfeiture for several years. Beneficiaries Vesting schedule Share price 2 Forfeiture clauses Harmful acts Performance conditions s n o i t i d n o C g n i c n e u fl n i t u o y a p Profitability as funding driver Equity Ownership Plan Deferred Contingent Capital Plan GEB members, Key Risk Takers and all employees with total compensation greater than CHF / USD 250,000 GEB members, Key Risk Takers and all employees with total compensation greater than CHF / USD 250,000 Vests in equal installments in years 3 to 5 for GEB members and in equal installments in years 2 and 3 for all other employees 1 Vests in full in year 5 For GEB members, GMDs, Key Risk Takers and Highly Paid Employ- ees, the number of UBS shares delivered at vesting depends on the achievement of both Group and divisional performance conditions Depends on whether a trigger event or viability event has occurred Awards for GEB members are also subject to 20% forfeiture for any year where UBS does not achieve an adjusted pre-tax profit Instrument UBS shares or notional shares 2 Notional bond and interest 1 Except for Global Asset Management employees, whose awards vest in equal installments in years 2, 3 and 5, and employees in certain locations subject to specific local plans with different deferral provisions. 2 Cash-settled notional funds for Global Asset Management employees. 286 Advisory vote Equity Ownership Plan (EOP) We have extended the vesting period and revised the perfor- mance conditions for the EOP. Awards granted for the perfor- mance year 2012 and onwards will vest in two equal installments in years 2 and 3 for all employees other than GEB members, and in three equal installments in years 3 to 5 for GEB members. For GMDs, Key Risk Takers and Highly Paid Employees, vesting is now also subject to multi-year performance conditions. In addition, the harmful act provisions have been enhanced to better ensure that awards can also be forfeited in the event that an employee fails to discharge his or her supervisory or managerial responsi- bilities. Up to 100% of the award due to vest may be forfeited. This plan provides no leverage. Description The EOP is a mandatory performance award deferral plan for all employees with total compensation of CHF / USD 250,000 or more. Such employees receive 30% of their performance award above that level in deferred UBS shares or notional shares under the EOP. GEB members receive at least 40% of their performance awards under the EOP. Global Asset Management employees re- ceive 45% of their performance awards above the total compen- sation threshold under the EOP, the amount of which is linked to the value of designated underlying Global Asset Management funds (notional funds) at the time of vesting. Their EOP awards vest in three equal installments in years 2, 3 and 5. The EOP in- stallments vesting in years 2 and 3 which were granted to Global Asset Management employees who are GMDs, Key Risk Takers or Highly Paid Employees are subject to the same performance con- ditions as those for other such employees. For 2012, an estimated 6,372 employees received EOP awards. EOP awards are granted annually. Although the forfeiture provi- sions are the same for all EOP awards, the other terms of these awards vary depending on the category an employee falls into, as summarized in the table on the right. Minimum percentage of performance award deferred under EOP EOP vesting period EOP performance conditions 40% 30% 30% 3 Vests in equal installments in years 3 to 5 Vests in equal installments in years 2 and 3 Vests in equal installments in years 2 and 3 Employee categories1 GEB members Group Managing Directors, Key Risk Takers and Highly Paid Employees2 All other employees with total compensation of more than CHF / USD 250,000 1 Excluding Global Asset Management employees and employees subject to different plans in certain loca- tions. 2 Employees with a performance award of more than CHF / USD 2 million. 3 At least 30% of the performance award that is above CHF / USD 250,000 is deferred under the EOP. EOP vesting schedule for GEB members EOP vesting schedule for all employees except GEB members EOP (minimum 40% of perfor- mance award) 13% 13% EOP (minimum 30% of perfor- mance award) – Shares awarded. – Award vests in equal installments in years 3, 4 and 5, subject to both Group and divisional performance over the performance period. The amount forfeited may be up to 100% of the installment due to vest. – Award subject to forfeiture in the event of harmful acts or termination of employment. 14% 15% 15% 2013 2014 2015 2016 2017 2018 2013 2014 2015 2016 – Shares awarded. – Award vests in equal install- ments in years 2 and 3 during the performance period. – For GMDs, Key Risk Takers and Highly Paid Employees, vesting of awards is subject to both Group and divisional perfor- mance conditions during the performance period. The amount forfeited may be up to 100% of the installment due to vest. – Award subject to forfeiture in the event of harmful acts or termination of employment. 287 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation EOP performance conditions for GEB members, GMDs, Key Risk Takers and Highly Paid Employees: The vesting of an EOP award depends on both Group performance and divisional performance. Group performance is measured by the average adjusted Group return on tangible equity (RoTE) and divisional performance by the average adjusted divisional return on attributed equity (RoAE), or, for Corporate Center employees, the average of the RoAE for all business divisions, which excludes Corporate Center (Front Office RoAE). The percentage of an EOP award that vests is determined as follows. If the average adjusted Group RoTE achieved is greater than or equal to the 6% threshold, the award will vest in full, subject to the relevant divisional threshold also being met. If the Group RoTE is 0% or negative, the installment will be fully forfeited for the entire Group regardless of any division’s particular performance. If the Group RoTE falls between 0% and 6%, the award will vest on a linear basis between 0% and 100%, again subject to the rele- vant divisional threshold being met. The purpose of the divisional threshold is to reduce the amount of the EOP award that vests for any division that does not meet its divisional performance target. Therefore, if the divisional RoAE threshold (see table below) is met, no adjustment is made to the EOP award. If, however, the RoAE falls below the threshold but is above 0% for any division, a downward adjustment will be applied to the percentage of shares that would otherwise vest for that division. The extent of this downward adjustment depends on how much the actual RoAE falls below the threshold for that division, and will be up to 40%. If the actual RoAE for a division is 0% or negative, the in- stallment will be fully forfeited for that division. The achievement of the performance conditions will be assessed by the HRCC. An illustrative example of how we determine the percentage of shares that vest is provided below. GEB members, GMDs, Key Risk Takers and Highly Paid Employees: EOP performance conditions Group performance Divisional performance Illustrative example (assuming constant share price) % vesting based on Group RoTE 100% vesting at a Group RoTE of ≥ 6% Adjustment based on Divisional/ Front Office RoAE 0% forfeiture if RoAE is at or above threshold Partial forfeiture of up to 40% determined on a linear basis if RoAE between threshold and > 0% Partial forfeiture determined on a linear basis if Group RoTE between 0% and 6% 100% forfeiture at a Group RoTE of ≤ 0% 100% forfeiture if RoAE ≤ 0% Assume an EOP award of CHF 100,000 granted to an Investment Bank employee due to vest in 2016, and an actual average adjusted Group RoTE and Investment Bank RoAE (averaged over the performance years 2013 to 2015) of 3% and 5%, respectively. To determine the percentage of shares that vest: –50% of 100K (50) 1. The award is reduced by 50% due to Group performance (as a 3% Group RoTE is 50% of the Group RoTE threshold). 2. The award is reduced by a further 20% due to the Investment Bank’s divisional performance (the 5% RoAE represents half of the 10% Investment Bank RoAE threshold). 100 –20% of 50K (10) 50 40 Installment about to vest Adjustment due to Group performance Vesting based on Group performance Adjustment due to divisional performance Amount vesting (cid:38)(cid:75)(cid:88)(cid:75)(cid:85)(cid:75)(cid:81)(cid:80)(cid:67)(cid:78)(cid:2)(cid:52)(cid:81)(cid:35)(cid:39)(cid:2)(cid:86)(cid:74)(cid:84)(cid:71)(cid:85)(cid:74)(cid:81)(cid:78)(cid:70)(cid:85)(cid:2)(cid:10)(cid:81)(cid:84)(cid:14)(cid:2)(cid:72)(cid:81)(cid:84)(cid:2)(cid:37)(cid:81)(cid:84)(cid:82)(cid:81)(cid:84)(cid:67)(cid:86)(cid:71)(cid:2)(cid:37)(cid:71)(cid:80)(cid:86)(cid:71)(cid:84)(cid:2) (cid:71)(cid:79)(cid:82)(cid:78)(cid:81)(cid:91)(cid:71)(cid:71)(cid:85)(cid:14)(cid:2)(cid:40)(cid:84)(cid:81)(cid:80)(cid:86)(cid:2)(cid:49)(cid:72)(cid:386)(cid:69)(cid:71)(cid:2)(cid:52)(cid:81)(cid:35)(cid:39)(cid:2)(cid:86)(cid:74)(cid:84)(cid:71)(cid:85)(cid:74)(cid:81)(cid:78)(cid:70)(cid:85)(cid:11) Performance periods for EOP awards granted in March 2013 (cid:57)(cid:71)(cid:67)(cid:78)(cid:86)(cid:74)(cid:2)(cid:47)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86) (cid:52)(cid:71)(cid:86)(cid:67)(cid:75)(cid:78)(cid:2)(cid:8)(cid:2)(cid:37)(cid:81)(cid:84)(cid:82)(cid:81)(cid:84)(cid:67)(cid:86)(cid:71) (cid:57)(cid:71)(cid:67)(cid:78)(cid:86)(cid:74)(cid:2)(cid:47)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:35)(cid:79)(cid:71)(cid:84)(cid:75)(cid:69)(cid:67)(cid:85) ≥ (cid:22)(cid:18)(cid:7) ≥ (cid:19)(cid:23)(cid:7) ≥ (cid:20)(cid:18)(cid:7) (cid:43)(cid:80)(cid:88)(cid:71)(cid:85)(cid:86)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:36)(cid:67)(cid:80)(cid:77) (cid:41)(cid:78)(cid:81)(cid:68)(cid:67)(cid:78)(cid:2)(cid:35)(cid:85)(cid:85)(cid:71)(cid:86)(cid:2)(cid:47)(cid:67)(cid:80)(cid:67)(cid:73)(cid:71)(cid:79)(cid:71)(cid:80)(cid:86) (cid:37)(cid:81)(cid:84)(cid:82)(cid:81)(cid:84)(cid:67)(cid:86)(cid:71)(cid:2)(cid:37)(cid:71)(cid:80)(cid:86)(cid:71)(cid:84) ≥ (cid:19)(cid:18)(cid:7) ≥ (cid:20)(cid:18)(cid:7) ≥ (cid:19)(cid:18)(cid:7) GEB GMDs, Key Risk Takers and Highly Paid Employees Installment vesting after Applicable performance period 3 years 4 years 5 years 2 years 3 years 2013, 2014 and 2015 2014, 2015 and 2016 2015, 2016 and 2017 2013 and 2014 2013, 2014 and 2015 288 100 80 60 40 20 0 (cid:19)(cid:36)(cid:38)(cid:19)(cid:18)(cid:20)(cid:65)(cid:71) Advisory vote (cid:52)(cid:71)(cid:86)(cid:87)(cid:84)(cid:80)(cid:2)(cid:81)(cid:80)(cid:2)(cid:86)(cid:67)(cid:80)(cid:73)(cid:75)(cid:68)(cid:78)(cid:71)(cid:2)(cid:71)(cid:83)(cid:87)(cid:75)(cid:86)(cid:91)(cid:2)(cid:115)(cid:2)(cid:69)(cid:81)(cid:79)(cid:82)(cid:67)(cid:84)(cid:75)(cid:85)(cid:81)(cid:80)(cid:2)(cid:89)(cid:75)(cid:86)(cid:74)(cid:2)(cid:39)(cid:49)(cid:50)(cid:2) (cid:82)(cid:71)(cid:84)(cid:72)(cid:81)(cid:84)(cid:79)(cid:67)(cid:80)(cid:69)(cid:71)(cid:2)(cid:86)(cid:74)(cid:84)(cid:71)(cid:85)(cid:74)(cid:81)(cid:78)(cid:70)(cid:85)(cid:2) (cid:43)(cid:80)(cid:2)(cid:7) (cid:19)(cid:26) (cid:19)(cid:22) (cid:19)(cid:18) (cid:24) (cid:20) (cid:26) (cid:369)(cid:24) (cid:369)(cid:24) (cid:369)(cid:24) (cid:20)(cid:18)(cid:19)(cid:20) (cid:20)(cid:18)(cid:19)(cid:21) (cid:20)(cid:18)(cid:19)(cid:22) (cid:20)(cid:18)(cid:19)(cid:23) (cid:52)(cid:81)(cid:54)(cid:39)(cid:2)(cid:71)(cid:90)(cid:69)(cid:78)(cid:16)(cid:2)(cid:80)(cid:71)(cid:86)(cid:2)(cid:84)(cid:71)(cid:85)(cid:86)(cid:84)(cid:87)(cid:69)(cid:86)(cid:87)(cid:84)(cid:75)(cid:80)(cid:73)(cid:14)(cid:2)(cid:67)(cid:79)(cid:81)(cid:84)(cid:86)(cid:75)(cid:92)(cid:67)(cid:86)(cid:75)(cid:81)(cid:80)(cid:17)(cid:75)(cid:79)(cid:82)(cid:67)(cid:75)(cid:84)(cid:79)(cid:71)(cid:80)(cid:86)(cid:2)(cid:67)(cid:80)(cid:70)(cid:2)(cid:81)(cid:89)(cid:80)(cid:2)(cid:69)(cid:84)(cid:71)(cid:70)(cid:75)(cid:86) (cid:39)(cid:49)(cid:50)(cid:2)(cid:52)(cid:81)(cid:54)(cid:39)(cid:2)(cid:82)(cid:71)(cid:84)(cid:72)(cid:81)(cid:84)(cid:79)(cid:67)(cid:80)(cid:69)(cid:71)(cid:2)(cid:86)(cid:74)(cid:84)(cid:71)(cid:85)(cid:74)(cid:81)(cid:78)(cid:70)(cid:2)(cid:67)(cid:82)(cid:82)(cid:78)(cid:75)(cid:69)(cid:67)(cid:68)(cid:78)(cid:71)(cid:2)(cid:72)(cid:81)(cid:84)(cid:2)(cid:47)(cid:67)(cid:84)(cid:69)(cid:74)(cid:2)(cid:20)(cid:18)(cid:19)(cid:21)(cid:2)(cid:73)(cid:84)(cid:67)(cid:80)(cid:86)(cid:85) (cid:55)(cid:36)(cid:53)(cid:2)(cid:52)(cid:81)(cid:39)(cid:2)(cid:86)(cid:67)(cid:84)(cid:73)(cid:71)(cid:86)(cid:85)(cid:2)(cid:115)(cid:2)(cid:52)(cid:81)(cid:54)(cid:39)(cid:2)(cid:71)(cid:83)(cid:87)(cid:75)(cid:88)(cid:67)(cid:78)(cid:71)(cid:80)(cid:86) The objective of linking the vesting of EOP awards with a return on equity over a two- to five-year time horizon is to focus our employees on developing and managing the business in a way that delivers sustainable returns. We believe that Group return on tangible equity (RoTE) is a better performance measure than the Group’s return on total equity (RoE). The difference between the two is that tangible equity includes only shareholders’ equity and excludes goodwill and intangibles and thus provides a more con- sistent basis to measure performance. The Group’s published RoE targets can be converted into RoTE targets by deducting the current balance of goodwill and intan- gibles from the Group’s total equity base. On this basis, the Group’s reported RoE target of mid-single digits for 2013 and 2014 would be approximately 1–2 percentage points higher in terms of RoTE. Our 2015 RoE target of more than 15% is the equivalent of RoTE of more than 17%, calculated based on our estimated tangible equity. UBS began to report Group RoTE in its fourth-quarter 2012 re- port and will continue to do so on a quarterly and annual basis. UBS has reported RoAE for each business division (except the Corporate Center) for some time. This information is available in this report and will be included in subsequent quarterly and annual reports. In determining the RoTE performance threshold for any year it will be important to set the threshold such that employees do not have to earn a performance award twice (once when granted and again during the vesting period). In establishing a threshold of 6% for the Group RoTE for the 2012 performance year we acknowl- edge that the bank is still in a transformational phase and take into consideration the financial effects of restructuring the bank during 2013 and 2014. (cid:20)(cid:22)(cid:18)(cid:18)(cid:18) (cid:19)(cid:26)(cid:18)(cid:18)(cid:18) (cid:19)(cid:20)(cid:18)(cid:18)(cid:18) (cid:24)(cid:18)(cid:18)(cid:18) (cid:18) 289 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation Deferred Contingent Capital Plan (DCCP) The introduction of the DCCP as a key component of our com- pensation framework better aligns the interests of our senior em- ployees with those of our stakeholders as the plan replicates many of the features of the loss-absorbing bonds that we issued to in- vestors in 2012. It is subject to standard forfeiture and harmful acts provisions and provides no leverage. We anticipate that over the next five years, we could build up to 100 basis points of high-trigger loss-absorbing capital from this program, which would act as an additional buffer against declines in capital. Eligible employees: The DCCP is a mandatory performance award deferral plan for all employees with total compensation of CHF / USD 250,000 or more. Such employees receive 30% of their performance award above that level under the DCCP, with the exception of Global Asset Management employees, who receive 15% of their performance awards under the plan. GEB members receive 40% of their performance awards under the DCCP. For 2012, an estimated 6,317 employees received DCCP awards. DCCP awards are intended to be granted annually. Deferred Contingent Capital Plan DCCP (minimum 30% of perfor- mance award) 30%1 – Awards in the form of notional bonds. – Awards cliff vest in year 5 provided that no trigger or viability event occurs. – Awards for GEB members subject to 20% forfeiture in years during the vesting period where the firm does not achieve an adjusted pre-tax profit. – Notional interest is paid annual- ly, but only for the performance years in which the firm gene- rates an adjusted pre-tax profit. 2013 2014 2015 2016 2017 2018 Notional interest payments 1(cid:31)40% for GEB members. Description: Employees are awarded notional bonds with annual interest payments. UBS will only pay interest for the performance years in which the firm generates an adjusted pre-tax profit. For years in which UBS does not achieve an adjusted pre-tax profit no notional interest will be paid. Once paid, notional interest is not subject to clawback. The notional interest rate is set based on the yield to maturity of a market-traded loss-absorbing bond ob- served from 1 to 15 February 2013 for the awards granted on 15 March 2013. The notional interest rate is 6.25% for awards de- nominated in USD and 5.40% for awards denominated in CHF. These interest rates are lower than the rates paid to the holders of our loss-absorbing bonds issued in February 2012 and August 2012, which have coupons of 7.25% and 7.625%, respectively. Awards vest in full after five years, subject to the restrictions out- lined in the following paragraph. Restrictions: Awards granted under the DCCP forfeit if our Basel III common equity tier 1 (CET1) ratio falls below 7%. This is a higher trigger than for our bondholders who would only see their bonds written down if our Basel III CET1 ratio falls to 5%. In addition, awards are also forfeited if a viability event occurs, that is, if FINMA provides a written notice to UBS that the DCCP must be written down to prevent the insolvency, bankruptcy or failure of UBS, or if UBS receives a commitment of extraordinary support from the public sector that is necessary to prevent such insolvency, bank- ruptcy or failure. Furthermore, DCCP awards for GEB members are subject to an additional performance condition. In any years during the vesting period where UBS does not achieve an adjusted pre-tax profit, GEB members would forfeit 20% of the award. As such, 100% of GEB DCCP awards are at additional risk of forfeiture. 290 Advisory vote Vesting of outstanding awards granted in prior years impacted by performance conditions The following provides an overview of the impact of the financial performance in 2012 on the vesting of outstanding awards grant- ed in prior years which were due to vest in 2013. Vesting of Performance Equity Plan awards granted in 2010 The vesting of awards granted under the Performance Equity Plan (PEP) depends on the cumulative economic profit (EP) over 2010 – 2012 and the relative total shareholder return (TSR) over the same period as compared to the constituent banks in the Dow Jones Banks Titans 30 Index at the time of grant. Based on the actual cumulative EP and relative TSR ranking over the perfor- mance period, and following validation by PricewaterhouseCoo- pers, the HRCC has determined that 52% of the performance shares granted to GEB members in 2010 have vested, that is, 48% has been forfeited. Vesting of Senior Executive Equity Ownership Plan and Perfor- mance Equity Ownership Plan 2010 / 11 and 2011 / 12 awards The vesting in 2013 of installments of the Senior Executive Equity Ownership Plan (SEEOP) and Performance Equity Ownership Plan (Performance EOP) 2010 / 11 and 2011 / 12 awards is dependent on the adjusted operating profit before tax of the business divi- sion or, for Corporate Center employees, adjusted Group operat- ing profit before tax. Performance EOP awards vested in full for all business divisions, except for the Investment Bank. Although the Investment Bank generated an adjusted operat- ing profit in 2012, the HRCC determined that the number of shares due to vest on 1 March 2013 would be reduced by 10% for Investment Bank employees. The HRCC’s determination was based on the profitability of the Investment Bank, including ad- justments for goodwill impairment, restructuring charges and own credit losses, as defined in the plan rules. The HRCC, at its discretion, took into consideration approximately 50% of the fines and related costs in connection with the LIBOR matter. The HRCC’s intention in applying its discretion is to ensure that the mechanistic outcome of performance conditions relating to awards will be subject to review to avoid outcomes which could be seen as contrary to the intention of the plans and to sharehold- ers’ interests. Accordingly, Investment Bank employees received 90% of the shares awarded under the Performance EOP that were due to vest on 1 March 2013. The same determination was also made regarding the outstanding SEEOP award in the Invest- ment Bank for Carsten Kengeter, that is, 10% of the second in- stallment of the SEEOP award granted to him in 2011 was for- feited. Vesting of Cash Balance Plan 2011 and 2012 awards The outstanding unvested amounts of Cash Balance Plan (CBP) awards granted in February 2011 and February 2012 are adjusted based on the Group RoE during the financial years prior to vest- ing. If Group RoE is below 0%, the actual Group RoE determines the extent of the downward adjustment. If Group RoE is between 0% and 6%, no adjustment will be made. Should Group RoE ex- ceed 6%, the unvested amount is adjusted upwards in line with the actual Group RoE, up to a maximum of 20% (that is, any up- side adjustment is capped at 20%). For Cash Balance Plan (CBP) awards granted in February 2011, the last installment which vested in 2013 was adjusted in line with the actual Group RoE over 2011 and 2012. As such, the award was adjusted upwards by 9.1% (reflecting 2011 performance) and then downwards by 5.2% (reflecting 2012 performance). For the CBP awards granted in February 2012, the first installment that vested in 2013 was adjusted downwards by 5.2% (reflecting 2012 performance). The last installment which is due to vest in 2014 will be adjusted based on the actual Group RoE over 2012 and 2013. 291 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation Discontinued deferred compensation plans The following table sets out the details of discontinued compensation plans, including those under which stock options, stock appre- ciation rights and other instruments were granted in the past. UBS has not granted any options since 2009. The strike price for stock options awarded under prior compensation plans has not been reset. No grants were made for the 2012 performance year under the discontinued plans (see below). ➔ Refer to “Note 31 Equity participation and other compensation plans” in the “Financial Information” section of this report for more information Plan Cash Balance Plan (CBP) Performance Equity Plan (PEP) Senior Execu- tive Equity Ownership Plan (SEEOP) Special Plan Award Program (SPAP) Deferred Cash Plan (DCP) Incentive Performance Plan (IPP) Key Employee Stock Appreci- ation Rights Plan (KESAP) and Key Employee Stock Option Plan (KESOP) Senior Executive Stock Appreci- ation Rights Plan (SESAP) and Senior Executive Stock Option Plan (SESOP) Years granted Eligible employees 2010–2012 2010–2012 2010–2012 2012 only 2011 only 2010 only 2002–2009 2002–2009 GEB members GEB members GEB members and Group Managing Board Selected Manag- ing Directors and Group Managing Directors in the Investment Bank Investment Bank employees whose total compensa- tion exceeded CHF 1 million GEB members and other senior employees (approximately 900 employees) Selected employ- ees (approximate- ly 17,000 em- ployees between 2002 and 2009) GEB members and Group Managing Board Instrument Cash Performance shares Shares Shares Cash Performance shares None Dependent on share price at the end of the five- year period Perfor- mance conditions CBP 2011 and 2012: dependent on the return on equity CBP 2010: de- pendent on UBS being profitable Dependent on whether the business division makes a loss (the amount forfeited depends on the extent of the loss and generally ranges from 10% – 50% of the award portion due to vest) Dependent on the level of reduction in risk- weighted assets achieved and the average published return on risk-weighted assets in the Investment Bank in 2012, 2013 and 2014 The number of UBS shares deliv- ered can be be- tween zero and two times the number of perfor- mance shares granted, depend- ing on whether performance tar- gets relating to economic profit (EP) and relative total shareholder return (TSR) have been achieved Restric- tions / other conditions Subject to continued employment and harmful act provisions Subject to continued employment and harmful act provisions Subject to continued employment and harmful act provisions Subject to continued employment and harmful act provisions Subject to continued employment and harmful act provisions Subject to continued employment and harmful act provisions Vesting period Vests in equal installments over a two-year period Vests in full three years after grant Vests in equal installments over a five-year period Vests in full three years after grant Vests in one- third installments over a three-year period Vests in full at the end of five years. Number of shares that vest can be between one and three times the number of perfor- mance shares ini- tially granted 292 Share-settled stock apprecia- tion rights (SAR) or stock options with a strike price not less than the fair market value of a UBS share on the date of grant Share-settled stock apprecia- tion rights (SAR) or stock options with a strike price not less than the fair market value of a UBS share on the date of grant None None Subject to contin- ued employment, non-solicitation of clients and employees and non-disclosure of proprietary infor- mation Subject to contin- ued employment, non-solicitation of clients and employees and non-disclosure of proprietary infor- mation Vests in full three years after grant. SAR and options expire 10 years from the date of grant Vests in full three years after grant. SAR and options expire 10 years from the date of grant Advisory vote 2012 performance summary The Group reported an overall loss last year, in part reflecting our decision to accelerate the firm’s strategy, which con- tributed to a significant goodwill impairment and restructuring costs. The results were also impacted by legal and regulatory costs, including the costs of the LIBOR settlement. However, we made substantial progress towards achieving our strategic objectives, including building our capital ratios, reducing costs and remediating operational risk events. Further progress was made in many areas of the business as we continued to address the challenges of the past. As a Swiss bank, UBS is subject to the most stringent regulatory requirements in the world. In 2012, we exceeded the capital tar- gets we set ourselves for the year and enhanced our position as one of the world’s best capitalized banks. On a fully applied basis, our Basel III common equity tier 1 (CET1) capital ratio rose by 310 basis points to 9.8%, meaning we have almost achieved our regu- lator’s minimum 2019 requirement of 10%. Our Basel III phase-in CET1 capital ratio increased by 460 basis points to finish the year at 15.3%. We achieved these increases primarily through reductions in risk-weighted assets, with total reductions of over CHF 120 bil- lion, or 32% for the year. We also made good progress in relation to our balance sheet, which was reduced by CHF 158 billion over the year. Our Basel III funding and liquidity ratios remain above our regulator’s 100% requirements and place us ahead of our peers. We firmly believe that capital strength is the foundation of our success. It allows us the flexibility to execute our strategy and it reinforces client confidence while allowing us to address the chal- lenges of the past. As a sign of that strength and of our confi- dence in our continued ability to execute our strategy in a disci- plined manner, the BoD is recommending a 50% increase in the dividend for shareholders for the year to CHF 0.15 per share. On costs, we experienced higher than expected legal costs and adverse foreign exchange movements, but our underlying prog- ress on cost reduction is on track. Our performance in 2012 We made solid progress across all businesses in 2012. Notably, our Wealth Management business continued to see success in the fastest growing global markets while adapting to the new cross- border paradigm. Together, our wealth management businesses attracted strong net new money inflows totaling almost CHF 47 billion, an increase of over CHF 11 billion on 2011 and a demon- stration of our clients’ continued trust. Wealth Management Americas continued to make strong progress and achieved a re- cord pre-tax profit of USD 873 million, an increase of 40% on 2011. Our Retail & Corporate business delivered a resilient pre-tax performance in difficult markets and continued to regain market share. It performed exceptionally well in relation to net new busi- ness volume growth, which reached almost 5%, and recorded deposit inflows of CHF 14 billion, including the highest net new client assets for retail clients in Switzerland since 2001. Global Asset Management recorded an increased pre-tax profit as it de- livered stronger investment performance to its clients. The Invest- ment Bank beat our targets in relation to risk-weighted asset and balance-sheet reduction, allowing the firm to reach its current industry-leading capital ratios. It performed well in many of its traditional areas of competitive strength, expanding in equity and debt capital markets and global syndicated finance where reve- nues increased 16%. Its foreign exchange business continued to benefit from the investments we made in cutting edge e-trading systems, enabling it to grow volumes significantly. Overall for 2012, the Group reported a disappointing pre-tax loss of CHF 1,774 million, a net loss attributable to UBS share- holders of CHF 2,511 million and diluted earnings per share of negative CHF 0.67. The result includes a number of items relating to the acceleration of our strategy, which we announced in Octo- ber 2012. We recorded CHF 3.1 billion of goodwill impairments Basel III CET1 ratio CHF billion phase-in fully applied ~10.7% +460 bps Phase-in Basel III CET1 ratio up ~460 bps Basel III RWA CHF billion ~15.3% ~380 Basel III RWA reduced by ~32% (32%) ~258 +310 bps ~9.8% ~6.7% 31.12.11 31.12.12 31.12.11 31.12.12 293 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation and CHF 0.4 billion of restructuring costs. In addition we recorded own credit charges of CHF 2.2 billion which resulted from the tightening of our credit spreads as the perceived creditworthiness of our debt improved, partly in reaction to the accelerated imple- mentation of our strategy. We also had positive effects of CHF 846 million related to changes to our Swiss pension plan and to our retiree medical and life insurance plan in the US. Adjusting for the items listed above (all of which are outside the control of divi- sional management or result from strategic decisions), one can get a clearer picture of our underlying performance. On this basis, the Group would have recorded a pre-tax profit of CHF 3.0 billion, which includes fines and disgorgements of CHF 1.4 billion in rela- tion to LIBOR. UBS’s performance award pool was reduced to CHF 2.5 bil- lion, a 7% decrease compared with 2011, and a 42% decrease compared with 2010. The overall decrease in the performance award pool year-on-year puts it at the lowest level since the financial crisis. The reduction in the pool must also be viewed in the context of the wide-ranging changes we have made to our new compensation plans, including increased deferral periods, the elimination of leveraged plans, the introduction of the De- ferred Contingent Capital Plan, which has a five-year vesting period, and the halving of the maximum immediate cash com- ponent of any performance award. Taken in conjunction with the firm’s achievements in building its industry-leading capital ratios and the proposed 50% increase in dividend payments to shareholders for 2012, it illustrates the continuing shift in the relationship between compensation, capital and dividends. Summary of financial performance for 2012 and 2011 CHF billion Pre-tax profit/(loss) as reported Impairment of goodwill, intangibles and PPE Own credit Net restructuring charges Other Adjusted pre-tax profit 2012 (1.8) 3.1 2.2 0.4 (0.8)1 3.0 2011 5.3 0.0 (1.5) 0.4 (0.7)2 3.4 1 Includes credit for changes to a US retiree medical life insurance benefit plan of CHF 116 million and credit for changes to the UBS’s Swiss pension plan of CHF 730 million. 2 Includes gain on the sale of our strategic investment portfolio (SIPF). 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2012 The performance award pool for 2012 is CHF 2.5 billion, 7% lower than for 2011 and 42% lower than 2010. Business performance is the basis of our compensation funding framework and we measure our business divisions’ performance in various ways, including profitability, quality of earnings, contri- bution before performance award and economic contribution be- fore performance award. The latter is calculated by deducting the cost of capital based on equity allocated to the business and re- flects the relative risks of each business. Funding rates are linked to a division’s level of profitability and reflect factors such as changes in performance during the year, affordability and the need to remain attractive as an employer. If a business division’s profits increase, the proportion of profits we allocate to pay performance awards is reduced. This approach has several benefits. In good years it helps to prevent excessive compensation and allows us to return capital to shareholders. In lean years, it provides management with the flexibility to ensure we can make adequate provisions to retain key employees. We believe it is important that our management can exercise its judgment and make recommendations, which are then re- viewed by the HRCC. If management feels a division’s perfor- mance award pool does not fully reflect its performance, the Group CEO can recommend a change to the size of the pool. For example, if a division is restructuring or investing significantly in its business this would have a material short-term financial impact, but it may also be seen as contributing to the firm’s longer term goal of delivering sustainable performance. In the case of variable compensation funding, management may make recommenda- tions to ensure the firm remains attractive as an employer. Such recommendations would take into account the firm’s market posi- tion from a performance and compensation perspective, and in- dustry compensation trends, including at senior management levels, based on peer comparisons. This year, we have broadened the scope of our peer benchmarking to ensure as far as possible that it provides like-for-like comparisons to aid the decision-mak- ing process. To the extent that discretion is exercised in any year, the HRCC undertakes to UBS’s shareholders that it will be applied judiciously and in a manner that is aligned with our strategy to create sus- tainable shareholder value. Sustainable profitability is key to compensation funding The primary basis for funding across UBS is profitability. The following describes how we determine our performance award pools. HRCC provides independent oversight Contribution before performance award as the main basis for business division pool funding Includes charge for cost of equity capital Compensation funding rates applied to contri- bution before perfor- mance award at business division level Initial business division performance award pools proposed Management discretion applied in determining divisional performance award pools Adjustments for relative business performance, risk factors, quality of earnings and market compensation Risk is assessed at each phase of the process Proposed pools reviewed by the Group CEO and HRCC Final approval by the BoD 295 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation Performance awards granted for the 2012 performance year Our performance award pool for 2012 is CHF 2,522 million, 7% lower than for 2011. This reflects our overall profitability, quality of earnings, and our progress towards achieving our strategic ob- jectives, including strengthening our capital ratios and reducing risk-weighted assets. The “Total variable compensation” table shows the amount of variable compensation awarded to employees for the perfor- mance year 2012, together with the number of beneficiaries for each type of award granted. We define variable compensation as the discretionary, performance-based award pool for the given year. In the case of deferred awards, the final amount paid to an employee is dependent on performance conditions to which these awards are subject and consideration of relevant forfeiture provisions. The deferred share award amount is based on the fair value of these awards on the date of grant. The “Deferred compensation” table on the following page shows the current intrinsic value of unvested outstanding de- ferred variable compensation awards subject to ex-post adjust- ments. For share-based plans, the intrinsic value is determined based on the closing share price on 30 December 2012. For no- tional funds, it is determined using the latest available market price for the underlying funds, and for cash-settled awards, it is determined based on the outstanding amount of cash owed to award recipients. All awards made under our deferred variable Total variable compensation 1 d e t i d u A CHF million, except where indicated Cash performance awards Deferred Contingent Capital Plan Deferred cash plans 4 UBS share plans UBS share option plans Equity Ownership Plan – notional funds Total performance award pool Expenses 2012 1,411 2011 3 1,554 145 5 135 0 28 0 34 234 0 25 1,724 1,847 Expenses deferred to future periods 2012 0 361 10 383 0 20 774 2011 3 0 0 3 750 0 69 822 Adjustments 2 2012 2011 3 0 Total Number of beneficiaries 2012 1,411 506 15 542 0 48 2011 3 1,554 0 37 2012 46,709 6,317 58 2011 50,620 0 62 1,038 5,866 6,514 0 94 0 506 0 515 2,522 2,723 46,732 50,635 0 0 54 0 0 54 0 0 0 24 0 0 24 CHF million, except where indicated Total variable compensation – other 5 Expenses Expenses deferred to future periods 2012 424 2011 3 295 2012 494 2011 3 132 Adjustments 2 2012 (137) 6 2011 3 0 Total 2012 781 2011 3 427 CHF million, except where indicated Total WMA financial advisor compensation 7 2012 2,087 2011 3 1,842 2012 706 2011 3 1,024 Expenses Expenses deferred to future periods Adjustments 2 2012 0 2011 3 0 Total Number of beneficiaries 2012 2,793 2011 3 2,866 2012 7,059 2011 6,967 1 The total “performance award” paid to employees for the performance years 2012 (CHF 2,522 million) and 2011 (CHF 2,723 million). Expenses under “Total variable compensation – other” and “Total WMA financial advisor compensation” are not part of UBS’s performance award pool. 2 Adjustments relating to post-vesting transfer restrictions. 3 In 2012, costs related to guarantees for new hires were reclassified from “Total variable compensation – other” to “Total variable compensation – performance award”. In addition, costs related to both supplemental severance and certain retention payments were reclassified from “Total variable compensation – performance award” to “Total variable compensation – other”. 2011 was restated. 4 Deferred cash plans include specific regional deferred cash plan which is not part of the Group’s compensation delivery framework. 5 Replacement payments and retention plan payments including the Special Plan Award Program. 6 Included in expenses deferred to future periods is an amount of CHF 137 million relating to future interest on the Deferred Contingent Capital Plan. As the amount recognized as performance award represents the present value of the award at the date granted to the employee, this interest amount is adjusted out in the analysis. 7 Financial advisor compensation consists of grid-based compensation based directly on compensable revenues generated by financial advisors and supplemental compensation calculated based on financial advisor productivity, firm tenure and other variables. It also includes costs related to compensation commitments and advances granted to financial advisors at the time of recruitment, which are subject to vest- ing requirements. 296 Advisory vote Deferred compensation 1, 2 d e t i d u A CHF million, except where indicated Deferred Contingent Capital Plan Equity Ownership Plan Equity Ownership Plan – notional funds Discontinued deferred compensation plans 5 Total Relating to awards for 2012 506 542 48 0 1,096 Relating to awards for prior years 3 0 3,383 534 420 4,337 of which exposed to ex-post adjustments 100% 100% 100% 100% Total 506 3,925 582 420 5,433 Total deferred compen- sation year end 2011 4 0 3,182 670 698 4,550 1 This is based on specific plan vesting which may differ from the accounting expensing. 2 For more information, refer to “Note 31 Equity participation and other compensation plans”. 3 This takes into account the ex-post implicit adjustments, given the share price movements since grant. 4 Year 2011 as reported in Annual Report 2011 adjusted for discontinued deferred compensation plans. 5 Cash Balance Plan (CBP), Senior Executive Equity Ownership Plan (SEEOP), Performance Equity Plan (PEP), Incentive Performance Plan (IPP), Deferred Cash Plan (DCP). compensation plans listed in the “Deferred compensation” table are subject to ex-post adjustments, whether implicitly, through exposure to share price movements, or explicitly, for example, through forfeitures instigated by the firm. Accordingly, their val- ue can change over time. The amounts shown in the column “Relating to awards for prior years” already takes into account ex-post implicit adjustments that have occurred as a result of share price movements between the respective dates on which these awards were granted and 30 December 2012. ➔ Refer to “Note 31 Equity participation and other compensation plans” in the “Financial Information” section of the Annual Report 2012 for more information. Performance award expenses in the 2012 performance year The performance award pool includes all discretionary, perfor- mance-based variable awards for 2012. Certain awards that form part of the performance award pool, mainly discretionary cash awards, are already expensed in the same year while deferred awards are largely expensed in subsequent years. The “Perfor- mance award expenses” chart illustrates how the performance award pool for the 2012 performance year reconciles with the performance award expense in the financial year 2012. The per- formance award expense includes all immediate expenses related to 2012 compensation awards and ex penses related to awards Performance award expenses Amortization of deferred compensation1 23% reduction in awards to be amortized over future periods (42%)1 CHF billion 2010 per- formance award pool ~4.3 0.9 2011 per- formance award pool 2.7 (7%)1 2011 IFRS expense 3.5 Amor- tization of prior year awards 1.74 Awards for 2011 perfor- mance year deferred to future peri- ods2 and PVTR and other3 Awards expense for 2011 perfor- mance year 1.8 2012 IFRS expense 3.0 Amor- tization of prior year awards 1.34 Awards expense for 2012 perfor- mance year 1.7 2012 per- formance award pool 2.5 0.8 Awards for 2012 perfor- mance year deferred to future periods2 and PVTR and other3 CHF billion of which Investment Bank IFRS expense down 15% YoY (down 17% excluding restructuring costs) Unrecog- nized awards to be amor- tized3 2.2 31.12.11 Including awards granted in 1Q12 for the performance year 2011 (23%) Amortized and forfeited 1.3 Expected amortization of prior year awards in 2013 0.6 Unrecog- nized awards to be amor- tized2, 3 1.7 Annual awards granted 0.8 Including awards to be granted in 1Q13 for the performance year 2012 31.12.12 Including awards to be granted in 1Q13 for the performance year 2012 CHF (0.7) billion 1 Excluding add-ons such as social security. 2 Estimate. The actual amount to be expensed in future periods may vary, for example due to forfeitures. 3 Post vesting transfer restrictions and adjustments related to performance conditions of CHF 54 million in 2011 and CHF 24 million in 2012. 4 Includes restructuring costs of CHF 54 million in 2011 and CHF 115 million in 2012. 1 This graph reflects improvements in estimates compared with the numbers included in our fourth quarter 2012 results presentation on 5 February 2013. 2 Estimate. The actual amount to be expensed in future periods may vary, for example due to forfeitures. 3 Related to performance award pool. 297 2.5 2.0 1.5 1.0 0.5 0.0 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation d e t i d u A Ex-post explicit and implicit adjustments to deferred compensation in 2012 1 CHF million UBS shares (EOP, IPP, PEP, SEEOP) 2 UBS options (KESOP) and SARs (KESAP) 2 UBS notional funds (EOP) 3 Ex-post explicit adjustments 4 2011 2012 Ex-post implicit adjustments to unvested awards 5 2011 2012 31.12.12 31.12.11 31.12.12 (211) (16) (8) (171) (22) (11) (178) 0 52 31.12.11 (1,432) (290) (50) 1 Compensation (discretionary performance award and other variable compensation) relating to awards for previous performance years. Cash deferred plans (i.e. CBP Cash Balance Plan) are not included in this analy- sis. 2 IPP, PEP, SEEOP, KESOP and KESAP are discontinued deferred compensation plans. 3 Awards granted under this plan are cash-settled and 100% susceptible to ex-post implicit adjustments. 4 Ex-post explicit adjustments are calculated as units forfeited during the year, valued at the share price on 28 December 2012 (CHF 14.27) and on 30 December 2011 (CHF 11.18) for UBS shares and valued with the fair value at grant for UBS options. For the notional funds awarded to Global Asset Management employees under the EOP, this represents the forfeiture credits recognized in 2012 and 2011. 5 Ex-post implicit adjustments for UBS shares are calculated based on the difference between the weighted average grant date fair value and the share price at year end. For UBS options they are calculated based on the difference between the fair value at grant and the aggregated intrinsic value at year end. The value of notional funds is calculated using the mark-to-market change during 2012 and 2011. made in prior years. As illustrated in the chart, the performance award pool declined by CHF 201 million or 7% in 2012, while the 2012 performance award expense under the IFRS accounting rules declined by CHF 516 million or 15%. At the end of 2012, the amount of unrecognized awards to be amortized in subsequent years was CHF 1.7 billion, compared with CHF 2.2 billion at the end of 2011. The “Amortization of deferred compensation” chart shows that this reduction is due to the reduction in unamortized awards and lower new awards granted for 2012 as well as lower unamortized balances from previous years carried forward. The table above shows the value of actual ex-post explicit and implicit adjustments to outstanding deferred compensation in the 2012 financial year. Ex-post adjustments occur after an award has been granted. Ex-post explicit adjustments occur when we adjust compensation by forfeiting deferred awards. By contrast, ex-post implicit adjustments are unrelated to action taken by the firm and occur as a result of share price movements that impact the value of an award. The total value of ex-post explicit adjustments made to UBS shares in 2012, based on the approximately 15 million shares forfeited during 2012, is negative CHF 211 million. The total value of ex-post explicit adjustments made to UBS options and share-settled stock appreciation rights (SARs) in 2012, based on the approximately 2 million options / SARs forfeited during 2012, is negative CHF 16 million. (The size of implicit adjustments is mainly due to a decline in the share price. The lower share price also means that many of the options previously granted are out of the money. Hence, the majority of outstanding option awards currently hold no intrinsic value). Total personnel expenses for 2012 The table on the following page shows our total personnel ex- penses in 2012 for our 62,628 employees and includes salaries, pension and other personnel costs, social security contributions and variable compensation. Variable compensation includes discre- tionary cash performance awards to be paid in 2013 for the 2012 performance year, the amortization of unvested deferred awards granted in previous years and the cost of deferred awards granted to employees who are eligible for retirement at the date of grant. The performance award pool reflects the value of discretionary performance awards granted relating to the 2012 performance year, including awards that are paid out immediately and those that are deferred. To determine our variable compensation ex- pense, the following adjustments are required in order to recon- cile the performance award pool to the accounting costs recog- nized in the Group’s financial statements prepared under IFRS: – reduction for the unrecognized future amortization of unvest- ed deferred awards granted in 2013 for the performance year 2012; and – addition for the amortization of unvested deferred awards granted in previous years. As a large part of compensation consists of deferred awards, the amortization of unvested deferred awards granted in previous years forms a significant part of both the 2011 and 2012 account- ing costs. ➔ Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information 298 Advisory vote Personnel expenses d e t i d u A CHF million Salaries Cash performance awards Deferred Contingent Capital Plan Deferred cash plans UBS share plans UBS share option plans Equity Ownership Plan – notional funds Total variable compensation – performance award 1, 2 of which guarantees for new hire 2 Variable compensation – other 1, 2 of which replacement payments 3 of which forfeiture credits of which severance payments 2, 4 of which retention plan and other payments 2 Contractors Social security Pension and other post-employment benefit plans 5 Wealth Management Americas: financial advisor compensation 1, 6 Other personnel expenses Total personnel expenses 7 Relating to awards for 2012 Relating to awards for prior years Total 2012 Expenses 6,814 1,411 145 5 135 0 28 1,724 15 424 15 0 303 107 214 729 18 2,087 659 12,670 0 (38) 0 149 1,067 14 84 1,276 119 (57) 94 (174) 0 21 0 39 0 786 23 2,067 6,814 1,373 145 154 1,202 14 112 3,000 134 367 109 (174) 303 128 214 768 18 2,873 682 14,737 2011 6,859 1,466 0 343 1,490 100 118 3,516 173 191 121 (215) 239 46 217 743 831 2,518 758 15,634 2010 7,033 2,173 0 314 1,428 145 111 4,171 135 141 107 (167) 80 121 232 826 834 2,667 1,127 17,031 1 Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information. 2 In 2012, costs related to guarantees for new hires were reclassified from “Total variable compensation – other” to “Total variable compensation – performance award”. In addition, costs related to both supplemental severance and certain retention payments were reclassified from “Total variable compensation – performance award”to “Total variable compensation – other”. Prior periods were adjusted for these changes. The combined impact of these changes resulted in a net increase to “Total variable compensation – performance award” of CHF 125 million and CHF 89 million for the year ended 31 December 2011 and for the year ended 31 December 2010, respectively, with a corresponding net decrease to “Total variable compensation – other”. 3 Replacement payments are payments made to compensate employees for deferred awards forfeited as a result of joining UBS. This table includes the expenses recognized in the fi- nancial year (mainly the amortization of the award). 4 Includes legally obligated and standard severance payments, as well as supplemental severance payments. 5 Refer to “Note 30 Pension and other post-employ- ment benefit plans” of the “Financial information” section of this report for more information. 6 Financial advisor compensation consists of grid-based compensation based directly on compensable revenues gener- ated by financial advisors and supplemental compensation calculated based on financial advisor productivity, firm tenure, assets and other variables. It also includes costs related to compensation commitments and advances granted to financial advisors at the time of recruitment, which are subject to vesting requirements. 7 Includes restructuring charges of CHF 358 million for the year ended 31 December 2012 and CHF 261 million for the year ended 31 December 2011. Refer to “Note 37 Changes in organization” in the “Financial information” section of this report for more information. 299 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation 2012 compensation for the Group Executive Board and Board of Directors How we set compensation levels for our Group Executive Board (GEB) The HRCC reviews the Group CEO’s recommendations for GEB members’ compensation. It makes its final compensation recom- mendations for individual GEB compensation based on an assess- ment of these management recommendations together with an independent assessment of overall performance of the individual and their respective businesses. The HRCC’s recommendations are then reviewed and approved by the BoD. In setting total compensation levels for GEB members for 2012, the HRCC and the BoD considered the following factors: – the performance of each individual in the context of each busi- ness division’s operating performance for 2012 on an absolute and relative basis – specific key performance indicators for each individual relevant to their role, including risk-adjusted profitability, management of risk-weighted assets, the strengthening of capital ratios, growth in net new money, operating effectiveness and cost efficiency – the impact each individual and, if applicable, his respective busi- ness, has had on our clients globally – the overall progress of the Group towards our medium and longer-term strategic goals – each individual’s contribution to safeguarding and enhancing our reputation, effecting change, promoting delivery of the integrated bank and building and retaining high-performing teams – the degree to which the individual anticipates and effectively manages risk – balancing employee interests with the need to ensure an ap- propriate return to our shareholders – our compensation structures and our overall market position- ing from a competitiveness perspective To ensure that overall GEB compensation is sufficiently tied to the firm’s profitability, we have introduced a cap on the total GEB performance award pool. The pool will not exceed 2.5% of the firm’s adjusted pre-tax profit. As the Group adjusted pre-tax prof- it for 2012 was CHF 3.0 billion, the GEB performance award pool is capped at CHF 75 million for the 2012 performance year. The actual award pool for 2012 (included in the overall pool) was CHF 52 million, representing 1.7% of the adjusted pre-tax profit. Fur- thermore, 100% of a GEB member’s deferred compensation is subject to performance conditions. Under the Equity Ownership Plan (EOP), GEB awards will be fully forfeited if the Group and / or relevant business division does not make an average adjusted pre- tax profit during the performance period. Further, performance below specific thresholds will also cause partial forfeiture. Awards granted under the new Deferred Contingent Capital Plan (DCCP) will be forfeited if our Basel III CET1 ratio falls below 7% or if a viability event occurs. In addition, 20% of DCCP awards, includ- ing the relevant notional interest, will be forfeited for each year in which UBS does not achieve an adjusted pre-tax profit. Thus, GEB members’ full DCCP awards are at additional risk of forfeiture. For GEB members who were in office for both the full year 2011 and 2012, performance awards were down 10% and total compensation was down 7% year on year. While the firm’s compensation framework provides for up to 20% of the performance award to be paid immediately in cash, in light of the firm’s overall results for the year, and based on a rec- ommendation from the Group CEO, it was deemed appropriate that performance awards for the firm’s most senior leaders be fully deferred. Consequently, the cash component of the award was delivered in the form of deferred equity under the EOP, and makes up 60% of GEB performance awards for 2012. Therefore, 100% of the GEB’s 2012 performance award is deferred over three to five years. We have reserved judgment on the introduction of fixed caps on the proportion of fixed to variable pay as important regulatory debates have not been concluded. Group Chief Executive Officer (Group CEO) Sergio P. Ermotti joined UBS in April 2011, initially as Regional CEO for EMEA. In November 2011, he was appointed Group CEO with immediate effect. In determining his compensation for 2012, the HRCC and the BoD considered his performance objec- tives to implement the firm’s strategy, namely driving financial performance, strengthening capital ratios, managing costs and improving the operational risk environment. The Group’s overall financial loss for 2012 was disappointing, but was clearly im- pacted by significant goodwill impairments related to our deci- sion to accelerate the Group’s strategy, the LIBOR settlement and own credit. Despite these developments, the Group made significant progress under Mr. Ermotti’s leadership. He success- fully led the firm in the implementation of its strategy, enabling it to accelerate the implementation of the strategy as announced in October 2012 (see 2012 performance summary for more de- tails on the firm’s success in 2012). Mr. Ermotti has also navi- gated the challenges the firm faced during the year, while still achieving strong results in many business divisions. The firm con- tinued to strengthen its industry-leading capital ratios and is on 300 Advisory vote track to achieve its capital targets. Risk-weighted assets on a Basel III fully applied basis were reduced 32% compared to the end of 2011. The firm’s wealth management businesses attract- ed net new money inflows of approximately CHF 47 billion, an increase of over CHF 11 billion and a sign of clients’ continued trust in the firm. The firm also continues its efforts to reduce costs and drive efficiencies and delivered underlying reductions in the run rate of costs compared to mid-2011. UBS has also strengthened its operational risk control framework, which al- lows it to better manage and deploy risk to serve our clients. These achievements, particularly in relation to capital, have al- lowed the BoD to recommend a 50% increase in the Group’s dividend for 2012 to CHF 0.15 per share. Overall, the progress made by the firm during the year is reflected in the 28% in- crease in its share price, up from CHF 11.18 at the end of 2011 to CHF 14.27 at the end of 2012. For the performance year 2012, reflecting his achievements in his first full year as Group CEO and at the firm, Mr. Ermotti was granted a performance award of CHF 6.1 million, making his total compensation for the year CHF 8.9 million. Consistent with other GEB members, for the performance year 2012, 100% of his per- formance award was deferred, with 40% under the DCCP and 60% under the EOP. (For 2011, in which Mr. Ermotti joined the firm, the HRCC and BoD determined his overall compensation for the eight months he was at the firm by deciding the appropriate compensation for each of the two roles he performed during that year. The table “Total compensation for GEB members” shows his compensation for 2011.) ➔ Refer to the “2012 performance summary” section of this report for more information Highest paid GEB member The highest paid GEB member in 2012, apart from the Group CEO, was Robert J. McCann, with total compensation of CHF 8.6 million. As shown in the “Total compensation for GEB members” table, 100% of his performance award for 2012 is deferred, with 40% under the DCCP and 60% under the EOP. In 2012, Mr. McCann continued to drive the successful devel- opment of. Wealth Management Americas. The business made strong progress throughout 2012 and achieved a record pre-tax profit for the year of USD 873 million, an increase of 40% on 2011. The improved performance resulted from a 9% increase in revenues compared with 2011. Clients have recognized the business’s achievements and continued to entrust it with their assets, with full year net new money inflows of over USD 22 bil- lion, the highest recorded since 2007. Low advisor attrition rates illustrate the continued confidence that industry professionals have in the business and the progress it is making, and its finan- cial advisor force delivered record levels of productivity in 2012. The business has also made strong progress in its lending initia- tives. It performed well in relation to its cost / income ratio, gross margin and annualized net new money growth rate perfor- mance targets. ➔ Refer to the table “Total compensation for GEB members for the performance years 2011 and 2012” for more information Notes on replacement awards During 2012, Andrea Orcel joined UBS after a 20-year career with Bank of America / Merrill (BAC), and was appointed to the GEB on 1 July 2012 as co-head of the Investment Bank. On 1 November, he became sole CEO of the division. In line with market practice, he received awards as a replacement for deferred compensation and benefits forfeited by his previous employer as a result of his joining UBS. As a general principle, in making such replacement awards, we aim to match the terms and conditions of the awards granted by an employee’s previous employer which are forfeited upon the employee joining UBS. Given his most recent roles at BAC, he was subject to high effective deferral rates. Mr. Orcel’s replacement award consisted of a deferred cash award in the amount of USD 6.364 million, and an award of 1,755,691 UBS shares (denomi- nated in CHF) deferred under the EOP with a grant date total fair market value of CHF 18.5 million. Both the deferred cash and de- ferred share awards vest in installments in 2013, 2014 and 2015. All these awards are subject to the firm’s harmful acts provisions. Base salary Base salaries are fixed for all GEB members and reviewed annu- ally by the HRCC. GEB salaries were not changed from the level set by the BoD in early 2011. Thus the annual level of salary for GEB members, with the exception of the Group CEO, will remain at CHF 1.5 million or the equivalent in the relevant local currency. With respect to the Group CEO, the HRCC reviewed his base sal- ary level upon his appointment and set it at an annual level of CHF 2.5 million. Following a further review at the beginning of 2013, the HRCC determined that the level previously set remains appropriate. Base salaries received over the year by GEB mem- bers are fully taken into account when considering their total compensation levels. Benefits There were no changes to the terms of GEB benefits. ➔ Refer to “Note 30 Pension and other post-employment benefit plans” in the “Financial Information” section of this report for details on the various post-employment benefit plans established in Switzerland and other major markets ➔ Refer to the “Compensation funding and expenses” and “Overview of our compensation model” sections for information concerning the Human Resources and Compensation Committee’s determination of the discretionary performance award for 2012, and to the “Deferred variable compensation plans” section for details of the compensation plans awarded to Group Executive Board members 301 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation Board of Directors compensation Chairman of the Board of Directors Our compensation framework provides for the Chairman of the BoD, Axel A. Weber, who was elected at the AGM in May 2012, to receive annually a base salary of CHF 2 million and 200,000 UBS shares, blocked for four years, as well as benefits in kind. Such shares are not designed or intended as variable compensa- tion. The number of shares that Mr. Weber received for 2012 was pro-rated to take into account that he assumed the role of Chair- man in May. At grant, the pro-rated number of shares he re- ceived (133,333) was valued at CHF 2,003,995. Accordingly, his total compensation, including benefits in kind and pension fund contribution for his services as Chairman from May to December 2012, amounted to CHF 3,568,341. The share component ensures that the Chairman of the BoD’s pay is aligned with the longer-term performance of the firm. The Chairman’s employment agreement does not provide for special severance terms, including supplementary contributions to pen- sion plans. Benefits for the Chairman of the BoD are in line with local practices for other employees. Determining the Chairman’s compensation is the responsibility of the HRCC, which conducts an annual assessment and takes into consideration fee and/or compensation levels for comparable roles outside of UBS. Highest paid member of the BoD As Chairman of the BoD, Mr. Weber is the highest paid BoD mem- ber. As previously announced, the BoD approved a one-time pay- ment to Mr. Weber upon his election to the BoD at the 2012 AGM. This payment, equivalent to one year’s total compensation, consisted of CHF 2 million in cash and 200,000 UBS shares that are blocked for one year. At grant, these shares were valued at CHF 2,268,000. Remuneration for the former Chairman of the BoD Kaspar Villiger, former Chairman of the BoD, did not stand for reelection at the AGM in May 2012, and retired from UBS at the end of May 2012. As in previous years, Mr. Villiger chose to waive a substantial part of his share award and decided to maintain the voluntary reduction in his annual base salary, that is, to only ac- cept CHF 850,000 of the CHF 2 million to which he was entitled. On a pro-rated basis (from 1 January – 31 May), the base salary he received for 2012 consisted of CHF 354,167 in cash, and a limited number of 12,762 UBS shares with a fair value of CHF 200,000. Independent BoD members With the exception of the Chairman, all BoD members are deemed to be independent directors and receive fixed base fees for their services, with 50% of their fees in cash and the other 50% in blocked UBS shares that are restricted from sale for four years. Alternatively, they may choose to have 100% of their re- muneration paid in blocked UBS shares. In all cases, the number of shares that independent directors are entitled to receive is cal- culated using a discount of 15% below the prevailing market price. In addition to the base fee, independent BoD members receive fees known as committee retainers that reflect their workload in serving on the firm’s various board committees. The Senior Independent Director and the Vice Chairman of the BoD each also receive an additional payment of CHF 250,000. In ac- cordance with their role, independent BoD members do not re- ceive performance awards, severance payments or benefits. Base fees, committee retainers and any other payments received by independent BoD members are subject to an annual review: a proposal is submitted by the Chairman of the BoD to the HRCC, which then submits a recommendation to the BoD. The “Remuneration details and additional information for inde- pendent BoD members” table shows the remuneration received by independent BoD members between the 2012 and 2013 AGM. Fees for 2012 to 2013 remained unchanged. Remunera- tion levels for BoD members, other than the Chairman, ranged from CHF 525,000 to CHF 1,075,000. Total remuneration for the independent BoD members for the period between the 2012 to 2013 AGM was CHF 7.6 million, up from CHF 7.0 mil- lion for the prior period. This increase is due to the number of BoD members, which increased from 11 to 12, and also due to increasing the membership of the Audit Committee by two new BoD members. 302 Advisory vote Compensation for former Board of Directors and Group Executive Board members List of tables Total compensation for GEB members for the performance years 2011 and 2012 Share and option ownership / entitlements of GEB members on 31 December 2011 / 2012 Compensation details and additional information for non-independent BoD members Remuneration details and additional information for independent BoD members Total payments to BoD members Number of shares of BoD members on 31 December 2011 / 2012 Compensation paid to former BoD and GEB members Total of all vested and unvested shares of GEB members Total of all blocked and unblocked shares of BoD members Vested and unvested options of GEB members on 31 December 2011 / 2012 Loans granted to GEB members on 31 December 2011 / 2012 Loans granted to BoD members on 31 December 2011 / 2012 Page 304 305 306 306 307 307 308 308 308 309 312 312 Generally, no compensation or benefits in kind were paid to for- mer BoD and GEB members for 2012. The only exception was a payment to compensate one former GEB member for benefits agreed in his original employment agreement. The value of this payment amounts to CHF 25,465. Transactions in 2012 In accordance with the applicable rules and regulations, manage- ment transactions in UBS shares by BoD and GEB members are publicly disclosed. From 1 January until 31 December 2012, no share sales were disclosed. In accordance with normal practice, two BoD members chose to receive 100% of their fees in UBS shares. These shares, repre- senting a value of CHF 625,000, will be allocated in March 2013. Loans BoD and GEB members may be granted loans, fixed advances and mortgages. Such loans are made in the ordinary course of business on substantially the same terms as those granted to other employ- ees, including interest rates and collateral, and do not involve more than the normal risk of collectability or contain other unfavorable features. ➔ Refer to “Note 32 Related parties” in the “Financial information” section of this report for information concerning loans granted to current and former key management personnel 303 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation d e t i d u A Total compensation for GEB members for the performance years 2011 and 2012 CHF, except where indicated a Name, function For the year Base salary Sergio P. Ermotti, Group CEO 2012 Sergio P. Ermotti, Group CEO 2 2011 Oswald J. Grübel, former Group CEO 3 Robert J. McCann, CEO Wealth Management Americas (highest-paid after Group CEO) 2011 2012 Immediate cash (for 2011 under CBP) b 0 553,200 2,500,000 1,394,445 2,191,667 0 Annual performance award under EOP c 3,660,000 Annual performance award under DCCP d 2,440,000 Annual performance award under PEP e – Annual performance award under SEEOP f – Deferred cash under CBP 1, b – Contribu- tions to retirement benefit plans h 201,088 Benefits in kind g 69,500 Total 8,870,588 – – – – 1,290,800 922,000 1,844,000 195,450 150,816 6,350,711 0 – 0 – 0 – 35,971 0 2,227,638 45,004 6,110 8,555,366 1,373,130 0 4,278,673 2,852,449 Robert J. McCann, CEO Wealth Management Americas (highest-paid) Aggregate of all GEB members who were in office at the end of the year 4 Aggregate of all GEB members who stepped down during the year 5 2011 2012 2011 2012 2011 1,321,538 1,869,233 – – 1,246,155 1,557,694 3,115,388 67,053 6,264 9,183,325 16,273,460 0 31,355,592 20,903,728 – – – 640,683 1,233,719 70,407,181 15,962,737 11,929,365 1,593,288 4,155,602 0 509,201 – 0 – – 0 – 8,874,910 10,402,137 20,804,274 1,165,601 995,290 70,134,314 – 1,166,759 – 0 – 962,768 105,865 171,954 14,799 80,499 1,713,952 7,046,783 1 In 2011, for Sergio P. Ermotti, due to applicable UK FSA regulations, deferred cash includes blocked shares. 2 Sergio P. Ermotti was appointed on 1 April 2011 as GEB member and Regional CEO of Europe, Middle East and Africa. He was appointed as the new Group CEO ad interim on 24 September 2011 and confirmed as Group CEO on 15 November 2011. 3 Oswald J. Grübel stepped down on 24 September 2011 as Group CEO. 4 Number and distribution of GEB members: 11 GEB members were in office on 31 December 2012 and 12 GEB members were in office on 31 December 2011. 5 Number and distribution of former GEB mem- bers: 2012: includes three months in office as a GEB member for Alexander Wilmot-Sitwell and 10 months in office as a GEB member for Carsten Kengeter. 2011: includes five months in office as a GEB member for John Cryan, nine months for Oswald J. Grübel and 11 months for Maureen Miskovic. Explanation of the tables outlining compensation details for GEB and BoD members a. Local currencies are converted into CHF using the exchange rates as detailed in Note 38 “Currency translation rates” in the “Financial information” section in this report. b. For performance year 2012, no immediate cash was paid. For performance year 2011, 40% of the 2011 performance award was granted in the form of Cash Balance Plan awards, of which 60% is paid out immediately (representing 24% of a GEB member’s performance award). The balance is paid out in equal installments of 20%, each over the subsequent two years, and is subject to performance adjustments. c. For EOP awards for the performance year 2012, the number of shares allocated at grant will be determined by dividing the amount communicated with the average price of UBS shares over the 10 trading days prior to and including the grant date (15 March 2013), which for notional shares is adjusted for the estimated value of dividends paid on UBS shares over the vesting period. As the grant date occurs after publication, no share price is yet available at the time of publication. d. DCCP awards vest in full after year 5 of the five-year vesting period. The amount reflects the amount of the notional bond excluding future notional inter- est. The notional interest rate is set at 6.25% for awards denominated in USD and 5.40% for awards denominated in CHF. e. For PEP awards for the performance year 2011, the number of performance shares allocated at grant has been determined by dividing the amount com- municated with CHF 12.52 or USD 13.75 (based on the average price of UBS shares over the last 10 trading days of February 2012 adjusted for the esti- mated value of dividends paid on UBS shares over the vesting period). For SEEOP awards for the performance year 2011, the number of shares allocated at grant has been determined by dividing the amount communicated with CHF 12.92 or USD 14.19 (for actual shares) and with CHF 12.52 or USD 13.75 (notional shares), based on the average closing price of UBS shares over the last 10 trading days of February 2012, which for notional shares is adjusted for the estimated value of dividends paid on UBS shares over the vesting period. f. g. Benefits in kind are all valued at market price, for example, health and welfare benefits and general expense allowances. h. Swiss executives participate in the same pension plan as all other employees. Under this plan, UBS makes contributions to the plan, which covers compen- sation of up to CHF 835,200 (CHF 842,400 as from 1 January 2013). The retirement benefits consist of a pension, a bridging pension and a one-off payout of accumulated capital. Employees must also contribute to the plan. This figure excludes the mandatory employer’s social security contributions (AHV, ALV), but includes the portion attributed to the employer’s portion of the legal BVG requirement. The employee contribution is included in the base salary and annual incentive award components. In both the US and the UK, senior management participates in the same pension plans as all other employees. In the US, there are separate pension plans for Wealth Management Americas compared with the other business divisions. There are generally two different types of pension plans: grandfathered plans and principal plans. The grandfathered plans, which are no longer open to new hires, operate (depending on the abovementioned distinction by business division) either on a cash balance basis or a career average salary basis. Participants accrue a pension based on their annual compensation limited to USD 250,000 (or USD 150,000 for Wealth Management Americas employees). The principal plans for new hires are defined contribution plans. In the defined contribution plans, UBS makes contributions to the plan based on compensation and limited to USD 250,000 (USD 255,000 as from 1 January 2013). US management may also participate in a 401(k) defined contribution plan (open to all employees), which provides a limited company matching contribution for employee contributions. In 2012, Wealth Management Americas employees with a compensation in excess of USD 250,000 did not receive a company match. Effective 1 January 2013, the match was reinstated for these employees. In the UK, management partici- pates in either the principal pension plan, which operates on a defined contribution basis and is limited to an earnings cap of GBP 100,000, or a grandfa- thered defined benefit plan which provides a pension upon retirement based on career average base salary (individual caps introduced as of 1 July 2010). 304 Advisory vote d e t i d u A Share and option ownership / entitlements of GEB members on 31 December 2011 / 2012 1 Name, function For the year Sergio P. Ermotti, Group Chief Executive Officer Markus U. Diethelm, Group General Counsel John A. Fraser, Chairman and CEO Global Asset Management Lukas Gähwiler, CEO UBS Switzerland and CEO Retail & Corporate Carsten Kengeter, former co-CEO Investment Bank 5 Ulrich Körner, Group Chief Operating Officer, CEO Corporate Center and CEO Group EMEA Philip J. Lofts, Group Chief Risk Officer Robert J. McCann, CEO Group Americas and CEO Wealth Management Americas Tom Naratil, Group Chief Financial Officer Andrea Orcel, CEO Investment Bank Alexander Wilmot-Sitwell, former co-Chairman and co-CEO Group Asia Pacific 5 Chi-Won Yoon, CEO Group Asia Pacific Jürg Zeltner, CEO UBS Wealth Management 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2012 2011 2012 2011 2012 2011 Number of unvested shares / at risk 2 220,928 Number of vested shares Total number of shares 41,960 262,888 0 506,132 358,042 617,529 460,707 412,199 252,293 – 971,575 605,284 389,090 542,402 377,614 658,470 330,047 340,757 221,238 1,755,691 – – 495,553 478,986 306,515 522,500 306,487 0 126,098 91,506 315,270 280,414 95,537 37,517 – 556,016 121,837 95,597 169,789 150,772 18,112 0 233,603 193,836 0 – – 220,955 370,760 350,311 38,329 11,756 0 632,230 449,548 932,799 741,121 507,736 289,810 – 1,527,591 727,121 484,687 712,191 528,386 676,582 330,047 574,360 415,074 1,755,691 – – 716,508 849,746 656,826 560,829 318,243 Potentially conferred voting rights in % 0.013 0.000 0.030 0.021 0.045 0.034 0.024 0.013 – 0.070 0.035 0.022 0.034 0.024 0.032 0.015 0.027 0.019 0.084 – – 0.033 0.041 0.030 0.027 0.015 Number of options 3 0 Potentially conferred voting rights in % 4 0.000 0 0 0 884,531 1,088,795 0 0 – 905,000 0 0 536,173 577,723 0 0 935,291 1,046,122 0 – – 353,807 578,338 623,253 203,093 205,470 0.000 0.000 0.000 0.042 0.050 0.000 0.000 – 0.041 0.000 0.000 0.026 0.026 0.000 0.000 0.045 0.048 0.000 – – 0.016 0.028 0.029 0.010 0.009 1 This table includes all vested and unvested shares and options of GEB members, including related parties. 2 Includes shares granted under variable compensation plans with forfeiture provisions. The actual number of shares vesting in the future will be calculated under the terms of the plans. Refer to the “Deferred variable compensation plans” section in this report for more information on the plans. 3 Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information. 4 No conversion rights are outstanding. 5 GEB members who stepped down during 2012. 305 Corporate governance, responsibility and compensationAdvisory vote d e t i d u A d e t i d u A Corporate governance, responsibility and compensation Compensation Compensation details and additional information for non-independent BoD members CHF, except where indicated a Name, function 1 Axel A. Weber, Chairman Kaspar Villiger, former Chairman For the year 2012 2011 2012 2011 Base salary 1,322,581 – 354,167 850,000 Annual performance award (cash) – – – 0 Annual share award 2,003,9952 – 200,000 2 500,000 2 Benefits in kind g 69,867 – 54,926 144,568 Contributions to retirement benefit plans h 171,898 – – 0 Total 3,568,341 – 609,093 1,494,568 1 Axel A. Weber was the only non-independent member in office on 31 December 2012; Kaspar Villiger did not stand for reelection at the AGM on 3 May 2012. Kaspar Villiger was the only non-independent member in office on 31 December 2011. 2 These shares are blocked for four years. Remuneration details and additional information for independent BoD members CHF, except where indicated a e e t t i m m o C t i d u A M M M M M C C M M & s e c r u o s e R n a m u H n o i t a s n e p m o C e e t t i m m o C & e c n a n r e v o G g n i t a n m o N i e e t t i m m o C y t i l i b i s n o p s e R e e t t i m m o C e t a r o p r o C e e t t i m m o C k s i R For the period AGM to AGM Base fee Committee retainer(s) Benefits in kind M M M M M M M M M M C C M M M M 2012/2013 325,000 2011/2012 325,000 C 2012/2013 325,000 C 2011/2012 325,000 M 2012/2013 325,000 M 2011/2012 325,000 2012/2013 – 2011/2012 325,000 2012/2013 325,000 2011/2012 325,000 M 2012/2013 325,000 M 2011/2012 325,000 2012/2013 325,000 2011/2012 325,000 M 2012/2013 325,000 M 2011/2012 325,000 2012/2013 325,000 2011/2012 325,000 2012/2013 325,000 2011/2012 – 300,000 300,000 500,000 500,000 300,000 400,000 – 200,000 500,000 550,000 300,000 250,000 200,000 200,000 300,000 300,000 350,000 300,000 300,000 – 2012/2013 325,000 250,000 2011/2012 – M 2012/2013 325,000 M 2011/2012 325,000 – 250,000 250,000 M C C M M M M Name, function 1 Michel Demaré, Vice Chairman David Sidwell, Senior Independent Director Rainer-Marc Frey, member Bruno Gehrig, former member Ann F. Godbehere, member Axel P. Lehmann, member Wolfgang Mayrhuber, member Helmut Panke, member William G. Parrett, member Isabelle Romy, member Beatrice Weder di Mauro, member Joseph Yam, member Total 2012 Total 2011 Total 875,000 Additional payments 250,000 5 250,000 5 875,000 250,000 5 1,075,000 250,000 5 1,075,000 625,000 725,000 – 525,000 825,000 875,000 625,000 575,000 525,000 525,000 625,000 625,000 675,000 625,000 625,000 – 575,000 – 575,000 575,000 7,625,000 7,000,000 Share percentage 2 50 Number of shares 3, 4 34,233 50 50 50 100 100 50 50 50 100 100 50 50 50 50 50 50 50 50 50 50 39,845 42,057 48,952 46,367 62,635 23,907 32,276 39,845 46,367 49,632 20,539 23,907 24,452 28,460 26,408 28,460 24,452 22,496 22,496 26,183 Legend: C = Chairperson of the respective Committee; M = Member of the respective Committee 1 There were 11 independent BoD members in office on 31 December 2012. Isabelle Romy and Beatrice Weder di Mauro were appointed at the AGM on 3 May 2012 and Bruno Gehrig did not stand for reelection at the AGM on 3 May 2012. There were 10 independent BoD members in office on 31 December 2011. Joseph Yam was appointed at the AGM on 28 April 2011 and Sally Bott stepped down on 11 February 2011. 2 Fees are paid 50% in cash and 50% in blocked UBS shares. However, independent BoD members can elect to have 100% of their remuneration paid in blocked UBS shares. 3 For 2012, shares valued at CHF 15.03 (average price of UBS shares at SIX Swiss Exchange over the last 10 trading days of February 2013), and were granted with a price discount of 15% for a new value of CHF 12.78. These shares are blocked for four years. For 2011, shares valued at CHF 12.92 (average price of UBS shares at SIX Swiss Exchange over the last 10 trading days of February 2012), and were granted with a price discount of 15% for a new value of CHF 10.98. These shares are blocked for four years. 4 Number of shares is reduced in case of the 100% election to deduct social security contribution. All remuneration payments are subject to social security contributions / withholding tax. 5 This payment is associated with the Vice Chairman or the Senior Independent Director function, respectively. 306 Advisory vote d e t i d u A d e t i d u A Total payments to BoD members CHF, except where indicated a Aggregate of all BoD members Number of shares of BoD members on 31 December 2011 / 2012 1 Name, function Axel A. Weber, Chairman 2 Kaspar Villiger, former Chairman 3 Michel Demaré, Vice Chairman David Sidwell, Senior Independent Director Rainer-Marc Frey, member Bruno Gehrig, former member 3 Ann F. Godbehere, member Axel P. Lehmann, member Wolfgang Mayrhuber, member Helmut Panke, member William G. Parrett, member Isabelle Romy, member 2 Beatrice Weder di Mauro, member 2 Joseph Yam, member For the year 2012 2011 Total 11,802,434 8,494,568 For the year Number of shares held Voting rights in % 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 200,000 0.010 – – 49,440 116,179 76,334 149,199 100,247 162,677 100,042 – 54,409 81,286 41,441 139,603 89,971 38,957 15,050 137,792 109,332 91,078 62,618 0 – 0 – 26,183 0 0.002 0.006 0.003 0.007 0.005 0.008 0.005 0.002 0.004 0.002 0.007 0.004 0.002 0.001 0.007 0.005 0.004 0.003 0.000 0.000 0.001 0.000 1 This table includes blocked and unblocked shares held by BoD members, including related parties. No options were granted in 2011 and 2012. 2 Axel A. Weber, Isabelle Romy and Beatrice Weder di Mauro were ap- pointed at the AGM on 3 May 2012. 3 Kaspar Villiger and Bruno Gehrig did not stand for reelection at the AGM on 3 May 2012. 307 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation d e t i d u A d e t i d u A d e t i d u A Compensation paid to former BoD and GEB members1 CHF, except where indicated a Name, function Former BoD members Aggregate of all former GEB members 2 Aggregate of all former BoD and GEB members For the year Compensation Benefits in kind 2012 2011 2012 2011 2012 2011 0 0 0 0 0 0 0 0 25,465 0 25,465 0 Total 0 0 25,465 0 25,465 0 1 Compensation or remuneration that is connected with the former member’s activity on the BoD or GEB or that is not at market conditions. 2 Includes one former GEB member in 2012 and no former GEB member in 2011. Total of all vested and unvested shares of GEB members 1, 2 Total Of which vested Of which vesting 2013 2014 2015 Shares on 31 December 2012 3,414,568 1,531,295 952,668 583,281 347,324 Shares on 31 December 2011 2,863,887 1,988,680 408,037 290,631 1 Includes related parties. 2 Excludes shares granted under variable compensation plans with forfeiture provisions. 2012 2013 2014 88,269 2016 0 2015 88,269 2017 0 2016 0 Total of all blocked and unblocked shares of BoD members 1 Shares on 31 December 2012 1,142,954 56,624 302,118 204,792 231,501 347,919 Shares on 31 December 2011 1 Includes related parties. 698,884 72,775 2012 9,349 2013 2014 2015 115,690 225,995 275,075 Total Of which unblocked Of which blocked until 2013 2014 2015 2016 308 Advisory vote Vested and unvested options of GEB members on 31 December 2011 / 2012 1 d e t i d u A For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price Sergio P. Ermotti, Group Chief Executive Officer Philip J. Lofts, Group Chief Risk Officer (continued) 2012 2011 0 0 Markus U. Diethelm, Group General Counsel 2012 2011 0 0 John A. Fraser, Chairman and CEO Global Asset Management 2012 884,531 127,884 2003 31.01.2006 31.01.2013 USD 22.53 170,512 2004 01.03.2007 27.02.2014 USD 38.13 202,483 2005 01.03.2008 28.02.2015 USD 44.81 213,140 2006 01.03.2009 28.02.2016 CHF 72.57 170,512 2007 01.03.2010 28.02.2017 CHF 73.67 2011 1,088,795 76,380 2002 31.01.2005 31.01.2012 USD 21.24 127,884 2002 28.06.2005 28.06.2012 CHF 37.90 127,884 2003 31.01.2006 31.01.2013 USD 22.53 170,512 2004 01.03.2007 27.02.2014 USD 38.13 202,483 2005 01.03.2008 28.02.2015 USD 44.81 213,140 2006 01.03.2009 28.02.2016 CHF 72.57 170,512 2007 01.03.2010 28.02.2017 CHF 73.67 Lukas Gähwiler, CEO UBS Switzerland and CEO Retail & Corporate 2012 2011 0 0 2011 577,723 117,090 2005 01.03.2008 28.02.2015 CHF 52.32 117,227 2006 01.03.2009 28.02.2016 CHF 72.57 85,256 2007 01.03.2010 28.02.2017 CHF 73.67 74 599 2008 01.03.2011 28.02.2018 CHF 35.66 11,445 11,104 11,098 1,240 5,464 1,199 9,985 9,980 9,974 1,833 1,830 1,830 35,524 35,524 35,521 2002 31.01.2003 31.01.2012 CHF 36.49 2002 31.01.2004 31.01.2012 CHF 36.49 2002 31.01.2005 31.01.2012 CHF 36.49 2002 28.02.2003 28.02.2012 CHF 36.65 2002 28.02.2004 28.02.2012 CHF 36.65 2002 28.02.2005 28.02.2012 CHF 36.65 2003 01.03.2004 31.01.2013 CHF 27.81 2003 01.03.2005 31.01.2013 CHF 27.81 2003 01.03.2006 31.01.2013 CHF 27.81 2003 01.03.2004 28.02.2013 CHF 26.39 2003 01.03.2005 28.02.2013 CHF 26.39 2003 01.03.2006 28.02.2013 CHF 26.39 2004 01.03.2005 27.02.2014 CHF 44.32 2004 01.03.2006 27.02.2014 CHF 44.32 2004 01.03.2007 27.02.2014 CHF 44.32 117,090 2005 01.03.2008 28.02.2015 CHF 52.32 117,227 2006 01.03.2009 28.02.2016 CHF 72.57 85,256 74,599 2007 01.03.2010 28.02.2017 CHF 73.67 2008 01.03.2011 28.02.2018 CHF 35.66 Carsten Kengeter, former co-CEO Investment Bank 4 2012 – 2011 905,000 905,000 2009 01.03.2012 27.12.2019 CHF 40.00 Robert J. McCann, CEO Group Americas and CEO Wealth Management Americas 2012 2011 0 0 Tom Naratil, Group Chief Financial Officer 2012 935,291 63,942 2003 31.01.2006 31.01.2013 USD 22.53 Ulrich Körner, Group Chief Operating Officer, CEO Corporate Center and CEO Group EMEA 2012 2011 0 0 Philip J. Lofts, Group Chief Risk Officer 2012 536,173 9,985 9,980 9,974 1,833 1,830 1,830 35,524 35,524 35,521 2003 01.03.2004 31.01.2013 CHF 27.81 2003 01.03.2005 31.01.2013 CHF 27.81 2003 01.03.2006 31.01.2013 CHF 27.81 2003 01.03.2004 28.02.2013 CHF 26.39 2011 1,046,122 2003 01.03.2005 28.02.2013 CHF 26.39 2003 01.03.2006 28.02.2013 CHF 26.39 2004 01.03.2005 27.02.2014 CHF 44.32 2004 01.03.2006 27.02.2014 CHF 44.32 2004 01.03.2007 27.02.2014 CHF 44.32 4,262 2003 28.02.2005 28.02.2013 USD 19.53 145,962 2004 01.03.2007 27.02.2014 USD 38.13 166,010 2005 01.03.2008 28.02.2015 USD 44.81 142,198 2006 01.03.2009 28.02.2016 CHF 72.57 131,277 2007 01.03.2010 28.02.2017 CHF 73.67 181,640 2008 01.03.2011 28.02.2018 CHF 35.66 100,000 2009 01.03.2012 27.02.2019 CHF 11.35 35,524 35,524 35,521 2002 31.01.2003 31.01.2012 USD 21.24 2002 31.01.2004 31.01.2012 USD 21.24 2002 31.01.2005 31.01.2012 USD 21.24 4,262 2002 29.02.2004 28.02.2012 USD 21.70 63,942 2003 31.01.2006 31.01.2013 USD 22.53 4,262 2003 28.02.2005 28.02.2013 USD 19.53 1 This table includes all options of GEB members, including related parties. 2 No conversion rights are outstanding. 3 Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information. 4 GEB member who stepped down during 2012. 309 Corporate governance, responsibility and compensationAdvisory vote Corporate governance, responsibility and compensation Compensation Vested and unvested options of GEB members on 31 December 2011 / 2012 1 (continued) d e t i d u A For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price Tom Naratil, Group Chief Financial Officer (continued) Chi-Won Yoon, CEO Group Asia Pacific (continued) 145,962 2004 01.03.2007 27.02.2014 USD 38.13 2011 623,253 166,010 2005 01.03.2008 28.02.2015 USD 44.81 142,198 2006 01.03.2009 28.02.2016 CHF 72.57 131,277 2007 01.03.2010 28.02.2017 CHF 73.67 181,640 2008 01.03.2011 28.02.2018 CHF 35.66 100,000 2009 01.03.2012 27.02.2019 CHF 11.35 Andrea Orcel, CEO Investment Bank 2012 2011 0 – Alexander Wilmot-Sitwell, former co-Chairman and co-CEO Group Asia Pacific 4 2012 – 2011 353,807 53,282 2005 01.03.2008 28.02.2015 CHF 47.58 2,130 2005 04.03.2007 04.03.2015 CHF 47.89 35,524 35,524 35,521 2006 01.03.2007 28.02.2016 CHF 65.97 2006 01.03.2008 28.02.2016 CHF 65.97 2006 01.03.2009 28.02.2016 CHF 65.97 106,570 2007 01.03.2010 28.02.2017 CHF 73.67 85,256 2008 01.03.2011 28.02.2018 CHF 35.66 Chi-Won Yoon, CEO Group Asia Pacific 2012 578,338 8,648 8,642 8,635 4,262 3,374 3,371 3,371 6,200 4,262 6,198 6,195 10,659 10,657 10,654 21,316 21,314 21,311 8,881 8,880 8,880 2003 01.03.2004 31.01.2013 USD 20.49 2003 01.03.2005 31.01.2013 USD 20.49 2003 01.03.2006 31.01.2013 USD 20.49 2003 28.02.2005 28.02.2013 USD 19.53 2003 01.03.2004 28.02.2013 USD 19.53 2003 01.03.2005 28.02.2013 USD 19.53 2003 01.03.2006 28.02.2013 USD 19.53 2004 01.03.2005 27.02.2014 CHF 44.32 Jürg Zeltner, CEO UBS Wealth Management 2004 27.02.2006 27.02.2014 CHF 44.32 2012 203,093 2004 01.03.2006 27.02.2014 CHF 44.32 2004 01.03.2007 27.02.2014 CHF 44.32 2005 01.03.2006 28.02.2015 CHF 47.58 2005 01.03.2007 28.02.2015 CHF 47.58 2005 01.03.2008 28.02.2015 CHF 47.58 2006 01.03.2007 28.02.2016 CHF 65.97 2006 01.03.2008 28.02.2016 CHF 65.97 2006 01.03.2009 28.02.2016 CHF 65.97 2007 01.03.2008 28.02.2017 CHF 67.00 2007 01.03.2009 28.02.2017 CHF 67.00 2007 01.03.2010 28.02.2017 CHF 67.00 42,628 2008 01.03.2011 28.02.2018 CHF 32.45 350,000 2009 01.03.2012 27.02.2019 CHF 11.35 11,577 11,229 11,227 2,252 6,446 2,184 8,648 8,642 8,635 4,262 3,374 3,371 3,371 6,200 4,262 6,198 6,195 10,659 10,657 10,654 21,316 21,314 21,311 8,881 8,880 8,880 2002 31.01.2002 31.01.2012 USD 21.24 2002 31.01.2004 31.01.2012 USD 21.24 2002 31.01.2005 31.01.2012 USD 21.24 2002 28.02.2002 28.02.2012 USD 21.70 2002 29.02.2004 28.02.2012 USD 21.70 2002 28.02.2005 28.02.2012 USD 21.70 2003 01.03.2004 31.01.2013 USD 20.49 2003 01.03.2005 31.01.2013 USD 20.49 2003 01.03.2006 31.01.2013 USD 20.49 2003 28.02.2005 28.02.2013 USD 19.53 2003 01.03.2004 28.02.2013 USD 19.53 2003 01.03.2005 28.02.2013 USD 19.53 2003 01.03.2006 28.02.2013 USD 19.53 2004 01.03.2005 27.02.2014 CHF 44.32 2004 27.02.2006 27.02.2014 CHF 44.32 2004 01.03.2006 27.02.2014 CHF 44.32 2004 01.03.2007 27.02.2014 CHF 44.32 2005 01.03.2006 28.02.2015 CHF 47.58 2005 01.03.2007 28.02.2015 CHF 47.58 2005 01.03.2008 28.02.2015 CHF 47.58 2006 01.03.2007 28.02.2016 CHF 65.97 2006 01.03.2008 28.02.2016 CHF 65.97 2006 01.03.2009 28.02.2016 CHF 65.97 2007 01.03.2008 28.02.2017 CHF 67.00 2007 01.03.2009 28.02.2017 CHF 67.00 2007 01.03.2010 28.02.2017 CHF 67.00 42,628 2008 01.03.2011 28.02.2018 CHF 32.45 350,000 2009 01.03.2012 27.02.2019 CHF 11.35 4,972 7,106 7,103 7,103 93 161 149 127 7,106 7,103 7,103 110 242 230 2004 01.03.2007 27.02.2014 CHF 44.32 2005 01.03.2006 28.02.2015 CHF 47.58 2005 01.03.2007 28.02.2015 CHF 47.58 2005 01.03.2008 28.02.2015 CHF 47.58 2005 04.03.2007 04.03.2015 CHF 47.89 2005 06.06.2007 06.06.2015 CHF 45.97 2005 09.09.2007 09.09.2015 CHF 50.47 2005 05.12.2007 05.12.2015 CHF 59.03 2006 01.03.2007 28.02.2016 CHF 65.97 2006 01.03.2008 28.02.2016 CHF 65.97 2006 01.03.2009 28.02.2016 CHF 65.97 2006 03.03.2008 03.03.2016 CHF 65.91 2006 09.06.2008 09.06.2016 CHF 61.84 2006 08.09.2008 08.09.2016 CHF 65.76 1 This table includes all options of GEB members, including related parties. 2 No conversion rights are outstanding. 3 Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information. 4 GEB member who stepped down during 2012. 310 Advisory vote Vested and unvested options of GEB members on 31 December 2011 / 2012 1 (continued) d e t i d u A For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price Jürg Zeltner, CEO UBS Wealth Management (continued) Jürg Zeltner, CEO UBS Wealth Management (continued) 2011 205,470 221 2006 08.12.2008 08.12.2016 CHF 67.63 7,105 7,105 7,103 2007 01.03.2008 28.02.2017 CHF 67.00 2007 01.03.2009 28.02.2017 CHF 67.00 2007 01.03.2010 28.02.2017 CHF 67.00 223 2007 02.03.2009 02.03.2017 CHF 67.08 42,628 2008 01.03.2011 28.02.2018 CHF 35.66 90,000 2009 01.03.2012 27.02.2019 CHF 11.35 809 784 784 4,972 7,106 7,103 7,103 93 161 2002 31.01.2003 31.01.2012 CHF 36.49 2002 31.01.2004 31.01.2012 CHF 36.49 2002 31.01.2005 31.01.2012 CHF 36.49 2004 01.03.2007 27.02.2014 CHF 44.32 2005 01.03.2006 28.02.2015 CHF 47.58 2005 01.03.2007 28.02.2015 CHF 47.58 2005 01.03.2008 28.02.2015 CHF 47.58 2005 04.03.2007 04.03.2015 CHF 47.89 2005 06.06.2007 06.06.2015 CHF 45.97 149 127 7,106 7,103 7,103 110 242 230 221 7,105 7,105 7,103 2005 09.09.2007 09.09.2015 CHF 50.47 2005 05.12.2007 05.12.2015 CHF 59.03 2006 01.03.2007 28.02.2016 CHF 65.97 2006 01.03.2008 28.02.2016 CHF 65.97 2006 01.03.2009 28.02.2016 CHF 65.97 2006 03.03.2008 03.03.2016 CHF 65.91 2006 09.06.2008 09.06.2016 CHF 61.84 2006 08.09.2008 08.09.2016 CHF 65.76 2006 08.12.2008 08.12.2016 CHF 67.63 2007 01.03.2008 28.02.2017 CHF 67.00 2007 01.03.2009 28.02.2017 CHF 67.00 2007 01.03.2010 28.02.2017 CHF 67.00 223 2007 02.03.2009 02.03.2017 CHF 67.08 42,628 90,000 2008 01.03.2011 28.02.2018 CHF 35.66 2009 01.03.2012 27.02.2019 CHF 11.35 1 This table includes all options of GEB members, including related parties. 2 No conversion rights are outstanding. 3 Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information. 311 Corporate governance, responsibility and compensationAdvisory vote d e t i d u A d e t i d u A Corporate governance, responsibility and compensation Compensation Loans granted to GEB members on 31 December 2011 / 2012 1 CHF, except where indicated Name, function Markus U. Diethelm, Group General Counsel 3 Jürg Zeltner, CEO UBS Wealth Management 3 Aggregate of all GEB members For the year 2012 2011 2012 2011 Loans 2 5,564,012 5,387,500 18,862,820 17,539,601 4 1 No loans have been granted to related parties of the GEB members at conditions not customary in the market. 2 All loans granted are secured loans, except for CHF 311,308 in 2012 and CHF 45,435 in 2011. 3 GEB member with the highest loan granted. 4 Includes a forgivable loan of CHF 3.3 million, subject to the GEB member’s continued full-time employment with UBS and a performance satisfactory and commensurate with his responsibilities. The loan was fully repaid in 2012, as the GEB member stepped down during the year. Loans granted to BoD members on 31 December 2011 / 2012 1 CHF, except where indicated a Name, function Axel A. Weber, Chairman 3 Kaspar Villiger, former Chairman 4 Michel Demaré, Vice Chairman David Sidwell, Senior Independent Director Rainer-Marc Frey, member Bruno Gehrig, former member 4, 5 Ann F. Godbehere, member Axel P. Lehmann, member Wolfgang Mayrhuber, member Helmut Panke, member William G. Parrett, member Isabelle Romy, member 3 Beatrice Weder di Mauro, member 3 Joseph Yam, member Aggregate of all BoD members For the year 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 Loans 2 0 – – 0 500,000 850,000 0 0 0 0 – 798,000 0 0 0 0 0 0 0 0 0 0 0 – 0 – 0 0 500,000 1,648,000 1 No loans have been granted to related parties of the BoD members at conditions not customary in the market. 2 All loans granted are secured loans. 3 Axel A. Weber, Isabelle Romy and Beatrice Weder di Mauro were appointed at the AGM on 3 May 2012. 4 Kaspar Villiger and Bruno Gehrig did not stand for reelection at the AGM on 3 May 2012. 5 Secured loan granted prior to his election to the BoD. 312 Advisory vote Financial information Financial information 314 Table of contents316Introduction and accounting principles317Consolidated financial statements317Management’s report on internal control over financial reporting319Report of independent registered public accounting firm on internal control over financial reporting321Report of the statutory auditor and the independent registered public accounting firm on the consolidated financial statements323Income statement324Statement of comprehensive income325Balance sheet326Statement of changes in equity329Statement of cash flows331Notes to the consolidated financial statements3311 Summary of significant accounting policies3522a Segment reporting3562b Segment reporting by geographic location357Income statement notes3573 Net interest and trading income3584 Net fee and commission income3595 Other income3606 Personnel expenses3607 General and administrative expenses3618 Earnings per share (EPS) and shares outstanding362Balance sheet notes: assets 3629 Due from banks and loans (held at amortized cost)36210 Cash collateral on securities borrowed and lent, reverse repurchase and repurchase agreements, and derivative instruments36311 Allowances and provisions for credit losses36412 Trading portfolio36613 Financial assets designated at fair value36714 Financial investments available-for-sale36815 Investments in associates36816 Property and equipment36917 Goodwill and intangible assets37118 Other assets372Balance sheet notes: liabilities37219 Due to banks and customers37220 Financial liabilities designated at fair value37321 Debt issued held at amortized cost37422 Other liabilities37523 Provisions and contingent liabilities385Additional information38524 Income taxes38725 Derivative instruments and hedge accounting39526 Operating lease commitments39627 Fair value of financial instruments40728 Pledged and transferred assets41129 Measurement categories of financial assets and financial liabilities41630 Pension and other post-employment benefit plans42831 Equity participation and other compensation plans43832 Related parties44033 Events after the reporting period44134 Significant subsidiaries and associates44335 Invested assets and net new money44436 Business combinations44437 Changes in organization44538 Currency translation rates44539 Swiss banking law requirements44740 Supplemental guarantor information required under SEC rules 315 Financial information457UBS AG (Parent Bank)457Parent Bank review460Parent Bank financial statements460Income statement461Balance sheet462Statement of appropriation of retained earnings463Notes to the Parent Bank financial statements4631 Business activities, risk assessment, outsourcing and personnel4632 Accounting policies466Additional income statement information4663 Net trading income4664 Extraordinary income and expenses467Additional balance sheet information 4675 Other assets and other liabilities4676 Pledged assets4687 Swiss pension plan and International defined benefit plans4698 Allowances and provisions4709 Statement of shareholders’ equity47010 Share capital and significant shareholders47111 Transactions with related parties472Off-balance sheet and other information47212 Commitments and contingent liabilities47213 Derivative instruments47314 Fiduciary transactions474Compensation of the members of the Board of Directors and the Group Executive Board474Total compensation for GEB members for the performance years 2011 and 2012475Share and option ownership / entitlements of GEB members on 31 December 2011 / 2012476Compensation details and additional information for non-independent BoD members 476Remuneration details and additional information for independent BoD members477Total payments to BoD members477Number of shares of BoD members on 31 December 2011 / 2012478Compensation paid to former BoD and GEB members478Total of all vested and unvested shares of GEB members478Total of all blocked and unblocked shares of BoD members479Vested and unvested options of GEB members on 31 December 2011 / 2012482Loans granted to GEB members on 31 December 2011 / 2012482Loans granted to BoD members on 31 December 2011 / 2012483Report of the statutory auditor on the financial statements485Confirmation of the auditors concerning conditional capital increase487Additional disclosure required under SEC regulations487A – Introduction488B – Selected financial data489Key figures490Income statement data491Balance sheet data491Ratio of earnings to fixed charges492C – Information on the company492Property, plant and equipment493D – Information required by industry guide 3493Selected statistical information494Average balances and interest rates496Analysis of changes in interest income and expense498Deposits499Short-term borrowings499Contractual maturities of investments in debt instruments available-for-sale500Due from banks and loans (gross)501Due from banks and loan maturities (gross)502Impaired and non-performing loans503Cross-border outstandings504Summary of movements in allowances and provisions for credit losses505Allocation of the allowances and provisions for credit losses506Due from banks and loans by industry sector (gross)507Loss history statistics Financial information 316 Introduction and accounting principlesThe financial information section of UBS’s Annual Report 2012 comprises: a) the audited consolidated financial statements of UBS Group for 2012 prepared in accordance with International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB), b) the audited financial state-ments of UBS AG (Parent Bank) for 2012, prepared in order to meet Swiss regulatory requirements and in compliance with Swiss Federal Banking Law, and c) additional disclosures required under US Securities and Exchange Commission (SEC) regulations.The basis of accounting of UBS’s Group financial statements is described in Note 1 to the financial statements. Except where oth-erwise explicitly stated in these financial statements, all financial information is in Swiss francs (CHF) and presented on a consoli-dated basis under IFRS, and all references to “UBS” refer to the UBS Group and not to the Parent Bank. UBS AG (Parent Bank) is incorporated in Switzerland, has branches worldwide and owns all the UBS Group companies, directly or indirectly. All references to 2012, 2011 and 2010 refer to the fiscal years ended 31 Decem-ber 2012, 2011 and 2010, respectively. The financial statements for the UBS Group and the Parent Bank have been audited by Ernst & Young Ltd. Consolidated financial statements Management’s report on internal control over financial reporting Management’s responsibility for internal control over financial reporting The Board of Directors reviews and approves the consolidated fi- nancial statements prepared by management in accordance with International Financial Reporting Standards (IFRS). The Board of Directors and management of UBS are also responsible for estab- lishing and maintaining adequate internal control over financial reporting. UBS’s internal control over financial reporting is de- signed to provide reasonable assurance regarding the preparation and fair presentation of published financial statements in accor- dance with IFRS as issued by the International Accounting Stan- dards Board. UBS’s internal control over financial reporting includes those policies and procedures that: – Pertain to the maintenance of records that, in reasonable de- tail, accurately and fairly reflect transactions and dispositions of assets; – Provide reasonable assurance that transactions are recorded as necessary to permit preparation and fair presentation of finan- cial statements, and that receipts and expenditures of the com- pany are being made only in accordance with authorizations of UBS management; and – Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the fi- nancial statements. Because of its inherent limitations, internal control over finan- cial reporting may not prevent or detect misstatements. Also, pro- jections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Management is required to determine, as of the end of each fiscal year, whether UBS’s internal control over financial reporting was effective or whether there was a material weakness in such controls. A material weakness is a deficiency or combination of deficiencies in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of a registrant’s financial statements will not be prevented or detected on a timely basis. Management’s assessment of internal control over financial reporting at 31 December 2012 Following the discovery in September 2011 of unauthorized and fictitious trading in our Global Synthetic Equity business unit in London, management determined and reported that there was a material weakness in UBS’s internal control over financial reporting as certain controls designed to prevent or detect the use of unau- thorized and fictitious transactions on a timely basis were not op- erating effectively, and had not been operating effectively as of 31 December 2010. Specifically (i) the control requiring bilateral confirmation with counterparties of trades within our Investment Bank’s equities business with settlement dates of greater than 15 days after trade date was not operating, and when such trades were cancelled, rebooked or amended, the related monitoring control to ensure the validity of these changes ceased to operate effectively, and (ii) the controls in the inter-desk reconciliation pro- cess within the Investment Bank’s equities and fixed income, cur- rencies and commodities businesses to ensure that internal trans- actions are valid and accurately recorded in our books and records, including controls over cancellations and amendments of internal trades that require supervisor review, intervention and resolution, did not operate effectively. In its assessment of internal control over financial reporting as of 31 December 2011, contained in the An- nual Report 2011, management concluded that, while significant progress had been made, given the relatively brief period since the unauthorized trading incident was discovered, a longer period of operational testing and further refinement would be necessary be- fore it could conclude that the confirmation and reconciliation con- trols referred to above were operating effectively. Based on this assessment, management assessed UBS’s internal control over fi- nancial reporting as ineffective as of 31 December 2011. Remediation of identified control deficiencies As soon as the control deficiencies referred to above were identi- fied, work was initiated to remediate them. The confirmation con- trol and the monitoring control over the validity of changes to trades have been reactivated and refined, and front-to-back con- trol processes have been extensively modified with a view to en- suring, among other things, that the transactions identified by the inter-desk reconciliation process referred to above are effectively reviewed, investigated and resolved on a timely basis. New moni- toring reports and processes have also been developed as part of a broader program initiated to strengthen the effectiveness of su- pervisory oversight. The confirmation control and the monitoring 317 Financial information Financial information Consolidated financial statements control over the validity of changes to trades were placed into operation in the fourth quarter of 2011, and their operational ef- fectiveness was tested in the succeeding months. As a result of these measures, management concluded that the confirmation and reconciliation controls referred to above had been fully reme- diated. This conclusion was communicated in the Group’s first quarter 2012 report issued on 2 May 2012, together with man- agement’s conclusion that the material weakness previously iden- tified in UBS’s internal control over financial reporting had been remediated. UBS management has assessed the effectiveness of UBS’s in- ternal control over financial reporting as of 31 December 2012 based on the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework. Based on this assessment, man- agement believes that, as of 31 December 2012, UBS’s internal control over financial reporting was effective. The effectiveness of UBS’s internal control over financial reporting as of 31 December 2012 has been audited by Ernst & Young Ltd, UBS’s independent registered public accounting firm, as stated in their report appearing on pages 319 to 320, which expressed an unqualified opinion on the effectiveness of UBS’s internal control over financial reporting as of 31 December 2012. 318 319 Financial information Financial information Consolidated financial statements 320 321 Financial information Financial information Consolidated financial statements 322 Income statement CHF million, except per share data Note 31.12.12 31.12.11 31.12.10 31.12.11 For the year ended % change from Continuing operations Interest income Interest expense Net interest income Credit loss (expense) / recovery Net interest income after credit loss expense Net fee and commission income Net trading income Other income Total operating income Personnel expenses General and administrative expenses Depreciation and impairment of property and equipment Impairment of goodwill Amortization and impairment of intangible assets Total operating expenses Operating profit / (loss) from continuing operations before tax Tax expense / (benefit) Net profit / (loss) from continuing operations Discontinued operations Profit from discontinued operations before tax Tax expense Net profit from discontinued operations Net profit / (loss) Net profit attributable to non-controlling interests from continuing operations from discontinued operations Net profit / (loss) attributable to UBS shareholders from continuing operations from discontinued operations Earnings per share (CHF) Basic earnings per share Diluted earnings per share 3 3 3 11 4 3 5 6 7 16 17 17 24 24 8 8 15,968 (9,974) 5,994 (118) 5,875 15,405 3,480 682 25,443 14,737 8,653 689 3,030 106 27,216 (1,774) 461 (2,235) 0 0 0 (2,235) 276 276 0 (2,511) (2,511) 0 (0.67) (0.67) 17,969 (11,143) 6,826 (84) 6,742 15,236 4,343 1,467 27,788 15,634 5,959 761 0 127 22,482 5,307 901 4,406 0 0 0 4,406 268 268 0 4,138 4,138 0 1.10 1.08 18,872 (12,657) 6,215 (66) 6,149 17,160 7,471 1,214 31,994 17,031 6,585 918 0 117 24,650 7,345 (409) 7,754 2 0 2 7,756 304 303 1 7,452 7,451 1 1.97 1.94 (11) (10) (12) 40 (13) 1 (20) (54) (8) (6) 45 (9) (17) 21 (49) 3 3 323 Financial information Financial information Consolidated financial statements Statement of comprehensive income 1 CHF million Net profit / (loss) Other comprehensive income Foreign currency translation Foreign currency translation movements, before tax Foreign exchange amounts reclassified to the income statement from equity Income tax relating to foreign currency translation movements Subtotal foreign currency translation movements, net of tax 2 Financial investments available-for-sale Net unrealized gains / (losses) on financial investments available-for-sale, before tax Impairment charges reclassified to the income statement from equity Realized gains reclassified to the income statement from equity Realized losses reclassified to the income statement from equity Income tax relating to net unrealized gains / (losses) on financial investments available-for-sale Subtotal net unrealized gains / (losses) on financial investments available-for-sale, net of tax 2 Cash flow hedges Effective portion of changes in fair value of derivative instruments designated as cash flow hedges, before tax Net realized (gains) / losses reclassified to the income statement from equity Income tax effects relating to cash flow hedges Subtotal changes in fair value of derivative instruments designated as cash flow hedges, net of tax 2 Defined benefit plans Gains / (losses) on defined benefit plans, before tax Income tax relating to gains / losses on defined benefit plans Subtotal changes in gains / (losses) on defined benefit plans, net of tax 2 Property revaluation surplus Gains on property revaluation, before tax Income tax relating to gains on property revaluation Subtotal changes in property revaluation surplus, net of tax 2 Total other comprehensive income Total comprehensive income Total comprehensive income attributable to non-controlling interests Total comprehensive income attributable to UBS shareholders 31.12.12 UBS Total shareholders For the year ended Non-controlling interests 31.12.11 31.12.10 (2,235) (2,511) 276 4,406 7,756 (395) (58) (91) (544) 323 85 (433) 19 20 14 (362) (58) (91) (511) 323 85 (433) 19 20 14 1,714 (1,235) (95) 1,714 (1,235) (95) 384 384 1,023 (413) 609 8 (2) 6 502 (2,009) 1,023 (413) 609 8 (2) 6 469 (1,766) 243 (2,009) (33) (33) 0 0 0 0 (33) 243 985 8 20 1,014 1,458 39 (950) 24 (76) 495 3,093 (1,140) (417) 1,537 (2,141) 321 (1,820) 1,226 5,632 560 5,071 (740) 237 88 (415) (499) 72 (357) 153 13 (618) 927 (1,108) 38 (143) 124 (3) 120 (1,055) 6,701 609 6,092 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” for more information with regard to the adoption of IAS 19R. 2 Other comprehensive income attributable to UBS share holders related to foreign currency translations was positive CHF 722 million in 2011 and negative CHF 731 million in 2010. Other comprehensive income attributable to UBS shareholders related to financial investments available-for-sale was positive CHF 495 million in 2011 and negative CHF 607 million in 2010. Other comprehensive income related to cash flow hedges, defined benefit plans and property revaluation surplus was wholly attributable to UBS shareholders for all periods presented. 324 Balance sheet CHF million Assets Cash and balances with central banks Due from banks Cash collateral on securities borrowed Reverse repurchase agreements Trading portfolio assets of which: assets pledged as collateral which may be sold or repledged by counterparties Positive replacement values Cash collateral receivables on derivative instruments Financial assets designated at fair value Loans Financial investments available-for-sale Accrued income and prepaid expenses Investments in associates Property and equipment Goodwill and intangible assets Deferred tax assets Other assets Total assets Liabilities Due to banks Cash collateral on securities lent Repurchase agreements Trading portfolio liabilities Negative replacement values Cash collateral payables on derivative instruments Financial liabilities designated at fair value Due to customers Accrued expenses and deferred income Debt issued Provisions Other liabilities Total liabilities Equity Share capital Share premium Treasury shares Equity classified as obligation to purchase own shares Retained earnings Cumulative net income recognized directly in equity, net of tax Equity attributable to UBS shareholders Equity attributable to non-controlling interests Total equity Total liabilities and equity Note 31.12.12 31.12.11 31.12.10 31.12.11 % change from 66,383 21,230 37,372 130,941 160,861 44,698 418,029 30,413 9,106 279,901 66,383 6,093 858 6,004 6,461 8,143 11,055 1,259,232 23,024 9,203 37,639 34,154 395,070 71,148 92,878 371,892 6,881 104,656 2,536 59,902 9 10 10 12 28 25 10 13 9 14 15 16 17 24 18 19 10 10 12 25 10 20 19 21 23 22 40,638 23,218 58,763 213,501 181,525 39,936 486,584 41,322 10,336 266,604 53,174 6,327 795 5,688 9,695 9,627 9,165 26,939 17,133 62,454 142,790 228,815 61,352 401,146 38,071 8,504 262,877 74,768 5,466 790 5,467 9,822 10,262 19,506 1,416,962 1,314,813 30,201 8,136 102,429 39,480 473,400 67,114 88,982 342,409 6,850 140,617 1,626 62,784 41,490 6,651 74,796 54,975 393,762 58,924 100,756 332,301 7,738 130,271 1,704 62,674 1,208,983 1,364,027 1,266,042 384 33,898 (1,071) (37) 21,231 (8,509) 45,895 4,353 50,249 383 34,614 (1,160) (39) 23,742 (9,011) 48,530 4,406 52,935 383 34,393 (654) (54) 19,604 (9,945) 43,728 5,043 48,770 1,259,232 1,416,962 1,314,813 63 (9) (36) (39) (11) 12 (14) (26) (12) 5 25 (4) 8 6 (33) (15) 21 (11) (24) 13 (63) (13) (17) 6 4 9 0 (26) 56 (5) (11) 0 (2) (8) (5) (11) (6) (5) (1) (5) (11) 325 Financial information Financial information Consolidated financial statements Statement of changes in equity CHF million Balance as of 1 January 2010 before the adoption of IAS 19R Effect of adoption of IAS 19R 1 Balance as of 1 January 2010 after the adoption of IAS 19R Issuance of share capital Acquisition of treasury shares Disposition of treasury shares Treasury share gains / (losses) and net premium / (discount) on own equity derivative activity 2 Premium on shares issued and warrants exercised Employee share and share option plans Tax (expense)/benefit recognized in share premium 2 Transaction costs related to share issuances, net of tax Dividends Equity classified as obligation to purchase own shares – movements Preferred securities New consolidations and other increases / (decrease) Deconsolidations and other decreases Total comprehensive income for the year recognized in equity Balance as of 31 December 2010 Issuance of share capital Acquisition of treasury shares Disposition of treasury shares Treasury share gains / (losses) and net premium / (discount) on own equity derivative activity 2 Premium on shares issued and warrants exercised Employee share and share option plans Tax (expense)/benefit recognized in share premium 2 Transaction costs related to share issuances, net of tax Dividends Equity classified as obligation to purchase own shares – movements Preferred securities New consolidations and other increases / (decrease) Deconsolidations and other decreases Total comprehensive income for the year recognized in equity Balance as of 31 December 2011 Issuance of share capital Acquisition of treasury shares Disposition of treasury shares Treasury share gains / (losses) and net premium / (discount) on own equity derivative activity Premium on shares issued and warrants exercised Employee share and share option plans Tax (expense)/benefit recognized in share premium Transaction costs related to share issuances, net of tax Dividends Equity classified as obligation to purchase own shares – movements Preferred securities New consolidations and other increases / (decrease) Deconsolidations and other decreases Total comprehensive income for the year recognized in equity Balance as of 31 December 2012 Share capital 356 Share premium 34,824 Treasury shares (1,040) Equity classified as obligation to purchase own shares (2) 356 27 34,824 (1,040) (2) Retained earnings 11,910 242 12,152 Cumulative net income of which of which Financial recognized directly Foreign currency investments in equity, net of tax translation available-for-sale of which Cash flow hedges of which Total equity Property revalua- attributable to Non-controlling benefit plans tion surplus UBS shareholders Total equity (5,034) (3,551) (8,585) (6,604) 166 (6,438) 364 364 1,206 1,206 of which Defined 0 (3,716) (3,716) (1,574) 1,960 (654) (2,455) 1,949 (237) (27) (104) 186 (113) (136) 383 34,393 (83) 10 19 280 (5) (52) (54) 15 7,452 19,604 (1,360) (9,945) (731) (7,169) (607) (243) (143) 1,063 120 (3,596) 34,614 (1,160) (39) 4,138 23,742 934 (9,011) 722 (6,447) 495 252 1,537 2,600 (1,820) (5,415) 383 0 (1,398)4 1,486 (9) 4 126 (457) (379) 5 (1) 2 384 33,898 (1,071) (37) (2,511) 21,231 502 (8,509) (511) (6,958) 14 267 384 2,983 609 (4,806) 0 0 0 0 6 6 41,013 (3,309) 37,704 27 (1,574) 1,960 (237) (27) (104) 186 (113) (52) (136) 0 0 0 0 6,092 43,728 (2,455) 1,949 (83) 10 19 280 0 0 15 0 (5) 0 5,071 48,530 0 (1,398) 1,486 (9) 4 126 (457) (379) 0 2 0 0 (1) (2,009) 45,895 interests 7,620 7,620 (305) 3 (2,622) 6 (264) 609 5,043 (269) 3 (882) 1 (47) 560 4,406 (277) 3 (10) (9) 243 4,353 48,633 (3,309) 45,324 27 (1,574) 1,960 (237) (27) (104) 186 (113) (305) (52) (2,622) (130) (264) 6,701 48,770 0 (2,455) 1,949 (83) 10 19 280 0 (269) 15 (882) (4) (47) 5,632 52,935 0 (1,398) 1,486 (9) 4 126 (457) (656) 0 2 0 (11) (9) (1,766) 50,249 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” for more information with regard to the adoption of IAS 19R. 2 Presentational changes have been made in 2012. The line Treasury share gains / (losses) and net premium / (discount) on own equity derivative activity is now shown gross of tax. Previously, this line was shown net of tax. All income tax related to share premium is reported on the line Tax (expense) / benefit recognized in share premium. 3 Includes reclassifications from equity attributable to non-controlling interests to liabilities for preferred securities dividend payment obligations which were accrued in the period. 4 Net acquisitions of 5 million treasury shares (CHF 92 million) related to market making and hedging activities of the Investment Bank are presented as acquisitions. 5 Reflects the payment of CHF 0.10 per share of CHF 0.10 par value out of capital contribution reserve of UBS AG (Parent Bank). 326 Statement of changes in equity CHF million Effect of adoption of IAS 19R 1 Issuance of share capital Acquisition of treasury shares Disposition of treasury shares Treasury share gains / (losses) and net premium / (discount) on own equity derivative activity 2 Premium on shares issued and warrants exercised Employee share and share option plans Tax (expense)/benefit recognized in share premium 2 Transaction costs related to share issuances, net of tax Dividends Preferred securities Equity classified as obligation to purchase own shares – movements New consolidations and other increases / (decrease) Deconsolidations and other decreases Total comprehensive income for the year recognized in equity Balance as of 31 December 2010 Issuance of share capital Acquisition of treasury shares Disposition of treasury shares Treasury share gains / (losses) and net premium / (discount) on own equity derivative activity 2 Premium on shares issued and warrants exercised Employee share and share option plans Tax (expense)/benefit recognized in share premium 2 Transaction costs related to share issuances, net of tax Dividends Preferred securities Equity classified as obligation to purchase own shares – movements New consolidations and other increases / (decrease) Deconsolidations and other decreases Total comprehensive income for the year recognized in equity Balance as of 31 December 2011 Issuance of share capital Acquisition of treasury shares Disposition of treasury shares Treasury share gains / (losses) and net premium / (discount) on own equity derivative activity Premium on shares issued and warrants exercised Employee share and share option plans Tax (expense)/benefit recognized in share premium Transaction costs related to share issuances, net of tax Equity classified as obligation to purchase own shares – movements Dividends Preferred securities New consolidations and other increases / (decrease) Deconsolidations and other decreases Total comprehensive income for the year recognized in equity Balance as of 31 December 2012 356 356 27 383 0 (1,574) 1,960 (654) (2,455) 1,949 (1,398)4 1,486 (237) (27) (104) 186 (113) (136) (83) 10 19 280 (5) (9) 4 126 (457) (379) 5 (1) (52) (54) 15 2 Balance as of 1 January 2010 before the adoption of IAS 19R 34,824 (1,040) Share capital Share premium Treasury shares purchase own shares Retained earnings Balance as of 1 January 2010 after the adoption of IAS 19R 34,824 (1,040) Equity classified as obligation to (2) (2) 11,910 242 12,152 Cumulative net income recognized directly in equity, net of tax (5,034) (3,551) (8,585) of which Foreign currency translation (6,604) 166 (6,438) of which Financial investments available-for-sale 364 of which Cash flow hedges 1,206 364 1,206 of which Defined benefit plans 0 (3,716) (3,716) 383 34,393 7,452 19,604 (1,360) (9,945) (731) (7,169) (607) (243) (143) 1,063 120 (3,596) 34,614 (1,160) (39) 4,138 23,742 934 (9,011) 722 (6,447) 495 252 1,537 2,600 (1,820) (5,415) 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” for more information with regard to the adoption of IAS 19R. 2 Presentational changes have been made in 2012. The line Treasury share gains / (losses) and net premium / (discount) on own equity derivative activity is now shown gross of tax. Previously, this line was shown net of tax. All income tax related to share premium is reported on the line Tax (expense) / benefit recognized in share premium. 3 Includes reclassifications from equity attributable to non-controlling interests to liabilities for preferred securities dividend payment obligations which were accrued in the period. 4 Net acquisitions of 5 million treasury shares (CHF 92 million) related to market making and hedging activities of the Investment Bank are presented as acquisitions. 5 Reflects the payment of CHF 0.10 per share of CHF 0.10 par value out of capital contribution reserve of UBS AG (Parent Bank). 384 33,898 (1,071) (37) (2,511) 21,231 502 (8,509) (511) (6,958) 14 267 384 2,983 609 (4,806) of which Property revalua- tion surplus 0 0 0 0 6 6 Non-controlling interests 7,620 7,620 Total equity attributable to UBS shareholders 41,013 (3,309) 37,704 27 (1,574) 1,960 Total equity 48,633 (3,309) 45,324 27 (1,574) 1,960 (237) (27) (104) 186 (113) 0 (52) 0 (136) 0 6,092 43,728 0 (2,455) 1,949 (83) 10 19 280 0 0 15 0 (5) 0 5,071 48,530 0 (1,398) 1,486 (9) 4 126 (457) 0 (379) 2 0 (1) 0 (2,009) 45,895 (305) 3 (2,622) 6 (264) 609 5,043 (269) 3 (882) 1 (47) 560 4,406 (277) 3 (10) (9) 243 4,353 (237) (27) (104) 186 (113) (305) (52) (2,622) (130) (264) 6,701 48,770 0 (2,455) 1,949 (83) 10 19 280 0 (269) 15 (882) (4) (47) 5,632 52,935 0 (1,398) 1,486 (9) 4 126 (457) 0 (656) 2 0 (11) (9) (1,766) 50,249 327 Financial information Financial information Consolidated financial statements Equity attributable to non-controlling interests CHF million Preferred securities 1 Balance at the beginning of the year Redemptions 2 Foreign currency translation Balance at the end of the year Other non-controlling interests at the end of the year Total equity attributable to non-controlling interests For the year ended 31.12.12 31.12.11 31.12.10 4,359 0 (48) 4,311 42 4,353 4,907 (882) 334 4,359 47 4,406 7,254 (2,622) 275 4,907 136 5,043 1 Increases and offsetting decreases due to dividend payment obligations are excluded from this table. 2 Represents nominal amount translated at the historic currency exchange rate. Number of shares Shares issued Balance at the beginning of the year Issuance of shares Balance at the end of the year Treasury shares Balance at the beginning of the year Acquisitions Dispositions Balance at the end of the year Conditional share capital As of 31 December 2012, 145,510,992 additional shares (31 De- cember 2011: 148,639,326 shares) could have been issued to fund UBS’s employee share option programs. Further conditional capital of up to 100,000,000 shares was available in connection with an arrangement with the Swiss National Bank (SNB). The SNB provided a loan to a fund owned and controlled by the SNB (the SNB StabFund), to which UBS transferred certain illiquid secu- rities and other positions. As part of this arrangement, UBS grant- For the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 3,832,121,899 3,830,840,513 3,558,112,753 3,128,334 1,281,386 272,727,760 3,835,250,233 3,832,121,899 3,830,840,513 84,955,551 38,892,031 37,553,872 114,292,481 155,636,639 105,824,816 (111,368,431) (109,573,119) (104,486,657) 87,879,601 84,955,551 38,892,031 0 144 0 118 (27) 2 3 ed warrants on shares to the SNB and these warrants become exercisable if the SNB incurs a loss on its loan to the SNB Stab- Fund. Further on 14 April 2010, the Annual General Meeting of UBS AG (Parent Bank) shareholders approved the creation of con- ditional capital to a maximum amount of 380,000,000 shares for conversion rights / warrants granted in connection with the issu- ance of bonds or similar financial instruments. These positions are shown as conditional share capital in UBS AG’s (Parent Bank) disclosure. 328 Statement of cash flows 1 CHF million Cash flow from / (used in) operating activities Net profit / (loss) Adjustments to reconcile net profit to cash flow from / (used in) operating activities Non-cash items included in net profit and other adjustments: Depreciation and impairment of property and equipment Impairment of goodwill Amortization and impairment of intangible assets Credit loss expense / (recovery) Share of net profits of associates Deferred tax expense / (benefit) Net loss / (gain) from investing activities Net loss / (gain) from financing activities Other net adjustments Net (increase) / decrease in operating assets and liabilities: Net due from / to banks Reverse repurchase agreements and cash collateral on securities borrowed Trading portfolio, net replacement values and financial assets designated at fair value Loans / due to customers Accrued income, prepaid expenses and other assets Repurchase agreements, cash collateral on securities lent Net cash collateral on derivative instruments Accrued expenses, deferred income and other liabilities Income taxes paid, net of refunds Net cash flow from / (used in) operating activities Cash flow from / (used in) investing activities Purchase of subsidiaries, associates and intangible assets Disposal of subsidiaries, associates and intangible assets 2 Purchase of property and equipment Disposal of property and equipment Net (investment in) / divestment of financial investments available-for-sale Net cash flow from / (used in) investing activities Cash flow from / (used in) financing activities Net short-term debt issued / (repaid) Net movements in treasury shares and own equity derivative activity Capital issuance Dividends paid Issuance of long-term debt, including financial liabilities designated at fair value Repayment of long-term debt, including financial liabilities designated at fair value Increase in non-controlling interests Dividends paid to / decrease in non-controlling interests Net cash flow from / (used in) financing activities For the year ended 31.12.12 31.12.11 31.12.10 (2,235) 4,406 7,756 689 3,030 106 118 (88) 294 (507) 3,717 6,081 (7,686) 102,436 8,740 16,011 (889) (66,111) 4,399 (794) (261) 67,050 (11) 41 (1,118) 202 (13,946)3 (14,831) (37,967) (1,159) 0 (379) 55,747 (53,996) 0 (288) (38,041) 761 0 127 84 (42) 795 (996) (5,856) 3,703 (14,569) (67,262) 17,225 6,068 9,648 27,116 6,330 (1,430) (349) (14,241) (58) 50 (1,129) 233 20,281 19,377 15,338 (1,885) 0 0 52,590 (62,626) 1 (749) 2,670 918 0 117 66 (81) (634) (531) 1,125 15,298 10,046 (47,207) 6,635 (1,703) (1,994) 17,588 5,239 1,246 (498) 13,385 (75) 307 (541) 242 4,164 4,097 4,459 (1,456) (113) 0 78,418 (77,497) 6 (2,053) 1,764 1 In 2012, the estimation of the effects of foreign currency translation on the statement of cash flows was refined. This change in estimate resulted in Net cash flows from / (used in) operating activities being higher by CHF 1.8 billion (recorded in Other net adjustments), from / (used in) investing activities being higher by CHF 0.5 billion, from / (used in) financing activities being higher by CHF 1.4 billion and the amounts presented under the line item Effects of exchange rate differences being lower by CHF 3.7 billion. In conjunction with this change in estimate, the presentation of amounts within Net cash flows from / (used in) operating activities has been enhanced by eliminating the estimated foreign currency effects from individual balance sheet movements presented under Net (increase) / decrease in operating assets and liabilities and reflecting these within Other net adjustments, for which comparatives have been restated. 2 Includes dividends received from associates. 3 Includes gross cash inflows from sales and maturities of CHF 8,796 million and gross cash outflows from pur- chases of CHF 7,422 million related to the Wealth Management Americas’ available-for-sale portfolio. Other net cash outflows of CHF 15,320 million almost entirely related to our multi- currency port folio of unencumbered, high-quality, short-term assets. Table continues on the next page. 329 Financial information Financial information Consolidated financial statements Statement of cash flows (continued) Table continued from previous page. CHF million Effects of exchange rate differences Net increase / (decrease) in cash and cash equivalents Cash and cash equivalents at the beginning of the year Cash and cash equivalents at the end of the year Cash and cash equivalents comprise: Cash and balances with central banks Money market paper 1 Due from banks 2 Total Additional information Net cash flow from / (used in) operating activities include: Cash received as interest Cash paid as interest Cash received as dividends on equity investments, investment funds and associates 3 For the year ended 31.12.12 31.12.11 31.12.10 (673) (2,129) (12,181) 13,506 85,612 99,118 66,383 4,382 28,354 99,118 14,551 9,153 1,430 5,678 79,934 85,612 40,638 3,900 41,074 85,612 16,669 9,845 1,343 7,066 72,868 79,934 26,939 17,110 35,885 79,934 17,344 12,606 1,395 1 Money market paper is included in the balance sheet under Trading portfolio assets (31 December 2012: CHF 2,192 million, 31 December 2011: CHF 1,783 million) and Financial investments available-for-sale (31 December 2012: CHF 2,190 million, 31 December 2011: CHF 2,117 million). 2 Includes positions recognized in the balance sheet under Due from banks (31 December 2012: CHF 15,961 million, 31 December 2011: CHF 18,733 million) and Cash collateral receivables on derivative instruments with bank counterparties (31 December 2012: CHF 12,393 million, 31 December 2011: CHF 22,341 million, refer to Note 10). 3 Includes dividends received from associates (2012: CHF 37 million, 2011: CHF 28 million, 2010: CHF 29 million) reported within cash flow from / (used in) investing activities. Significant non-cash investing and financing activities No significant items for 2012, 2011 and 2010. 330 331 Financial informationa) Significant accounting policiesThe significant accounting policies applied in the preparation of the consolidated financial statements of UBS (the “Financial State-ments”) are described in this note. These policies have been con-sistently applied in all the years presented unless otherwise stated.1) Basis of accountingUBS AG and its subsidiaries (“UBS” or the “Group”) provide a broad range of financial services including: advisory services, underwriting, financing, market-making, asset management and brokerage on a global level, and retail banking in Switzerland. The Group was formed on 29 June 1998 when Swiss Bank Corpora-tion and Union Bank of Switzerland merged.The Financial Statements are prepared in accordance with International Financial Reporting Standards (IFRS), as issued by the International Accounting Standards Board (IASB), and are pre-sented in Swiss francs (CHF), the currency of Switzerland where UBS AG is incorporated. On 7 March 2013, the Financial State-ments were authorized for issue by the Board of Directors. Con-solidated financial statements are prepared using uniform accounting policies for similar transactions and other events. Transactions and balances between Group companies are elimi-nated.Disclosures incorporated in the “Risk, treasury and capital management” section which are part of these financial state-ments are marked as audited. These disclosures relate to require-ments under IFRS 7 Financial Instruments: Disclosures and IAS 1 Presentation of Financial Statements and are not repeated in the “Financial information – consolidated financial statements” sec-tion.2) Use of estimates in the preparation of the Financial StatementsIn preparing the Financial Statements in conformity with IFRS, management is required to make estimates and assumptions that affect reported income, expenses, assets, liabilities and the disclo-sure of contingent assets and liabilities. Assessing available infor-mation and the application of judgment are necessary elements in making estimates. Actual results in the future could differ from such estimates, and such differences may be material to the Fi-nancial Statements. Estimates and their underlying assumptions are reviewed on an ongoing basis. Any revisions to estimates re-sulting from these reviews are recognized in the period in which such estimates are revised.The following notes to the Financial Statements contain infor-mation about those areas of estimation uncertainty considered to require critical judgment in applying those accounting policies that have the most significant effect on the amounts recognized in the Financial Statements: Note 11 Allowances and provisions for credit losses; Note 17 Goodwill and intangible assets; Note 23 Provisions and contingent liabilities; Note 24 Income taxes; Note 27 Fair value of financial instruments; Note 29a Measure-ment categories of financial assets and financial liabilities; Note 30 Pension and other post-employment benefit plans; and Note 31 Equity participation and other compensation plans.3) SubsidiariesThe Financial Statements comprise those of the parent company (UBS AG) and its subsidiaries, including controlled special purpose entities (SPEs), presented as a single economic entity. UBS controls an entity when it has the power to govern the financial and oper-ating policies of the entity. Generally this is indicated by a direct shareholding of more than one-half of the voting rights. Subsid-iaries, including SPEs that are controlled by the Group, are con-solidated from the date control is transferred to the Group and are deconsolidated from the date control ceases.Equity attributable to non-controlling interests is presented on the consolidated balance sheet within equity, and is separate from equity attributable to UBS shareholders.Special purpose entitiesThe Group sponsors the formation of SPEs and interacts with non-sponsored SPEs for a variety of reasons in order to accomplish certain narrow and well-defined objectives. Many SPEs are estab-lished as bankruptcy remote, meaning that only the assets in the SPE are available for the benefit of the investors in the SPE and such investors have no other recourse to UBS. SPEs, including trusts, are consolidated when the substance of the relationship between the Group and the SPE indicates that the SPE is con-trolled by the Group. The following circumstances may indicate a relationship in which, in substance, UBS controls and consequent-ly consolidates the SPE: –the activities of the SPE are being conducted on behalf of UBS according to its specific business needs, so that UBS obtains benefits from the SPE’s operations; –UBS has the decision-making powers to obtain the majority of the benefits of the activities of the SPE or, through setting up an “autopilot” mechanism, UBS has delegated these decision-making powers; –UBS has rights to obtain the majority of the benefits of the SPE and, therefore, may be exposed to risks associated with the activities of the SPE; orNotes to the consolidated financial statementsNote 1 Summary of significant accounting policies Financial information Notes to the consolidated financial statements – UBS retains the majority of the residual or ownership risks re- lated to the SPE or its assets in order to obtain benefits from its activities. SPEs that are established to facilitate clients holding invest- ments are structures that allow one or more clients to invest in specific assets or risk and reward profiles. Typically, UBS will receive service and commission fees for the creation of the SPEs, or for its services as investment manager, custodian or in some other capacity. Some of these SPEs are single-investor or family trusts while others allow multiple investors to invest in a diversi- fied asset base through shares, notes or certificates. The majority of UBS’s SPEs created for client investment purposes are not consolidated. However, UBS will consolidate such SPEs when a control relationship exists - for example when UBS absorbs the majority of the risks and rewards, or when UBS has unilateral liquidation rights. SPEs used for securitization are established when UBS sells as- sets (for example, a portfolio of loans) to an SPE or facilitates the purchase of assets on behalf of an SPE, and the SPE in turn sells interests in the assets as securities to investors. Consolidation of these SPEs depends mainly on whether UBS retains the majority of the risks and rewards of the assets in the SPE. UBS does not con- solidate SPEs used for securitization if it has no control over the assets and if it no longer retains any significant gain or loss expo- sure to the income or investment returns on the assets sold to the SPE, or the proceeds of their liquidation. SPEs used for credit protection are established so as to transfer the credit risk on single names or portfolios, which may or may not be held by UBS, to one or more investors. UBS generally con- solidates SPEs that are used for credit protection when, for in- stance, UBS receives funding from the SPE or has unilateral liqui- dation rights. Employee benefit trusts are used in connection with share- based payment arrangements and deferred compensation schemes. Such trusts are consolidated when the substance of the relationship between UBS and the entity indicates that the entity is controlled by UBS. UBS continuously evaluates whether triggering events require the reconsideration of consolidation decisions that were first made at inception of its involvement with any particular SPE. This is especially relevant for securitization vehicles. Triggering events are usually caused by restructuring, the vesting of potential rights and the acquisition, disposal or expiration of interests in the SPE. SPEs may be consolidated or deconsolidated depending on the facts and circumstances of any change. Business combinations Business combinations are accounted for using the acquisition method. As of the acquisition date, UBS recognizes the identifi- able assets acquired and the liabilities assumed at their acquisi- tion-date fair values. For each business combination, UBS mea- sures the non-controlling interests in the acquiree (being present ownership interests providing entitlement to a proportionate share of the net assets of the acquiree in the event of liquidation) either at fair value or at their proportionate share of the acquiree’s identifiable net assets. The cost of an acquisition is the aggregate of the assets trans- ferred, the liabilities incurred to former owners of the acquiree and the equity instruments issued, measured at acquisition-date fair values. Acquisition-related costs are expensed as incurred. Any contingent consideration that may be transferred by UBS is recog- nized at fair value at the acquisition date. If the contingent consid- eration is classified as an asset or liability, subsequent changes in the fair value of the contingent consideration are recognized in the income statement. If the contingent consideration is classified as equity, it is not remeasured until it is finally settled. Any excess of the aggregate of the consideration transferred and the amount recognized for non-controlling interests over the net identifiable assets acquired and liabilities assumed is consid- ered goodwill and is recognized as a separate asset on the bal- ance sheet, initially measured at cost. If the fair value of the net assets of the subsidiary acquired exceeds the aggregate of the consideration transferred and the amount recognized for non- controlling interests, the difference is recognized in the income statement on the acquisition date. 4) Associates and jointly controlled entities Investments in entities in which UBS has significant influence, but not control, over the financial and operating policies of the entity are classified as investments in associates and accounted for un- der the equity method of accounting. Normally, significant influ- ence is indicated when UBS owns between 20% and 50% of a company’s voting rights. Investments in associates are initially re- corded at cost, and the carrying amount is increased or decreased after the date of acquisition to recognize the Group’s share of the investee’s net profit or loss (including net profit or loss recognized directly in equity). Interests in jointly controlled entities also are accounted for under the equity method of accounting. A jointly controlled entity is subject to a contractual agreement between UBS and one or more third parties, which establishes joint control over its economic activities. Interests in jointly controlled entities are classified as investments in associates on the balance sheet and for disclosure purposes. If the reporting date of an associate or joint venture is different to UBS’s reporting date, the most recently available financial state- ments of the associate or joint venture are used to apply the eq- uity method. Adjustments are made for effects of significant transactions or events that may occur between that date and the UBS reporting date. Investments in associates and interests in jointly controlled en- tities are classified as “held for sale” if their carrying amount will be recovered principally through a sale transaction rather than through continuing use – refer to item 29. 332 Note 1 Summary of significant accounting policies (continued) 5) Recognition and derecognition of financial instruments UBS recognizes financial instruments on its balance sheet when the Group becomes a party to the contractual provisions of the instruments. UBS acts as trustee and in other fiduciary capacities that result in the holding or placing of assets on behalf of indi- viduals, trusts, retirement benefit plans and other institutions. Un- less the recognition criteria for the assets are satisfied, these as- sets and the related income are excluded from UBS’s financial statements, as they are not assets of UBS. Financial assets UBS enters into certain transactions where it transfers financial assets recognized on its balance sheet but retains either all or a portion of the risks and rewards of the transferred financial assets. If all or substan- tially all risks and rewards are retained, the transferred financial assets are not derecognized from the balance sheet. Transactions where transfers of financial assets result in UBS retaining all or substantially all risks and rewards include securities lending and repurchase trans- actions described under items 13) and 14). They also include trans- actions where financial assets are sold to a third party together with a total return swap that results in UBS retaining all or substantially all risks and rewards of the transferred assets. These types of transactions are accounted for as secured financing transactions. In transactions where substantially all of the risks and rewards of ownership of a financial asset are neither retained nor trans- ferred, UBS derecognizes the financial asset if control over the as- set is surrendered. The rights and obligations retained in the trans- fer are recognized separately as assets and liabilities, respectively. In transfers where control over the financial asset is retained, the Group continues to recognize the asset to the extent of its con- tinuing involvement, determined by the extent to which it is ex- posed to changes in the value of the transferred asset. Examples of such transactions include written put options, acquired call op- tions, or other instruments linked to the performance of the asset. For the purposes of the Group’s disclosures of transferred finan- cial assets, a financial asset is typically considered to have been transferred when the Group a) transfers the contractual rights to receive the cash flows of the financial asset or b) retains the con- tractual rights to receive the cash flows of that asset, but assumes a contractual obligation to pay the cash flows. Where financial assets have been pledged as collateral or in similar arrangements, they are considered to have been trans- ferred if the counterparty has received the contractual right to the cash flows of the pledged assets, as may be evidenced, for ex- ample by the counterparty’s right to sell or re-pledge the assets. Where the counterparty to the pledged financial assets has not received the contractual right to the cash flows, the assets are considered pledged, but not transferred. Financial liabilities UBS derecognizes a financial liability from its balance sheet when it is extinguished, i.e., when the obligation specified in the con- tract is discharged, cancelled or expired. When an existing finan- cial liability is exchanged for a new one from the same lender on substantially different terms, or the terms of an existing liability are substantially modified, such an exchange or modification is treated as the derecognition of the original liability and the recog- nition of a new liability with any difference in the respective carry- ing amounts being recognized in the income statement. 6) Determination of fair value Fair value is the amount for which an asset could be exchanged or a liability settled between knowledgeable, willing parties in an arm’s length transaction. Determination of fair value is considered a critical accounting policy for the Group and further details are disclosed in Note 27. 7) Trading portfolio assets and liabilities Non-derivative financial assets and liabilities are classified at ac- quisition as held for trading and presented in the trading portfolio if they are a) acquired or incurred principally for the purpose of selling or repurchasing in the near term; or b) part of a portfolio of identified financial instruments that are managed together and for which there is evidence of a recent actual pattern of short- term profit-taking. The trading portfolio includes non-derivative financial instru- ments (including those with embedded derivatives) and commod- ities. Financial instruments which are considered derivatives in their entirety generally are presented on the balance sheet as Positive replacement values or Negative replacement values (refer to item 15)). The trading portfolio includes recognized assets and liabilities relating to proprietary-, hedging- and client-related busi- ness (refer to Note 12 for more details). Trading portfolio assets include debt instruments (including those in the form of securities, money market paper and traded corporate and bank loans); equity instruments, assets held under unit-linked contracts and precious metals and other commodities owned by the Group (“long” positions). Trading portfolio liabili- ties include obligations to deliver financial instruments such as debt and equity instruments which the Group has sold to third parties, but does not own (“short” positions). Assets and liabilities in the trading portfolio are measured at fair value. Gains and losses realized on disposal or redemption of these assets and liabilities and unrealized gains and losses from changes in the fair value of these assets and liabilities are reported as Net trading income. Interest and dividend income and expense on these assets and liabilities are included in Interest and dividend income or Interest and dividend expense. The Group uses settlement date accounting when recognizing assets and liabilities in the trading portfolio. From the date a pur- chase transaction is entered into (trade date) until settlement date, UBS recognizes any unrealized profits and losses arising from remeasuring the transaction to fair value in Net trading income. The corresponding receivable or payable is presented on 333 Financial informationNote 1 Summary of significant accounting policies (continued) Financial information Notes to the consolidated financial statements the balance sheet as a Positive replacement value or Negative replacement value, respectively. On settlement date, the resulting financial asset is recognized on the balance sheet at the fair value of the consideration given or received plus or minus the change in fair value of the contract since the trade date. From the trade date of a sales transaction, unrealized profits and losses are no longer recognized and, on settlement date, the asset is derecognized. Trading portfolio assets transferred to external parties that do not qualify for derecognition (refer to item 5)) and where the transferee has obtained the right to sell or re-pledge the assets are classified on the UBS balance sheet as Trading portfolio assets and identified as Trading portfolio assets pledged as collateral. Such assets continue to be measured at fair value. 8) Financial assets and Financial liabilities designated at fair value through profit or loss (“Fair Value Option”) A financial instrument may be designated at fair value through profit or loss only at inception and this designation cannot be changed subsequently. Financial assets (refer to Note 13) and financial liabilities (refer to Note 20) designated at fair value are presented on separate lines on the face of the balance sheet. There are restrictions as to when the fair value option can be applied. The conditions for applying the fair value option are met when: – the financial instrument is a hybrid instrument which includes an embedded derivative; or – the financial instrument is part of a portfolio which is risk man- aged on a fair value basis and reported to senior management on that basis; or – the application of the fair value option eliminates or signifi- cantly reduces an accounting mismatch that would otherwise arise. UBS has used the fair value option to designate most of its is- sued hybrid debt instruments as Financial liabilities designated at fair value through profit or loss, on the basis that such financial instruments include embedded derivatives or are managed on a fair value basis. Such hybrid debt instruments predominantly in- clude the following: – Credit-linked bonds or notes: linked to the performance (cou- pon and / or redemption amount) of single names (such as a company or a country) or a basket of reference entities – Equity-linked bonds or notes: linked to a single stock, a basket of stocks or an equity index – Rates-linked bonds or notes: linked to a reference interest rate, interest rate spread or formula The fair value option is applied to certain loans and loan com- mitments, otherwise accounted for at amortized cost, which are hedged predominantly with credit derivatives. The application of the fair value option to the loans and loan commitments reduces an accounting mismatch, as the credit derivatives are accounted for as derivative instruments at fair value through profit or loss. In order to reduce an accounting mismatch, UBS has applied the fair value option to certain structured loans and reverse repur- chase and securities borrowing agreements which are part of portfolios managed on a fair value basis. Similarly, the fair value option is applied to assets held to hedge deferred cash-settled employee compensation awards, in order to reduce an accounting mismatch that would arise due to the liabil- ity being measured on a fair value basis. Fair value changes related to financial instruments designated at fair value through profit or loss are recognized in Net trading income. Interest income and interest expense on financial assets and liabilities designated at fair value through profit or loss are recognized in Interest income on financial assets designated at fair value or Interest expense on financial liabilities designated at fair value, respectively (refer to Note 3). UBS applies the same recognition and derecognition principles to financial instruments designated at fair value as to financial instruments in the trading portfolio (refer to items 5) and 7)). 9) Financial investments available-for-sale Financial investments available-for-sale are non-derivative finan- cial assets that are not classified as held for trading, designated at fair value through profit or loss, or loans and receivables. They are recognized on a settlement date basis. Financial investments available-for-sale include debt securities held as part of the liquidity reserve (mainly issued by government and government-controlled institutions); strategic equity invest- ments; certain investments in real estate funds; certain equity in- struments, including private equity investments; and debt instru- ments and non-performing loans acquired in the secondary market. Financial investments available-for-sale are recognized initially at fair value less direct transaction costs and are measured subse- quently at fair value. Unrealized gains and losses are reported in Equity, net of applicable income taxes, until such investments are sold, collected or otherwise disposed of, or until any such invest- ment is determined to be impaired. Unrealized gains before tax are presented separately from unrealized losses before tax in Note 14. For monetary instruments (such as debt securities), foreign exchange translation gains and losses determined by reference to the instrument’s amortized cost basis are recognized in Net trading income. Foreign exchange translation gains and losses related to other changes in fair value are recognized in Other comprehensive income. Foreign exchange translation gains and losses associated with non-monetary instruments (such as equity securities) are part of the overall fair value change of the in- struments and are recognized directly in Other comprehensive income. Interest and dividend income on financial investments avail- able-for-sale are included in Interest and dividend income from financial investments available-for-sale; interest income is deter- mined by reference to the instrument’s amortized cost basis using the effective interest rate (EIR). 334 Note 1 Summary of significant accounting policies (continued) On disposal of an investment, any related accumulated unreal- ized gains or losses included in Equity are transferred to the In- come statement and reported in Other income; gains or losses on disposal are determined using the average cost method. At each balance sheet date, UBS assesses whether there are indicators of impairment of an available-for-sale investment. An available-for-sale investment is impaired when there is objective evidence that, as a result of one or more events that occurred af- ter the initial recognition of the investment, the estimated future cash flows from the investment have decreased. A significant or prolonged decline in the fair value of an available-for-sale equity instrument below its original cost is considered objective evidence of an impairment. In the event of a significant decline in fair value below its original cost (20%) or a prolonged decline (six months), an impairment is recorded unless facts and circumstances clearly indicate that this information, on its own, is not evidence of an impairment. For debt investments, objective evidence of impairment in- cludes significant financial difficulty for the issuer or counterparty; default or delinquency in interest or principal payments; or prob- ability that the borrower will enter bankruptcy or financial reorga- nization. If a financial investment available-for-sale is determined to be impaired, the related cumulative net unrealized loss previ- ously recognized in Equity is included in the income statement within Other income. For equity instruments, any further loss is recognized directly in the income statement, whereas for debt instruments, any further loss is recognized in the income state- ment only if there is additional objective evidence of impairment. After the recognition of an impairment on a financial investment available-for-sale, increases in the fair value of equity instruments are reported in Equity and increases in the fair value of debt in- struments up to amortized cost in original currency are recog- nized in Other income, provided that the fair value increase is re- lated to an event occurring after the impairment loss was recorded. – securities which are classified as loans and receivables at acqui- sition date, such as auction rate securities; – securities previously in the trading portfolio and reclassified to loans and receivables (refer to Note 29b); – loans such as leverage finance loans previously in the trading portfolio and reclassified to loans and receivables (refer to Note 29b). For an overview of the accounting for financial assets classified as loans and receivables, refer to the measurement category Financial assets at amortized cost presented in Note 29. Loans and receivables are recognized when UBS becomes a party to the contractual provisions of the instrument, which is when funding is advanced to borrowers. They are recorded ini- tially at fair value, based on the amount provided to originate or purchase the loan or receivable, together with any transaction costs directly attributable to the acquisition. Subsequently, they are measured at amortized cost using the EIR method, less allow- ances for impairment (refer to item 11)). Interest on loans and receivables is included in Interest earned on loans and advances and is recognized on an accrual basis. Up- front fees and direct costs relating to loan origination, refinancing or restructuring as well as to loan commitments are generally de- ferred and amortized to Interest earned on loans and advances over the life of the loan using the EIR method. Where no loan is expected to be advanced, any fees are recognized as follows: – For loan commitments that are not expected to result in a loan being advanced, the fees are recognized in Commission in- come over the commitment period. – For loan syndication fees where UBS does not retain a portion of the syndicated loan, or where UBS does retain a portion of the syndicated loan at the same effective yield for comparable risk as other participants, fees are credited to Commission income when the services have been provided. UBS applies the same recognition and derecognition principles to financial assets available-for-sale as to financial instruments in the trading portfolio (refer to items 5) and 7)), except that unreal- ized gains and losses between trade date and settlement date are recognized in Equity rather than in the income statement. Presentation of receivables from central banks Deposits with central banks which are available on demand are presented on the balance sheet as Cash and balances with central banks. All longer dated receivables with central banks are pre- sented under Due from banks. 10) Loans and receivables Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market, not classified as held-for-trading, not designated as at fair value through profit and loss or available-for-sale, and are not assets for which the Group may not recover substantially all of its initial net investment, other than because of a credit deteriora- tion. Financial assets classified as loans and receivables include: – originated loans where funding is provided directly to the borrower; participation in a loan from another lender and purchased loans; Financial assets reclassified to loans and receivables When a financial asset is reclassified from held for trading to loans and receivables, the financial asset is reclassified at its fair value on the date of reclassification. Any gain or loss recognized in the in- come statement before reclassification is not reversed. The fair value of a financial asset on the date of reclassification becomes its cost basis going forward. In 2008 and 2009, UBS determined that certain financial assets classified as held for trading were no longer held for the purpose of selling or repurchasing in the near term and that the Group had the intention and ability to hold these assets for the foreseeable future, considered to be a period 335 Financial informationNote 1 Summary of significant accounting policies (continued) Financial information Notes to the consolidated financial statements of approximately twelve months from the reclassification. There- fore, these assets were reclassified from held for trading to loans and receivables. (Refer to Notes 12 and 29b). Renegotiated loans A renegotiated loan is defined as a loan that has been subject to restructuring, or for which additional collateral has been request- ed that was not contemplated in the original contract. Typical key features of terms and conditions granted through renegotiation to avoid default include the provision of special in- terest rates, postponement of interest or amortization payments, modification of the schedule of repayments or amendment of loan maturity. There is no change in the EIR following a renegotiation. If a loan is renegotiated with concessionary conditions (i.e. new terms and conditions are agreed which do not meet the nor- mal market criteria for the quality of the obligor and the type of loan) the position is still classified as non-performing and is rated as being in counterparty default. It will remain so until the loan is collected or written off and will be assessed for impairment on an individual basis. If a loan is renegotiated on a non-concessionary basis (e.g. ad- ditional collateral is provided by the client, or new terms and con- ditions are agreed which meet the normal market criteria, for the quality of the obligor and the type of loan), the loan will be re- rated using the Group’s regular rating scale. In these circum- stances, the loan is removed from impaired status and therefore included in our collective assessment of loan loss allowances. For the purposes of measuring credit losses, within the collective loan loss assessment these loans are not segregated from other loans which have not been renegotiated. Management regularly re- views all loans to ensure that all criteria according to the loan agreement continue to be met and that future payments are like- ly to occur. A restructuring of a loan could lead to a fundamental change in the terms and conditions of a loan resulting in the original loan being derecognized and a new loan being recognized. A change is considered fundamental if the present value of the contractual cash flows (as a proportion of notional) have been changed by 10% or more, or there has been a significant change in the risk profile of the instrument. If a loan is derecognized in these circumstances, the new loan is measured at fair value at initial recognition. Any allowance tak- en to date against the original loan is eliminated and is not attrib- uted to the new loan. Consequently, the new loan is not consid- ered impaired and is included within the general collective loan assessment for the purpose of measuring credit losses. 11) Allowances and provisions for credit losses An allowance or provision for credit losses is established if there is objective evidence that the Group will be unable to collect all amounts due (or the equivalent value thereof) on a claim based on the original contractual terms (refer to Note 9b). A “claim” means a loan or receivable carried at amortized cost, or a commit- ment such as a letter of credit, a guarantee, or another similar instrument. Objective evidence of impairment includes significant financial difficulty for the issuer or counterparty; default or delin- quency in interest or principal payments; or probability that the borrower will enter bankruptcy or financial reorganization. An allowance for credit losses is reported as a reduction of the carrying value of a claim on the balance sheet. For an off-balance- sheet item, such as a commitment, a provision for credit loss is reported in Other liabilities. Changes to allowances and provisions for credit losses are recognized as a Credit loss expense. Allowances and provisions for credit losses are evaluated at both a counterparty-specific level and collectively based on the following principles: Counterparty-specific: A loan is considered impaired when management determines that it is probable that the Group will not be able to collect all amounts due (or the equivalent value thereof) based on the original contractual terms. Individual credit exposures are evaluated based on the borrower’s character, over- all financial condition, resources and payment record; the pros- pects for support from any financially responsible guarantors; and, where applicable, the realizable value of any collateral. The estimated recoverable amount is the present value, using the claim’s original EIR, of expected future cash flows including amounts that may result from restructuring or the liquidation of collateral. If a loan has a variable interest rate, the discount rate for measuring any impairment loss is the current EIR. Impairment is measured and allowances for credit losses are established based on the difference between the carrying amount and the estimat- ed recoverable amount. Upon impairment, the accrual of interest income based on the original terms of the loan is discontinued. The increase of the present value of the impaired loan due to the passage of time is reported as Interest income. All impaired loans are reviewed and analyzed at least annually. Any subsequent changes to the amounts and timing of the ex- pected future cash flows compared with prior estimates result in a change in the allowance for credit losses and are charged or credited to Credit loss expense / recovery. An allowance for impair- ment is reversed only when the credit quality has improved to such an extent that there is reasonable assurance of timely collec- tion of principal and interest in accordance with the original con- tractual terms of the claim, or the equivalent value thereof. A write-off is made when all or part of a claim is deemed uncollect- ible or forgiven. Write-offs reduce the principal amount of a claim and are charged against previously established allowances for credit losses or, if no allowance has been established previously, directly to Credit loss expense / recovery. Recoveries, in part or in full, of amounts previously written off are credited to Credit loss expense / recovery. A loan is classified as non-performing when the payment of interest, principal or fees is overdue by more than 90 days and there is no firm evidence that it will be made good by later pay- 336 Note 1 Summary of significant accounting policies (continued) ments or the liquidation of collateral; when insolvency proceed- ings have commenced against the firm; or when obligations have been restructured on concessionary terms. Loans are evaluated individually for impairment when amounts have been overdue by more than 90 days, or sooner if other objective evidence indicates that a loan may be impaired. Collectively: All loans for which no impairment is identified at a counterparty-specific level are grouped on the basis of the bank’s internal credit grading system that considers credit risk character- istics such as asset type, industry, geographical location, collateral type, past-due status and other relevant factors, to collectively assess whether impairment exists within a portfolio. Future cash flows for a group of financial assets that are collectively evaluated for impairment are estimated on the basis of historical loss experi- ence for assets with credit risk characteristics similar to those in the group. Historical loss experience is adjusted on the basis of current observable data to reflect the effects of current conditions of the group of financial assets on which the historical loss experi- ence is based and to remove the effects of conditions in the his- torical period that do not exist currently in the portfolio. Estimates of changes in future cash flows for the group of financial assets reflect, and are directionally consistent with, changes in related observable data from year to year. The methodology and assump- tions used for estimating future cash flows for the group of finan- cial assets are reviewed regularly to reduce any differences be- tween loss estimated and actual loss experience. Allowances from collective assessment of impairment are recognized as Credit loss expense / recovery and result in an offset to the aggregated loan position. As the allowance cannot be allocated to individual loans, the loans are not considered to be impaired and interest is ac- crued on each loan according to its contractual terms. If objective evidence becomes available that indicates that an individual fi- nancial asset is impaired, it is removed from the group of financial assets assessed for impairment on a collective basis and is as- sessed separately as a counterparty-specific claim. Reclassified securities and acquired securities carried at amor- tized cost: Estimated cash flows associated with financial assets reclassified from the held for trading category to loans and receiv- ables in accordance with the requirements in item 10) above and other similar assets acquired subsequently, are revised periodically. Adverse revisions in cash flow estimates related to credit events are recognized in the income statement as Credit loss expense. For reclassified securities, increases in estimated future cash re- ceipts as a result of increased recoverability are recognized as an adjustment to the EIR on the loan from the date of change (refer to Notes 12 and 29b). solidated and those set out in item 5) in determining whether derecognition of transferred financial assets is appropriate. The following statements mainly apply to transfers of financial assets which qualify for derecognition. Gains or losses related to the sale of financial assets involving a securitization are generally recognized when the derecognition criteria are satisfied and the gain or loss is classified in Net trading income. Interests in the securitized financial assets may be retained in the form of senior or subordinated tranches, interest-only strips or other residual interests (“retained interests”). Retained interests are primarily recorded in Trading portfolio assets and are carried at fair value. Synthetic securitization structures typically involve de- rivative financial instruments for which the principles set out in item 15) apply. UBS acts as structurer and placement agent in various mort- gage-backed securities (MBS) and other asset-backed securities (ABS) securitizations. In such capacity, UBS may purchase collat- eral on its own behalf or on behalf of clients during the period prior to securitization. UBS then typically sells the collateral into designated trusts upon closing of the securitization. In other secu- ritizations, UBS may only provide financing to a designated trust in order to fund the purchase of collateral by the trust prior to securitization. UBS underwrites the offerings to investors, earning fees for its placement and structuring services. Consistent with the valuation of similar inventory, fair value of retained tranches is initially and subsequently determined using market price quota- tions where available or internal pricing models that utilize vari- ables such as yield curves, prepayment speeds, default rates, loss severity, interest rate volatilities and spreads. Where possible, as- sumptions based on observable transactions are used to deter- mine the fair value of retained interests, but for some interests substantially no observable information is available. 13) Securities borrowing and lending Securities borrowing and securities lending transactions are gen- erally entered into on a collateralized basis. In such transactions, UBS typically borrows or lends equity and debt securities in ex- change for securities or cash collateral. Additionally, UBS borrows securities from its clients’ custody accounts in exchange for a fee. The transactions are normally conducted under standard agree- ments employed by financial market participants and are under- taken with counterparties subject to UBS’s normal credit risk con- trol processes. UBS monitors on a daily basis the market value of the securities received or delivered and requests or provides addi- tional collateral or returns or recalls surplus collateral in accor- dance with the underlying agreements. 12) Securitization structures set up by UBS UBS securitizes certain financial assets, mostly in the form of sales of these assets to special purpose entities which issue securities to investors. UBS applies the policies set out in item 3) in determin- ing whether the respective special purpose entity must be con- Cash collateral received is recognized with a corresponding ob- ligation to return it (Cash collateral on securities lent) and cash col- lateral delivered is derecognized and a corresponding receivable reflecting UBS’s right to receive it back is recorded (Cash collateral on securities borrowed). The securities which have been transferred 337 Financial informationNote 1 Summary of significant accounting policies (continued) Financial information Notes to the consolidated financial statements are not recognized on or derecognized from the balance sheet un- less the risks and rewards of ownership are also transferred (refer to item 5)). In those transactions where UBS transfers owned securi- ties and where the borrower is granted the right to sell or re-pledge the transferred securities, the securities are presented on the bal- ance sheet as Trading portfolio assets, of which: assets pledged as collateral. Securities received in a borrowing transaction are dis- closed as off-balance-sheet items if UBS has the right to resell or re-pledge them, with additional disclosure for securities that UBS has actually re-sold or re-pledged (refer to Note 28). The sale of securities which is settled by delivering securities received in a bor- rowing or lending transaction generally triggers the recognition of a trading liability (short sale). Where securities are either received or paid in lieu of cash (“securities for securities” transactions), neither the securities received (paid) nor the obligation to return (right to receive) the securities are recognized on the balance sheet. Interest receivable or payable for financing transactions is rec- ognized in the income statement on an accrual basis and is re- corded as Interest income or Interest expense. 14) Repurchase and reverse repurchase transactions Securities purchased under agreements to resell (Reverse repur- chase agreements) and securities sold under agreements to repur- chase (Repurchase agreements) are treated as collateralized fi- nancing transactions. Nearly all reverse repurchase and repurchase agreements involve debt instruments, such as bonds, notes or money market paper. The transactions are normally conducted under standard agreements employed by financial market partici- pants and are undertaken with counterparties subject to UBS’s normal credit risk control processes. UBS monitors on a daily basis the market value of the securities received or delivered and re- quests or provides additional collateral or returns or recalls surplus collateral in accordance with the underlying agreements. In a reverse repurchase agreement, the cash delivered is derecognized and a corresponding receivable, including accrued interest, is recorded in the balance sheet line Reverse repurchase agreements, recognizing UBS’s right to receive the cash back. In a repurchase agreement, the cash received is recognized and a cor- responding obligation, including accrued interest, is recorded in the balance sheet line Repurchase agreements. Securities received under reverse repurchase agreements and securities delivered un- der repurchase agreements are not recognized on or derecog- nized from the balance sheet, unless the risks and rewards of ownership are transferred. In repurchase agreements where UBS transfers owned securities and where the recipient is granted the right to resell or re-pledge them, the securities are presented on the balance sheet as Trading portfolio assets, of which: assets pledged as collateral. Securities received in reverse repurchase agreements are disclosed as off-balance-sheet items if UBS has the right to resell or re-pledge them, with additional disclosure for securities that UBS has actually resold or re-pledged (refer to Note 28). Additionally, the sale of securities which is settled by deliver- ing securities received in reverse repurchase transactions generally triggers the recognition of a trading liability (short sale). Interest earned on reverse repurchase agreements and interest incurred on repurchase agreements is recognized as interest in- come or interest expense over the life of each agreement. The Group offsets reverse repurchase agreements and repur- chase agreements with the same counterparty, maturity, currency and Central Securities Depository (CSD) in accordance with the relevant accounting requirements. 15) Derivative instruments and hedge accounting Derivatives are initially recognized at fair value on the date the derivative contract is entered into and are remeasured subse- quently to fair value. The method of recognizing fair value gains or losses depends on whether derivatives are held for trading or are designated and effective as hedging instruments. If designat- ed as hedging instruments, the method of recognizing gains or losses depends on the nature of the risk being hedged. Derivative instruments are generally reported on the balance sheet as Positive replacement values or Negative replacement val- ues. Derivative instruments that trade on an exchange or through a clearing house are generally classified as Cash collateral receivables on derivative instruments or Cash collateral payables on derivative instruments. They are not classified within replacement values be- cause the change in fair value of these instruments is settled each day through the cash payment of variation margin. Products that receive this treatment are futures contracts, 100% daily margined exchange traded options, interest rate swaps transacted with the London Clearing House and certain credit derivative contracts. Changes in the fair values of derivatives are recorded in Net trading income, unless the derivatives are designated and effective as hedg- ing instruments in certain types of hedge accounting relationships. Hedge accounting The Group uses derivative instruments as part of its asset and lia- bility management activities to manage exposures particularly to interest rate and foreign currency risks, including exposures aris- ing from forecast transactions. If derivative and non-derivative instruments meet certain criteria specified below, they may be designated as hedging instruments in hedges of the change in fair value of recognized assets or liabilities (“fair value hedges”); hedges of the variability in future cash flows attributable to a rec- ognized asset or liability, or highly probable forecast transactions (“cash flow hedges”); or hedges of a net investment in a foreign operation (“net investment hedges”). At the time a financial instrument is designated in a hedge re- lationship, the Group formally documents the relationship be- tween the hedging instrument(s) and hedged item(s), including the risk management objectives and strategy in undertaking the hedge transaction and the methods that will be used to assess the effectiveness of the hedging relationship. Accordingly, the Group assesses, both at the inception of the hedge and on an ongoing 338 Note 1 Summary of significant accounting policies (continued) basis, whether the hedging instruments, primarily derivatives, have been “highly effective” in offsetting changes in the fair val- ue or cash flows associated with the designated risk of the hedged items. A hedge is considered highly effective if the following crite- ria are met: a) at inception of the hedge and throughout its life, the hedge is expected to be highly effective in achieving offsetting changes in fair value or cash flows attributable to the hedged risk, and b) actual results of the hedge are within a range of 80% to 125%. In the case of hedging forecast transactions, the transac- tion must have a high probability of occurring and must present an exposure to variations in cash flows that could ultimately affect the reported net profit or loss. The Group discontinues hedge ac- counting voluntarily, or when the Group determines that a hedg- ing instrument is not, or has ceased to be, highly effective as a hedge; when the derivative expires or is sold, terminated or exer- cised; when the hedged item matures, is sold or repaid; or when forecast transactions are no longer deemed highly probable. Hedge ineffectiveness represents the amount by which the changes in the fair value of the hedging instrument differ from changes in the fair value of the hedged item attributable to the hedged risk, or the amount by which changes in the present value of future cash flows of the hedging instrument exceed changes (or expected changes) in the present value of future cash flows of the hedged item. Such ineffectiveness is recorded in current peri- od earnings in Net trading income. Interest income and expense on derivatives designated as hedging instruments in effective hedge relationships is included in Net interest income. Fair value hedges For qualifying fair value hedges, the change in the fair value of the hedging instrument is recognized in the income statement along with the change in the fair value of the hedged item that is attrib- utable to the hedged risk. In fair value hedges of interest rate risk, the fair value change of the hedged item attributable to the hedged risk is reflected in the carrying value of the hedged item. If the hedge accounting relationship is terminated for reasons other than the derecognition of the hedged item, the difference be- tween the carrying value of the hedged item at that point and the value at which it would have been carried had the hedge never existed (the “unamortized fair value adjustment”) is amortized to the income statement over the remaining term of the original hedge accounting relationship. For a portfolio hedge of interest rate risk, the equivalent change in fair value is reflected within Other assets or Other liabil- ities. If the hedge relationship is terminated for reasons other than the derecognition of the hedged item, the amount included in Other assets or Other liabilities is amortized to the income state- ment over the remaining term to maturity of the hedged items. Cash flow hedges Fair value gains or losses associated with the effective portion of derivatives designated as cash flow hedges for cash flow repricing risk are recognized initially in Equity. When the hedged forecast cash flows affect profit or loss, the associated gains or losses on the hedging derivatives are reclassified from Equity to profit or loss. If a cash flow hedge for forecasted transactions is deemed to be no longer effective, or if the hedge relationship is terminated, the cumulative gains or losses on the hedging derivatives previ- ously reported in Equity remain there until the committed or fore- casted transactions occur. If the forecasted transactions are no longer expected to occur, the deferred gains or losses are reclassi- fied immediately to profit or loss. Hedges of net investments in foreign operations Hedges of net investments in foreign operations are accounted for similarly to cash flow hedges. Gains or losses on the hedging instru- ment relating to the effective portion of the hedge are recognized directly in Equity (and presented in the statement of changes in equity and statement of comprehensive income under Foreign cur- rency translation), while any gains or losses relating to the ineffec- tive and / or undesignated portion (for example, the interest ele- ment of a forward contract) are recognized in the income statement. On loss of control of the foreign operation, the cumulative value of any such gains or losses associated with the entity and recognized directly in Equity, is reclassified to the income statement. Economic hedges which do not qualify for hedge accounting Derivative instruments which are transacted as economic hedges but do not qualify for hedge accounting are treated in the same way as derivative instruments used for trading purposes (i.e. real- ized and unrealized gains and losses are recognized in Net trading income), except for the forward points on short duration foreign exchange contracts, which are reported in Net interest income. Refer to Note 25 for more information on “economic hedges”. Embedded derivatives Derivatives may be embedded in other financial instruments (“host contracts”); for instance, the conversion feature embed- ded in a convertible bond. Such combinations are known as hybrid in struments and arise predominantly from the issuance of certain structured debt instruments. An embedded derivative is generally required to be separated from the host contract and accounted for as a standalone derivative instrument at fair value through profit or loss, if a) the host contract is not carried at fair value with changes in fair value reported in the income statement, b) the economic characteristics and risks of the embedded deriva- tive are not closely related to the economic characteristics and risks of the host contract, and c) the terms of the embedded de- rivative would meet the definition of a stand-alone derivative were they contained in a separate contract. Bifurcated embedded derivatives are presented on the same balance sheet line as the host contract, and are shown in Note 28 in the “Held for trading” category, reflecting the measurement and recognition principles applied. 339 Financial informationNote 1 Summary of significant accounting policies (continued) Financial information Notes to the consolidated financial statements Typically, UBS applies the fair value option to hybrid instru- ments (refer to item 8), in which case bifurcation of an embedded derivative component is not required. ment under the guarantee has become probable, the present value of the expected payment. Any change in the liability relating to probable expected payments resulting from guarantees is re- corded in the income statement in Credit loss expense / recovery. 16) Loan commitments Loan commitments are defined amounts (unutilized credit lines or undrawn portions of credit lines) against which clients can borrow money under defined terms and conditions. Loan commitments that can be cancelled by UBS at any time (without giving a reason) according to their general terms and conditions, are not recognized on the balance sheet and are not included in the off-balance-sheet disclosures. Upon a loan drawdown by the counterparty, the amount of the loan is ac- counted for in accordance with Loans and receivables (refer to item 10)). Irrevocable loan commitments (where UBS has no right to withdraw the loan commitment once communicated to the beneficiary, or which are revocable only due to automatic cancel- lation upon deterioration in a borrower’s creditworthiness) are classified into the following categories: – Derivative loan commitments, being loan commitments that can be settled net in cash or by delivering or issuing another financial instrument, or loan commitments for which there is evidence of selling loans resulting from similar loan commit- ments before or shortly after origination (refer to item 15)). – Loan commitments designated at fair value through profit and loss (“Fair value option”) (refer to item 8)). – All other loan commitments. These are not recorded in the bal- ance sheet, but a provision is recognized if it is probable that a loss has been incurred and a reliable estimate of the amount of the obligation can be made. Other loan commitments include irrevocable forward starting reverse repurchase and irrevocable securities borrowing agreements. Any change in the liability relating to these other loan commitments is recorded in the income statement in Credit loss expense / recovery. (Refer to items 11) and 27)) 17) Financial guarantee contracts Financial guarantee contracts are contracts that require the issuer to make specified payments to reimburse the holder for an in- curred loss because a specified debtor fails to make payments when due in accordance with the terms of a specified debt instru- ment. UBS issues such financial guarantees to banks, financial institutions and other parties on behalf of clients to secure loans, overdrafts and other banking facilities. Certain written financial guarantees that are managed on a fair value basis are designated at fair value through profit or loss (refer to item 8)). Financial guarantees that are not managed on a fair value basis are initially recognized in the financial statements at fair value. Subsequent to initial recognition, these financial guarantees are measured at the higher of the amount initially rec- ognized less cumulative amortization, and to the extent a pay- 340 18) Cash and cash equivalents For the purposes of the statement of cash flows, cash and cash equivalents comprise balances with an original maturity of three months or less including cash, money market paper and balances with central and other banks. 19) Physical commodities Physical commodities (precious metals, base metals, energy and other commodities) held by UBS as a result of its broker-trader activities are accounted for at fair value less costs to sell and rec- ognized within Trading portfolio assets. Changes in fair value less costs to sell are recorded in Net trading income. 20) Property and equipment Property and equipment includes own-used properties, invest- ment properties, leasehold improvements, IT hardware, externally purchased and internally developed software and communication and other similar equipment. With the exception of investment properties, Property and equipment is carried at cost, less accu- mulated depreciation and impairment losses, and is reviewed pe- riodically for impairment. Classification of own-used property Own-used property is defined as property held by the Group for use in the supply of services or for administrative purposes, whereas investment property is defined as property held to earn rental income and / or for capital appreciation. Where a property of the Group includes an own-used portion and an investment portion which can be sold separately, they are separately account- ed for as own-used property and investment property. If the por- tions cannot be sold separately, the whole property is classified as own-used unless the portion used by the Group is minor. The classification of property is reviewed on a regular basis. When the use of a property changes from own-used to investment property, the property is remeasured to fair value and reclassified as invest- ment property. Any gain arising on remeasurement is recognized in profit or loss to the extent that it reverses a previous impair- ment loss on the specific property, with any remaining gain recog- nized in other comprehensive income and presented in the revalu- ation reserve in equity. Any loss is recognized immediately in profit or loss. When an investment property is reclassified as own- used property, its fair value at the date of reclassification becomes its cost basis for subsequent measurement purposes. Investment property Investment property is carried at fair value with changes in fair value recognized in the income statement in Other income in the Note 1 Summary of significant accounting policies (continued) period of change. UBS uses internal or external real estate experts to determine the fair value of investment property by applying recognized valuation techniques. In cases where prices of recent market transactions of comparable properties are available, fair value is determined by reference to these transactions. Leasehold improvements Leasehold improvements are investments made to customize build- ings and offices occupied under operating lease contracts to make them suitable for their intended purpose. The present value of esti- mated reinstatement costs required to bring a leased property back into its original condition at the end of the lease is capitalized as part of total leasehold improvements with a corresponding liability recognized to reflect the obligation incurred. Reinstatement costs are recognized in profit and loss through depreciation of the capi- talized leasehold improvements over their estimated useful lives and the liability is relieved as cash payments are applied. Property held for sale Where UBS has decided to sell non-current assets such as prop- erty or equipment and the sale of these assets is highly probable to happen within twelve months, these assets are classified as non-current assets held for sale and are reclassified to Other as- sets. Upon classification as held for sale, they are no longer depre- ciated and are carried at the lower of book value or fair value less cost to sell. Software Software development costs are recognized only when the costs can be measured reliably and it is probable that future economic benefits will arise. Internally generated software that meets these criteria is classified within IT hardware, software and communica- tion assets, together with purchased software. Estimated useful life of property and equipment Property and equipment is depreciated on a straight-line basis over its estimated useful life as follows: Properties, excluding land Leasehold improvements Other machines and equipment IT hardware, software and communication equipment Not exceeding 67 years Residual lease term Not exceeding 10 years Not exceeding 5 years 21) Goodwill and intangible assets Goodwill represents the excess of the cost of an acquisition over the fair value of the Group’s share of net identifiable assets of the acquired entity at the date of acquisition. Goodwill is not amor- tized; it is tested annually for impairment and, additionally, when an indication of impairment exists at the end of each reporting period. For goodwill impairment testing purposes, UBS considers the segments reported in Note 2a as separate cash-generating units, since this is the level at which the performance of invest- ments is reviewed and assessed by management. The recoverable amount of a segment is determined on the basis of its value in use. Refer to Note 17 for details. Intangible assets comprise separately identifiable intangible items arising from business combinations and certain purchased trademarks and similar items. Intangible assets are recognized at cost. The cost of an intangible asset acquired in a business combi- nation is its fair value at the date of acquisition. Intangible assets with a definite useful life are amortized using the straight-line method over their estimated useful economic life, generally not exceeding 20 years. Intangible assets with an indefinite useful life are not amortized. In nearly all cases, identified intangible assets have a definite useful life. At each balance sheet date, intangible assets are reviewed for indications of impairment. If such indica- tions exist, the intangible assets are analyzed to assess whether their carrying amount is fully recoverable. An impairment loss is recognized if the carrying amount exceeds the recoverable amount. Intangible assets are classified into two categories: a) infra- structure, and b) customer relationships, contractual rights and other. Infrastructure consists of a branch network intangible asset recognized in connection with the acquisition of PaineWebber Group, Inc. Client relationships, contractual rights and other in- cludes mainly intangible assets for client relationships, non-com- pete agreements, favorable contracts, trademarks and trade names acquired in business combinations. 22) Income taxes Income tax payable on profits is recognized as an expense based on the applicable tax laws in each jurisdiction in the period in which profits arise. The tax effects of income tax losses available for carry forward are recognized as a deferred tax asset if it is probable that future taxable profit (based on profit forecast as- sumptions) will be available against which those losses can be utilized. Deferred tax assets are recognized for temporary differences that will result in deductible amounts in future periods, but only to the extent that it is probable that sufficient taxable profits will be available against which these differences can be utilized. De- ferred tax liabilities are recognized for temporary differences be- tween the carrying amounts of assets and liabilities in the balance sheet and their amounts as measured for tax purposes, which will result in taxable amounts in future periods. Deferred tax assets and liabilities are measured at the tax rates that are expected to apply in the period in which the asset will be realized or the liability will be settled based on enacted rates. Tax assets and liabilities of the same type (current or deferred) are offset when they arise from the same tax reporting group, they relate to the same tax authority, the legal right to offset exists, and they are intended to be settled net or realized simulta- neously. 341 Financial informationNote 1 Summary of significant accounting policies (continued) Financial information Notes to the consolidated financial statements Current and deferred taxes are recognized as income tax benefit or expense in the income statement except for current and deferred taxes recognized (i) upon the acquisition of a sub- sidiary, (ii) for unrealized gains or losses on financial investments available-for-sale, for changes in fair value of derivative instru- ments designated as cash flow hedges, for remeasurements of defined benefit plans, and for certain foreign currency transla- tions of foreign operations, (iii) for certain tax benefits on de- ferred compensation awards, and (iv) for gains and losses on the sale of treasury shares. Deferred taxes recognized in a business combination (point (i)) are considered when determining good- will. Amounts relating to points (ii), (iii) and (iv) are recorded in Net income recognized directly in equity. 23) Debt issued Debt issued is carried at amortized cost. In cases where, as part of the Group’s asset and liability management activity, fair value hedge accounting is applied to fixed-rate debt instruments carried at amortized cost, their carrying amount is adjusted for changes in fair value related to the hedged exposure – refer to item 15) for further details on hedge accounting. In most cases, structured notes issued are designated at fair value through profit or loss us- ing the fair value option, on the basis that they are managed on a fair value basis and / or that the structured notes contain an em- bedded derivative – refer to item 8) for further details on the fair value option. The fair value option is not applied to certain struc- tured notes that contain embedded derivatives that reference for- eign exchange rates and precious metal prices. For these instru- ments, the embedded derivative component is measured on a fair value basis and the related underlying debt host component is measured on an amortized cost basis, with both components pre- sented together within Debt issued. Debt issued and subsequently repurchased in relation to mar- ket making or other activities is treated as redeemed. A gain or loss on redemption is recorded in Other income depending on whether the repurchase price of the bond is lower or higher than its carrying value. A subsequent sale of own bonds in the market is treated as a reissuance of debt. Interest expense on debt instru- ments measured at amortized cost is included in Interest on debt issued. Refer to Note 21 for further details on debt issued. 24) Pension and other post-employment benefit plans UBS sponsors a number of post-employment benefit plans for its employees worldwide, which include defined benefit and defined contribution pension plans, and other post-employment benefits such as medical and life insurance benefits that are payable after the completion of employment. Defined benefit pension plans Defined benefit pension plans specify an amount of benefit that an employee will receive, which is usually dependent on one or more factors such as age, years of service and compensation. The defined benefit liability recognized in the balance sheet is the present value of the defined benefit obligation less the fair value of the plan assets at the balance sheet date. If the fair value of the plan assets is higher than the present value of the defined benefit obligation, the measurement of the resulting defined benefit asset is limited to the present value of economic benefits available in the form of refunds from the plan or reductions in future contributions to the plan. UBS applies the projected unit credit method to determine the present value of its defined ben- efit obligations, the related current service cost and, where ap- plicable, past service cost. These amounts, which take into ac- count the specific features of each plan including risk sharing between the employee and employer, are calculated periodically by independent qualified actuaries. Further information on the plans and the principal actuarial assumptions used are set out in Note 30. Defined contribution plans A defined contribution plan is a pension plan under which UBS pays fixed contributions into a separate entity from which post- employment and other benefits are paid. UBS has no legal or con- structive obligation to pay further contributions if the plan does not hold sufficient assets to pay employees the benefits relating to employee service in the current and prior periods. UBS’s contribu- tions are expensed when the employees have rendered services in exchange for such contributions; this is generally in the year of contribution. Prepaid contributions are recognized as an asset to the extent that a cash refund or a reduction in future payments is available. Other post-retirement benefits UBS also provides post-retirement medical and life insurance ben- efits to certain retirees in the US and the UK. The expected costs of these benefits are recognized over the period of employment using the same accounting methodology used for defined benefit pension plans. 25) Equity participation and other compensation plans Equity participation plans UBS has established several equity participation plans in the form of share plans, option plans and share-settled stock appreciation right (SAR) plans. UBS’s equity participation plans include manda- tory, discretionary, and voluntary plans. UBS recognizes the fair value of share, option and SAR awards, determined at the date of grant, as compensation expense over the period that the employ- ee is required to provide services in order to earn the award. Awards that do not require the employee to provide future service to become entitled to the award, such as those granted to retirement eligible employees, including those employees who meet full career retirement criteria, are considered vested at the grant date. Compensation expense is fully recognized on the 342 Note 1 Summary of significant accounting policies (continued) grant date, or in a period prior to the grant date if it is attributable to past service, and the amount of the award can be reasonably and reliably estimated. Such awards remain forfeitable until the legal vesting date if certain conditions are not met. Where no future service is required, forfeiture events occurring after the grant date do not result in a reversal of compensation expense because the related services have been received. Plans requiring future service have either a tiered vesting struc- ture, which vest in increments over a specified period or a cliff vest- ing structure, which vest at the end of a specified period. Compen- sation expense is recognized over the service period on a tiered basis for awards that have a tiered vesting structure and on a straight-line basis for awards with a cliff vesting structure. Plans may contain provisions that shorten the required service period due to achievement of retirement eligibility or upon termination due to redundancy. In such instances, compensation expense is recog- nized over the period from grant date to the retirement eligibility or redundancy date. Forfeiture of these awards that occurs during the service period results in a reversal of compensation expense. Awards settled in UBS shares or options are classified as equity instruments. The fair value of an equity-settled award is deter- mined at the date of grant and is not subsequently remeasured, unless its terms are modified such that the fair value immediately after modification exceeds the fair value immediately prior to modification. Any increase in fair value resulting from a modifica- tion is recognized as compensation expense, either over the re- maining service period or, for vested awards, immediately. Cash-settled awards are classified as liabilities and are remea- sured to fair value at each balance sheet date as long as the award is outstanding. Changes in fair value are reflected in compen sation expense and, on a cumulative basis, no compensation expense is recognized for awards that expire worthless or remain unexercised. Details of the determination of fair value for equity participa- tion plans are disclosed in Note 31. Other compensation plans UBS has established other fixed and variable deferred compensa- tion plans, the values of which are not linked to UBS’s own eq- uity. Deferred cash compensation plans are either mandatory or discretionary plans and include awards based on a notional cash amount, where ultimate payout is fixed or may vary based on achievement of performance conditions. Compensation expense is recognized over the period that the employee is required to provide services in order to earn the award. If the employee is not required to provide future services, such as for awards granted to employees who are retirement eligible, including those employ- ees who meet full career retirement criteria, compensation ex- pense is recognized on or prior to the grant date. The amount recognized during the service period is based on an estimate of the amount expected to be paid out under the plan, such that cumulative expense recognized ultimately equals the cash distrib- uted to employees. For awards in the form of alternative invest- ment vehicles or similar structures, which provide employees with a payout based on the value of specified underlying assets, the initial value is based on the fair value on the grant date of the underlying assets (e.g. money market funds, UBS and non-UBS mutual funds and other UBS-sponsored funds). This initial value is recognized over the period that the employee provides service to become entitled to the award. These awards are remeasured to fair value at each reporting date until the award is distributed. Changes in fair value, including increases and decreases in value, are recognized proportionate to the elapsed service period. For- feiture of these awards results in the reversal of compensation expense. ➔ Refer to “Note 31 Equity participation and other compensation plans” for more information 26) Amounts due under unit-linked investment contracts Financial liabilities from unit-linked investment contracts are pre- sented as Other liabilities on the balance sheet (refer to Note 22). These contracts allow investors to invest in a pool of assets through issued investment units. The unit holders receive all re- wards and bear all risks associated with the reference asset pool. The financial liability represents the amounts due to unit holders and is equal to the fair value of the reference asset pool. Assets held under unit-linked investment contracts are presented as Trading portfolio assets (refer to Note 12). 27) Provisions Provisions are liabilities of uncertain timing or amount, and are recognized when UBS has a present obligation as a result of a past event, it is probable that an outflow of resources will be required to settle the obligation, and a reliable estimate of the amount of the obligation can be made. The majority of UBS’s provisions relate to litigation, regulatory and similar matters, restructuring costs, employee benefits, real estate and loan commitments and guarantees. Provisions that are similar in nature are aggregated to form a class, while the remain- ing provisions, including those of less significant amounts, are presented under Other provisions. Provisions are presented sepa- rately on the balance sheet and, when they are no longer consid- ered uncertain in timing or amount, are reclassified to Other liabil- ities-Other (refer to Note 22). The Group recognizes provisions for litigation, regulatory and similar matters when, in the opinion of management after seek- ing legal advice, it is more likely than not that the Group has a present legal or constructive obligation as a result of past events, it is probable that an outflow of resources will be required, and the amount can be reliably estimated. Restructuring provisions are recognized when a detailed and formal restructuring plan has been approved and a valid expecta- tion has been raised that the restructuring will be carried out, ei- ther through commencement of the plan or announcements to affected employees. 343 Financial informationNote 1 Summary of significant accounting policies (continued) Financial information Notes to the consolidated financial statements Provisions are recognized for lease contracts if the unavoidable costs of a contract exceed the benefits expected to be received under it (onerous lease contracts). For example, this may occur when a significant portion of leased property is expected to be vacant for an extended period. Provisions for employee benefits are recognized mainly in re- spect of service anniversaries and sabbatical leave. Provisions are recognized at the best estimate of the consider- ation required to settle the present obligation at the balance sheet date. Such estimates are based on all available information and are revised over time as more information becomes available. If the effect of the time value of money is material, provisions are discounted and measured at the present value of the expenditure expected to settle or discharge the obligation, using a rate that reflects the current market assessments of the time value of mon- ey and the risks specific to the obligation. A provision is not recognized when UBS has a present obliga- tion that has arisen from past events but it is not probable that an outflow of resources will be required to settle it, or a sufficiently reliable estimate of the amount of the obligation cannot be made. Instead, a contingent liability is disclosed. Contingent liabilities are also disclosed for possible obligations that arise from past events whose existence will be confirmed only by uncertain future events not wholly within the control of UBS (refer to Note 23). 28) Equity, treasury shares and contracts on UBS AG shares Transaction costs related to share issuances Incremental transaction costs directly attributable to the issue of new shares or contracts with mandatory gross physical settlement classi- fied as equity instruments are recognized in and deducted from Equity as “Transaction costs related to share issuances, net of tax”. Non-controlling interests Net profit and Equity are presented including non-controlling in- terests. Net profit is split into Net profit attributable to UBS share- holders and Net profit attributable to non-controlling interests. Equity is split into Equity attributable to UBS shareholders and Equity attributable to non-controlling interests. UBS AG shares held (“treasury shares”) UBS AG shares held by the Group are presented in Equity as Trea- sury shares at their acquisition cost which includes transaction costs. Treasury shares are deducted from Equity until they are can- celled or reissued. The difference between the proceeds from sales of Treasury shares and their weighted average cost (net of tax, if any) is reported as Share premium. Net cash settlement contracts Contracts on UBS AG shares that require net cash settlement, or provide the counterparty or UBS with a settlement option which includes a choice of settling net in cash, are classified as held for trading, with changes in fair value reported in the income state- ment as Net trading income. Contracts with mandatory gross physical settlement UBS issues contracts with mandatory gross physical settlement in UBS AG shares where a fixed amount of shares is exchanged against a fixed amount of cash or another financial asset. Written put options and forward share purchase contracts with gross physical settlement, including contracts where gross physi- cal settlement is a settlement alternative, result in the recognition of a financial liability booked against Equity. The financial liability is subsequently accreted, using the EIR method, over the life of the contract to the nominal purchase obligation with the amount recognized in Interest expense. Upon settlement of the contract, the liability is derecognized against the consideration paid, and the amount of equity originally recognized as a liability is reclassi- fied within Equity to Treasury shares. The premium received for writing such put options is recognized directly in Share premium. All other contracts with mandatory gross physical settlement in UBS AG shares are presented in Equity as Share premium and ac- counted for at cost, which is added to or deducted from Equity as appropriate. Upon settlement of such contracts, the difference between the proceeds received and their cost (net of tax, if any) is reported as Share premium. Trust preferred securities issued UBS has issued trust preferred securities through consolidated preferred funding trusts which hold debt or equity issued by UBS AG. UBS AG has fully and unconditionally guaranteed all contrac- tual payments on these securities. UBS’s obligations under these guarantees are subordinated to the full prior payment of the de- posit liabilities of UBS and all other liabilities of UBS. The trust preferred securities represent equity instruments which are held by third parties and treated as non-controlling interests in UBS’s consolidated financial statements. Once a coupon payment be- comes mandatory, i.e., when it is triggered by a contractually de- fined event, the full dividend payment obligation on these trust preferred securities issued is reclassified from Equity to a corre- sponding liability. In the income statement the full dividend pay- ment is reclassified from Net profit attributable to UBS sharehold- ers to Net profit attributable to non-controlling interests at that time. 29) Discontinued operations and non-current assets held for sale UBS presents discontinued operations in a separate line in the in- come statement if an entity or a component of an entity has been disposed of or is classified as held for sale and a) represents a separate major line of business or geographical area of opera- tions, b) is part of a single coordinated plan to dispose of a sepa- rate major line of business or geographical area of operations, or c) is a subsidiary acquired exclusively with a view to resale (e.g. certain private equity investments). Net profit from discontinued 344 Note 1 Summary of significant accounting policies (continued) operations includes the net total of operating profit and loss be- fore tax from discontinued operations (including net gain or loss on sale before tax or measurement to fair value less costs to sell) and discontinued operations tax expense. A component of an en- tity comprises operations and cash flows that can be clearly distin- guished, operationally and for financial reporting purposes, from the rest of UBS’s operations and cash flows. If an entity or a com- ponent of an entity is classified as a discontinued operation, UBS restates prior periods in the income statement. UBS classifies individual non-current assets and disposal groups as held for sale if such assets or disposal groups are available for immediate sale in their present condition subject to terms that are usual and customary for sales of such assets or disposal groups and their sale is considered highly probable. For a sale to be high- ly probable, management must be committed to a plan to sell such assets and must be actively looking for a buyer. Furthermore, the assets must be actively marketed at a reasonable sales price in relation to their fair value and the sale must be expected to be completed within one year. These assets (and liabilities in the case of disposal groups) are measured at the lower of their carrying amount and fair value less costs to sell and are presented in Other assets and Other liabilities. Non-current assets and liabilities of subsidiaries are classified as held for sale if their carrying amount will be recovered principally through a sale transaction rather than through continuing use. 30) Leasing UBS enters into lease contracts, or contracts that include lease components, predominantly of premises and equipment, primar- ily as lessee. Leases that transfer substantially all the risks and re- wards incidental to the ownership of assets, but not necessarily legal title, are classified as finance leases. All other leases are clas- sified as operating leases. Assets leased pursuant to finance leases are recognized on the balance sheet in Property and equipment and are amortized over the lesser of the useful life of the asset or the lease term, with corresponding amounts payable included in Due to banks / cus- tomers. Finance charges payable are recognized in Net interest income over the period of the lease based on the interest rate implicit in the lease on the basis of a constant yield. Lease contracts classified as operating leases where UBS is the lessee are disclosed in Note 26. These contracts include non-can- cellable long-term leases of office buildings in most UBS locations. Operating lease rentals payable are recognized as an expense on a straight-line basis over the lease term, which commences with control of the physical use of the property. Lease incentives are treated as a reduction of rental expense and are recognized on a consistent basis over the lease term. Certain arrangements do not take the legal form of a lease but convey a right to use an asset in return for a payment or series of payments. For such arrangements, UBS determines at the incep- tion of the arrangement whether the fulfillment of the arrange- ment is dependent on the use of a specific asset or assets and, if so, the arrangement is accounted for as a lease. 31) Fee income UBS earns fee income from a diverse range of services it provides to its clients. Fee income can be divided into two broad catego- ries: fees earned from services that are provided over a certain period of time (for example, investment fund fees, portfolio man- agement and advisory fees) and fees earned from providing trans- action-type services (for example, underwriting fees, corporate finance fees and brokerage fees). Fees earned from services that are provided over a certain period of time are recognized ratably over the service period, with the exception of performance-linked fees or fee components with specific performance criteria. Such fees are recognized when the performance criteria are fulfilled and when collectability is reasonably assured. Fees earned from providing transaction-type services are recognized when the ser- vice has been completed. Loan commitment fees on lending arrangements, where there is an initial expectation that the facility will be drawn down, are deferred until the loan is drawn down and are then recognized as an adjustment to the effective yield over the life of the loan. If the commitment expires and the loan is not drawn down, the fees are recognized as revenue when the commitment expires. Where the initial expectation that the facility will be drawn down is remote, the loan commitment fees are recognized on a straight line basis over the commitment period. If, subsequently, the commitment is actually exercised, the unamortized component of the loan com- mitment fees are amortized as an adjustment to the effective yield over the life of the loan. 32) Foreign currency translation Transactions denominated in foreign currency are translated into the functional currency of the reporting unit at the spot exchange rate on the date of the transaction. At the balance sheet date, all monetary assets and liabilities denominated in foreign currency are translated to the functional currency using the closing ex- change rate. Non-monetary items measured at historical cost are translated at the exchange rate on the date of the transaction. Foreign exchange differences on financial investments available- for-sale are recorded directly in Equity until the asset is sold or becomes impaired, with the exception of translation differences on the amortized cost of monetary financial investments avail- able-for-sale which are reported in Net trading income, along with all other foreign exchange differences on monetary assets and liabilities. Upon consolidation, assets and liabilities of foreign operations are translated into Swiss francs (CHF) – UBS’s presentation cur- rency – at the closing exchange rate on the balance sheet date, and income and expense items are translated at the average rate for the period. The resulting foreign exchange differences are rec- ognized directly in Foreign currency translation within Equity. 345 Financial informationNote 1 Summary of significant accounting policies (continued) Financial information Notes to the consolidated financial statements When a foreign operation is disposed of such that control, sig- nificant influence or joint control is lost, or the operation is liqui- dated, the cumulative amount in Foreign currency translation within Equity related to that foreign operation is reclassified to profit or loss as part of the gain or loss on disposal. When UBS disposes of a portion of its interest in a subsidiary that includes a foreign operation but retains control, the related portion of the cumulative currency translation balance is reclassified to Non-con- trolling interests. When UBS disposes of a portion of its invest- ment in an associate or joint venture that includes a foreign op- eration while retaining significant influence or joint control, the related portion of the cumulative currency translation balance is reclassified to profit or loss. 33) Earnings per share (EPS) Basic earnings per share are calculated by dividing the net profit or loss for the period attributable to ordinary shareholders by the weighted average number of ordinary shares outstanding during the period. Diluted earnings per share are calculated using the same meth- od as for basic EPS and adjusting the net profit or loss for the period attributable to ordinary shareholders and the weighted av- erage number of ordinary shares outstanding to reflect the poten- tial dilution that could occur if options, warrants, convertible debt securities or other contracts to issue ordinary shares were con- verted or exercised into ordinary shares. 34) Segment reporting UBS‘s businesses are organized globally into five business divi- sions: Wealth Management, Wealth Management Americas, the Investment Bank, Global Asset Management and Retail & Corpo- rate, supported by the Corporate Center. The five business divi- sions qualify as reportable segments for the purpose of segment reporting and, together with the Corporate Center and its com- ponents, reflect the management structure of the Group. Addi- tionally, Legacy Portfolio and Core Functions are disclosed sepa- rately under the Corporate Center. Legacy Portfolio meets the definition of an operating segment and is disclosed as a report- able segment. Financial information about the five business divi- sions and the Corporate Center (with its components) is present- ed separately in internal management reports to the Group Executive Board, which is considered the “chief operating deci- sion maker” within the context of IFRS 8 Operating Segments. Fee arrangements between the Corporate Center – Core Func- tions and the reportable segments are adjusted on a periodic basis and differences may arise between actual costs incurred and amounts recharged. These differences, together with own credit gains and losses on financial liabilities designated at fair value which are excluded from the measurement of performance of the business divisions, are considered reconciling differences to UBS Group results and are reported collectively under Corporate Center – Core Functions. To increase transparency, the costs from Corporate Center – Core Functions are allocated to the direct cost lines of personnel expenses, general and administrative expenses and depreciation in the respective reportable segment income statements, based on internally determined allocation bases. UBS’s internal accounting policies, which include management accounting policies and service level agreements, determine the revenues and expenses directly attributable to each reportable segment. Internal charges and transfer pricing adjustments are reflected in operating results of the reportable segments. Revenue-sharing agreements are used to allocate external cli- ent revenues to reportable segments where several reportable segments are involved in the value-creation chain. Commissions are credited to the reportable segments based on the correspond- ing client relationship. Net interest income is allocated to the reportable segments based on their balance sheet positions. Assets and liabilities of the reportable segments are funded through and invested with Group Treasury, and the net interest margin is reflected in the results of each reportable segment. Interest income earned from manag- ing UBS’s consolidated equity is allocated to the reportable seg- ments based on average attributed equity. In line with internal management reporting, segment assets are reported without intercompany balances on a third-party view basis. Refer to Note 2a for further details. For the purpose of seg- ment reporting under IFRS 8, the non-current assets consist of investments in associates and joint ventures, goodwill, other in- tangible assets and plant, property and equipment. 35) Netting UBS nets financial assets and liabilities on its balance sheet if it has a currently enforceable legal right to set off the recognized amounts and intends either to settle on a net basis, or to realize the asset and settle the liability simultaneously. Netted positions include, for example, OTC interest rate swaps transacted with the London Clearing House, netted by currency and across maturity dates, repurchase and reverse repurchase transactions entered into with the both the London Clearing House and the Fixed In- come Clearing Corporation, netted by counterparty, currency, central securities depository and maturity, as well as transactions with various other counterparties, exchanges and clearinghouses. 346 Note 1 Summary of significant accounting policies (continued) Effective in 2012 IAS 19 (revised) Employee Benefits In June 2011, the IASB issued revisions to IAS 19 Employee Bene- fits (“IAS 19R” or “the revised standard”). During 2012, UBS ad- opted IAS 19R retrospectively in accordance with the transitional provisions set out in the standard. The revised standard introduces changes to the recognition, measurement, presentation and dis- closure of post-employment benefits. IAS 19R eliminates the “corridor method”, under which the recognition of actuarial gains and losses was deferred. Instead, the full defined benefit obligation net of plan assets is now recorded on the balance sheet, with changes resulting from remeasurements recognized immediately in other comprehensive income. The measurement of the defined benefit obligation takes into account risk sharing features, such as those within our Swiss pension plan. In addition, IAS 19R requires net interest expense / income to be calculated as the product of the net defined benefit liability / asset and the dis- count rate as determined at the beginning of the year. The effect of this is to remove the previous concept of recognizing an ex- pected return on plan assets. The revised standard also enhances the disclosure requirements for defined benefit plans, requiring more information about the characteristics of such plans and the risks to which entities are exposed through participation in those plans, as set out in Note 30. The opening balance sheet as of 1 January 2010 and the com- parative figures have been presented as if IAS 19R had always been applied. The effect of adoption on prior periods is shown in the tables below. Had UBS not adopted IAS 19R, total equity would have been higher by CHF 3,948 million as of 31 December 2012, the amounts in other comprehensive income would not have been recognized, and for the year ended 31 December 2012 profit before tax would have been CHF 320 million lower and basic and diluted earnings per share would have been CHF 0.08 lower. Effect on total comprehensive income Effect on the income statement Effect on other comprehensive income CHF million Personnel expenses Tax expense / (benefit) Net profit / (loss) Gains / (losses) on defined benefit plans, before tax Income tax relating to gains / losses on defined benefit plans Foreign currency translation movements, before tax Income tax relating to foreign currency translation movements Other com pre- hensive income Total compre- hensive income Amount previously reported for the year 2010 Change in reported figures for the year Restated amount for the year 2010 Amount previously reported for the year 2011 Change in reported figures for the year 16,920 111 17,031 15,591 43 Restated amount for the year 2011 15,634 (381) (29) (409) 923 (22) 901 7,838 (82) 7,756 4,427 (21) 4,406 0 124 124 0 (2,141) (2,141) 0 (3) (3) 0 321 321 (951) 211 (740) 995 (10) 985 121 (33) 88 (6) 26 20 (1,354) 299 (1,055) 3,030 (1,804) 1,226 6,484 217 6,701 7,457 (1,825) 5,632 Effect on earnings per share CHF For the year ended 31 December 2010 For the year ended 31 December 2011 Basic earnings per share Diluted earnings per share As originally reported Effect on basic earnings per share Restated basic earnings per share As originally reported Effect on diluted earnings per share Restated diluted earnings per share 1.99 1.10 (0.02) 0.00 1.97 1.10 1.96 1.08 (0.02) 0.00 1.94 1.08 347 Financial informationNote 1 Summary of significant accounting policies (continued)b) Changes in accounting policies, comparability and other adjustments Financial information Notes to the consolidated financial statements Effect on the balance sheet CHF million Balance previously reported as of 31 December 2009 / 1 January 2010 Cumulative effect for prior periods Restated balance as of 31 December 2009 / 1 January 2010 Balance previously reported as of 31 December 2010 Cumulative effect for prior periods Change in reported figures for the year Restated balance as of 31 December 2010 Balance previously reported as of 31 December 2011 Cumulative effect for prior periods Change in reported figures for the year Restated balance as of 31 December 2011 Other assets Deferred tax assets Other liabilities 1 Total equity 23,682 (3,040) 20,642 22,681 (3,040) (134) 19,506 12,465 (3,174) (126) 9,165 8,868 741 9,609 9,522 741 (1) 10,262 8,526 740 361 9,627 69,943 1,010 70,954 62,015 1,010 (352) 62,674 60,066 658 2,060 62,784 48,633 (3,309) 45,324 51,863 (3,309) 217 48,770 57,852 (3,092) (1,825) 52,935 1 “Balances previously reported” differ from those originally published in annual reports as provisions are now separately presented on the balance sheet and no longer as part of other liabilities. Effect on personnel expense by business division and Corporate Center 1 CHF million Amount previously reported for the year 2010 Change in reported figures for the year Restated amount for the year 2010 Amount previously reported for the year 2011 Change in reported figures for the year Restated amount for the year 2011 Wealth Management Wealth Management Americas Investment Bank Global Asset Management Retail & Corporate Corporate Center UBS Group 3,153 75 3,228 3,258 43 3,300 4,225 (9) 4,216 3,840 (10) 3,830 6,623 (18) 6,605 5,740 (24) 5,716 1,096 1 1,097 955 (2) 954 1,625 62 1,687 1,666 35 1,702 197 0 197 132 0 132 16,920 111 17,031 15,591 43 15,634 1 “Amounts previously reported” differ from those originally published in annual reports (for example due to organizational changes) as provisions are now separately presented on the balance sheet and no longer as part of Other liabilities. Amendments to IFRS 7 Financial instruments: Disclosures In October 2010, the IASB issued revised IFRS 7 Financial Instru- ments: Disclosures to provide additional disclosures regarding transfers of financial assets, including those transfers in which an entity retains a continuing interest in the transferred asset(s) at the reporting date. The amendments are intended to allow users of financial statements to improve their understanding of transfer transactions of financial assets, including understanding the pos- sible effects of any risks that may remain with the entity that transferred the assets. The effective date for mandatory adoption is for annual periods beginning on or after July 2011, with early adoption permitted. UBS adopted the revisions to IFRS 7 as of 1 January 2012 in accordance with the transitional provisions set out in the stan- dard, and these disclosures are reflected in Note 28 of the finan- cial statements. In conjunction with the implementation of the revised standard, the Group has refined its definition of the term “transfer” for disclosure purposes to exclude pledges and similar arrangements where the counterparty does not receive rights to sell or re-pledge the financial asset. As a result, the comparative 2011 figures have been restated for transferred financial assets in Note 28b from CHF 118.5 billion to CHF 39.9 billion. In Notes 28a and 28d, we have modified our presentation of pledged assets in order to differentiate those which are executed in association with liabilities and contingent liabilities and those that are not. Additionally, financial assets held by the Group and reserved for purposes of securing liquidity facilities from central banks, but which are not associated with existing liabilities or contingent liabilities, have been excluded from pledged financial assets in Note 28a and 28d. As a result, the comparative figures presented in Note 28a have been restated downwards by CHF 31 billion and the comparative figures in Note 28d have been restated downwards by CHF 6 billion. Annual Improvements to IFRSs 2009–2011 In May 2012, the IASB issued six amendments to five IFRS as part of its annual improvements project. Of these amendments, the amendment to IAS 1 clarifies the requirements for the presenta- 348 Note 1 Summary of significant accounting policies (continued) tion of comparative information when an entity presents an ad- ditional comparative period. The Group has adopted the amend- ment to IAS 1 in 2012, ahead of its mandatory effective date of 1 January 2013 in accordance with the transitional provisions of the standard. Accordingly, due to the adoption of IAS 19R on a retrospective basis, UBS has presented an additional comparative period for the balance sheet as at the beginning of 2011, but there is no information in the notes to the balance sheet for this additional comparative period. The remaining amendments will be adopted as of 1 January 2013. These amendments are not expected to have a material effect on the financial statements. Amendments to IAS 12 Income Taxes In December 2010, the IASB issued amendments to IAS 12 In- come Taxes which incorporate the principles of previous guidance in the now withdrawn SIC Interpretation 21 Income Taxes – Re- covery of Revalued Non-Depreciable Assets. IAS 12 generally requires an entity to measure the deferred tax related to assets reflecting the tax consequences that would follow from the manner in which the entity expects to recover their carry- ing amount (e.g. sale or use). However, under the amendments, there is a rebuttable presumption that investment property will be recovered through sale. The amendments provide a practical ap- proach for measuring deferred tax liabilities and deferred tax assets when investment property is measured using the fair value model. The amendments are effective for annual periods beginning on or after 1 January 2012, with early adoption permitted. UBS ad- opted the amendments effective 1 January 2012 in accordance with the transitional provisions of the standard. The adoption did not have a material impact on the financial statements. Interests in non-consolidated funds In 2012, UBS changed its accounting policy for the recognition of foreign currency translation gains and losses arising from certain financial investments available-for-sale. All investments in funds that are considered debt instruments under the requirements of IAS 32 are now treated as monetary items and foreign currency translation gains and losses on such investments are recorded in the income statement, rather than in other comprehensive income as would be the case for non-monetary items. This revised account- ing policy is considered more relevant as it aligns the definition of debt instruments in IAS 32 with the definition of monetary items in IAS 21. The change in accounting policy was applied retrospec- tively and due to the prior application of fair value hedges of for- eign currency risk, had no effect on prior period amounts. Changes to reporting segments Wealth Management & Swiss Bank Wealth Management & Swiss Bank’s two reportable segments – Wealth Management and Retail & Corporate – became separate business divisions at the start of 2012. As these new business divisions were already considered separate reportable segments, no adjustments were required to segmental results. Investment Bank On 30 December 2011, a portfolio of legacy positions was trans- ferred from the Investment Bank to the Corporate Center. Com- mencing in the first quarter of 2012, this portfolio, together with the option to buy the equity of the SNB StabFund, has been con- sidered a separate reportable segment within the Corporate Cen- ter and designated as the Legacy Portfolio. Prior periods have been restated. In conjunction with the accelerated implementation of UBS’s strategy announced in October 2012, the Asset Liability Manage- ment unit was transferred from the Investment Bank to Group Treasury within the Corporate Center in the fourth quarter of 2012. Prior periods have been restated to reflect this transfer, and profit and loss amounts associated with the ongoing business ac- tivities of Asset Liability Management have been fully allocated back to the Investment Bank. Own credit Effective 2012, the measurement of the performance of the business divisions excludes own credit gains and losses on financial liabilities designated at fair value. This reflects the fact that these gains and losses are not managed at a business division level and are not neces- sarily indicative of any business division’s performance. In line with these internal reporting changes, own credit gains and losses are now reported as part of Corporate Center – Core Functions. Prior periods have been restated to conform to this presentation. Group Treasury managed assets In 2012, management changed the methodology used to allocate certain financial assets and their corresponding costs managed by Group Treasury. Prior periods were not restated for this change and the impact from the change in cost allocation methodology was not material to the reporting segment results. Centralization of operations units in the Corporate Center In 2012, operations units from the business divisions were central- ized in the Corporate Center as part of UBS’s ongoing efforts to improve our operational effectiveness and heighten our cost effi- ciency across the firm. Prior to this centralization, charges for op- erations support provided from one division to another were shown in the respective division’s income statement as services to / from other business divisions without any allocation of the re- lated headcount. With effect from 1 July 2012 on a prospective basis, charges from the centralized operations units have been allocated to the business divisions and shown in the respective expense lines of the reportable segments and the related head- count has been allocated to the business divisions. Prior to the transfer to the Corporate Center, Retail & Corporate operations 349 Financial informationNote 1 Summary of significant accounting policies (continued) Financial information Notes to the consolidated financial statements staff provided significant support to other business divisions in Switzerland. Accordingly, the transfer had the effect of increasing personnel and non-personnel expenses as well as decreasing charges for services from other business divisions at Wealth Man- agement, the Investment Bank and Global Asset Management, and of decreasing personnel and non-personnel expenses as well as income from services provided to other divisions at Retail & Corporate. As a result of the centralization, as of 1 July 2012, al- locations of personnel increased by approximately 800 in Wealth Management, 250 in the Investment Bank and 50 in Global Asset Management, with a corresponding decrease of 1,100 in Retail & Corporate. IFRS 9 Financial Instruments In November 2009, the IASB issued IFRS 9 Financial Instruments, which includes revised guidance on the classification and mea- surement of financial assets. In October 2010, the IASB updated IFRS 9 to include guidance on financial liabilities and derecogni- tion of financial instruments. The publication of IFRS 9 represent- ed the completion of the first part of a multi-stage project to re- place IAS 39 Financial Instruments: Recognition and Measurement. The standard requires all financial assets to be classified as fair value through profit or loss or at amortized cost on the basis of the entity’s business model for managing the financial assets and the contractual cash flow characteristics of the financial asset. If a financial asset meets the criteria to be measured at amortized cost, it can be designated at fair value through profit or loss under the fair value option if doing so would significantly reduce or eliminate an accounting mismatch. Equity instruments that are not held for trading may be accounted for at fair value through other comprehensive income (OCI). The accounting guidance for financial liabilities is unchanged with one exception: changes in fair value due to changes in an entity’s own credit risk associated with financial liabilities desig- nated at fair value through profit or loss are directly recognized in OCI instead of in profit and loss. There is no subsequent recycling of realized gains or losses from OCI to profit or loss. In December 2011, the IASB issued amendments to IFRS 9 Financial Instruments that defer the mandatory effective date from 1 January 2013 to 1 January 2015. The amendments also provide relief from the requirement to restate comparative infor- mation for the effect of applying IFRS 9. Early adoption of IFRS 9 is still permitted. In 2012, the IASB issued additional exposure drafts, amending IFRS 9 for hedge accounting and proposing extensive changes to the classification and measurement model described including the introduction of a new measurement category for financial assets that are managed both in order to collect contractual cash flows and for sale. This new measurement category will require the asset to be measured at fair value, with fair value changes being recog- nized in OCI. Additionally, the amendments propose that entities may early adopt the own credit risk guidance discussed above. UBS is currently assessing the impact of the new standard and the related proposed amendments on the financial statements. IFRS 10 Consolidated Financial Statements In May 2011, the IASB issued IFRS 10 Consolidated Financial Statements, which establishes a single control-based model for assessing whether one entity should consolidate another. IFRS 10 applies to all types of entities and will replace SIC-12 Consolida- tion – Special Purpose Entities, and portions of IAS 27 Consoli- dated and Separate Financial Statements. IFRS 10 is based on the existing principle that an entity should consolidate all other enti- ties that it controls. The definition of control in IFRS 10 focuses on the presence of power, exposure to variable returns and the abil- ity to utilize power to affect an entity’s own returns. The determi- nation of control is based on current facts and circumstances and is continuously assessed. IFRS 10 provides additional guidance to assist in the determination of control in circumstances in which this assessment is difficult to make. For example, IFRS 10 intro- duces guidance on assessing whether an entity with decision- making rights is a principal or an agent. In October 2012, the IASB issued an amendment to IFRS 10, providing an exception to consolidation for certain “investment entities”. Investment entities are those whose business purpose is to invest funds solely for returns from capital appreciation, invest- ment income or both. As UBS Group does not itself meet the definition of an investment entity, the amendments will have no impact on UBS’s consolidated financial statements. UBS will adopt IFRS 10 on its mandatory effective date of 1 January 2013 on a limited retrospective basis, as permitted by the standard. At this time UBS will also early adopt the October 2012 amendments. Upon adoption, UBS will adjust its opening equity as of 1 January 2012 and the reported figures for 2012 will be presented as if IFRS 10 had always been applied. The reported figures for 2011 will not be adjusted and will continue to be pre- sented in accordance with IAS 27 and SIC 12. Under IFRS 10, UBS expects a change in consolidation status associated with certain entities. The Group will now consolidate certain investment funds where UBS’s exposure to variability indi- cates that its power as fund manager is in a principal capacity. UBS will deconsolidate certain entities that were previously con- solidated due to exposure to a majority of risk and rewards, but where UBS does not have power over the relevant activities. We will also deconsolidate certain entities where UBS’s involvement does not expose it to variable returns from the entity. This includes 350 Note 1 Summary of significant accounting policies (continued)c) International Financial Reporting Standards and Interpretations to be adopted in 2013 and later entities associated with the issuance of trust preferred securities. As a result, we estimate that had UBS applied IFRS 10 to its 2012 financial report, total assets would have been higher by approxi- mately CHF 0.6 billion, and total liabilities would have been high- er by approximately CHF 1.8 billion. Total equity would have been lower by approximately CHF 1.2 billion. The effect on net profit is not expected to be material. IFRS 11 Joint Arrangements In May 2011, the IASB issued IFRS 11 Joint arrangements, which supersedes IAS 31 Interests in Joint Ventures, and SIC 13 Jointly Controlled Entities – Non-monetary Contributions by Venturers. The classification of a joint arrangement under IFRS 11 depends upon the rights and obligations of the arrangement, rather than its legal form. The standard addresses inconsistencies in the re- porting of joint arrangements by eliminating the proportionate consolidation approach and requiring the equity method to ac- count for interests in jointly controlled entities. UBS currently ap- plies the equity method to account for it interests in joint ventures under IAS 31. As a result, the new standard will not have an im- pact on the financial statements. UBS will adopt IFRS 11 on its mandatory effective date of 1 January 2013. IFRS 12 Disclosure of Interest in Other Entities In May 2011, the IASB issued IFRS 12 Disclosure of Interests in Other Entities, which provides new and comprehensive guidance on the annual disclosure requirements about entities with which a reporting entity is involved. This includes specific disclosures for investment entities. IFRS 12 replaces the disclosure requirements currently included in IAS 28 Investment in Associates. The stan- dard requires entities to disclose information that helps users to evaluate the nature, risks and financial effects associated with a reporting entity’s interests in subsidiaries, associates, joint ar- rangements and, in particular, unconsolidated structured entities. The effective date for mandatory adoption is 1 January 2013, with early adoption permitted. UBS will provide disclosures under IFRS 12 in its 2013 Annual Report. IFRS 13 Fair Value Measurement In May 2011, the IASB issued IFRS 13 Fair Value Measurement, which establishes a single source of guidance for all fair value measurements under IFRS. It defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the mea- surement date; i.e., an exit price. The standard emphasizes that fair value is a market-based measurement, not an entity-specific measurement. It clarifies that the unit of measurement is gener- ally a particular asset or liability unless an entity manages and re- ports its net risk exposures on a portfolio basis, in which case it may elect to apply portfolio-level price adjustments under limited circumstances. It also introduces new disclosure requirements and enhancements to existing disclosures. The effective date for mandatory adoption is 1 January 2013, with early adoption permitted. IFRS 13 is required to be applied prospectively from the effective date. UBS does not anticipate that adoption of the standard will have a material impact on its financial statements. IAS 1 Presentation of Financial Statements In June 2011, the IASB issued the revised IAS 1 Presentation of Financial Statements. The revised standard requires the grouping together for presentation purposes of items within other compre- hensive income (OCI) into those that may be reclassified to profit or loss in subsequent periods and those that may not be. The revised standard reaffirms existing requirements that items in OCI and profit or loss should be presented as either a single statement or two consecutive statements. Historically, all items in our OCI could be recycled to profit or loss, but this has changed with the adoption of IAS 19 (revised) Employee Benefits and will also be affected by IFRS 9 Financial Instruments, as both of these account- ing standards will generate OCI items that will not be recycled to profit or loss in subsequent periods. UBS will adopt the revised standard on its mandatory effective date of 1 January 2013, re- sulting in revised presentation in the statement of comprehensive income. IAS 32 Financial Instruments: Presentations and IFRS 7 Financial Instruments: Disclosures In December 2011, the IASB amended the presentation guidelines and disclosures related to offsetting financial assets and financial liabilities by issuing amendments to IAS 32 Financial Instruments: Presentation and IFRS 7 Financial Instruments: Disclosures. The amendments to IAS 32 change current practice by requir- ing that, to achieve offsetting on the balance sheet, an arrange- ment must be unconditional and legally enforceable, both in the normal course of business and in the event of default, bankruptcy or insolvency of the entity and all counterparties. The amend- ments also provide incremental guidance for determining when gross settlement systems achieve the functional equivalent of net settlement. The IASB simultaneously issued disclosure requirements in- tended to enable users to assess the effect (or potential effect) of offsetting arrangements on an entity’s financial position. The amendments to IFRS 7 Financial Instruments: Disclosures require that entities disclose both gross and net amounts associated with master netting agreements and similar arrangements, including the effects of financial collateral, whether or not presented net on the face of the balance sheet. UBS is currently assessing the impact of the revised standards on its financial statements. The amendments to IAS 32 are effec- tive for annual periods beginning on or after 1 January 2014, with earlier adoption permitted. The amendments to IFRS 7 are effec- tive from 1 January 2013. Both amendments are required to be adopted retrospectively. 351 Financial informationNote 1 Summary of significant accounting policies (continued) Financial information Notes to the consolidated financial statements UBS AG is the parent company of the UBS Group (Group). The operational structure of the Group comprises the Corporate Center and five business divisions: Wealth Management, Wealth Management Americas, the Investment Bank, Global Asset Management and Retail & Corporate. The five business divisions qualify as reportable segments for the purpose of segment re- porting and, together with the Corporate Center and its compo- nents, reflect the management structure of the Group. Addition- ally, Legacy Portfolio and Core Functions are disclosed separately under the Corporate Center. Legacy Portfolio meets the defini- tion of an operating segment and is disclosed as a reportable segment. Wealth Management Wealth Management provides comprehensive financial services to wealthy private clients around the world – except those served by Wealth Management Americas. Its clients benefit from the entire spectrum of UBS resources, ranging from investment management to estate planning and corporate finance advice, in addition to spe- cific wealth management products and services. An open product platform provides clients with access to a wide array of products from third-party providers that complement UBS’s product lines. Wealth Management Americas Wealth Management Americas provides advice-based solutions through financial advisors who deliver a fully integrated set of products and services specifically designed to address the needs of ultra high net worth and high net worth individuals and fami- lies. It includes the domestic US business, the domestic Canadian business and international business booked in the US. Investment Bank The Investment Bank provides a range of products and services in equities, fixed income, foreign exchange and commodities to cor- porate and institutional clients, sovereign and government bod- ies, financial intermediaries, alternative asset managers and UBS’s wealth management clients. The Investment Bank is an active par- ticipant in capital markets flow activities, including sales, trading and market-making across a range of securities. It provides finan- cial solutions to its clients, and offers advisory and analytics ser- vices in all major capital markets. Global Asset Management Global Asset Management is a large-scale asset manager with businesses diversified across regions, capabilities and distribution channels. It offers investment capabilities and styles across all ma- jor traditional and alternative asset classes including equities, fixed income, currencies, hedge funds, real estate, infrastructure and private equity that can also be combined into multi-asset strategies. The fund services unit provides professional services, including fund set-up, accounting and reporting for traditional investment funds and alternative funds. Retail & Corporate Retail & Corporate provides comprehensive financial products and services to UBS’s retail, corporate and institutional clients in Swit- zerland and maintains a leading position in these client segments. It constitutes a central building block of UBS’s universal bank model in Switzerland, delivering growth to UBS’s other business- es. It supports them by cross-selling products and services pro- vided by UBS’s asset-gathering and investment banking business- es, by referring clients to them and by transferring clients to Wealth Management due to increased client wealth. Corporate Center The Corporate Center provides control functions for the business divisions and the Group in such areas as risk control, legal and compliance as well as finance including treasury services, funding, balance sheet and capital management. The Corporate Center – Core Functions provides all logistics and support functions includ- ing information technology, human resources, corporate develop- initiatives, ment, Group regulatory relations and strategic communications and branding, corporate real estate and admin- istrative services, procurement, physical and information security, offshoring as well as Group-wide operations. It allocates most of its treasury income, operating expenses and personnel associated with these activities to the businesses based on capital and service consumption levels. The Corporate Center also encompasses cer- tain centrally managed positions, including the SNB StabFund op- tion and the Legacy Portfolio. 352 Note 2a Segment reporting Note 2a Segment reporting 1 (continued) Transactions between the reportable segments are carried out at internally agreed rates or at arm’s length and are reflected in the per- formance of each segment. Revenue-sharing agreements are used to allocate external client revenues to a segment and cost-allocation agreements are used to allocate shared costs between the segments. CHF million For the year ended 31 December 2012 Net interest income Non-interest income Income 2, 3, 4 Credit loss (expense) / recovery Total operating income Personnel expenses General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Impairment of goodwill 6 Amortization and impairment of intangible assets 6 Total operating expenses 7 Performance before tax Tax expense / (benefit) Net profit / (loss) Additional Information Total assets 8 Additions to non-current assets Wealth Management Wealth Management Americas Investment Bank Global Asset Management Retail & Corporate Corporate Center UBS Core Functions Legacy Portfolio 1,951 5,089 7,040 1 7,041 2,865 1,360 243 159 0 7 4,634 2,407 792 5,319 6,110 (14) 6,097 4,252 893 (15) 100 0 51 5,281 816 1,141 7,422 8,564 34 8,598 5,141 2,730 132 257 3,030 41 11,331 (2,734) (21) 1,905 1,884 0 1,884 885 395 (10) 37 0 8 1,314 570 2,186 1,569 3,756 (27) 3,728 1,287 857 (370) 128 0 0 1,901 1,827 (171) (2,003) (2,173) 0 (2,173) 240 1,648 5 2 6 0 0 1,895 (4,068) 116 265 381 (112) 268 68 771 19 2 0 0 861 (592) 5,994 19,567 25,561 (118) 25,443 14,737 8,653 0 689 3,030 106 27,216 (1,774) 461 (2,235) 104,666 63,511 672,329 13,322 145,320 4 1 62 12 45 222,500 1,032 37,584 1,259,232 0 1,158 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” for more information on the adoption of IAS 19R and changes to reporting segments. 2 Impairments of financial investments available-for-sale for the year ended 31 December 2012 were as follows: Investment Bank CHF 56 million; Global Asset Management CHF 4 million; Corporate Center – Core Functions CHF 2 million; Corporate Center – Legacy Portfolio CHF 24 million. 3 The total inter-segment revenues for the Group are immaterial as the majority of the revenues are allocated across the business divisions by means of revenue-sharing agree- ments. 4 Refer to “Note 27 Fair value of financial instruments” for further information on own credit in Corporate Center – Core Functions. 5 Includes charges of approximately CHF 1.4 billion arising from fines and disgorgement resulting from regulatory investigations concerning LIBOR and other benchmark rates. Refer to “Note 23 Provisions and contingent liabilities” for more information. 6 Refer to “Note 17 Goodwill and intangible assets” for further information regarding goodwill and other intangible assets by business division. 7 Refer to “Note 37 Changes in organization” for information on restructuring charges. 8 The segment assets are based on a third-party view, i.e. the amounts do not include inter-company balances. Certain assets managed centrally by the Corporate Center (including property and equipment and certain financial assets) are allocated to the segments on a basis different to which the corresponding costs are allocated. Specifically, certain assets are reported in the Corporate Center whereas the corresponding costs are entirely or partially allocated to the segments based on various internally determined allocations. 353 Financial information Financial information Notes to the consolidated financial statements Note 2a Segment reporting 1 (continued) Transactions between the reportable segments are carried out at internally agreed rates or at arm’s length and are reflected in the per- formance of each segment. Revenue-sharing agreements are used to allocate external client revenues to a segment and cost-allocation agreements are used to allocate shared costs between the segments. CHF million For the year ended 31 December 2011 Net interest income Non-interest income Income 2, 3, 4 Credit loss (expense) / recovery Total operating income Personnel expenses General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Amortization and impairment of intangible assets 5 Total operating expenses 6 Performance before tax Tax expense / (benefit) Net profit / (loss) Additional Information Total assets 7 Additions to non-current assets Wealth Management Wealth Management Americas Investment Bank Global Asset Management Retail & Corporate Corporate Center UBS Core Functions Legacy Portfolio 1,968 5,666 7,634 11 7,645 3,300 1,192 318 165 37 5,012 2,633 729 4,571 5,300 (6) 5,295 3,830 783 (9) 99 48 4,750 544 1,460 6,521 7,981 (13) 7,968 5,716 2,490 108 251 34 8,599 (631) (15) 1,817 1,803 0 1,803 954 375 (1) 38 8 1,373 430 2,328 1,858 4,186 (101) 4,085 1,702 834 (470) 136 0 2,201 1,884 (118) 1,702 1,584 (1) 1,583 64 137 (1) 70 0 271 1,313 474 (1,090) (616) 25 (591) 68 148 56 3 0 276 (866) 6,826 21,046 27,872 (84) 27,788 15,634 5,959 0 761 127 22,482 5,307 901 4,406 100,352 53,870 896,160 15,239 147,117 5 25 109 18 22 148,129 1,013 56,096 1,416,962 1 1,192 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” for more information on the adoption of IAS 19R and changes to reporting segments. 2 Impairments of financial investments available-for-sale for the year ended 31 December 2011 were as follows: Wealth Management CHF 28 million; Investment Bank CHF 4 million; Corporate Center – Legacy Portfolio CHF 8 million. 3 The total inter-segment revenues for the Group are immaterial as the majority of the revenues are allocated across the business divisions by means of revenue-sharing agreements. 4 Refer to “Note 27 Fair value of financial instruments” for further information on own credit in Corporate Center – Core Functions. 5 Refer to “Note 17 Goodwill and intangible assets” for further information regarding goodwill and other intangible assets by business division. 6 Refer to “Note 37 Changes in organization” for information on restructuring charges. 7 The segment assets are based on a third-party view, i.e. the amounts do not include inter-company balances. 354 Note 2a Segment reporting 1 (continued) Transactions between the reportable segments are carried out at internally agreed rates or at arm’s length and are reflected in the per- formance of each segment. Revenue-sharing agreements are used to allocate external client revenues to a segment and cost-allocation agreements are used to allocate shared costs between the segments. CHF million For the year ended 31 December 2010 Net interest income Non-interest income Income 2, 3, 4 Credit loss (expense) / recovery Total operating income Personnel expenses General and administrative expenses Services (to) / from other business divisions Depreciation and impairment of property and equipment Amortization and impairment of intangible assets 5 Total operating expenses 6 Performance from continuing operations before tax Performance from discontinued operations before tax Performance before tax Tax expense / (benefit) on continuing operations Tax expense / (benefit) on discontinued operations Net profit / (loss) Additional Information Total assets 7 Additions to non-current assets Wealth Management Wealth Management Americas Investment Bank Global Asset Management Retail & Corporate Corporate Center UBS Core Functions Legacy Portfolio 1,737 5,608 7,345 11 7,356 3,228 1,264 449 163 19 5,123 2,233 0 2,233 695 4,870 5,565 (1) 5,564 4,216 1,223 (6) 198 55 5,685 1,554 10,393 11,947 155 12,102 6,605 2,486 (27) 273 34 9,371 (121) 2,731 0 (121) 0 2,731 (17) 2,075 2,058 0 2,058 1,097 400 (5) 43 8 1,543 515 0 515 2,422 1,524 3,946 (76) 3,870 1,687 836 (509) 146 0 2,160 1,710 0 1,710 (858) 700 (158) 0 (158) 78 167 8 89 0 342 (500) 2 (498) 681 675 1,356 (155) 1,201 119 209 91 5 0 424 777 0 777 6,215 25,845 32,060 (66) 31,994 17,031 6,585 0 918 117 24,650 7,345 2 7,346 (409) 0 7,756 93,847 25 49,777 797,497 15,787 151,563 134,574 71,768 1,314,813 48 27 8 12 467 5 593 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” for more information on the adoption of IAS 19R and changes to reporting segments. 2 Impairments of financial investments available-for-sale for the year ended 31 December 2010 were as follows: Wealth Management CHF 44 million; Investment Bank CHF 1 million; Global Asset Management CHF 2 million; Corporate Center – Core Functions CHF (16) million; Corporate Center – Legacy Portfolio CHF 40 million. 3 The total inter-segment revenues for the Group are immaterial as the majority of the revenues are allocated across the business divisions by means of revenue-sharing agreements. 4 Refer to “Note 27 Fair value of financial instruments” for further information on own credit in Corporate Center – Core Functions. 5 Refer to “Note 17 Goodwill and intangible assets” for further information regarding goodwill and other intangible assets by business division. 6 Refer to “Note 37 Changes in organization” for information on restructuring charges. 7 The segment assets are based on a third-party view, i.e. the amounts do not include inter-company balances. 355 Financial information Financial information Notes to the consolidated financial statements Note 2b Segment reporting by geographic location The geographic analysis of operating income and non-current assets is based on the location of the entity in which the trans- actions and assets are recorded. The divisions of the Group are managed on an autonomous basis worldwide, with a focus on cross-divisional collaboration and the interest of our clients to yield the maximum possible profitability by product line for the Group. The geographic analysis of operating income and non- current assets is provided in order to comply with IFRS. Total operating income Total non-current assets CHF million Share % CHF million Share % 9,668 9,214 3,094 1,639 118 1,456 66 11,041 25,443 38 36 12 6 0 6 0 43 100 6,171 5,752 367 1,494 647 840 7 5,292 13,324 46 43 3 11 5 6 0 40 100 Total operating income Total non-current assets CHF million Share % CHF million Share % 9,491 9,324 3,689 3,115 1,385 1,638 92 11,494 27,788 34 34 13 11 5 6 0 41 100 9,038 8,617 407 1,687 653 1,026 8 5,045 16,177 56 53 3 10 4 6 0 31 100 Total operating income Total non-current assets CHF million Share % CHF million Share % 11,205 10,752 3,796 4,323 2,791 1,514 17 12,670 31,994 35 34 12 14 9 5 0 40 100 9,082 8,673 394 1,682 594 1,078 10 4,922 16,080 56 54 2 10 4 7 0 31 100 For the year ended 31 December 2012 Americas of which: USA Asia Pacific Europe, Middle East and Africa of which: United Kingdom of which: Rest of Europe of which: Middle East and Africa Switzerland Total For the year ended 31 December 2011 Americas of which: USA Asia Pacific Europe, Middle East and Africa of which: United Kingdom of which: Rest of Europe of which: Middle East and Africa Switzerland Total For the year ended 31 December 2010 Americas of which: USA Asia Pacific Europe, Middle East and Africa of which: United Kingdom of which: Rest of Europe of which: Middle East and Africa Switzerland Total 356 Income statement notes Note 3 Net interest and trading income CHF million Net interest and trading income Net interest income Net trading income Total net interest and trading income Wealth Management Wealth Management Americas Investment Bank of which: investment banking of which: equities of which: fixed income, currencies and commodities Global Asset Management Retail & Corporate Corporate Center of which: own credit on financial liabilities designated at fair value 1 Total net interest and trading income Net interest income Interest income Interest earned on loans and advances 2 Interest earned on securities borrowed and reverse repurchase agreements Interest and dividend income from trading portfolio Interest income on financial assets designated at fair value Interest and dividend income from financial investments available-for-sale Total Interest expense Interest on amounts due to banks and customers Interest on securities lent and repurchase agreements Interest expense from trading portfolio 3 Interest on financial liabilities designated at fair value Interest on debt issued Total Net interest income For the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 5,994 3,480 9,474 2,728 1,265 4,872 16 1,263 3,593 12 2,467 (1,870) (2,202) 9,474 9,323 1,413 4,482 369 381 15,968 1,413 1,206 2,391 1,762 3,202 9,974 5,994 6,826 4,343 11,169 2,846 1,179 4,010 44 149 3,817 8 2,661 465 1,537 11,169 9,925 1,716 5,466 248 615 17,969 2,040 1,352 2,851 1,993 2,907 11,143 6,826 6,215 7,471 13,686 2,384 1,266 6,847 11 2,521 4,315 22 2,670 497 (548) 13,686 10,603 1,436 6,015 262 557 18,872 1,984 1,282 3,794 2,392 3,206 12,657 6,215 (12) (20) (15) (4) 7 21 (64) 748 (6) 50 (7) (15) (6) (18) (18) 49 (38) (11) (31) (11) (16) (12) 10 (10) (12) 1 For more information on own credit refer to “Note 27 Fair value of financial instruments”. 2 Includes interest income on impaired loans and advances of CHF 16 million for 2012, CHF 20 million for 2011 and CHF 37 million for 2010. 3 Includes expense related to dividend payment obligations on trading liabilities. 357 Financial information Financial information Notes to the consolidated financial statements Note 3 Net interest and trading income (continued) CHF million Net trading income Investment Bank investment banking Investment Bank equities Investment Bank fixed income, currencies and commodities Other business divisions and Corporate Center Net trading income of which: net gains / (losses) from financial assets designated at fair value of which: net gains / (losses) from financial liabilities designated at fair value 1, 2 For the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 69 1,032 2,629 (250) 3,480 420 (6,492) 61 173 2,316 1,793 4,343 419 7,437 27 2,556 2,709 2,179 7,471 465 (1,001) 13 497 14 (20) 0 1 For more information on own credit refer to “Note 27 Fair value of financial instruments”. 2 Fair value changes of hedges related to financial liabilities designated at fair value are also reported in Net trading income. Net trading income in 2012 included a gain of CHF 526 million from the valuation of the option to acquire the SNB StabFund’s equity, reflected on the line Other business divisions and Corpo- rate Center, compared with a CHF 133 million loss in 2011. ➔ Refer to the “Risk management and control” section of this report for more information on the valuation of the option to acquire the SNB StabFund’s equity Net trading income in 2011 included a loss of CHF 1,849 million due to the unauthorized trading incident reflected in Investment Bank equities. Note 4 Net fee and commission income CHF million Equity underwriting fees Debt underwriting fees Total underwriting fees M&A and corporate finance fees Brokerage fees Investment fund fees Portfolio management and advisory fees Insurance-related and other fees Total securities trading and investment activity fees Credit-related fees and commissions Commission income from other services Total fee and commission income Brokerage fees paid Other Total fee and commission expense Net fee and commission income of which: net brokerage fees 358 For the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 807 732 1,539 679 3,836 3,626 5,892 451 16,023 414 833 17,270 871 994 1,865 15,405 2,965 626 554 1,180 992 4,169 3,577 5,551 368 15,837 438 827 17,102 933 933 1,866 15,236 3,236 1,157 755 1,912 857 4,930 3,898 5,959 361 17,918 448 850 19,216 1,093 964 2,057 17,160 3,837 29 32 30 (32) (8) 1 6 23 1 (5) 1 1 (7) 7 0 1 (8) Note 5 Other income CHF million Associates and subsidiaries Net gains / (losses) from disposals of subsidiaries 1 Net gains / (losses) from disposals of investments in associates Share of net profits of associates Total Financial investments available-for-sale Net gains / (losses) from disposals Impairment charges Total Net income from properties 2 Net gains / (losses) from investment properties 3 Other Total other income For the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 (7) 0 88 81 414 (85) 329 35 4 234 682 (18) 20 42 44 926 (39) 887 38 9 490 1,467 (7) 256 81 331 204 (72) 132 53 8 690 1,214 (61) (100) 110 84 (55) 118 (63) (8) (56) (52) (54) 1 Includes foreign exchange gains / losses reclassified from other comprehensive income related to disposed or dormant subsidiaries. 2 Includes net rent received from third parties and net operating expenses. 3 Includes unrealized and realized gains / losses from investment properties at fair value and foreclosed assets. Net gains from disposals of financial investments available-for-sale in 2012 includes gains of CHF 219 million in Wealth Management Americas’ available-for-sale portfolio as well as a gain of CHF 88 million on the sale of an equity investment in the Investment Bank. 2011 included a gain of CHF 722 million from the sale of the strategic investment portfolio, of which CHF 433 million was allocated to Wealth Management and CHF 289 million to Retail & Corporate, as well as gains of CHF 81 million in Wealth Manage- ment Americas’ available-for-sale portfolio. The line Other included net losses of CHF 11 million on sales of loans and receivables in 2012, compared with net gains of CHF 344 million in 2011 and CHF 324 million in 2010. Additionally, it included gains on sales of real estate of CHF 112 million in 2012, CHF 78 million in 2011 and CHF 158 million in 2010. Net gains from disposals of investments in associates in 2010 included a gain of CHF 180 million from the sale of investments in associates owning office space in New York. 359 Financial information Financial information Notes to the consolidated financial statements Note 6 Personnel expenses CHF million Salaries Variable compensation – performance awards 1, 2 of which: guarantees for new hires 2 Variable compensation – other 1, 2 of which: replacement payments 3 of which: forfeiture credits of which: severance payments 2, 4 of which: retention plan and other payments 2 Contractors Social security Pension and other post-employment benefit plans 5 Wealth Management Americas: Financial advisor compensation 1, 6 Other personnel expenses Total personnel expenses 7 For the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 6,814 3,000 134 367 109 (174) 303 128 214 768 18 2,873 682 14,737 6,859 3,516 173 191 121 (215) 239 46 217 743 831 2,518 758 15,634 7,033 4,171 135 141 107 (167) 80 121 232 826 834 2,667 1,127 17,031 (1) (15) (23) 92 (10) (19) 27 178 (1) 3 (98) 14 (10) (6) 1 Refer to “Note 31 Equity participation and other compensation plans” for more information. 2 In 2012, costs related to guarantees for new hires were reclassified from Variable compensation – other to Variable com- pensation – performance awards. In addition, costs related to both supplemental severance and certain retention payments were reclassified from Variable compensation – performance awards to Variable compensation – other. Prior periods were adjusted for these changes. The combined impact of these changes resulted in a net increase to Variable compensation – performance awards of CHF 125 million and CHF 89 million for the year ended 31 December 2011 and for the year ended 31 December 2010, respectively, with a corresponding net decrease to Variable compensation – other. 3 Replacement payments are payments made to compensate em- ployees for deferred awards forfeited as a result of joining UBS. 4 Includes legally obligated and standard severance payments, as well as supplemental severance payments. 5 Refer to “Note 30 Pension and other post- employment benefit plans” for more information. 6 Financial advisor compensation consists of grid-based compensation based directly on compensable revenues generated by financial advisors and supplemental com- pensation calculated based on financial advisor productivity, firm tenure, assets and other variables. It also includes costs related to compensation commitments and advances granted to financial advisors at the time of recruitment, which are subject to vesting requirements. 7 Includes net restructuring charges of CHF 358 million for the year ended 31 December 2012 and CHF 261 million for the year ended 31 December 2011, and includes net restructuring provisions releases of CHF 2 million for the year ended 31 December 2010. Refer to “Note 37 Changes in organization” for more information. In 2012, IAS 19R was adopted. Prior period information for the expense line Pension and other post-employment benefit plans was restated accordingly. Refer to “Note 1b Changes in account- ing policies, comparability and other adjustments” for more infor- mation. In the first quarter of 2012, UBS announced certain changes to its Swiss pension plan. The main changes, being the reduction in the conversion rate on retirement and an increase to the regular retirement age, serve in part to offset the impact of the increased life expectancy reflected in the defined benefit obligation. These changes to the pension plan resulted in a credit of CHF 730 mil- lion to the expense line Pension and other post-employment ben- efit plans. In the second quarter of 2012, UBS announced changes to its retiree medical and life insurance benefit plan in the US. These changes resulted in a credit of CHF 116 million to the expense line Pension and other post-employment benefit plans. Note 7 General and administrative expenses CHF million Occupancy Rent and maintenance of IT and other equipment Communication and market data services Administration Marketing and public relations Travel and entertainment Professional fees Outsourcing of IT and other services Provisions for litigation, regulatory and similar matters 1, 2 Other 3 Total general and administrative expenses For the year ended 31.12.12 1,074 31.12.11 1,059 31.12.10 1,252 473 632 636 528 450 908 1,357 2,549 47 8,653 429 616 621 393 470 822 1,151 276 122 5,959 555 664 669 339 466 754 1,078 631 175 6,585 % change from 31.12.11 1 10 3 2 34 (4) 10 18 824 (61) 45 1 Reflects the net increase / release of provisions for litigation, regulatory and similar matters recognized in the income statement. In addition, it includes recoveries from third parties of CHF 12 million, CHF 33 million and CHF 2 million for the years ended 31 December 2012, 31 December 2011 and 31 December 2010, respectively. 2012 includes charges for provisions arising from fines and disgorgement resulting from regulatory investigations concerning LIBOR and other benchmark rates. A portion (CHF 45 million) of the net increase / release recognized in the income statement for provisions for certain litigation, regulatory and similar matters for 2012 as presented in “Note 23a Provisions” was recorded as negative other income rather than as general and administrative expenses. 2 Refer to “Note 23 Provisions and contingent liabilities” for more informa- tion. 3 Includes net real estate related restructuring charges of CHF 0 million, CHF 93 million and CHF 79 million for the years ended 31 December 2012, 31 December 2011 and 31 December 2010, respectively. Refer to “Note 37 Changes in organization” for more information. 360 Note 8 Earnings per share (EPS) and shares outstanding Basic earnings (CHF million) Net profit attributable to UBS shareholders Diluted earnings (CHF million) Net profit attributable to UBS shareholders Less: (profit) / loss on UBS equity derivative contracts Net profit attributable to UBS shareholders for diluted EPS Weighted average shares outstanding Weighted average shares outstanding for basic EPS Effect of dilutive potential shares resulting from notional shares, in-the-money options and warrants outstanding Weighted average shares outstanding for diluted EPS Earnings per share (CHF) Basic Diluted Shares outstanding Shares issued Treasury shares Shares outstanding Exchangeable shares Shares outstanding for EPS As of or for the year ended % change from 31.12.12 31.12.11 31.12.10 31.12.11 (2,511) 4,138 7,452 (2,511) (1) (2,512) 4,138 (3) 4,135 7,452 (2) 7,450 3,754,112,403 3,774,036,437 3,789,732,938 126,261 61,259,378 48,599,111 3,754,238,664 3,835,295,815 3,838,332,049 (0.67) (0.67) 1.10 1.08 1.97 1.94 3,835,250,233 3,832,121,899 3,830,840,513 87,879,601 84,955,551 38,892,031 3,747,370,632 3,747,166,348 3,791,948,482 418,526 509,243 580,261 3,747,789,158 3,747,675,591 3,792,528,743 (67) (1) (100) (2) 0 3 0 (18) 0 The table below outlines the potential shares which could potentially dilute basic earnings per share in the future, but were not dilutive for the periods presented: Potentially dilutive instruments Number of shares Employee share-based compensation awards Other equity derivative contracts SNB warrants 1 Total 31.12.12 31.12.11 31.12.10 233,256,208 219,744,203 189,567,472 15,386,605 100,000,000 348,642,813 24,407,443 100,000,000 344,151,646 51,752,713 100,000,000 341,320,185 1 These warrants relate to the SNB transaction. The SNB provided a loan to a fund owned and controlled by the SNB (the SNB StabFund), to which UBS transferred certain illiquid securities and other positions. As part of this arrangement, UBS granted warrants on shares to the SNB, which become exercisable if the SNB incurs a loss on its loan to the SNB StabFund. 361 Financial information Financial information Notes to the consolidated financial statements Note 9 Due from banks and loans (held at amortized cost) CHF million By type of exposure Due from banks, gross of which: due from central banks Allowance for credit losses Due from banks, net Loans, gross Residential mortgages Commercial mortgages Lombard loans Other loans 1, 2 Securities 3 31.12.12 31.12.11 21,252 638 (22) 21,230 23,235 317 (17) 23,218 132,033 22,421 77,579 40,407 8,166 280,606 (706) 279,901 301,130 125,775 21,247 68,083 40,804 11,520 267,429 (825) 266,604 289,822 Subtotal Allowance for credit losses Loans, net Total due from banks and loans, net 4 1 1 Includes corporate loans. 2 Includes leveraged finance loans reclassified from held-for trading. Refer to “Note 1a) 10)” and “Note 29b Reclassification of financial assets” for more information. 3 Includes securities reclassified from held-for-trading. Refer to “Note 1a) 10)” and “Note 29b Reclassification of financial assets” for more information. 4 Refer to “Note 29c Maximum exposure to credit risk” for information on collateral and other credit enhancements. Note 10 Cash collateral on securities borrowed and lent, reverse repurchase and repurchase agreements, and derivative instruments The Group enters into collateralized reverse repurchase and repur- chase agreements, securities borrowing and securities lending transactions and derivative transactions that may result in credit exposure in the event that the counterparty to the transaction is unable to fulfill its contractual obligations. The Group manages credit risk associated with these activities by monitoring counter- party credit exposure and collateral values on a daily basis and requiring additional collateral to be deposited with or returned to the Group when deemed necessary. Balance sheet assets CHF million By counterparty Banks Customers Total Balance sheet liabilities CHF million By counterparty Banks Customers Total 362 Cash collateral on securities borrowed 31.12.12 Reverse repurchase agreements 31.12.12 Cash collateral receivables on derivative instruments 31.12.12 Cash collateral on securities borrowed 31.12.11 Reverse repurchase agreements 31.12.11 15,977 21,396 37,372 56,775 74,165 130,941 12,393 18,021 30,413 17,236 41,527 58,763 133,010 80,491 213,501 Cash collateral on securities lent 31.12.12 Repurchase agreements 31.12.12 Cash collateral payables on derivative instruments 31.12.12 Cash collateral on securities lent 31.12.11 Repurchase agreements 31.12.11 8,572 630 9,203 13,727 23,912 37,639 46,101 25,047 71,148 7,601 536 8,136 16,986 85,443 102,429 Cash collateral receivables on derivative instruments 31.12.11 22,341 18,980 41,322 Cash collateral payables on derivative instruments 31.12.11 38,890 28,224 67,114 Balance sheet notes: assets Note 11 Allowances and provisions for credit losses CHF million By movement Balance at the beginning of the year Write-offs / usage of provisions Recoveries Increase / (decrease) recognized in the income statement Reclassifications Foreign currency translation Other Balance at the end of the year Specific allowances Collective allowances Total allowances 714 (312) 63 149 13 (8) (3) 616 131 (2) 0 (15) 0 0 0 114 845 (313) 63 134 13 (8) (3) 730 Provisions 1 93 0 0 (16) (13) 0 0 64 Total 31.12.12 Total 31.12.11 938 (313) 63 118 0 (8) (3) 794 1,287 (501) 51 84 0 (1) 18 938 1 Represents provisions for loan commitments and guarantees, which are included in Other liabilities. Refer to “Note 23 Provisions and contingent liabilities” for more information. Refer to the “Financial and operating performance” section of this report for the maximum irrevocable amount of loan commitments and guarantees. By balance sheet line Due from banks Loans Cash collateral on securities borrowed Provisions 1 Balance at the end of the year 1 Represents provisions for loan commitments and guarantees. Specific allowances Collective allowances Total allowances Provisions Total 31.12.12 Total 31.12.11 22 591 2 616 0 114 0 114 22 706 2 730 22 706 2 64 794 17 825 3 93 938 64 64 363 Financial information Financial information Notes to the consolidated financial statements Note 12 Trading portfolio CHF million Trading portfolio assets by issuer type Debt instruments Government and government agencies of which: Switzerland of which: USA of which: United Kingdom of which: Australia of which: Japan of which: Germany Banks Corporates and other Total debt instruments Equity instruments Financial assets for unit-linked investment contracts Financial assets held for trading Precious metals and other physical commodities Total trading portfolio assets Trading portfolio liabilities by issuer type Debt instruments Government and government agencies of which: Switzerland of which: USA of which: United Kingdom of which: Australia of which: Japan of which: Germany Banks Corporates and other Total debt instruments Equity instruments Total trading portfolio liabilities 31.12.12 31.12.11 37,594 492 16,377 3,123 2,249 2,174 1,930 8,547 34,911 81,052 47,438 15,277 143,767 17,093 160,861 16,115 280 7,387 979 568 2,059 1,610 1,475 2,943 20,533 13,621 34,154 62,118 418 22,958 3,709 3,540 14,258 3,547 10,611 38,420 111,149 1 35,296 1 16,376 162,821 18,704 181,525 18,913 261 5,634 1,946 756 3,894 2,492 1,913 4,716 25,542 13,937 39,480 1 In 2012, we corrected the classification of certain investment fund units which were previously classified as equity instruments rather than debt instruments. As a result, equity instruments were reduced by CHF 2,104 million as of 31 December 2011, and debt instruments were increased by CHF 2,104 million as of 31 December 2011. 364 Note 12 Trading portfolio (continued) Trading portfolio assets by product type Debt instruments Government bills / bonds Corporate bonds, municipal bonds, including bonds issued by financial institutions Loans Investment fund units Asset-backed securities of which: mortgage-backed securities Total debt instruments Equity instruments Financial assets for unit-linked investment contracts Financial assets held for trading Precious metals and other physical commodities Total trading portfolio assets Trading portfolio liabilities by product type Debt instruments Government bills / bonds Corporate bonds, municipal bonds, including bonds issued by financial institutions Investment fund units Asset-backed securities of which: mortgage-backed securities Total debt instruments Equity instruments Total trading portfolio liabilities Level 1 Level 2 Level 3 Total 31.12.12 1 31.12.11 22,180 954 0 2,970 3,637 3,637 29,740 46,994 14,557 91,290 14,093 789 140 14 14 15,036 13,518 28,554 6,445 21,436 4,125 10,585 3,427 2,320 46,017 296 442 46,755 648 4,459 243 4 4 5,356 93 5,449 113 1,610 2,004 75 1,493 803 5,295 148 278 5,721 0 137 0 4 3 141 11 151 28,737 24,000 6,129 13,629 8,556 6,760 81,052 47,438 15,277 143,767 17,093 160,861 14,741 5,386 383 22 22 20,533 13,621 34,154 45,297 32,765 4,088 11,963 2 17,035 13,868 111,149 2 35,296 2 16,376 162,821 18,704 181,525 17,026 7,122 1,083 312 287 25,542 13,937 39,480 1 Refer to “Note 27 Fair value of financial instruments” for more information on the fair value hierarchy categorization. 2 In 2012, we corrected the classification of certain investment fund units which were previously classified as equity instruments rather than debt instruments. As a result, equity instruments were reduced by CHF 2,104 million as of 31 December 2011, and investment fund units within debt instruments were increased by CHF 2,104 million as of 31 December 2011. 365 Financial information Financial information Notes to the consolidated financial statements Note 13 Financial assets designated at fair value CHF million Loans Structured loans Reverse repurchase and securities borrowing agreements of which: banks of which: customers Investment funds Other debt instruments Total financial assets designated at fair value 31.12.12 31.12.11 1,611 1,187 5,466 2,500 2,966 608 234 9,106 2,358 960 6,071 3,514 2,557 730 218 10,336 The maximum exposure to credit risk from financial assets desig- nated at fair value is equal to the fair value for Loans, Structured loans and reverse repurchase and securities borrowing agree- ments. The maximum exposure is mitigated by collateral, which mainly relates to structured loans and reverse repurchase and se- curities borrowing agreements of CHF 6,694 million and CHF 6,919 million for 31 December 2012 and 31 December 2011, re- spectively. These collateral values are capped at the maximum ex- posure to credit risk for which they serve as security. Other debt instruments mainly reflect loan commitments and letters of credit designated at fair value which have a maximum exposure to credit risk of CHF 4,237 million and CHF 4,423 mil- lion as of 31 December 2012 and as of 31 December 2011, respectively. The maximum exposure to credit risk of these instru- ments is generally hedged through derivative transactions. Investment fund units do not have a direct exposure to credit risk. The maximum exposure to credit risk of loans, but not struc- tured loans, is generally mitigated by credit derivatives or similar instruments. Information regarding these instruments and the ex- posure which they mitigate is provided in the table below on a notional basis. Notional amounts of loans designated at fair value and related credit derivatives CHF million Loans – notional amount Credit derivatives related to loans – notional amount 1 Credit derivatives related to loans – fair value 1 1 Credit derivatives contracts include credit default swaps, total return swaps and similar instruments. 31.12.12 31.12.11 2,102 1,025 2 2,595 1,404 37 The table below provides the impact to the fair values of loans from changes in credit risk for the periods presented and cumulatively since inception. Similarly, the change in fair value of credit derivatives and similar instruments which are used to hedge these loans is also provided. Changes in fair value of loans and related credit derivatives attributable to changes in credit risk CHF million Changes in fair value of loans designated at fair value, attributable to changes in credit risk 1 Changes in fair value of credit derivatives and similar instruments which mitigate the maximum exposure to credit risk of loans designated at fair value 1 For the year ended Cumulative from inception until the year ended 31.12.12 31.12.11 31.12.12 31.12.11 22 (18) (15) 35 (10) 2 (49) 37 1 Current and cumulative changes in the fair value of loans designated at fair value, attributable to changes in their credit risk are only calculated for those loans outstanding at balance sheet date. Current and cumula- tive changes in the fair value of credit derivatives hedging such loans include all the derivatives which have been used to mitigate credit risk of these loans since designation at fair value. For loans reported under the fair value option, changes in fair value due to changes in the credit standing of the borrower are calculated using counterparty credit information obtained from independent market sources. 366 Note 14 Financial investments available-for-sale CHF million Financial investments available-for-sale by issuer type Debt instruments Government and government agencies of which: Switzerland of which: USA of which: Germany of which: United Kingdom of which: Japan of which: France Banks Corporates and other Total debt instruments Equity instruments Total financial investments available-for-sale Unrealized gains – before tax Unrealized (losses) – before tax Net unrealized gains / (losses) – before tax Net unrealized gains / (losses) – after tax 31.12.12 31.12.11 58,973 156 31,740 6,669 5,042 4,221 3,593 4,200 2,486 65,659 725 66,383 447 (26) 421 270 47,144 357 25,677 1,991 3,477 8,854 2,170 4,271 1,060 52,475 699 53,174 477 (55) 422 250 CHF million Level 1 Level 2 Level 3 Total 31.12.12 1 31.12.11 Financial investments available-for-sale by product type Debt instruments Government bills / bonds Corporate bonds, municipal bonds, including bonds issued by financial institutions Investment fund units Asset-backed securities of which: mortgage-backed securities Total debt instruments Equity instruments Shares Private equity investments Total equity instruments 46,351 2,055 35 0 0 646 8,830 114 7,313 7,313 48,442 16,903 102 0 102 35 0 35 Total financial investments available-for-sale 48,543 16,939 1 Refer to “Note 27 Fair value of financial instruments” for more information on the fair value hierarchy categorization. 33 55 225 0 0 314 410 177 588 901 47,031 10,940 375 7,313 7,313 65,659 547 177 725 34,899 8,590 445 8,541 8,541 52,475 481 218 699 66,383 53,174 367 Financial information Financial information Notes to the consolidated financial statements Note 15 Investments in associates CHF million Carrying amount at the beginning of the year Additions Disposals Share of net profits of associates Share of other comprehensive income of associates Dividends paid Foreign currency translation Carrying amount at the end of the year 31.12.12 795 4 (3) 88 25 (37) (12) 858 31.12.11 790 1 (4) 42 (27) (28) 21 795 Significant associated companies of the Group had the following balance sheet and income statement totals on an aggregated basis, not adjusted for the Group’s proportionate interest. Refer to “Note 34 Significant subsidiaries and associates”. CHF million Assets Liabilities Revenues Net profit Note 16 Property and equipment At historic cost less accumulated depreciation As of or for the year ended 31.12.12 6,265 4,141 1,361 223 31.12.11 5,806 3,789 1,356 181 Own-used properties Leasehold improvements IT hardware, software and communication Other machines and equipment Projects in progress 31.12.11 31.12.12 8,679 75 0 (215) (229) (1) 8,307 2,674 56 0 (203) 192 (42) 2,677 4,049 194 0 (413) 27 (24) 3,833 CHF million Historic cost Balance at the beginning of the year Additions Additions from acquired companies Disposals / write-offs 1 Reclassifications Foreign currency translation Balance at the end of the year Accumulated depreciation Balance at the beginning of the year Depreciation and impairment 2 Disposals / write-offs 1 Reclassifications Foreign currency translation Balance at the end of the year Net book value at the end of the year 3, 4 1 Includes write-offs of fully depreciated assets. 2 In 2012, amounts presented include a CHF 1 million net reversal of impairments of own used property (31 December 2011: CHF 22 million), CHF 27 million net impairments of leasehold improvements (31 December 2011: CHF 29 million), CHF 4 million impairments of IT, software and communication and CHF 5 million net impairments of other machines and equipment (31 December 2011: CHF 3 million). 3 Fire insurance value of property and equipment is CHF 12,865 million (2011: CHF 13,075 million), predominantly related to real estate. 4 As of 31 December 2012, contrac- tual commitments to purchase property in the future amounted to approximately CHF 0.5 billion. 5 Mainly reflects reclassifications to Investment properties at fair value (CHF 75 million on a net basis) presented in the table below and to Properties held for sale (CHF 89 million on a net basis) reported within Other assets. 11,005 689 (850) (255) 5 (65) 10,524 5,905 16,683 1,111 0 (859) (420) 5 (88) 16,428 10,991 761 (752) (12) 16 11,005 5,678 16,364 1,129 2 (791) (40) 19 16,683 4,934 202 (215) (260) 0 4,660 3,647 1,930 208 (195) 5 (35) 1,912 765 3,596 216 (412) 0 (22) 3,378 456 545 735 0 0 (452) (10) 819 546 63 (27) 0 (8) 574 218 736 51 0 (28) 42 (10) 792 0 0 0 0 0 0 819 Investment properties at fair value CHF million Balance at the beginning of the year Additions Sales Revaluations Reclassifications Foreign currency translation Balance at the end of the year 368 31.12.12 10 6 0 9 75 0 99 31.12.11 94 0 (87) 4 (1) (1) 10 Introduction Methodology for goodwill impairment testing UBS performs an impairment test on its goodwill assets on an an- nual basis, or when indicators of impairment exist. UBS considers the segments as reported in “Note 2 Segment reporting” as sepa- rate cash-generating units. The impairment test is performed for each segment to which goodwill is allocated by comparing the recoverable amount with the carrying amount of the respective segment. An impairment charge is recognized if the carrying amount exceeds the recoverable amount. As of 31 December 2012, the following three segments carried goodwill: Wealth Management (CHF 1.3 billion), Wealth Manage- ment Americas (CHF 3.2 billion), and Global Asset Management (CHF 1.4 billion). Based on the impairment testing methodology described below, UBS concluded that the goodwill balances as of 31 December 2012 allocated to these segments remain recover- able. Impairment of Investment Bank goodwill and other non-financial assets An impairment test was performed as of 30 September 2012 with respect to the Investment Bank because indicators of impairment were present for that cash-generating unit. These indicators in- cluded negative variances from planned performance, preliminary discussions regarding changes in strategy for the Investment Bank and revised business plan information taking into account chang- es in market conditions and the global economic outlook. The impairment test was based on the business plan approved by the Board of Directors on 29 October 2012. As a result of this impair- ment test, losses were recognized in the income statement relat- ing to a full impairment of CHF 3,030 million for goodwill in the third quarter of 2012. Additional assets were examined to deter- mine whether their carrying values exceeded their recoverable amounts. Impairment losses of CHF 15 million were recognized in the income statement for other intangible assets and CHF 19 mil- lion for property and equipment, both in the third quarter of 2012. These impairment losses were recognized in the Investment Bank’s 2012 operating results as Impairment of goodwill, Amorti- zation and impairment of intangible assets, and Depreciation and impairment of property and equipment. The recoverable amount is determined using a discounted cash flow model, which uses inputs that consider features of the bank- ing business and its regulatory environment. The recoverable amount of a segment is the sum of the discounted earnings at- tributable to shareholders from the first five forecasted years and the terminal value. The terminal value reflecting all periods be- yond the fifth year is calculated on the basis of the forecast of fifth-year profit, the discount rate and the long-term growth rate. The carrying amount for each segment is determined by refer- ence to the Group’s equity attribution framework. Within this framework, which is described in the “Capital Management” sec- tion of this report, the Board of Directors (BoD) attributes equity to the businesses after considering their risk exposure, pro-forma Basel III RWA usage, asset size (pro-forma Basel III Leverage Ratio denominator), goodwill and intangible assets. The framework is primarily used for purposes of measuring the performance of the businesses and includes certain management assumptions. At- tributed equity equates to the capital that a segment requires to conduct its business and is considered an appropriate starting point from which to determine the carrying value of the seg- ments. The attributed equity methodology is aligned with the business planning process, the inputs from which are used in calculating the recoverable amounts of the respective cash-gener- ating units. ➔ Refer to the “Capital Management” section of this report for more information on the equity attribution framework Assumptions Valuation parameters used within the Group’s impairment test model are linked to external market information where applica- ble. The model used to determine the recoverable amount is most sensitive to changes in the forecast earnings available to share- holders in years one to five, to changes in the discount rates, and to changes in the long-term growth rate. The applied long-term growth rate is based on long-term economic growth rates for dif- ferent regions worldwide. Earnings available to shareholders are estimated based on forecast results, which are part of the busi- ness plan approved by the BoD. The discount rates are determined 369 Financial informationNote 17 Goodwill and intangible assets Financial information Notes to the consolidated financial statements by applying a capital-asset-pricing-model-based approach, as well as considering quantitative and qualitative inputs from both inter- nal and external analysts and the view of UBS’s management. Key assumptions used to determine the recoverable amounts of each segment are tested for sensitivity by applying a reasonably possible change to those assumptions. Forecast earnings available to shareholders were changed by 10%, the discount rates were changed by 1% and the long-term growth rates were changed by 0.5%. Under all scenarios, the recoverable amounts for each seg- ment exceeded the respective carrying amount, such that the rea- sonably possible changes in key assumptions would not result in impairment. If the estimated earnings and other assumptions in future peri- ods deviate from the current outlook, the value of our goodwill may become impaired in the future, giving rise to losses in the income statement. Recognition of any impairment of goodwill would reduce IFRS equity attributable to UBS shareholders and net profit. It would not impact cash flows and, as goodwill is re- quired to be deducted from capital under the Basel capital frame- work, no impact is expected on the Group capital ratios. Discount and growth rates In % Wealth Management Wealth Management Americas Investment Bank Global Asset Management Discount rates Growth rates 31.12.12 31.12.11 31.12.12 31.12.11 10.0 10.0 13.0 1 10.0 10.7 10.0 12.0 10.0 1.7 2.4 2.4 2.4 1.7 2.4 2.4 2.4 1 A discount rate of approximately 13% was used for the impairment test that was performed as of 30 September 2012 with respect to the Investment Bank. As the Investment Bank had no goodwill as of 31 Decem- ber 2012, no impairment test was required at year end. CHF million Historic cost Balance at the beginning of the year Additions Disposals Write-offs Foreign currency translation Balance at the end of the year Accumulated amortization and impairment Balance at the beginning of the year Amortization Impairment Disposals Write-offs Foreign currency translation Balance at the end of the year Net book value at the end of the year Goodwill Total Infrastructure Intangible assets Customer relationships, contractual rights and other 9,074 3 (3,030) (98) 5,949 3,030 (3,030) 0 5,949 713 (17) 696 399 36 (10) 424 272 854 8 (1) (79) (9) 773 547 54 17 (79) (7) 532 241 Total 31.12.12 31.12.11 1,567 10,641 10,634 8 (1) (79) (26) 1,469 946 89 17 0 (79) (17) 956 513 11 (1) (3,110) (124) 7,417 946 89 3,047 0 (3,110) (17) 956 6,461 40 (2) 0 (32) 10,641 812 90 37 0 0 8 946 9,695 370 Note 17 Goodwill and intangible assets (continued) The following table presents the disclosure of goodwill and intangible assets by business unit for the year ended 31 December 2012. CHF million Goodwill Wealth Management Wealth Management Americas Investment Bank Global Asset Management Corporate Center Balance at the beginning of the year 1,319 3,293 3,019 Additions Disposals Impairment Foreign currency translation Balance at the end of the year Intangible assets Balance at the beginning of the year Additions Disposals Amortization Impairment Foreign currency translation Balance at the end of the year (15) 1,304 62 (4) (2) 55 (80) 3,213 382 (51) (8) 323 (3,030) 11 0 136 (1) (25) (15) (1) 94 1,442 3 (13) 1,432 41 (8) 1 34 8 (2) 6 The estimated, aggregated amortization expenses for intangible assets are as follows: CHF million Estimated, aggregated amortization expenses for: 2013 2014 2015 2016 2017 2018 and thereafter Not amortized due to indefinite useful life Total Note 18 Other assets CHF million Prime brokerage receivables Settlement and clearing accounts Properties and other non-current assets held for sale VAT and other tax receivables Other Total other assets UBS 9,074 3 0 (3,030) (98) 5,949 621 8 (1) (89) (17) (9) 513 Intangible assets 75 75 74 65 57 146 20 513 31.12.12 8,072 589 137 214 2,043 11,055 31.12.11 6,103 482 183 176 2,222 9,165 371 Financial informationNote 17 Goodwill and intangible assets (continued) Financial information Notes to the consolidated financial statements Note 19 Due to banks and customers CHF million Due to banks Due to customers in savings and investment accounts Other amounts due to customers Total due to customers Total due to banks and customers Note 20 Financial liabilities designated at fair value 1 CHF million Non-structured fixed rate bonds Structured debt instruments issued: Equity linked Credit linked Rates linked 2 Other Structured over-the-counter debt instruments: Equity linked Other Repurchase agreements Loan commitments 3 Total of which: own credit on financial liabilities designated at fair value 31.12.12 23,024 134,255 237,637 371,892 394,916 31.12.11 30,201 114,079 228,330 342,409 372,610 31.12.12 4,967 31.12.11 4,114 39,924 11,186 18,606 4,672 3,536 8,154 1,672 161 92,878 292 37,809 9,345 19,853 4,767 5,556 6,615 477 445 88,982 (1,934) 1 In 2012, presentational changes were made to the disclosure of Financial liabilities designated at fair value. Non-structured fixed-rate bonds are now reported separately. Previously, these instruments were reported as Structured debt instruments issued, Other. In addition, the classification within Structured debt instruments issued and Structured over-the-counter debt instruments was corrected for 31 December 2011. 2 Also includes non-structured rates-linked debt instruments issued. 3 Loan commitments recognized as “Financial liabilities designated at fair value” until drawn and recognized as loans. See Note 1a) 8) for additional information. As of 31 December 2012, the contractual redemption amount at maturity of Financial liabilities designated at fair value through profit or loss was CHF 0.2 billion higher than the carrying value. As of 31 December 2011, the contractual redemption amount at maturity of such liabilities was CHF 6.1 billion higher than the carrying value. As of 31 December 2012 and 31 December 2011, the Group had CHF 92,878 million and CHF 88,982 million, respectively, of financial liabilities designated at fair value, comprised of both CHF and non-CHF denominated fixed-rate and floating-rate debt. The table on the following page shows the contractual matu- rity of the carrying value of financial liabilities designated at fair value, split between fixed-rate and floating-rate based on the contractual terms and ignoring any early redemption features. Interest rate ranges for future interest payments related to these financial liabilities designated at fair value have not been includ- ed in the table below as a majority of these liabilities are struc- tured products, and therefore the future interest payments are highly dependent upon the embedded derivative and prevailing market conditions at the time each interest payment is made. ➔ Refer to the “Maturity analysis of financial liabilities” table in the “Treasury management” section of this report for informa- tion on maturities on an undiscounted cash flow basis. 372 Balance sheet notes: liabilities Contractual maturity of carrying value 1 CHF million, except where indicated 2013 2014 2015 2016 2017 2018–2022 Thereafter Total 31.12.12 Total 31.12.11 UBS AG (Parent Bank) Non-subordinated debt Fixed rate Floating rate Subtotal Subsidiaries Non-subordinated debt Fixed rate Floating rate Subtotal Total 6,299 19,281 25,579 259 2,851 3,110 3,017 7,725 10,742 317 541 859 2,620 7,739 10,359 156 1,677 1,834 28,689 11,601 12,193 1,201 3,939 5,140 240 3,176 3,416 8,557 2,933 5,504 7,987 191 815 1,006 8,992 2,182 4,922 7,104 651 1,322 1,973 9,076 3,052 8,878 11,930 1,330 510 1,840 13,769 21,304 57,538 78,841 3,145 10,891 14,036 92,878 18,935 58,862 77,797 3,035 8,150 11,185 88,982 1 In 2012, presentational changes were made to the contractual maturity table. Financial liabilities designated at fair value are presented separately from Debt issued held at amortized cost. In 2011, the contractual ma- turities of Financial liabilities designated at fair value and Debt issued held at amortized cost were presented on a combined basis. In addition, the classification between fixed rate and floating rate debt was corrected for 31 December 2011. Note 21 Debt issued held at amortized cost CHF million Certificates of deposit Commercial paper Other short-term debt Short-term debt Non-structured fixed rate bonds Covered bonds Subordinated debt Debt issued through the central bond institutions of the Swiss regional or cantonal banks Medium-term notes Other long-term debt Long-term debt Total debt issued held at amortized cost 1 1 Net of bifurcated embedded derivatives with a net fair value of CHF 233 million as of 31 December 2012 (31 December 2011: CHF 955 million). 31.12.12 31.12.11 11,153 7,792 13,548 32,493 31,197 15,116 10,646 7,585 1,341 6,278 72,163 104,656 31,383 22,133 17,861 71,377 37,515 9,788 7,035 7,141 1,951 5,810 69,240 140,617 The Group uses interest rate and foreign exchange derivatives to manage the risks inherent in certain debt instruments held at amortized cost. In certain cases, the Group applies hedge accounting for interest rate risk as discussed in Note 1a) 15) and “Note 25 Derivative instruments and hedge accounting”. As a result of applying hedge accounting, the carrying value of debt issued increased by CHF 2,608 million and by CHF 2,051 million as of 31 December 2012 and 31 December 2011, re- spectively, reflecting changes in fair value due to interest rate movements. Subordinated debt are unsecured obligations of the Group that are subordinated in right of payment to all other present and future indebtedness and also to certain other obligations of the Group. As of 31 December 2012 and 31 December 2011, the Group had CHF 10,646 million and CHF 7,035 million, respec- tively, of subordinated debt, which included CHF 3,656 million and CHF 0 million of loss-absorbing capital notes as of 31 Decem- ber 2012 and 31 December 2011, respectively. A majority of the subordinated debt outstanding as of 31 December 2012 were fixed rate issuances, with the remainder paying floating rate inter- est based on three-month or six-month London Interbank Offered Rate (LIBOR). Both the fixed and floating rate instruments provide for a single principal payment upon maturity. As of 31 December 2012 and 31 December 2011, the Group had CHF 94,009 million and CHF 133,581 million, respectively, of non-subordinated debt issued held at amortized cost, comprised of both CHF and non-CHF denominated fixed rate and floating rate debt. 373 Financial informationNote 20 Financial liabilities designated at fair value (continued) Financial information Notes to the consolidated financial statements The following table shows the contractual maturity of the carry- ing value of debt issued, split between fixed rate and floating rate based on the contractual terms and ignoring any early redemption features. The Group uses interest rate swaps to hedge the majority of fixed-rate debt issued, which changes their re-pricing characteristics into those similar to floating rate debt. ➔ Refer to the “Maturity analysis of financial liabilities” table in the “Treasury management” section of this report for informa- tion on maturities on an undiscounted cash flow basis. Contractual maturity of carrying value 1 CHF million, except where indicated 2013 2014 2015 2016 2017 2018–2022 Thereafter UBS AG (Parent Bank) Non-subordinated debt Fixed rate Interest rates (range in %) Floating rate Subordinated debt Fixed rate Interest rates (range in %) Floating rate Subtotal Subsidiaries Non-subordinated debt Fixed rate Interest rates (range in %) Floating rate Subtotal Total 33,841 0–6.3 4,832 3 4.3–7.2 0 38,676 5,225 0–0.8 54 5,278 43,954 7,414 0–5.6 1,614 398 3.1 0 9,427 172 0–7.6 0 172 9,599 7,178 0–3.9 18 1,059 2.4–7.4 0 8,255 3 0 0 3 8,258 4,974 0–6.4 0 1,379 3.1–5.9 0 6,353 557 0–8.3 0 557 6,910 8,631 0–5.9 0 673 4.1–7.4 0 9,305 105 0–8.1 0 105 9,409 13,875 0–6.6 0 5,432 4.1–7.6 692 19,998 28 0 2 30 20,029 1,504 0–2.8 2,733 1,010 6.4–8.8 0 5,248 11 0–6.2 1,238 1,249 6,497 Total 31.12.12 Total 31.12.11 77,417 99,818 9,198 13,739 9,955 6,350 692 685 97,261 120,593 6,100 18,551 1,294 7,394 1,473 20,024 104,656 140,617 1 In 2012, presentational changes were made to the contractual maturity table. Debt issued held at amortized cost is presented separately from Financial liabilities designated at fair value. In 2011, the contractual ma- turities of Debt issued held at amortized cost and Financial liabilities designated at fair value were presented on a combined basis. In addition, the classification between fixed rate and floating rate debt was corrected for 31 December 2011. Note 22 Other liabilities CHF million Prime brokerage payables Amounts due under unit-linked investment contracts Deferred compensation plans Net defined benefit pension and post-employment liability 1, 2 Third-party interest in consolidated limited partnerships Settlement and clearing accounts VAT and other tax payables Current and deferred tax liabilities 3 Other Total other liabilities 31.12.12 35,620 15,346 1,541 1,284 1,138 991 606 586 2,791 4 59,902 31.12.11 36,746 16,481 1,578 3,135 1,378 874 492 573 1,526 62,784 1 Refer to “Note 30 Pension and other post-employment benefit plans” for more information. 2 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” for more information with regard to the adoption of IAS 19R. 3 Refer to “Note 24 Income taxes” for more information. 4 Includes liabilities of CHF 1.4 billion arising from fines and disgorgement resulting from regulatory investigations concerning LIBOR and other benchmark rates. Refer to “Note 23 Provisions and contingent liabilities” for more information. 374 Note 21 Debt issued held at amortized cost (continued) Note 23 Provisions and contingent liabilities a) Provisions CHF million Balance at the beginning of the year Additions from acquired companies Increase in provisions recognized in the income statement Release of provisions recognized in the income statement Provisions used in conformity with designated purpose Capitalized reinstatement costs Disposal of subsidiaries Reclassifications Foreign currency translation / unwind of discount Balance at the end of the year Litigation, regulatory and similar matters 2 482 Operational risks 1 58 0 41 (9) (37) 0 0 0 (1) 53 0 2,686 (81) (1,685) 6 0 0 43 (13) 1,432 Loan com- mitments and guar- antees Restruc- turing 467 0 438 (86) (276) 0 0 (36) 4 3 511 93 0 4 (20) 0 0 0 (13) 0 64 Real estate Employee benefits Other Total 31.12.12 Total 31.12.11 220 0 4 (6) (37) (4) 0 3 0 178 3 227 0 145 (67) 5 (59) 0 0 0 (2) 244 79 0 32 (5) (9) 0 0 (43) (2) 53 1,626 1,704 0 3,350 (273) (2,102) (4) 0 (47) (14) 2 947 (288) (716) (2) (1) (52) 32 2,536 1,626 1 Includes provisions for litigation resulting from security risks and transaction processing risks. 2 Includes litigation resulting from legal, liability and compliance risks. 3 Includes reinstatement costs for leasehold improvements of CHF 97 million as of 31 December 2012 (31 December 2011: CHF 109 million) and provisions for onerous lease contracts of CHF 81 million as of 31 December 2012 (31 December 2011: CHF 111 mil- lion). 4 Reflects a reclassification to share premium of restructuring provisions related to share-based compensation. 5 Includes the release of provisions for Swiss long-service and sabbatical awards. 6 Represents amounts paid out for the intended purpose and amounts transferred to Other liabilities – Other, presented in “Note 22 Other liabilities” for liabilities, which are no longer uncertain in timing or amount. Restructuring provisions primarily relate to onerous lease con- tracts and severance amounts. The utilization of onerous lease provisions is driven by the maturities of the underlying lease con- tracts, which cover a period of up to 11 years. Severance related provisions are utilized within a short time period, usually within six months, but potential changes in amount may be triggered when natural staff attrition reduces the number of people affected by a restructuring and therefore the estimated costs. Information on provisions and contingent liabilities in respect of Litigation, regulatory and similar matters, as a class, is included in Note 23b. Further information on the nominal principal amount of Loan commitments and guarantees, representing our maxi- mum exposure to credit risk, is disclosed in Note 29c. There are no material contingent liabilities associated with the other classes of provisions. b) Litigation, regulatory and similar matters The Group operates in a legal and regulatory environment that exposes it to significant litigation and similar risks arising from disputes and regulatory proceedings. As a result, UBS (which for purposes of this note may refer to UBS AG and / or one or more of its subsidiaries, as applicable) is involved in various disputes and legal proceedings, including litigation, arbitration, and regulatory and criminal investigations. Such matters are subject to many uncertainties and the out- come is often difficult to predict, particularly in the earlier stages of a case. There are also situations where the Group may enter into a settlement agreement. This may occur in order to avoid the expense, management distraction or reputational implications of continuing to contest liability, even for those matters for which the Group believes it should be exonerated. The uncertainties in- herent in all such matters affect the amount and timing of any potential outflows for both matters with respect to which provi- sions have been established and other contingent liabilities. The Group makes provisions for such matters brought against it when, in the opinion of management after seeking legal advice, it is more likely than not that the Group has a present legal or con- structive obligation as a result of past events, it is probable that an outflow of resources will be required, and the amount can be reli- ably estimated. If any of those conditions is not met, such matters result in contingent liabilities. Specific litigation, regulatory and other matters are described below, including all such matters that management considers to be material and others that management believes to be of signifi- cance due to potential financial, reputational and other effects. The amount of damages claimed, the size of a transaction or other information is provided where available and appropriate in order to assist users in considering the magnitude of potential exposures. In the case of certain matters below, we state that we have established a provision, and for the other matters we make no such statement. When we make this statement and we expect disclosure of the amount of a provision to prejudice seriously our position with other parties in the matter, because it would reveal what UBS believes to be the probable and reliably estimable out- flow, we do not disclose that amount. In some cases we are sub- ject to confidentiality obligations that preclude such disclosure. With respect to the matters for which we do not state whether we have established a provision, either a) we have not established 375 Financial information Financial information Notes to the consolidated financial statements a provision, in which case the matter is treated as a contingent liability under the applicable accounting standard or b) we have established a provision but expect disclosure of that fact to preju- dice seriously our position with other parties in the matter be- cause it would reveal the fact that UBS believes an outflow of re- sources to be probable and reliably estimable. The aggregate amount provisioned for litigation, regulatory and similar matters as a class is disclosed in Note 23a above. It is not practicable to provide an aggregate estimate of liability for our litigation, regulatory and similar matters as a class of contingent liabilities. Doing so would require us to provide speculative legal assessments as to claims and proceedings that involve unique fact patterns or novel legal theories, which have not yet been initiated or are at early stages of adjudication, or as to which alleged damages have not been quantified by the claimants. Provisions for litigation, regulatory and similar matters by segment CHF million Balance at the beginning of the year Increase in provisions recognized in the income statement Release of provisions recognized in the income statement Provisions used in conformity with designated purpose Reclassifications Foreign currency translation / unwind of discount Balance at the end of the year Wealth Manage- ment Wealth Manage- ment Americas Investment Bank Global Asset Man- agement Retail & Corporate Corporate Center – Core Functions Corporate Center – Legacy Portfolio Total 31.12.12 Total 31.12.11 96 90 (15) (40) 0 0 130 206 133 (28) (135) 0 (6) 170 132 304 (32) (266) (95) (2) 40 4 6 (1) (1) 0 0 7 17 19 (1) (6) 0 0 29 2 1,518 (3) (1,222) 44 (2) 338 26 616 0 (15) 95 (3) 720 482 2,686 (81) (1,685) 43 (13) 1,432 618 396 (87) (455) 0 10 482 1. Municipal bonds In 2011, UBS announced a USD 140.3 million settlement with the US Securities and Exchange Commission (SEC), the Antitrust Divi- sion of the US Department of Justice (DOJ), the Internal Revenue Service (IRS) and a group of state attorneys general relating to the investment of proceeds of municipal bond issuances and associated derivative transactions. The settlement resolves the investigations by those regulators which had commenced in November 2006. Sev- eral related putative class actions, which were filed in Federal Dis- trict Courts against UBS and numerous other firms, remain pend- ing. Approximately USD 63 million of the regulatory settlement was made available to potential claimants through a settlement fund, the majority of which has been claimed, thereby reducing the total monetary amount at issue in the class actions for UBS. 2. Auction rate securities In 2008, UBS entered into settlements with the SEC, the New York Attorney General (NYAG) and the Massachusetts Securities Division whereby UBS agreed to offer to buy back Auction Rate Securities (ARS) from eligible customers, and to pay penalties of USD 150 million. UBS has since finalized settlements with all of the states. The settlements resolved investigations following the industry-wide disruption in the markets for ARS and related auc- tion failures beginning in early 2008. The SEC continues to inves- tigate individuals affiliated with UBS regarding the trading in ARS and disclosures. UBS was also named in (i) several putative class actions, which were thereafter dismissed by the court and / or settled; (ii) arbitration and litigation claims asserted by investors relating to ARS; and (iii) arbitration and litigation claims asserted by ARS issuers, including a pending litigation under state com- mon law and a state racketeering statute seeking at least USD 40 million in compensatory damages, plus exemplary and treble damages, and several pending arbitration claims filed in 2012 and 2013 alleging violations of state and federal securities law that seek compensatory and punitive damages, among other relief. In November 2012, UBS settled a consequential damages claim brought by a former customer for USD 45 million. 3. Inquiries regarding cross-border wealth management businesses Following the disclosure and the settlement of the US cross- border matter, tax and regulatory authorities in a number of coun- tries have made inquiries and served requests for information located in their respective jurisdictions relating to the cross-border wealth management services provided by UBS and other financial institutions. In France, a criminal investigation into allegations of illicit cross-border activity has been initiated with the appointment of a “Juge d’instruction”. We have also received inquiries from German authorities concerning certain matters relating to our cross-border business. UBS is cooperating with these inquiries, requests and investigations within the limits of financial privacy obligations under Swiss and other applicable laws. 4. Matters related to the financial crisis UBS is responding to a number of governmental inquiries and in- vestigations and is involved in a number of litigations, arbitrations and disputes related to the financial crisis of 2007 to 2009 and in particular mortgage-related securities and other structured trans- 376 Note 23 Provisions and contingent liabilities (continued) actions and derivatives. In February 2013, the SEC advised UBS that it is terminating its investigation of UBS’s valuation of super senior tranches of collateralized debt obligations (CDO) during the third quarter of 2007 without recommending any enforce- ment action. UBS is in discussions with the SEC concerning UBS’s structuring and underwriting of one CDO in 2007. UBS has also communicated with and has responded to other inquiries by vari- ous governmental and regulatory authorities concerning various matters related to the financial crisis. These matters concern, among other things, UBS’s (i) disclosures and writedowns, (ii) in- teractions with rating agencies, (iii) risk control, valuation, struc- turing and marketing of mortgage-related instruments, and (iv) role as underwriter in securities offerings for other issuers. UBS is a defendant in several lawsuits filed by institutional pur- chasers of CDOs structured by UBS in which plaintiffs allege, un- der various legal theories, that UBS misrepresented the quality of the collateral underlying the CDOs. Plaintiffs in these suits collec- tively seek to recover several hundred million dollars in claimed losses, including one case in which plaintiffs claim losses of at least USD 331 million. Our balance sheet at 31 December 2012 reflected a provision with respect to matters described in this item 4 in an amount that UBS believes to be appropriate under the applicable accounting standard. As in the case of other matters for which we have es- tablished provisions, the future outflow of resources in respect of this matter cannot be determined with certainty based on cur- rently available information, and accordingly may ultimately prove to be substantially greater (or may be less) than the provision that we have recognized. 5. Lehman principal protection notes From March 2007 through September 2008, UBS Financial Services Inc. (UBSFS) sold approximately USD 1 billion face amount of struc- tured notes issued by Lehman Brothers Holdings Inc. (Lehman), a majority of which were referred to as “principal protection notes,” reflecting the fact that while the notes’ return was in some manner linked to market indices or other measures, some or all of the inves- tor’s principal was an unconditional obligation of Lehman as issuer of the notes. Based on its role as an underwriter of Lehman struc- tured notes, UBSFS has been named as a defendant in a putative class action asserting violations of disclosure provisions of the fed- eral securities laws. In January 2013, plaintiffs’ motion to certify the case as a class action, which UBS opposed, was granted with respect to certain claims. UBS is filing for an appeal of that decision with the Second Circuit. Firms that underwrote other non-structured Lehman securities have been named as defendants in the same purported class action, and those underwriters have entered into settlements. In 2011, UBSFS entered into a settlement with the Financial Industry Regulatory Authority (FINRA) related to the sale of these notes, pur- suant to which UBSFS agreed to pay a USD 2.5 million fine and up to USD 8.25 million in restitution and interest to a limited number of investors in the US. UBSFS has also been named in numerous indi- vidual civil suits and customer arbitrations, which proceedings are at various stages. The individual customer claims, some of which have resulted in awards payable by UBSFS, relate primarily to whether UBSFS adequately disclosed the risks of these notes to its customers. 6. Claims related to sales of residential mortgage-backed securities and mortgages From 2002 through 2007, prior to the crisis in the US residential loan market, UBS was a substantial issuer and underwriter of US residential mortgage-backed securities (RMBS) and was a purchaser and seller of US residential mortgages. A subsidiary of UBS, UBS Real Estate Securities Inc. (UBS RESI), acquired pools of residential mort- gage loans from originators and (through an affiliate) deposited them into securitization trusts. In this manner, from 2004 through 2007, UBS RESI sponsored approximately USD 80 billion in RMBS, based on the original principal balances of the securities issued. UBS RESI also sold pools of loans acquired from originators to third-party purchasers. These whole loan sales during the period 2004 through 2007 totaled approximately USD 19 billion in origi- nal principal balance. We were not a significant originator of US residential loans. A subsidiary of UBS originated approximately USD 1.5 billion in US residential mortgage loans during the period in which it was active from 2006 to 2008, and securitized less than half of these loans. Securities Lawsuits Concerning Disclosures in RMBS Offering Documents: UBS has been named as a defendant relating to its role as underwriter and issuer of RMBS in a large number of law- suits relating to approximately USD 44 billion in original face amount of RMBS underwritten or issued by UBS. Some of the law- suits are in their early stages, and have not advanced beyond the motion to dismiss phase; others are in varying stages of discovery. Of the original face amount of RMBS at issue in these cases, ap- proximately USD 11 billion was issued in offerings in which a UBS subsidiary transferred underlying loans (the majority of which were purchased from third-party originators) into a securitization trust and made representations and warranties about those loans (UBS- sponsored RMBS). The remaining USD 33 billion of RMBS to which these cases relate was issued by third parties in securitizations in which UBS acted as underwriter (third-party RMBS). In connection with certain of these lawsuits, UBS has indemnification rights against surviving third-party issuers or originators for losses or lia- bilities incurred by UBS, but UBS cannot predict the extent to which it will succeed in enforcing those rights. These lawsuits include actions brought by the Federal Housing Finance Agency (FHFA), as conservator for the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac and collectively with Fannie Mae, the GSEs), in connection with the GSEs’ investments in USD 4.5 billion in original face amount of UBS-sponsored RMBS and USD 1.8 billion in original face amount of third-party RMBS. These suits assert claims for damages and rescission under federal and state securities laws and state common law and allege losses of at 377 Financial informationNote 23 Provisions and contingent liabilities (continued) Financial information Notes to the consolidated financial statements Loan repurchase demands by year received – original principal balance of loans 1 USD million Actual or agreed loan repurchases / make whole payments by UBS Demands resolved or expected to be resolved through enforcement of UBS’s indemnification rights against third-party originators Demands resolved in litigation Demands in litigation Demands rebutted by UBS but not yet rescinded by counterparty Demands rescinded by counterparty Demands in review by UBS Total 1 Loans submitted by multiple counterparties are counted only once. 2006–2008 11.7 0.6 110.2 122.5 2009 1.4 77.4 20.7 3.2 100.4 2.1 205.1 2011 2012 through 5 March 2013 2010 0.1 1.8 345.6 1.8 18.8 0.1 45.0 141.7 731.7 290.0 8.3 9.1 1,041.1 243.8 11.7 368.2 1,084.1 1,438.3 1.8 1.8 Total 13.2 265.9 21.3 2,118.5 538.7 237.7 24.8 3,220.1 least USD 1.2 billion plus interest. The court denied UBS’s motion to dismiss in May 2012, but we are awaiting a decision from the US Court of Appeals for the Second Circuit on an appeal with respect to two legal issues that were the subject of UBS’s motion to dismiss. The FHFA also filed suits in 2011 against UBS and other financial institutions relating to their role as underwriters of third- party RMBS purchased by the GSEs asserting claims under various legal theories, including violations of the federal and state securi- ties laws and state common law. In July 2012 a federal court in New Jersey dismissed with pre- judice on statute of limitations grounds a putative class action lawsuit that asserted violations of the federal securities laws against various UBS entities, among others, in connection with USD 2.6 billion in original face amount of UBS-sponsored RMBS. The named plaintiff’s appeal of the dismissal is pending. Loan repurchase demands related to sales of mortgages and RMBS: When UBS acted as an RMBS sponsor or mortgage seller, we generally made certain representations relating to the charac- teristics of the underlying loans. In the event of a material breach of these representations, we were in certain circumstances con- tractually obligated to repurchase the loans to which they related or to indemnify certain parties against losses. UBS has received demands to repurchase US residential mortgage loans as to which UBS made certain representations at the time the loans were transferred to the securitization trust. We have been notified by certain institutional purchasers and insurers of mortgage loans and RMBS, including Freddie Mac, of their contention that possi- ble breaches of representations may entitle the purchasers to re- quire that UBS repurchase the loans or to other relief. The table above summarizes repurchase demands received by UBS and UBS’s repurchase activity from 2006 through 5 March 2013. In the table, repurchase demands characterized as Demands resolved in litigation and Demands rescinded by counterparty are considered to be finally resolved. Repurchase demands in all other categories are not finally resolved. chase demands totaling approximately USD 182 million in original principal balance in November and December 2012, and it is not clear when or to what extent additional demands may be made by Assured Guaranty, Freddie Mac or others. Payments that UBS has made or agreed to make to date to re- solve repurchase demands equate to approximately 62% of the original principal balance of the related loans. Most of the pay- ments that UBS has made or agreed to make to date have related to so-called “Option ARM” loans; severity rates may vary for other types of loans or for Option ARMs with different characteristics. Actual losses upon repurchase will reflect the estimated value of the loans in question at the time of repurchase as well as, in some cases, partial repayment by the borrowers or advances by servicers prior to repurchase. It is not possible to predict future losses upon repurchase for reasons including timing and market uncertainties. In most instances in which we would be required to repurchase loans due to misrepresentations, we would be able to assert de- mands against third-party loan originators who provided repre- sentations when selling the related loans to UBS. However, many of these third parties are insolvent or no longer exist. We estimate that, of the total original principal balance of loans sold or securi- tized by UBS from 2004 through 2007, less than 50% was pur- chased from surviving third-party originators. In connection with approximately 60% of the loans (by original principal balance) for which UBS has made payment or agreed to make payment in re- sponse to demands received in 2010, UBS has asserted indemnity or repurchase demands against originators. Since 2011, UBS has advised certain surviving originators of repurchase demands made against UBS for which UBS would be entitled to indemnity, and has asserted that such demands should be resolved directly by the originator and the party making the demand. We cannot reliably estimate the level of future repurchase de- mands, and do not know whether our rebuttals of such demands will be a good predictor of future rates of rebuttal. We also can- not reliably estimate the timing of any such demands. Assured Guaranty Municipal Corp. (Assured Guaranty), a fi- nancial guaranty insurance company, made additional loan repur- Lawsuits related to contractual representations and warranties concerning mortgages and RMBS: In February 2012, Assured 378 Note 23 Provisions and contingent liabilities (continued) Guaranty filed suit against UBS RESI in New York State Court asserting claims for breach of contract and declaratory relief based on UBS RESI’s alleged failure to repurchase allegedly defective mortgage loans with an original principal balance of at least USD 997 million that serve as collateral for UBS-sponsored RMBS in- sured in part by Assured Guaranty. Assured Guaranty also claims that UBS RESI breached representations and warranties concern- ing the mortgage loans and breached certain obligations under commitment letters. Assured Guaranty seeks unspecified damag- es that include payments on current and future claims made un- der Assured Guaranty insurance policies totaling approximately USD 308 million at the time of the filing of the complaint, as well as compensatory and consequential losses, fees, expenses and pre-judgment interest. The case was removed to federal court, and in August 2012, the Court granted UBS RESI’s motion to dis- miss Assured Guaranty’s claims for breach of UBS RESI’s contrac- tual repurchase obligations, holding that only the trustee for the securitization trust has the contractual right to enforce those obli- gations. The Court also granted UBS RESI’s motion to dismiss Assured Guaranty’s claims for declaratory relief. The Court denied UBS RESI’s motion to dismiss Assured Guaranty’s claims for breach of representation and warranty and breach of the commitment letters. The case is now in discovery. In October 2012, following the Court’s holding that only the trustee may assert claims seeking to enforce UBS RESI’s repurchase obligations, the RMBS trusts at issue in the Assured Guaranty liti- gation filed a related action in the Southern District of New York seeking to enforce UBS RESI’s obligation to repurchase loans with an original principal balance of approximately USD 2 billion for which Assured Guaranty had previously demanded repurchase. UBS’s motion to dismiss the suit filed by the trusts is pending. With respect to the portion of the loans subject to the suits filed by As- sured Guaranty and the trusts that were originated by institutions still in existence, UBS is enforcing its indemnity rights against those institutions. At this time, UBS does not expect that it will be required to make payment for the majority of loan repurchase demands at issue in the suit brought by the RMBS trusts for at least the following reasons: (1) we reviewed the origination file and / or servicing records for the loan and concluded that the al- legations of breach of representations and warranties are un- founded, or (2) a surviving originator is contractually liable for any breaches of representations and warranties with respect to loans that it originated. UBS has indemnification rights in connection with approximately half of the USD 2 billion in original principal balance of loans at issue in this suit (reflected in the “In litigation” category in the accompanying table). Additionally, in its motion to dismiss the suit filed by the trusts, UBS has asserted that, under governing transaction documents, UBS is not required to repur- chase liquidated loans that were the subject of repurchase de- mands now at issue in this suit. In April 2012, Freddie Mac filed a notice and summons in New York Supreme Court initiating suit against UBS RESI for breach of contract and declaratory relief arising from alleged breaches of representations and warranties in connection with certain mort- gage loans and UBS RESI’s alleged failure to repurchase such mortgage loans. The complaint for this suit was filed in Septem- ber 2012. Freddie Mac seeks, among other relief, specific perfor- mance of UBS RESI’s alleged loan repurchase obligations for at least USD 94 million in original principal balance of loans for which Freddie Mac had previously demanded repurchase; no damages are specified. We also have tolling agreements with certain institutional pur- chasers of RMBS concerning their potential claims related to sub- stantial purchases of UBS-sponsored or third-party RMBS. As reflected in the table below, our balance sheet as of 31 De- cember 2012 included a provision of USD 658 million with respect to matters described in this item 6. As in the case of other matters for which we have established provisions, the future outflow of resources in respect of this matter cannot be determined with certainty based on currently available information, and accord- ingly may ultimately prove to be substantially greater (or may be less) than the provision that we have recognized. 7. Claims related to UBS disclosure A putative consolidated class action has been filed in the United States District Court for the Southern District of New York against UBS, a number of current and former directors and senior officers and certain banks that underwrote UBS’s May 2008 Rights Offer- ing (including UBS Securities LLC) alleging violation of the US se- curities laws in connection with UBS’s disclosures relating to UBS’s positions and losses in mortgage-related securities, UBS’s posi- tions and losses in auction rate securities, and UBS’s US cross- border business. In 2011, the court dismissed all claims based on purchases or sales of UBS ordinary shares made outside the US, and, in September 2012, the court dismissed with prejudice the remaining claims based on purchases or sales of UBS ordinary Provision for claims related to sales of residential mortgage-backed securities and mortgages USD million Balance at the beginning of the year Increase in provision recognized in the income statement Release of provision recognized in the income statement Provision used in conformity with designated purpose Balance at the end of the year 31.12.12 104 554 0 0 658 379 Financial informationNote 23 Provisions and contingent liabilities (continued) Financial information Notes to the consolidated financial statements shares made in the US for failure to state a claim. Plaintiffs have appealed the court’s decision. UBS, a number of senior officers and employees and various UBS committees have also been sued in a putative consolidated class action for breach of fiduciary du- ties brought on behalf of current and former participants in two UBS Employee Retirement Income Security Act (ERISA) retirement plans in which there were purchases of UBS stock. In 2011, the court dismissed the ERISA complaint. In March 2012, the court denied plaintiffs’ motion for leave to file an amended complaint. On appeal, the Second Circuit upheld the dismissal of all counts relating to one of the retirement plans. With respect to the sec- ond retirement plan, the Court upheld the dismissal of some of the counts, and vacated and remanded for further proceedings with regard to the counts alleging that defendants had violated their fiduciary duty to prudently manage the plan’s investment options, as well as the claims derivative of that duty. 8. Madoff In relation to the Bernard L. Madoff Investment Securities LLC (BMIS) investment fraud, UBS AG, UBS (Luxembourg) SA and cer- tain other UBS subsidiaries have been subject to inquiries by a number of regulators, including the Swiss Financial Market Super- visory Authority (FINMA) and the Luxembourg Commission de Surveillance du Secteur Financier (CSSF). Those inquiries con- cerned two third-party funds established under Luxembourg law, substantially all assets of which were with BMIS, as well as certain funds established in offshore jurisdictions with either direct or in- direct exposure to BMIS. These funds now face severe losses, and the Luxembourg funds are in liquidation. The last reported net asset value of the two Luxembourg funds before revelation of the Madoff scheme was approximately USD 1.7 billion in the aggre- gate, although that figure likely includes fictitious profit reported by BMIS. The documentation establishing both funds identifies UBS entities in various roles including custodian, administrator, manager, distributor and promoter, and indicates that UBS em- ployees serve as board members. UBS (Luxembourg) SA and cer- tain other UBS subsidiaries are responding to inquiries by Luxem- bourg investigating authorities, without however being named as parties in those investigations. In 2009 and 2010, the liquidators of the two Luxembourg funds filed claims on behalf of the funds against UBS entities, non-UBS entities and certain individuals in- cluding current and former UBS employees. The amounts claimed are approximately EUR 890 million and EUR 305 million, respec- tively. The liquidators have filed supplementary claims for amounts that the funds may possibly be held liable to pay the BMIS Trustee. These amounts claimed by the liquidator are approximately EUR 564 million and EUR 370 million, respectively. In addition, a large number of alleged beneficiaries have filed claims against UBS en- tities (and non-UBS entities) for purported losses relating to the Madoff scheme. The majority of these cases are pending in Luxembourg, where appeals have been filed by the claimants against the 2010 decisions of the court in which the claims in a number of test cases were held to be inadmissible. In the US, the BMIS Trustee has filed claims against UBS entities, among others, in relation to the two Luxembourg funds and one of the offshore funds. A claim was filed in 2010 against 23 defendants, including UBS entities, the Luxembourg and offshore funds concerned and various individuals, including current and former UBS employees. The total amount claimed against all defendants in this action was not less than USD 2 billion. A second claim was filed in 2010 against 16 defendants including UBS entities and the Luxembourg fund concerned. The total amount claimed against all defendants was not less than USD 555 million. Following a motion by UBS, in 2011 the District Court dismissed all of the BMIS Trustee’s claims other than claims for recovery of fraudulent conveyances and preference payments that were allegedly transferred to UBS on the ground that the BMIS Trustee lacks standing to bring such claims. The BMIS Trustee has appealed the District Court’s deci- sion. In Germany, certain clients of UBS are exposed to Madoff- managed positions through third-party funds and funds adminis- tered by UBS entities in Germany. A small number of claims have been filed with respect to such funds. 9. Transactions with Italian public sector entities A number of transactions that UBS Limited and UBS AG respec- tively entered into with public sector entity counterparties in Italy have been called into question or become the subject of legal proceedings and claims for damages and other awards. In 2009, the City of Milan filed civil proceedings against UBS Limited, UBS Italia SIM Spa and three other international banks in relation to a 2005 bond issue and associated derivatives transactions entered into with Milan between 2005 and 2007. In addition, in 2010 a criminal trial began against two current UBS employees and one former employee, together with employees from the three other banks, a former officer of Milan and a former adviser to Milan, for alleged fraud against a public entity in relation to the same bond issue and the execution, and subsequent restructuring, of the related derivative transactions. UBS Limited was also the sub- ject (as were the three other banks) of an administrative charge, brought in the context of the criminal trial of the individuals, of failing to have in place a business organizational model to avoid the alleged misconduct by employees. In March 2012, UBS Lim- ited and UBS Italia SIM Spa finalized a civil damages settlement agreement with Milan without any admission of liability. The settlement did not dispose of the ongoing criminal or administra- tive proceedings, nor did it dispose of a civil consumer group claim lodged in the criminal proceeding. In December 2012 the Milan criminal court found UBS Limited liable for the administra- tive offense and convicted the three UBS employees (two current and one former) of fraud against a public entity. The sanctions against UBS Limited, which are not effective until appeals are exhausted, are confiscation of the alleged level of profit flowing from the criminal findings (EUR 16.6 million), a fine in respect of the finding of the administrative offense (EUR 1 million) and pay- 380 Note 23 Provisions and contingent liabilities (continued) ment of legal fees. UBS has previously provided for this potential exposure in the amount of EUR 18.5 million. Convictions have also been issued against six employees of the three other interna- tional banks, and the banks themselves were also found liable for the administrative offense. Derivative transactions with the Regions of Calabria, Tuscany, Lombardy and Lazio and the City of Florence have also been called into question or become the subject of legal proceedings and claims for damages and other awards. Florence and Tuscany have also attempted to invoke Italian administrative law remedies which purport to allow a public entity to challenge its own deci- sion to enter into the relevant contracts and avoid their obliga- tions thereunder. In April 2012, UBS AG and UBS Limited settled the existing disputes with the Region of Tuscany without any ad- mission of liability. In January 2013, the Tuscany criminal court dismissed without further consequence a related criminal investi- gation. In November 2012, UBS reached civil settlements with, respectively, the Regions of Lombardy and Lazio (the latter settle- ment is conditional upon Lazio making certain amendments to its pleading in ongoing litigation against third parties), again without any admission of liability. An in-principle agreement has also been reached with the City of Florence. Provisions have been booked in respect of these agreed or prospective settlements. 10. HSH Nordbank AG (HSH) HSH has filed an action against UBS in New York State court relating to USD 500 million of notes acquired by HSH in a synthetic CDO transaction known as North Street Referenced Linked Notes, 2002- 4 Limited (NS4). The notes were linked through a credit default swap between the NS4 issuer and UBS to a reference pool of corpo- rate bonds and asset-backed securities. HSH alleges that UBS know- ingly misrepresented the risk in the transaction, sold HSH notes with “embedded losses”, and improperly profited at HSH’s expense by misusing its right to substitute assets in the reference pool within specified parameters. HSH is seeking USD 500 million in compensa- tory damages plus pre-judgment interest. The case was initially filed in 2008. In March 2012, a New York state appellate court dismissed HSH’s fraud claim and affirmed the trial court’s dismissal of its neg- ligent misrepresentation claim and punitive damages demand. As a result, the claims remaining in the case were for breach of contract and breach of the implied covenant of good faith and fair dealing. HSH has sought permission to appeal the appellate court’s decision to the New York Court of Appeals. In March 2013, the parties set- tled the litigation. UBS had previously provided for this potential exposure in an amount equal to the settlement amount. 11. Kommunale Wasserwerke Leipzig GmbH (KWL) In 2006 and 2007, KWL entered into a series of Credit Default Swap (CDS) transactions with bank swap counterparties, includ- ing UBS. UBS entered into back-to-back CDS transactions with the other counterparties, Depfa Bank plc (Depfa) and Landesbank Baden-Württemburg (LBBW), in relation to their respective swaps with KWL. Under the CDS contracts between KWL and UBS, the last of which were terminated by UBS in 2010, a net sum of ap- proximately USD 138 million has fallen due from KWL but not been paid. Earlier in 2010, UBS issued proceedings in the English High Court against KWL seeking various declarations from the English court, in order to establish that the swap transaction be- tween KWL and UBS is valid, binding and enforceable as against KWL. The English court ruled in 2010 that it has jurisdiction and will hear the proceedings and UBS issued a further claim seeking declarations concerning the validity of its early termination of the remaining CDS transactions with KWL. KWL withdrew its appeal from that decision and the civil dispute is now proceeding before the English court. UBS has added its monetary claim to the pro- ceedings. KWL is defending against UBS’s claims and has served a counterclaim which also joins UBS Limited and Depfa to the pro- ceedings. As part of its assertions, KWL claims damages of at least USD 68 million in respect of UBS’s termination of some of the CDS contracts, whilst disputing that any monies are owed to UBS pur- suant to another CDS contract. UBS, UBS Limited and Depfa are defending against KWL’s counterclaims, and Depfa has asserted additional claims against UBS and UBS Limited. In 2010, KWL issued proceedings in Leipzig, Germany against UBS, Depfa and LBBW, claiming that the swap transactions are void and not binding on the basis of KWL’s allegation that KWL did not have the capacity or the necessary internal authorization to enter into the transactions and that the banks knew this. Upon and as a consequence of KWL withdrawing its appeal on jurisdic- tion in England, KWL also withdrew its civil claims against UBS and Depfa in the German courts, and no civil claim will proceed against either of them in Germany. The proceedings brought by KWL against LBBW are now proceeding before the German courts. The Leipzig court has ruled that it is for the London court and not the Leipzig court to determine the validity and effect of a third party notice served by LBBW on UBS in the Leipzig proceedings. The back-to-back CDS transactions were terminated in 2010. In 2010, UBS and UBS Limited issued separate proceedings in the English High Court against Depfa and LBBW seeking declarations as to the parties’ obligations under the back-to-back CDS transac- tions and monetary claims. UBS Limited contends that it is owed USD 83.3 million, plus interest, by Depfa. UBS contends that it is owed EUR 75.5 million, plus interest, by LBBW. Depfa and LBBW respectively are defending against the claims and have also issued counterclaims. Additionally Depfa has added a claim against KWL to the proceedings against it and KWL has served a defense. The former managing director of KWL and two financial advis- ers were convicted on criminal charges of bribery, and are cur- rently standing trial for related charges of embezzlement, in re- spect of certain KWL transactions, including swap transactions with UBS and other banks. In 2011, the SEC commenced an inquiry regarding the KWL transactions and UBS is providing information to the SEC relating to those transactions. 381 Financial informationNote 23 Provisions and contingent liabilities (continued) Financial information Notes to the consolidated financial statements 12. Puerto Rico In 2011, a purported shareholder derivative action was filed on behalf of the Employee Retirement System of the Commonwealth of Puerto Rico (System) against over 40 defendants, including UBS Financial Services Inc. of Puerto Rico (UBS PR) and other consul- tants and underwriters, trustees of the System, and the President and Board of the Government Development Bank of Puerto Rico. The plaintiffs allege that defendants violated their purported fidu- ciary duties and contractual obligations in connection with the issuance and underwriting of approximately USD 3 billion of bonds by the System in 2008. Plaintiffs seek damages of over USD 800 million, which represents plaintiffs’ estimate of the difference between the interest rate the System will pay on the bonds prior to their maturity between 2023 and 2058 and the return on the investments the System will make with the proceeds of the bond offerings before the proceeds are used to help the System meet a portion of its obligations to pensioners. UBS is named in connec- tion with its underwriting and consulting services. Defendants, including UBS, have moved to dismiss and are awaiting a decision on that motion. The case is pending in the Commonwealth of Puerto Rico Court of First Instance. UBS is also cooperating with an SEC investigation into the bond offerings. Separately, in late 2012, an SEC administrative hearing on securities law violation charges against two UBS PR executives concluded, with a decision expected in late 2013. The charges stemmed from the SEC’s in- vestigation of UBS PR’s sale of closed-end funds in 2008 and 2009, which UBS PR settled in April 2012. 13. LIBOR and other benchmark rates Numerous government agencies, including the SEC, the US Com- modity Futures Trading Commission (CFTC), the DOJ, the UK Fi- nancial Services Authority (FSA), the UK Serious Fraud Office (SFO), the Monetary Authority of Singapore (MAS), the Hong Kong Monetary Authority (HKMA), FINMA, the various state at- torneys general in the US, and competition authorities in various jurisdictions are conducting investigations regarding submissions with respect to British Bankers’ Association LIBOR (London Inter- bank Offered Rate) and other benchmark rates. These investiga- tions focus on whether there were improper attempts by UBS (among others), either acting on our own or together with others, to manipulate LIBOR and other benchmark rates at certain times. The UK Parliament is conducting an inquiry into “transparency, conflicts of interest and the culture and professional standards of the financial services industry including the interaction with the criminal law”, and a narrower review by the FSA that concerns the LIBOR process is also ongoing. In December 2012, UBS reached settlements with the FSA, the CFTC and the Criminal Division of the DOJ in connection with their investigations of benchmark interest rates. At the same time FINMA issued an order concluding its formal proceedings with respect to UBS relating to benchmark interest rates. UBS will pay a total of approximately CHF 1.4 billion in fines and disgorgement – including GBP 160 million in fines to the FSA, USD 700 million in fines to the CFTC, and CHF 59 million in disgorgement to FIN- MA. Under a non-prosecution agreement (NPA) that UBS entered into with the DOJ, UBS has agreed to pay a fine of USD 500 mil- lion. Pursuant to a separate plea agreement between the DOJ and UBS Securities Japan Co. Ltd. (UBSSJ), UBSSJ has entered a plea to one count of wire fraud relating to the manipulation of certain benchmark interest rates, including Yen LIBOR, and the DOJ and UBSSJ have agreed to a sentence to be imposed on UBSSJ that would include a fine of USD 100 million, which is subject to the discretion of the sentencing court. The NPA requires UBS to pay the USD 500 million fine to DOJ within 10 days of the sentencing of UBSSJ, and provides that any criminal penalties imposed on UBSSJ at sentencing, which currently is scheduled for 15 March 2013, will be deducted from the USD 500 million fine. The con- duct described in the various settlements and the FINMA order includes certain UBS personnel: engaging in efforts to manipulate submissions for certain benchmark rates to benefit trading posi- tions; colluding with employees at other banks and cash brokers to influence certain benchmark rates to benefit their trading posi- tions; and giving inappropriate directions to UBS submitters that were in part motivated by a desire to avoid unfair and negative market and media perceptions during the financial crisis. The benchmark interest rates encompassed by these resolutions in- clude Yen LIBOR, GBP LIBOR, CHF LIBOR, Euro LIBOR, USD LIBOR, EURIBOR (Euro Interbank Offered Rate) and Euroyen TIBOR (Tokyo Interbank Offered Rate). We have ongoing obligations to cooper- ate with authorities with which we have reached resolutions and to undertake certain remediation with respect to benchmark in- terest rate submissions. Investigations by other government au- thorities remain ongoing notwithstanding these resolutions. UBS has been granted conditional leniency or conditional im- munity from authorities in certain jurisdictions, including the Anti- trust Division of the DOJ and the Swiss Competition Commission (WEKO), in connection with potential antitrust or competition law violations related to submissions for Yen LIBOR and Euroyen TIBOR. WEKO has also granted UBS conditional immunity in connection with potential competition law violations related to submissions for Swiss franc LIBOR and certain transactions related to Swiss franc LIBOR. The Canadian Competition Bureau has granted UBS condi- tional immunity in connection with potential competition law viola- tions related to submissions for Yen LIBOR. As a result of these conditional grants, we will not be subject to prosecutions, fines or other sanctions for antitrust or competition law violations in the jurisdictions where we have conditional immunity or leniency in connection with the matters covered by the conditional grants, subject to our continuing cooperation. However, the conditional leniency and conditional immunity grants we have received do not bar government agencies from asserting other claims and imposing sanctions against us, as evidenced by the settlements and ongoing investigations referred to above. In addition, as a result of the con- ditional leniency agreement with the DOJ, we are eligible for a 382 Note 23 Provisions and contingent liabilities (continued) limit on liability to actual rather than treble damages were damages to be awarded in any civil antitrust action under US law based on conduct covered by the agreement and for relief from potential joint and several liability in connection with such civil antitrust ac- tion, subject to our satisfying the DOJ and the court presiding over the civil litigation of our cooperation. The conditional leniency and conditional immunity grants do not otherwise affect the ability of private parties to assert civil claims against us. In 2011, the Japan Financial Services Agency (JFSA) commenced administrative actions and issued orders against UBS Securities Japan Ltd (UBS Securities Japan) and UBS AG, Tokyo Branch in connection with their investigation of Yen LIBOR and Euroyen TI- BOR. These actions were based on findings by the Japan Securities and Exchange Surveillance Commission (SESC), and, in the case of UBS AG, Tokyo Branch, the JFSA, that a former UBS Securities Japan trader engaged in inappropriate conduct relating to Euroy- en TIBOR and Yen LIBOR, including approaching UBS AG, Tokyo Branch, and other banks to ask them to submit TIBOR rates taking into account requests from the trader for the purpose of benefit- ing trading positions. A number of putative class actions and other actions are pend- ing in the federal courts in New York and other jurisdictions against UBS and numerous other banks on behalf of parties who transacted in LIBOR-based derivatives linked directly or indirectly to US dollar LIBOR, Yen LIBOR, Euroyen TIBOR and EURIBOR. Also pending are actions asserting losses related to various products whose interest rate was linked to US dollar LIBOR, including ad- justable rate mortgages, preferred and debt securities, bonds pledged as collateral, loans, depository accounts, investments and other interest bearing instruments. There is a pending motion to dismiss consolidated amended complaints which were filed by certain parties. All of the complaints allege manipulation, through various means, of various benchmark interest rates, including LI- BOR, Euroyen TIBOR or EURIBOR rates and seek unspecified com- pensatory and other damages, including treble and punitive dam- ages, under varying legal theories that include violations of the US Commodity Exchange Act, federal and state antitrust laws and the federal racketeering statute. With respect to additional matters and jurisdictions not en- compassed by the settlements and order referred to above, our balance sheet at 31 December 2012 reflected a provision in an amount that UBS believes to be appropriate under the applicable accounting standard. As in the case of other matters for which we have established provisions, the future outflow of resources in re- spect of such matters cannot be determined with certainty based on currently available information, and accordingly may ultimate- ly prove to be substantially greater (or may be less) than the provi- sion that we have recognized. 14. SinoTech Energy Limited Since 2011, multiple putative class action complaints have been filed and consolidated in federal court in Manhattan, against Si- noTech Energy Limited (SinoTech), its officers and directors, its auditor at the time of its initial public offering (IPO), and its under- writers, including UBS. The second amended complaint filed in June 2012 alleges, with respect to the underwriters, that the reg- istration statement and prospectus filed in connection with Sino- Tech’s 2010 USD 168 million IPO of American Depositary Shares, of which UBS underwrote 70%, contained materially misleading statements and omissions, including allegations regarding the au- thenticity and accuracy of certain asset purchase contracts pur- portedly entered into between SinoTech and its vendors. Plaintiff asserts violations of the US federal securities laws and seeks un- specified compensatory damages, among other relief. UBS and several other defendants have reached an agreement to settle the lawsuit, which is subject to court approval. 15. Swiss retrocessions The Zurich High Court decided in January 2012, in a test case, that fees received by a bank for the distribution of financial prod- ucts issued by third parties should be considered to be “retroces- sions” unless they are received by the bank for genuine distribu- tion services. Fees considered to be retrocessions would have to be disclosed to the affected clients and, absent specific client con- sent, surrendered to them. On appeal, the Swiss Supreme Court ruled in October 2012 that distribution fees paid to UBS for dis- tributing third party and intra-group investment funds and struc- tured products must be disclosed and surrendered to clients who have entered into a discretionary mandate agreement with the bank, absent a valid waiver. In November 2012, FINMA issued a supervisory note to all Swiss banks in response to the Supreme Court decision. The note sets forth the measures Swiss banks are to adopt, which include informing all affected clients about the Supreme Court decision and directing them to an internal bank contact for further details. UBS has met the FINMA requirements and has notified all poten- tially affected clients in the context of the mailing of the year-end account statements. It is expected that the Supreme Court decision will result in a significant number of client requests for UBS to disclose and po- tentially surrender retrocessions. Client requests will be assessed on a case-by-case basis. Considerations to be taken into account when assessing these cases include, among others, the existence of a discretionary mandate and whether or not the client docu- mentation contained a valid waiver with respect to distribution fees. Our balance sheet at 31 December 2012 reflected a provision with respect to matters described in this item 15 in an amount that UBS believes to be appropriate under the applicable account- ing standard. The ultimate exposure will depend on client requests and the resolution thereof, factors that are difficult to predict and assess, particularly in view of the limited experience to date. Hence as in the case of other matters for which we have estab- lished provisions, the future outflow of resources in respect of 383 Financial informationNote 23 Provisions and contingent liabilities (continued) Financial information Notes to the consolidated financial statements such matters cannot be determined with certainty based on cur- rently available information, and accordingly may ultimately prove to be substantially greater (or may be less) than the provision that we have recognized. 16. Unauthorized trading incident The trial in connection with the unauthorized trading incident that occurred in the Investment Bank and was announced in Sep- tember 2011 concluded on 20 November 2012. The defendant was found guilty on two counts of fraud and not guilty on four counts of false accounting. On 26 November 2012, FINMA and the FSA announced the findings of their joint investigation. They also announced the actions they have taken, and the FSA im- posed a fine of GBP 29.7 million on UBS. In October 2012, a consolidated complaint was filed in a puta- tive securities fraud class action pending in federal court in Man- hattan against UBS AG and certain of its current and former offi- cers relating to the unauthorized trading incident. The lawsuit was filed on behalf of parties who purchased publicly traded UBS securities on any US exchange, or where title passed within the US, during the period 17 November 2009 through 15 September 2011. The complaint alleges that UBS misrepresented, through its public statements and financial disclosures, that its risk controls and procedures were effective, and that the falsity of these repre- sentations became apparent when UBS disclosed the unauthor- ized trading incident in September 2011, a disclosure that pur- portedly caused UBS’s stock price to drop 10% in one day. The plaintiff seeks unspecified damages and interest, among other relief. UBS’s motion to dismiss the complaint is pending. 17. Banco UBS Pactual tax indemnity Pursuant to the 2009 sale of Banco UBS Pactual S.A. (Pactual) by UBS to BTG Investments, LP (BTG), BTG has submitted contractual indemnification claims that UBS estimates amount to approxi- mately USD 1.1 billion, including interest and penalties. The claims pertain principally to several tax assessments issued by the Brazil- ian tax authorities against Pactual relating to the period from De- cember 2006 through March 2009, when UBS owned Pactual. These assessments are being or will be challenged in administra- tive proceedings. In February 2013, the Brazilian tax authority is- sued a decision that reduced our potential exposure on an assess- ment relating to deductions taken for goodwill amortization in connection with the 2006 acquisition of Pactual. The remaining assessment, net of this deduction, is being appealed to the next level administrative court. BTG has also provided notice to UBS of several additional Pactual-related inquiries by the Brazilian tax au- thorities that relate to the period of UBS’s ownership of Pactual, but involving substantially smaller amounts. 18. Greater Southwestern Funding In June 2010, UBS was named as a defendant in a putative class action complaint brought in federal court in Oklahoma relating to its role as underwriter and seller in a bond offering of USD 182 million in zero coupon bonds originally issued in 1984 by Greater Southwestern Funding Corporation (GSF). The complaint alleges that GSF breached its contractual obligation to make payments on the bonds and is liable for the principal and interest due on the bonds, and that UBS is liable for GSF’s contract indebtedness un- der equitable theories, including a corporate “veil-piercing” claim. A class was certified in December 2011. UBS’s motion for sum- mary judgment seeking dismissal of all claims against UBS is pending. Trial is scheduled to begin as early as April 2013. 384 Note 23 Provisions and contingent liabilities (continued) Additional information Note 24 Income taxes CHF million Tax expense / (benefit) from continuing operations Swiss Current Deferred Foreign Current Deferred Total income tax expense / (benefit) from continuing operations 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” for more information with regard to the adoption of IAS19R. 31.12.12 For the year ended 31.12.11 1 31.12.10 1 95 23 72 271 461 23 1,041 83 (246) 901 (75) 640 300 (1,273) (409) The Swiss current tax expense of CHF 95 million relates to tax- able profits, against which no losses were available to offset, earned by Swiss subsidiaries and also from the sale of real es- tate. The Swiss deferred tax expense of CHF 23 million relates to a decrease in recognized deferred tax assets, due to Swiss pre-tax profits earned during the year, offset by Swiss tax relief for the impairment of goodwill. sions in respect of tax positions which were previously uncertain. The foreign deferred tax expense of CHF 271 million mainly re- flects a tax expense for the amortization of deferred tax assets, as tax losses were used against taxable profits. The Group made net corporate income tax payments, includ- ing Swiss and foreign taxes, of CHF 261 million, CHF 349 million and CHF 498 million in 2012, 2011, and 2010 respectively. The foreign net current tax expense of CHF 72 million relates to a tax expense in respect of taxable profits earned by non-Swiss subsidiaries and branches, against which no losses were available to offset, partly offset by a tax benefit from the release of provi- The components of operating profit before tax, and the dif- ferences between income tax expense reflected in the financial statements and the amounts calculated at the Swiss tax rate, are as follows: CHF million Operating profit / (loss) from continuing operations before tax of which: Swiss of which: Foreign Income taxes at Swiss tax rate of 21% for 2012, and 21.5% for 2011 and 2010 Increase / (decrease) resulting from: Applicable tax rates differing from Swiss tax rate Tax effects of losses not recognized Previously unrecorded tax losses now utilized Non-taxable and lower taxed income Non-deductible expenses and additional taxable income Adjustments related to prior years – current tax Adjustments related to prior years – deferred tax Change in deferred tax valuation allowances Adjustments to deferred tax balances arising from changes in tax rates Other items Income tax expense / (benefit) from continuing operations 1 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” for more information with regard to the adoption of IAS19R. 31.12.12 (1,774) 4,040 (5,814) (373) (684) 184 (1,342) (417) 2,205 (216) 1 1,071 7 25 461 For the year ended 31.12.11 1 5,307 4,652 654 1,141 98 939 (8) (1,189) 674 (171) 17 (680) 42 39 901 31.12.10 1 7,345 5,842 1,503 1,579 (60) 275 (1,225) (889) 1,985 (261) 3 (1,813) 11 (14) (409) 385 Financial information Financial information Notes to the consolidated financial statements Certain deferred tax asset and liability movements are recognized directly in equity. In 2012 these include tax charges of CHF 581 mil- lion recognized in other comprehensive income (2011: CHF 152 million) and CHF 457 million recognized in Share premium (2011: benefit of CHF 280 million), which mainly relate to the lower valu- ation of deferred tax assets for net Swiss tax losses arising in previ- ous periods. These charges were more than offset by a tax credit of CHF 1,119 million recognized in other comprehensive income re- lated to previous years due to the retrospective adoption of IAS 19R. In addition, there were net foreign currency translation losses related to the effects of exchange rate changes on tax assets and liabilities denominated in currencies other than Swiss francs. In the table below, the valuation allowance represents amounts that are not expected to provide a future tax benefit due to insuf- ficient projected future taxable profits. UBS AG Switzerland and certain overseas branches and sub- sidiaries of the Group have deferred tax assets related to tax loss carry-forwards and other items as shown in the table be- low. For entities that incurred losses in either the current or preceding year, CHF 3,487 million was recognized as deferred tax assets as of 31 December 2012 (CHF 564 million as of 31 December 2011). CHF million Deferred tax assets Compensation and benefits Tax loss carry-forwards Trading assets Other Total deferred tax assets Deferred tax liabilities Goodwill and intangible assets Trading assets Property and equipment Financial investments Investments in associates and other Total deferred tax liabilities 31.12.12 1 Valuation allowance Recognized (1,047) (23,276) (131) (425) 651 5,746 936 809 Gross 1,698 29,022 1,067 1,235 33,021 (24,879) 8,143 31.12.11 2 Valuation allowance (1,995) (19,226) (813) (1,447) (23,481) Recognized 1,317 8,049 67 194 9,627 Gross 3,312 27,275 880 1,641 33,108 17 5 2 2 26 52 37 1 1 11 17 68 1 The deferred tax assets recognized for compensation and benefits, trading assets and other temporary differences increased in the year by CHF 1.8 billion as a result of recognizing deferred tax assets for temporary dif- ferences in advance of those on tax losses for locations where there is partial recognition of deferred tax assets. This had no impact on the overall amount of deferred tax assets recognized, as there was a corresponding reduction in the amount of deferred tax assets recognized for tax loss carry-forwards. 2 Refer to “Note 1b Changes in accounting policies, comparability and other adjustments” for more information with regard to the adoption of IAS19R. The deferred tax assets recognized as of 31 December 2012 in respect of tax loss carry-forwards were based on expected profit- ability using business plan assumptions, as adjusted to take into account the recognition criteria of IAS 12 Income taxes. If the business plan earnings and assumptions in future periods sub- stantially deviate from the current assumptions, the amount of deferred tax assets may need to be adjusted in the future. As of 31 December 2012, tax loss carry-forwards totaling CHF 68,125 million, which are not recognized as deferred tax assets, were available to be offset against future taxable profits. These tax losses expire as follows: CHF million Within 1 year From 2 to 5 years From 6 to 10 years From 11 to 20 years No expiry Total 31.12.12 31.12.11 0 7,912 461 43,866 15,886 68,125 3 29 85 38,647 13,309 52,073 In general, Swiss tax losses can be carried forward for seven years, US federal tax losses for 20 years and UK and Jersey tax losses for an unlimited period. The Group provides for deferred income tax on undistributed earnings of subsidiaries except to the extent that those earnings are indefinitely invested. As of 31 December 2012, no such earn- ings were considered indefinitely invested. 386 Note 24 Income taxes (continued) 387 Financial informationDerivatives: overviewA derivative is a financial instrument, the value of which is derived from the value of one or more variables (“underlyings”). Underly-ings may be indices, exchanges or interest rates, or the value of shares, commodities, bonds, or other financial instruments. A de-rivative commonly requires little or no initial net investment by either counterparty to the trade.The majority of derivative contracts are negotiated with re-spect to notional amounts, tenor, price and settlement mecha-nisms, as is customary with other financial instruments.Over-the-counter (OTC) contracts are usually traded under a standardized International Swaps and Derivatives Association (ISDA) master trading agreement (MTA) between UBS and its counterparties. Terms are negotiated directly with counterparties and the contracts will have industry-standard settlement mecha-nisms prescribed by ISDA. Other derivative contracts are standard-ized in terms of their amounts and settlement dates, and are bought and sold on organized exchanges; these are commonly referred to as exchange-traded derivatives (ETD) contracts. Ex-changes offer the benefits of pricing transparency, standardized daily settlement of changes in value, and consequently reduced credit risk. During 2012, the industry continued to promote the use of Central Counterparties (CCP) to clear OTC trades. The trend toward CCP clearing and settlement will generally facilitate the reduction of systemic credit exposures.Derivative instruments are measured at fair value and generally classified as Positive replacement values and Negative replace-ment values on the face of the balance sheet. Derivative instru-ments that trade on an exchange or through a clearing house are generally classified as Cash collateral receivable or payable on de-rivative instruments. They are not classified within replacement values because the change in fair value of these instruments is economically settled each day through the cash payment of varia-tion margin. Products that receive this treatment are futures con-tracts, 100% daily margined exchange traded options, interest rate swaps and forward rate agreements transacted with the Lon-don Clearing House and certain credit derivative contracts.Additionally, for presentation purposes, the Group is subject to the IFRS netting provisions for derivative contracts, if all the fol-lowing conditions exist: contracts are with the same legal coun-terparty; the Group has legally enforceable rights to set off amounts due; the contracts have common maturity dates; and the parties intend to settle net, which may be evidenced by cur-rent practice. Changes in the replacement values of derivatives are recorded in net trading income, unless the derivatives are des-ignated and effective as hedging instruments in certain types of hedge accounting relationships as described in Note 1a) 15).Valuation principles and techniques applied in the measure-ment of derivative instruments are discussed in Note 27a. Posi-tive replacement values represent the estimated amount the Group would receive if the derivative contract were settled in full on the balance sheet date. Negative replacement values in-dicate the value at which the Group would extinguish its obliga-tions in respect of the underlying contract, were it required or entitled to do so on the balance sheet date.Derivatives embedded in other financial instruments are not included in the table “Derivative instruments” within this Note. Bifurcated embedded derivatives are presented on the same bal-ance sheet line as the host contract. In case where UBS applies the fair value option to hybrid instruments, bifurcation of an embed-ded derivative component is not required and as such, also not included in the table “Derivative instruments”. Refer to “Note 13 Financial asset designated at fair value” and “Note 20 Financial liabilities designated at fair value” for more information.Types of derivative instrumentsThe Group uses the following derivative financial instruments for both trading and hedging purposes. Through the use of the prod-ucts listed below, the Group is engaged in extensive high volume market-making and client facilitation trading referred to as the flow business. Measurement techniques applied to determine the fair value of each product type are described in Note 27c.The main types of derivative instruments used by the Group are:– Options and warrants: options and warrants are contractual agreements under which, typically, the seller (writer) grants the purchaser the right, but not the obligation, either to buy (call option), or to sell (put option) at, or before, a set date, a spec-ified quantity of a financial instrument or commodity at a pre-determined price. The purchaser pays a premium to the seller for this right. Options involving more complex payment struc-tures are also transacted. Options may be traded in the OTC market, or on a regulated exchange, and may be traded in the form of a security (warrant).– Swaps: Swaps are transactions in which two parties exchange cash flows on a specified notional amount for a predetermined period.– Forwards and futures: Forwards and futures are contractual obligations to buy or sell financial instruments or commodities on a future date at a specified price. Forward contracts are tailor-made agreements that are transacted between counter-parties in the OTC market, whereas futures are standardized contracts transacted on regulated exchanges.– Cross-currency swaps: Cross-currency swaps involve the exchange of interest payments based on two different currency principal balances and reference interest rates and generally also entail exchange of principal amounts at the start or end of the contract. Most cross-currency swaps are traded in the OTC market. The main products and underlyings, that the Group uses are:– Interest rate contracts: Interest rate products include interest rate swaps, forward rate agreements, swaptions and caps and floors.– Credit derivatives: Credit default swaps (CDSs) are the most common form of a credit derivative, under which the party Note 25 Derivative instruments and hedge accounting Financial information Notes to the consolidated financial statements buying protection makes one or more payments to the party selling protection in exchange for an undertaking by the seller to make a payment to the buyer following the occurrence of a contractually defined credit event with respect to a specified third-party credit entity. Settlement following a credit event may be a net cash amount, or cash in return for physical deliv- ery of one or more obligations of the credit entity, and is made regardless of whether the protection buyer has actually suf- fered a loss. After a credit event and settlement, the contract is generally terminated. More information on credit derivatives is included in a separate section below. – Total return swaps (TRSs): TRSs are employed in both the In- vestment Bank’s fixed income and equity trading businesses with underlyings which are generally equity or fixed income indices, loans or bonds. TRSs are structured with one party making payments based on a set rate, either fixed or variable, plus any negative changes in fair value of an underlying asset, and the other party making payments based on the return of the asset, which includes both income it generates and any positive changes in its fair value. – Foreign exchange contracts: Foreign exchange contracts will include spot, forward and cross-currency swaps and options and warrants. Forward purchase and sale currency contracts are typically executed to meet client needs and for trading and hedging purposes. – Equity / Index contracts: The Group uses equity derivatives linked to single names, indices and baskets of single names and indices. The indices used may be based on a standard mar- ket index, or may be defined by UBS. The product types traded include vanilla listed derivatives, both options and futures, total return swaps, forwards and exotic OTC contracts. – Commodities contracts: The Group has an established com- modity derivatives trading business, which includes the com- modity index, the structured business and the flow business. The index and structured business are client facilitation busi- nesses trading exchange traded funds, OTC swaps and options on commodity indices. The underlying indices cover third party and UBS defined indices such as the UBS Bloomberg Constant Maturity Commodity Index and the Dow Jones UBS Commod- ity indices. The flow business is investor led and incorporates both ETD and vanilla OTC products, for which the underlying covers the agriculture, base metals and energy sectors. All of the flow trading is cash settled with no physical delivery of the underlying. – Precious metals: The Group has an established precious metals ability in both flow and non-vanilla OTC products incorporat- ing both physical and non-physical trading. The flow business is investor led and products include ETD, vanilla OTCs and cer- tain non-vanilla OTCs. The vanilla OTCs are in forwards, swaps and options. The non-vanilla OTC business relates to cash-set- tled forwards similar in nature to non-deliverable forwards, meaning there is no physical delivery of the underlying. Risks of derivative instruments Derivative instruments are transacted in many trading portfolios, which generally include several types of instruments, not just de- rivatives. The market risk of derivatives is predominantly managed and controlled as an integral part of the market risk of these port- folios. The Group’s approach to market risk is described in the au- dited portions of the “Market risk” section of this report. Derivative instruments are transacted with many different counterparties, most of whom are also counterparties for other types of business. The credit risk of derivatives is managed and controlled in the context of the Group’s overall credit exposure to each counterparty. The Group’s approach to credit risk is described in the audited portions of the “Credit risk” section of this report. It should be noted that, although the positive replacement values shown on the balance sheet can be an important component of the Group’s credit exposure, the positive replacement values for a counterparty are rarely an adequate reflection of the Group’s credit exposure in its derivatives business with that counterparty. This is, for example, because on one hand, replacement values can increase over time (“potential future exposure”), while on the other hand, exposure may be mitigated by entering into master netting agreements and bilateral collateral arrangements with other counterparties. Both the exposure measures used by the Group internally to control credit risk and the capital requirements imposed by regulators reflect these additional factors. The replacement values presented on UBS’s balance sheet in- clude netting in accordance with IFRS requirements (refer to Note 1a) 35), which is more restrictive than netting in accordance with Swiss Federal Banking law. Swiss Federal Banking law netting is generally based on close-out netting arrangements that are en- forceable in case of insolvency. The positive and negative re- placement values based on netting in accordance with Swiss Federal Banking law (factoring in cash collateral) are presented on the bottom of the table on the next pages. The notional amount of a derivative is generally the quantity of the underlying instrument on which the derivative contract is based and is the reference against which changes in the value of the derivative are measured. Notional values, in themselves, are generally not a direct indication of the values which are exchanged between parties, and are therefore not a direct measure of risk or financial exposure, but are viewed as an indication of the scale of the different types of derivatives entered into by the Group. 388 Note 25 Derivative instruments and hedge accounting (continued) Derivative instruments 1 CHF billion Interest rate contracts Over-the-counter (OTC) contracts Forward contracts 6 Swaps 7 Options Exchange-traded contracts 8 Futures Options Agency transactions 9 Total Credit derivative contracts Over-the-counter (OTC) contracts Credit default swaps Total rate of return swaps Options and warrants Total Foreign exchange contracts Over-the-counter (OTC) contracts Forward contracts Interest and currency swaps Options Exchange-traded contracts Futures Options Agency transactions 9 Total Equity / index contracts Over-the-counter (OTC) contracts Forward contracts Options Exchange-traded contracts 8 Futures Options Agency transactions 9 Total Table continues on the next page. 31.12.12 31.12.11 Notional values related to PRVs 3 Total PRV 2 Notional values related to NRVs 3 Other notional values 3, 5 Notional values related to PRVs 3 Total PRV 2 Notional values related to NRVs 3 Total NRV 4 Other notional values 3, 5 Total NRV 4 0.8 223.3 43.6 481.0 3,933.5 1,210.5 0.8 196.1 44.6 443.8 1,329.6 2.0 1,610.0 2.3 1,637.4 0.0 3,789.2 14,276.3 247.3 5,264.5 226.1 5,162.2 18,568.1 1,200.2 0.0 46.7 1,173.2 48.0 1,185.2 0.0 0.0 0.0 3.0 0.0 0.0 759.0 725.5 0.0 124.0 0.0 0.1 127.8 0.0 0.1 924.3 526.2 267.8 5,628.0 241.5 5,433.2 17,090.4 296.1 8,171.7 276.4 8,112.6 20,018.6 36.3 1,090.8 33.9 1,043.3 238.9 66.6 1,292.2 62.9 1,238.0 172.4 0.4 0.0 2.4 3.1 0.4 0.0 3.3 0.5 0.0 0.0 0.6 0.1 2.4 3.6 0.5 0.1 2.0 4.6 0.0 0.0 36.7 1,096.3 34.3 1,047.1 238.9 67.3 1,298.1 63.5 1,244.6 172.4 11.6 76.9 5.1 690.3 2,382.0 395.1 12.4 80.9 5.2 689.6 2,193.2 329.3 0.0 0.0 0.6 0.0 0.0 0.6 0.0 0.0 0.0 13.8 0.0 15.7 75.7 5.8 648.3 2,177.4 367.8 14.9 85.5 5.8 610.5 2,165.5 346.4 0.1 0.0 0.0 0.6 0.0 0.0 0.0 0.0 0.0 12.2 0.0 93.5 3,467.9 98.5 3,212.7 13.8 97.2 3 193.7 106.3 3,123.0 12.2 2.7 8.4 2.4 2.4 15.9 41.7 84.8 3.3 7.4 47.0 98.3 94.9 221.4 3.3 2.4 16.4 106.8 0.0 0.0 16.6 17.7 38.3 69.0 84.6 2.8 8.7 3.3 3.9 3.0 8.9 3.7 4.2 39.0 86.9 85.2 0.0 0.0 10.6 4.1 252.1 34.3 18.8 191.8 19.8 211.1 14.7 389 Financial informationNote 25 Derivative instruments and hedge accounting (continued) Financial information Notes to the consolidated financial statements Derivative instruments 1 (continued) Table continued from previous page. CHF billion Commodities contracts Over-the-counter (OTC) contracts Forward contracts Options Exchange-traded contracts 8 Futures Forward contracts Options Agency transactions 9 Total Unsettled purchases of non-derivative financial assets 10 Unsettled sales of non-derivative financial assets 10 Total derivative instruments, based on IFRS netting Replacement value netting, based on capital adequacy rules Cash collateral netting, based on capital adequacy rules Total derivative instruments, based on capital adequacy netting 11 31.12.12 31.12.11 Notional values related to PRVs 3 Total PRV 2 Notional values related to NRVs 3 Other notional values 3, 5 Notional values related to PRVs 3 Total PRV 2 Notional values related to NRVs 3 Total NRV 4 Other notional values 3, 5 Total NRV 4 1.4 1.0 0.4 0.1 0.9 3.8 0.2 0.1 22.9 35.2 23.3 6.4 87.9 20.4 8.9 1.4 1.2 0.4 0.1 0.9 4.0 0.1 0.2 21.8 41.7 21.2 7.0 91.7 8.7 19.0 0.0 0.0 14.4 0.0 1.2 15.6 0.0 0.0 2.8 1.6 0.1 0.0 2.3 6.9 0.2 0.1 29.9 30.4 36.7 4.4 101.3 39.8 17.9 2.3 2.1 0.2 0.0 2.4 7.0 0.2 0.2 21.4 28.1 35.0 6.3 90.9 10.7 30.2 0.0 0.0 17.1 0.0 0.6 17.7 0.0 0.0 418.0 10,530.9 395.1 10,064.4 17,392.9 486.6 13,014.3 473.4 12,823.1 20,235.6 (327.3) (49.4) 41.3 (327.3) (17.4) 50.4 (383.3) (45.6) 57.7 (383.3) (28.0) 62.1 1 Bifurcated embedded derivatives are presented in the same balance sheet line as the host contract and are excluded from the table; these derivatives amount to a PRV of CHF 0.4 billion (2011: CHF 1.1 billion) (re- lated notional values of CHF 3.9 billion [2011: CHF 24.8 billion]) and an NRV of CHF 0.2 billion (2011: CHF 0.2 billion) (related notional values of CHF 13.6 billion [2011: CHF 9.3 billion]). 2 PRV: Positive replacement value. 3 In cases where replacement values are presented on a net basis on the balance sheet, the respective notional values of the netted replacement values are still presented on a gross basis. 4 NRV: Negative replacement value. 5 Receivables resulting from these derivatives are recognized on our balance sheet under Cash collateral receivables on derivative instruments totaling CHF 3.3 billion (2011: CHF 2.4 billion). Pay- ables resulting from these derivatives are recognized on our balance sheet under Cash collateral payables on derivative instruments totaling CHF 4.0 billion (2011: CHF 2.7 billion). 6 Negative replacement values as of 31 December 2012 include CHF 0.1 billion related to derivative loan commitments (31 December 2011: 0.2 billion). No notional amounts related to these replacement values are included the table. The maximum irre- vocable amount related to these commitments was CHF 6.3 billion as of 31 December 2012 (31 December 2011: CHF 6.1 billion). 7 In 2012, we corrected the allocation of notional values for 31 December 2011. Notional values related to positive replacement values for interest rate contracts (OTC swaps) were reduced by CHF 1,397 billion. Notional values related to negative replacement values for interest rate contracts (OTC swaps) were reduced by CHF 1,399 billion. Correspondingly, Other notional values were increased by CHF 2,796 billion. 8 In 2012, the presentation of notional values of exchange traded daily-margined options was changed. Notional values related to these instruments are now reported on the disclosure line options. Previously, notional values related to these instruments were reported on the disclosure line futures. The compara- tive period was restated for this change. As a result, other notional values for exchange traded interest rate contracts – options for 31 December 2011 were changed from CHF 0.0 billion to CHF 526.2 billion, with a corresponding decline to other notional values for exchange traded interest rate contracts – futures. Similarly, other notional values for exchange traded equity/index contracts – options for 31 December 2011 were changed from CHF 0.0 billion to CHF 4.1 billion, with a corresponding decline to other notional values for exchange traded equity index contracts – futures. Lastly, other notional values for exchange traded commodities contracts – options for 31 December 2011 were changed from CHF 0.0 billion to CHF 0.6 billion, with a corresponding decline to other notional values for exchange traded commodities contracts – futures. 9 Notion- al values of exchange-traded agency transactions are not disclosed due to their significantly different risk profile. 10 Changes in the fair value of purchased and sold non-derivative financial assets between trade date and settlement date are recognized as replacement values. 11 Includes the impact of netting agreements (including cash collateral) in accordance with Swiss Federal Banking law. The maturity profile of OTC interest rate contracts held as of 31 December 2012, based on notional values, is as follows: approxi- mately 37% (2011: 42%, 2010: 45%) mature within one year, 38% (2011: 35%, 2010: 33%) within 1 to 5 years and 25% (2011: 23%, 2010: 22%) over 5 years. Notional values of interest rate contracts cleared with The London Clearing House are pre- sented under “other notional values” and are categorized into maturity buckets on the basis of contractual maturities of the cleared underlying derivative contracts. Derivatives transacted for trading purposes transfer, modify, or reduce, current or expected risks. Trading ac- tivities include market making to directly support the facilitation and execution of client activity. Market making involves quoting bid and offer prices to other market participants with the inten- tion of generating revenues based on spread and volume. Credit derivatives UBS is an active dealer in the fixed income market, including CDSs and related products, with respect to a large number of issuers’ securities. The primary purpose of these activities is for the benefit of UBS’s clients through market making activities and for the on- going hedging of trading book exposures. Most of the Group’s derivative transactions relate to sales and trading activities. Sales activities include the structuring and mar- keting of derivative products to customers to enable them to take, Market making activity consists of buying and selling single- name CDSs, index CDSs, loan CDSs and related referenced cash instruments to facilitate client trading activity. UBS also actively 390 Note 25 Derivative instruments and hedge accounting (continued) utilizes CDSs to economically hedge specific counterparty credit risks in its accrual loan portfolio and off-balance sheet loan port- folio (including loan commitments) with the aim of reducing con- centrations in individual names, sectors or specific portfolios. ➔ Refer to “Note 13 Financial assets designated at fair value” ➔ Refer to “Note 20 Financial liabilities designated at fair value” ➔ Refer to “Note 29c Maximum exposure to credit risk” In addition, UBS actively utilizes CDSs to economically hedge specific counterparty credit risks in its OTC derivative portfolios including financial instruments which are designated at fair value through profit or loss. During the fourth quarter of 2012, UBS announced an Investment Bank strategy change which resulted in a focus on certain types of client facilitation business and resulted in reduced market making activity. As a result, CDS activity be- came increasingly used for economic hedging purposes. The tables below provide further details on credit protection bought and sold, including replacement and notional value information by instrument type and counterparty type. The val- ue of protection bought and sold is not, in isolation, a measure of UBS’s credit risk. Counterparty relationships are viewed in terms of the total outstanding credit risk, which relates to other instruments in addition to CDSs, and in connection with collat- eral arrangements in place. On a notional value basis, credit protection bought and sold as of 31 December 2012 matures in a range of approximately 22% (2011: 18%) within one year, approximately 69% (2011: 69%) within 1 to 5 years and ap- proximately 8% (2011: 13%) after 5 years. Credit derivatives – by type of instrument CHF billion Single name credit default swaps Multi-name index linked credit default swaps Multi-name other credit default swaps Total rate of return swaps Options and warrants Total 31 December 2012 of which: credit derivatives related to economic hedges of which: credit derivatives related to market making Total 31 December 2011 Credit derivatives by counterparty CHF billion Broker-dealers Banks Central clearing counterparties Other Total 31 December 2012 Total 31 December 2011 Protection bought Protection sold Fair value: PRV Fair value: NRV Notional values Fair value: PRV Fair value: NRV Notional values 14.7 6.1 0.8 0.4 0.0 21.9 21.8 0.1 63.2 11.0 1.5 1.2 0.3 0.0 13.9 13.4 0.5 2.9 813.8 376.7 17.7 4.2 3.1 1,215.5 1,166.4 48.9 1,392.6 11.1 2.7 1.0 0.0 0.0 14.8 14.3 0.5 4.0 13.1 6.0 1.2 0.1 0.0 20.4 20.3 0.1 60.5 781.7 369.4 13.7 1.5 0.5 1,166.7 1,117.3 49.4 1,322.5 Protection bought Protection sold Fair value: PRV Fair value: NRV Notional values Fair value: PRV Fair value: NRV Notional values 5.1 12.8 0.0 4.0 21.9 63.2 3.0 10.1 0.0 0.8 13.9 2.9 255.4 752.3 132.6 75.2 1,215.5 1,392.6 3.1 10.8 0.0 0.8 14.8 4.0 5.5 13.8 0.0 1.1 20.4 60.5 254.7 741.3 106.3 64.5 1,166.7 1,322.5 391 Financial informationNote 25 Derivative instruments and hedge accounting (continued) Financial information Notes to the consolidated financial statements UBS’s credit derivatives are usually traded as OTC contracts. Since 2009, in line with the broader derivatives industry, a number of initiatives have been launched in both the US and Europe to es- tablish CCP solutions for OTC CDS contracts with the aim of re- ducing counterparty risk. UBS, along with other dealer members, has continued to participate in these initiatives during 2012. A significant portion of UBS’s credit derivatives are traded under an ISDA MTA between UBS and its counterparty. UBS’s CDS trades are also documented using industry standard forms of documen- tation published by ISDA or equivalent terms documented in a bespoke (i.e. tailored) agreement. Those forms and agreements use standardized terms that form the basis for market conventions related to the types of credit events that would trigger perfor- mance (i.e. payment default, bankruptcy, etc. – see below) under a CDS. Those agreements and forms do not contain recourse pro- visions that would enable UBS to recover from third parties any amounts paid out by UBS (i.e. this is the case where a credit event occurs and UBS is required to make payment under a CDS). The types of credit events that would require UBS to perform under a CDS contract are subject to agreement between the par- ties at the time of the transaction. However, nearly all transactions are traded using credit events that are applicable under certain market conventions based on the type of reference entity to which the transaction relates. Applicable credit events by market conventions include “bankruptcy”, “failure to pay”, “restructur- ing”, “obligation acceleration” and “repudiation / moratorium”. Contingent collateral features of derivative liabilities Certain derivative payables contain contingent collateral or termi- nation features triggered upon a downgrade of the published credit rating of the Group in the normal course of business. Based on UBS’s credit ratings as of 31 December 2012, additional col- lateral or termination payments pursuant to bilateral agreements with certain counterparties of approximately CHF 2.9 billion, CHF 5.8 billion and CHF 6.0 billion would have been required in the event of a one-notch, two-notch and three-notch reduction, re- spectively, in UBS’s long-term credit ratings, and a corresponding reduction in short-term ratings. In evaluating UBS’s liquidity re- quirements, UBS considers additional collateral or termination payments that would be required in the event of a reduction in UBS’s long-term credit ratings, and a corresponding reduction in short-term ratings. Fair value hedges of interest rate risk related to debt issued CHF million Gains / (losses) on hedging instruments Gains / (losses) on hedged items attributable to the hedged risk Net gains / (losses) representing ineffective portions of fair value hedges 392 Derivatives transacted for hedging purposes Derivatives used for structural hedging The Group enters into derivative transactions for the purposes of hedging risks inherent in assets, liabilities and forecast trans- actions. The accounting treatment of hedge transactions varies according to the nature of the instrument hedged and whether the hedge qualifies as such for accounting purposes. Derivative transactions that qualify and are designated as hedges for accounting purposes are described under the corre- sponding headings in this note (fair value hedges, cash flow hedges and hedges of net investments in foreign operations). The Group’s accounting policies for derivatives designated and accounted for as hedging instruments are explained in Note 1a) 15), under which terms used in the following sections are ex- plained. The Group has also entered into various hedging strategies utilizing derivatives for which hedge accounting has not been ap- plied. These include interest rate swaps and other interest rate derivatives (e.g. futures) for day-to-day economic interest rate risk management purposes. In addition, the Group has used equity futures, options and, to a lesser extent, swaps for economic hedg- ing in a variety of equity trading strategies to offset underlying equity and equity volatility exposure. The Group has also entered into CDSs that provide economic hedges for credit risk exposures (refer to the credit derivatives section). Fair value changes of de- rivatives that are part of economic relationships, but do not qual- ify for hedge accounting treatment, are reported in Net trading income, except for forward points on short duration foreign ex- change contracts which are reported in Net interest income. Fair value hedges: interest rate risk related to debt issued The Group’s fair value hedges principally consist of interest rate swaps that are used to protect against changes in the fair value of fixed-rate instruments (e.g. long-term fixed-rate debt issued) due to movements in market interest rates. The fair values of out- standing interest rate derivatives designated as fair value hedges were assets of CHF 3,028 million as of 31 December 2012 and assets of CHF 2,422 million and liabilities of CHF 16 million as of 31 December 2011. For the year ended 31.12.12 31.12.11 31.12.10 537 (581) (44) 1,203 (1,172) 31 402 (383) 19 Note 25 Derivative instruments and hedge accounting (continued) Fair value hedges: portfolio interest rate risk related to loans The Group also applies fair value hedge accounting to mortgage loan portfolio interest rate risk. The change in fair value of the hedged items is recorded separately from the hedged item and is included in Other assets on the balance sheet. The fair value of outstanding interest rate derivatives designated for these hedges as of 31 December 2012 were assets of CHF 1 million and liabili- ties of CHF 1,208 million (31 December 2011: liabilities of CHF 1,389 million). Fair value hedge of portfolio of interest rate risk related to loans CHF million Gains / (losses) on hedging instruments Gains / (losses) on hedged items attributable to the hedged risk Net gains / (losses) representing ineffective portions of fair value hedges For the year ended 31.12.12 31.12.11 31.12.10 139 (159) (20) (461) 452 (9) 35 (60) (25) Cash flow hedges of forecasted transactions The Group is exposed to variability in future interest cash flows on non-trading financial assets, and liabilities that bear interest at variable rates or are expected to be refunded or reinvested in the future. The amounts and timing of future cash flows, repre- senting both principal and interest flows, are projected for each portfolio of financial assets and liabilities, based on contractual terms and other relevant factors including estimates of prepay- ments and defaults. The aggregate principal balances and inter- est cash flows across all portfolios over time form the basis for identifying the non-trading interest rate risk of the Group, which is hedged with interest rate swaps, the maximum maturity of which is 16 years. The table below shows forecasted principal balances on which expected interest cash flows arise as of 31 December 2012. Amounts shown in the table below repre- sent, by time bucket, average assets and liabilities subject to forecasted cash flows designated as hedged items in cash flow hedge accounting relationships. Principal balances subject to cash flow forecasts As of 31 December 2012, the fair values of outstanding deriva- tives designated as cash flow hedges of forecasted transactions were CHF 7,764 million assets and CHF 3,046 million liabilities and as of 31 December 2011 the amounts were CHF 7,450 million assets and CHF 3,583 million liabilities. In 2012, a gain of CHF 158 million was recognized in Net trading income due to hedge ineffectiveness, compared with losses of CHF 38 million and CHF 22 million in 2011 and 2010, respectively. At the end of 2012 and 2011, gains of CHF 3 million and CHF 7 million associated with de-designated interest rate swaps were deferred in OCI. They will be removed from OCI when the pre- viously hedged forecasted cash flows affect net profit or loss, or when the forecasted cash flows are no longer expected to occur. Amounts reclassified from OCI to Net interest income relating to de-designated swaps was a CHF 4 million net gain in 2012, a CHF 11 million net gain in 2011 and a CHF 28 million net gain in 2010. CHF billion Assets Liabilities Net balance < 1 year 1–3 years 3–5 years 5–10 years over 10 years 80 26 54 173 62 111 54 14 41 28 6 22 2 0 2 393 Financial informationNote 25 Derivative instruments and hedge accounting (continued) Financial information Notes to the consolidated financial statements Hedges of net investments in foreign operations With effect from fourth quarter 2011, the Group started to apply hedge accounting for certain net investments in foreign opera- tions. As of 31 December 2012, the positive replacement values and negative replacement values of FX derivatives (mainly FX swaps) designated as hedging instruments in net investment hedge accounting relationships were CHF 103 million and CHF 45 million, respectively (31 December 2011: positive replacement values of CHF 10 million and negative replacement values of CHF 40 million). As of 31 December 2012, the underlying hedged structural exposures in several currencies amounted to CHF 4.8 billion (31 December 2011: CHF 4.8 billion). Hedges of structural FX exposures in currencies other than USD may be comprised of two jointly designated derivatives as the foreign currency risk may be hedged against USD first and then converted into Swiss francs, the presentation currency of the Group, as part of a separate FX derivative transaction. The aggregated notional amount of desig- nated hedging derivatives as of 31 December 2012 was CHF 9.2 billion in total (31 December 2011: CHF 9.6 billion) including CHF 4.8 billion notional values related to USD versus CHF swaps and CHF 4.4 billion notional values related to derivatives hedging for- eign currencies (other than USD) versus the USD. The effective portion of gains and losses of these FX swaps is transferred di- rectly to OCI to offset foreign currency translation (FCT) gains and losses on the net investments in foreign branches and subsidiar- ies. As such, these FX swaps hedge the structural FX exposure resulting in the accumulation of FCT on the level of individual foreign branches and subsidiaries and hence on the total FCT OCI of the Group. Also with effect from the fourth quarter 2011, UBS began to designate certain non-derivative foreign currency financial assets and liabilities of foreign branches or subsidiaries as hedging in- struments in net investment hedge accounting arrangements. The FX translation difference recorded in FCT OCI of the non-de- rivative hedging instrument of one foreign entity offsets the struc- tural FX exposure of another foreign entity. Therefore, the aggre- gated FCT OCI of the Group is unchanged from this hedge designation. As of 31 December 2012, the nominal amount of non-derivative financial assets and liabilities designated as hedg- ing instruments in such net investment hedges was CHF 16.1 bil- lion and CHF 16.1 billion, respectively (31 December 2011: CHF 16.9 billion non-derivative financial assets and CHF 16.9 billion non-derivative financial liabilities). No material ineffectiveness of hedges of net investments in foreign operations was recognized in the income statement in 2012 and 2011. Undiscounted cash flows The table below provides undiscounted cash flows of all derivative instruments designated in hedge accounting relationships. Inter- est rate swap cash flows include cash inflows and cash outflows of all interest rate swaps designated in hedge accounting relation- ships, which are either assets or liabilities of UBS as of 31 Decem- ber 2012. Derivatives designated in hedge accounting relationships (undiscounted cash flows) CHF billion Interest rate swaps Cash inflows Cash outflows FX swaps / forwards Cash inflows Cash outflows Net cash flows On demand Due within 1 month Due between 1 and 3 months Due between 3 and 12 months Due between 1 and 5 years Due after 5 years 0 0 9 9 0 0 0 0 3 2 1 10 6 4 3 3 0 0 Total 17 11 9 9 6 394 Note 25 Derivative instruments and hedge accounting (continued) Note 26 Operating lease commitments As of 31 December 2012, UBS was obligated under a number of non-cancellable operating leases for premises and equipment used primarily for banking purposes. The significant premises leases usually include renewal options and escalation clauses in line with general office rental market conditions, as well as rent adjustments based on price indices. However, the lease agree- ments do not contain contingent rent payment clauses and pur- chase options, nor do they impose any restrictions on UBS’s ability to pay dividends, engage in debt financing transactions or enter into further lease agreements. The minimum commitments for non-cancellable leases of premises and equipment are presented as follows: CHF million Expenses for operating leases to be recognized in: 2013 2014 2015 2016 2017 2018 and thereafter Subtotal commitments for minimum payments under operating leases Less: Sublease rental commitments under non-cancellable leases Net commitments for minimum payments under operating leases 31.12.12 808 744 664 546 539 2,409 5,710 432 5,278 CHF million Gross operating lease expense recognized in the income statement Sublease rental income Net operating lease expense recognized in the income statement 31.12.12 31.12.11 31.12.10 860 87 773 837 84 754 1,057 97 960 395 Financial information Financial information Notes to the consolidated financial statements Fair value is the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm’s length transaction. Financial instruments classified as held for trading or designated at fair value through profit or loss, and financial assets classified as available-for-sale are recognized in the financial statements at fair value. All derivatives are measured at fair value. Fair values are determined from quoted prices in active mar- kets for identical financial assets or financial liabilities where these are available. Fair value of a financial asset or financial liability in an active market is the current bid or offer price times the number of units of the instrument held. Where a trading portfolio con- tains both financial assets and financial liabilities with offsetting market risks, fair value is estimated by valuing the gross long and short positions at current mid-market prices, with an adjustment at the portfolio level to the net open long or short position to amend the valuation to bid or offer as appropriate. Where the market for a financial instrument is not active, fair value is established using a valuation technique or pricing model. Valuation techniques and models involve a degree of estimation, the extent of which depends on the instrument’s complexity and the availability of market-based data. Valuation adjustments may be made to allow for additional factors including model, liquidity and credit risks, which are not explicitly captured within the valu- ation technique or model, but are nevertheless a component of the market pricing for such products. Based on the established fair value and model governance policies and related controls and procedures applied, management believes that these valua- tion adjustments are a necessary and appropriate component of the valuation for financial instruments carried at fair value on the balance sheet. When entering into a transaction where model inputs are not market observable, the financial instrument is initially recognized at the transaction price, which is generally the best indicator of fair value. This may differ from the value obtained from the valu- ation model. Refer to “Note 27d Deferred day 1 profit or loss” for more information. The timing of the recognition in profit and loss of this initial difference in fair value depends on the individual facts and circumstances of each transaction, but is never later than when the market data become observable. Valuation techniques and pricing models UBS uses widely recognized valuation techniques for determining fair values of less complex financial instruments. The most fre- quently applied valuation techniques and pricing models include discounted cash flow, relative value and option pricing models. Discounted cash flow models determine the value by estimating the expected future cash flows from assets or liabilities discounted to their present value. Relative value models determine the value based on the market prices of similar assets or liabilities. Option pricing models use probability-based techniques that include bi- nomial and Monte Carlo pricing. For more complex instruments and instruments not traded in an active market, fair values may be estimated using a combination of observed transaction prices, consensus pricing services and relevant quotes. Consideration is given to the nature of the quotes (e.g., indicative or firm) and the relationship of recently evidenced market activity to the prices provided from consensus pricing services. UBS also uses internally developed models, which are typically based on valuation meth- ods and techniques generally recognized as standard within the industry. Valuation models are used primarily to value derivatives trans- acted in the over-the-counter (OTC) market, unlisted equity and debt securities (including those with embedded derivatives), and other fair valued debt instruments for which markets were not active. Market-observable assumptions and inputs are used where available, and derived from similar assets in similar and active mar- kets, from recent transaction prices for comparable items or from other observable market data. Little, if any, weight is placed on transaction prices when calculating the fair value where the trans- actions are not orderly (i.e., distressed or forced). For positions where observable inputs are not available for some or all parame- ters, UBS determines these non-market-observable inputs to be used in its valuation models based on a combination of historical experience, derivation of parameter levels based upon similar prod- ucts with observable price levels and knowledge of current market conditions and modeling approaches. Assumptions and inputs used in valuation techniques and models include benchmark inter- est rate curves, credit spreads and other premiums used in estimat- ing discount rates, bond and equity prices, equity index prices, for- eign exchange rates, levels of market volatility and correlation. The output of a model is always an estimate or approximation of a value that cannot be estimated with certainty. As a result, valuations are adjusted, where appropriate, to reflect close-out costs, credit exposure, model-driven-valuation adjustments, trad- ing restrictions and other factors when such factors would be considered by market participants. Interest rate curves UBS uses various market-derived interest rate curves for valuing its financial instruments. The curves used for discounting cash flows in the valuation of the collateralized derivatives reflect the funding terms associated with the relevant collateral arrangement for the instrument in question. Financial liabilities designated at fair value are measured using UBS’s funds transfer price curve. Financial as- sets designated at fair value are valued consistent with the curve used for the particular product. Uncollateralized credit exposure is evaluated under our credit risk control framework. For the valua- tion of uncollateralized derivative instruments, UBS generally em- ploys a LIBOR flat curve. 396 Note 27 Fair value of financial instrumentsa) Valuation principles Counterparty credit risk in the valuation of OTC derivative instruments, derivatives embedded in funded assets designated at fair value and derivatives embedded in traded debt instruments In order to estimate fair value, credit valuation adjustments (CVA) are necessary to reflect the credit risk of the counterparty inherent in OTC derivative instruments, derivatives embedded in funded assets designated at fair value and derivatives embedded in trad- ed debt instruments. This amount represents the estimated mar- ket value of protection required to hedge counterparty credit risk from counterparties in UBS’s OTC derivatives portfolio, derivatives embedded in funded assets designated at fair value and in traded debt instruments. CVA depends on expected future exposures, default probabilities and recovery rates, and also takes into con- sideration collateral or netting arrangements, break clauses and other contractual factors. UBS’s own credit risk in the valuations of OTC derivative instruments The Group estimates debit valuation adjustments (DVA) to in- corporate own credit in the valuation of derivatives, pre- dominately to align it with the CVA methodology as described in the preceding section. DVA represents the theoretical cost to counterparties of hedging their UBS credit risk exposure or the credit risk reserve that a counterparty could reasonably be ex- pected to hold against their credit risk exposure to UBS. DVA takes into account collateral, netting agreements, expected fu- ture mark-to-market movements, and UBS’s credit default spreads to determine the exposure from the perspective of the counterparty. As of 31 December 2012 and 2011, respectively, CVA and DVA for derivative financial instruments (replacement values) were as follows: CVA and DVA for derivative financial instruments CHF billion DVA Gain / (loss) for the year ended Life-to-date gain / (loss) CVA 1 Gain / (loss) for the year ended 2 of which: Monoline credit protection – negative basis trades of which: Monoline credit protection – other of which: Other instruments Life-to-date gain / (loss) of which: Monoline credit protection – negative basis trades of which: Monoline credit protection – other of which: Other instruments 1 Amounts do not include reserves against defaulted counterparties. 2 Amounts do not include commutations. 31.12.12 31.12.11 (0.4) 0.4 1.1 0.2 0.1 0.8 (0.9) (0.3) (0.1) (0.6) 0.2 0.8 (0.8) (0.3) (0.1) (0.4) (2.9) (1.3) (0.2) (1.4) 397 Financial informationNote 27 Fair value of financial instruments (continued) Financial information Notes to the consolidated financial statements UBS’s own credit risk in the valuations of financial liabilities designated at fair value The Group’s own credit risk is reflected in the valuation of those financial liabilities designated at fair value, if the Group’s own credit risk would be considered by market participants. Own credit effects are not reflected in the valuations of fully collater- alized transactions and other instruments for which it is estab- lished market practice not to include them. arrive at the FTP curve, with the discount primarily reflecting the differences between the spreads in the senior unsecured debt market for UBS paper and the levels at which UBS medium-term notes (MTNs) are currently issued. The FTP curve is used by UBS to value uncollateralized funding transactions designated at fair value and is considered to be representative of UBS credit risk, reflecting the premium that market participants require to pur- chase UBS MTNs. Own credit changes are calculated based on a funds transfer price (FTP) curve, which the Group uses to derive a single, mar- ket-based level of discounting for uncollateralized funded instru- ments. UBS senior debt curve spreads are discounted in order to The effects of own credit adjustments related to Financial lia- bilities designated at fair value (predominantly issued structured products) as of 31 December 2012 and 2011, respectively, are summarized in the table below. Own credit on financial liabilities designated at fair value CHF million Gain / (loss) for the year ended of which: credit spread related only Life-to-date gain / (loss) As of or for the year ended 31.12.12 31.12.11 31.12.10 (2,202) (2,338) (292) 1,537 1,526 1,934 (548) (471) 237 Year-to-date amounts represent the change during the year and life-to-date amounts reflect the cumulative change since initial recognition. The change in own credit for the period can be ana- lyzed in two components: (1) changes in fair value that are attrib- utable to the change in UBS’s credit spreads during the period, and (2) the effect of volume changes, which is the change in fair values attributable to factors other than credit spreads, such as redemptions, effects from time decay, changes in interest rates and changes in the value of referenced instruments issued by third parties. Own credit amounts are also impacted by foreign currency movements. During 2012, we improved our own credit calculation method- ology through system changes that enabled us to produce a more refined estimate of the impact of changes in our credit curve spread since issuance. The improved methodology compares the current valuation of the instrument using current market data with the valuation using the same current market data but the trade date FTP curve, either on a risk based or full revaluation basis. Previously, the current impact of the full FTP spread over LIBOR was compared with the unamortized impact of the full FTP spread at trade date. This methodology change resulted in an own credit gain on financial liabilities designated at fair value of CHF 217 million. Valuation methodologies and systems used across the market to estimate the own credit effects for both de- rivatives and financial liabilities designated at fair value continue to evolve. As such, we expect further enhancements to our own credit calculation going forward. As of 31 December 2012, a 1 basis point increase in the UBS credit spread over LIBOR is expected to result in an own credit gain of approximately CHF 15.6 million. Reflection of market liquidity risk in fair value estimates Fair value estimates incorporate the effects of market liquidity risk in the relevant markets. Market liquidity risk is the risk that a loss is incurred in neutralizing the exposure to a position or of a port- folio by either liquidating the position or portfolio or establishing an offsetting market risk position. A liquidity adjustment is there- fore made to provide for the expected cost of covering open mar- ket risk exposure within a portfolio or position. Liquidity adjust- ments are bid / offer adjustments taken where a net open risk position is retained and the model on which it is valued is cali- brated to mid market. Valuations based on models incorporate liquidity or risk premiums either implicitly (e.g., by calibrating to market prices that incorporate such premiums) or explicitly. Reflection of model uncertainty in fair value estimates Uncertainties associated with the use of model-based valuations are incorporated into the estimate of fair value through the use of model reserves. These reserves reflect the amounts that UBS esti- mates are appropriate to deduct from the valuations produced directly by the models to reflect uncertainties in the relevant mod- eling assumptions, inputs used, calibration of the output, or choice of model. In arriving at these estimates, UBS considers a range of market practices and how it believes other market par- 398 Note 27 Fair value of financial instruments (continued) ticipants would assess these uncertainties. Model reserves are pe- riodically reassessed in light of information from market transac- tions, consensus pricing services, and other relevant sources. Valuation processes UBS’s fair value and model governance structure includes numer- ous controls and procedural safeguards that are intended to max- imize the quality of fair value measurements reported in the finan- cial statements. New products must be reviewed and approved by all stakeholders relevant to risk and financial control. Responsibil- ity for the ongoing measurement of financial instruments at fair value resides with the business, but is independently validated by risk and financial control functions. In carrying out their valuation responsibilities, the businesses are required to consider the avail- ability and quality of external market information and to provide justification and rationale for their fair value estimates. Indepen- dent price verification of financial instruments measured at fair value is undertaken by the product control function, which is in- dependent from the businesses. The objective of the indepen- dent-price-verification process is to independently corroborate the business’s estimates of fair value against available market in- formation. By benchmarking the business’s fair value estimates with observable market prices or other independent sources, the degree of valuation uncertainty embedded in these measure- ments can be assessed and managed as required in the gover- nance framework. A critical aspect of the independent-price-veri- fication process is the evaluation of the accuracy of modeling approaches and input assumptions which yield fair value esti- mates derived from valuation models. The output of modeling approaches is compared to observed prices and market levels for the specific instrument being priced if possible and appropriate. This calibration analysis is performed to assess the ability of the model and its inputs (which are frequently based upon a combi- nation of price levels of observable hedge instruments and diffi- cult to observe parameters) to price a specific product in its own specific market. An independent model review group evaluates UBS’s valuation models on a regular basis or if specific triggers occur and approves them for valuing specific products. As a result of the valuation controls employed, valuation adjustments may be made to the business’s estimate of fair value to either align with independent market information or financial accounting stan- dards. 399 Financial informationNote 27 Fair value of financial instruments (continued) Financial information Notes to the consolidated financial statements All financial instruments at fair value are categorized into one of three fair value hierarchy levels at year-end, based upon the low- est level input that is significant to the product’s fair value mea- surement in its entirety: – Level 1 – quoted prices (unadjusted) in active markets for iden- tical assets and liabilities; – Level 2 – valuation techniques for which all significant inputs are market observable, either directly or indirectly; and – Level 3 – valuation techniques which include significant inputs that are not based on observable market data. Determination of fair values from quoted market prices or valuation techniques 1 31.12.12 CHF billion Financial assets held for trading 2 of which: assets pledged as collateral which may be sold or repledged by counterparties Positive replacement values of which: Interest rate contracts Credit derivative contracts Foreign exchange contracts Equity / index contracts Commodities contracts Financial assets designated at fair value Financial investments available-for-sale Total assets Trading portfolio liabilities Negative replacement values of which: Interest rate contracts Credit derivative contracts Foreign exchange contracts Equity / index contracts Commodities contracts Financial liabilities designated at fair value Other liabilities – amounts due under unit-linked investment contracts Total liabilities Level 1 91.3 Level 2 46.8 38.7 2.9 0.0 0.0 0.3 2.2 0.1 0.1 48.5 142.8 28.6 2.9 0.0 0.0 0.3 2.2 0.1 0.0 0.0 31.4 5.8 407.0 267.3 33.0 92.0 10.9 3.8 4.1 16.9 474.9 5.4 385.7 241.1 31.0 96.7 12.9 3.9 78.2 15.3 484.7 Level 3 5.7 0.2 8.1 0.4 3.6 1.2 2.9 0.0 4.9 0.9 19.7 0.2 6.5 0.4 3.3 1.5 1.3 0.0 14.7 0.0 21.4 Total 143.8 44.7 418.0 267.8 36.7 93.5 15.9 3.8 9.1 66.4 637.3 34.2 395.1 241.5 34.3 98.5 16.4 4.0 92.9 15.3 537.4 Level 1 99.4 33.2 3.4 0.4 0.0 0.4 2.6 0.0 0.7 34.8 138.4 30.4 3.5 0.4 0.0 0.4 2.7 0.0 0.0 0.0 34.0 31.12.11 Level 2 55.7 Level 3 7.8 6.2 469.2 294.9 58.4 94.8 14.2 6.9 6.9 17.7 549.5 8.4 459.1 275.7 56.3 103.6 16.5 6.9 76.9 16.4 560.8 0.5 13.9 0.9 8.8 2.0 2.2 0.0 2.7 0.6 25.0 0.6 10.8 0.3 7.1 2.3 0.9 0.1 12.1 0.0 23.5 Total 162.8 39.9 486.6 296.2 67.3 97.2 19.1 6.9 10.3 53.2 712.9 39.5 473.4 276.5 63.4 106.3 20.1 7.0 89.0 16.4 618.2 1 Bifurcated embedded derivatives, which are presented on the same balance sheet lines as their host contracts, are excluded from this table. As of 31 December 2012, net bifurcated embedded derivative assets held at fair value, totaling CHF 0.2 billion (of which CHF 0.4 billion were net level 3 assets and CHF 0.1 billion net level 2 liabilities) were recognized on the balance sheet within Debt issued. As of 31 December 2011, net bifurcated embedded derivative assets held at fair value, totaling CHF 1.0 billion (of which CHF 0.8 billion were net level 3 assets and CHF 0.2 billion net level 2 assets), were recognized on our balance sheet within Debt issued. 2 Financial assets held for trading do not include precious metals and commodities. Transfers between level 1 and level 2 in the fair value hierarchy Trading assets and liabilities totaling approximately CHF 6.2 bil- lion and CHF 4.1 billion, respectively, were transferred from level 2 to level 1 during 2012. These transfers mainly related to debt instruments and were largely driven by improvements in the Eurozone government debt markets. Financial investments available-for-sale of approximately CHF 3.6 billion were transferred from level 2 to level 1 during 2012, also driven by improvements in the Eurozone government debt markets. Trading assets of approximately CHF 4.7 billion and trading liabilities of approximately CHF 1.7 billion were transferred from level 1 to level 2 during 2012. These transfers mainly related to debt instruments where volumes and frequency of trades de- clined below the thresholds of an active market, as defined in UBS’s valuation governance principles. 400 Note 27 Fair value of financial instruments (continued)b) Fair value hierarchy Movements of level 3 instruments CHF billion Balance as of 31 December 2010 Total gains / losses included in the income statement Net trading income Other Purchases, sales, issuances and settlements Purchases Sales Issuances Settlements Transfers into or out of level 3 Transfers into level 3 Transfers out of level 3 Foreign currency translation Balance as of 31 December 2011 Balance as of 31 December 2011 Total gains / losses included in the income statement Net trading income of which: related to level 3 instruments held at the end of the reporting period Other of which: related to level 3 instruments held at the end of the reporting period Purchases, sales, issuances and settlements Purchases Sales Issuances Settlements Transfers into or out of level 3 Transfers into level 3 Transfers out of level 3 Foreign currency translation Balance as of 31 December 2012 1 Includes assets pledged as collateral which may be sold or repledged by counterparties. Financial assets held for trading 1 10.8 (0.4) (0.6) 0.2 (2.2) 2.5 (4.7) 0.0 0.0 (0.4) 1.0 (1.4) 0.1 7.8 7.8 (1.1) (1.1) (0.3) 0.0 0.0 (0.1) 1.0 (7.2) 6.1 0.0 (0.5) 2.4 (3.0) (0.3) 5.7 Derivative instruments Financial assets designated at fair value Positive replacement values Negative replacement values Financial liabili- ties designated at fair value 0.5 0.0 0.0 0.0 2.1 0.0 0.0 2.3 (0.2) 0.1 0.1 0.0 0.0 2.7 2.7 0.1 0.1 0.0 0.0 0.0 1.7 0.0 0.0 2.7 (1.0) 0.6 0.6 0.0 (0.3) 4.9 12.4 1.9 1.9 0.0 (1.1) 0.0 0.0 3.3 (4.4) 0.6 1.7 (1.1) 0.1 13.9 13.9 (2.9) (2.9) (1.2) 0.0 0.0 (2.2) 0.0 0.0 1.2 (3.4) (0.1) 2.1 (2.3) (0.5) 8.1 10.4 0.7 0.7 0.0 (0.5) 0.0 0.0 1.7 (2.2) 0.1 1.3 (1.2) 0.1 10.8 10.8 (1.3) (1.3) (0.3) 0.0 0.0 (2.8) 0.0 0.0 1.1 (3.9) 0.4 2.7 (2.3) (0.5) 6.5 14.0 (0.5) (0.5) 0.1 0.4 0.0 0.0 5.2 (4.8) (2.0) 1.8 (3.8) 0.0 12.1 12.1 1.4 1.9 1.1 (0.4) 0.0 0.0 0.0 0.0 5.9 (6.0) 0.6 5.9 (5.3) 0.6 14.7 401 Financial informationNote 27 Fair value of financial instruments (continued) Financial information Notes to the consolidated financial statements Material changes in level 3 instruments As of 31 December 2012, financial instruments measured with valuation techniques using significant non-market observable in- puts (level 3) mainly included the following: – structured rates and credit positions, including bespoke collateralized debt obligations (CDO) and collateralized loan obligations (CLO); – reference-linked notes (RLN); – financial instruments linked to the US and European residen- tial and US and non-US commercial real estate markets; – corporate bonds and corporate credit default swaps (CDS); and – lending-related products. The significant movements in level 3 instruments during the year ended 31 December 2012 are described below. Financial assets held for trading Financial assets held for trading decreased from CHF 7.8 billion to CHF 5.7 billion during the year. Sales of CHF 7.2 billion, consisting mainly of commercial mortgage loans, commercial loans, corpo- rate bonds, US subprime super senior CDO and non-US RLN, were partially offset by issuances of CHF 6.1 billion, which were primar- ily comprised of commercial mortgage loans and commercial loans, and purchases of CHF 1.0 billion, mainly corporate bonds. Total net losses included in the income statement were CHF 1.1 billion. Transfers into and out of level 3 during the period amount- ed to CHF 2.4 billion and CHF 3.0 billion, respectively. Transfers into level 3 were comprised primarily of corporate bonds and commercial loans due to the reduced observability of credit spread inputs. Transfers out of level 3 were comprised primarily of corpo- rate bonds due to an improvement in the availability of observable credit spread data, equity related products as a reduction in in- strument maturity moved volatility and dividend model inputs into tenors for which a hedge market was observable, and CMBS CDO as the availability of market-based price information im- proved confidence around discount margin and pricing inputs. Financial assets designated at fair value Financial assets designated at fair value increased from CHF 2.7 billion to CHF 4.9 billion, mainly due to the issuance of CHF 2.7 billion of structured financing trades and transfers into level 3 of CHF 0.6 billion. These increases were partially offset by settle- ments, which were comprised mainly of structured financing trades totaling CHF 1.0 billion. Positive replacement values Positive replacement values decreased from CHF 13.9 billion to CHF 8.1 billion during the year as issuances of CHF 1.2 billion, primarily comprised of structured credit positions, were more than offset by settlements of CHF 3.4 billion, which were comprised primarily of structured credit positions, corporate CDS and US subprime super senior CDO. Net trading losses included in the income statement were CHF 2.9 billion. Transfers into and out of level 3 were CHF 2.1 billion and CHF 2.3 billion, respectively, and were comprised pri- marily of corporate CDS, structured rates positions and structured credit bespoke CDO, resulting from changes in the availability of observable inputs for credit spread and rates volatility data and changes in the correlation between the portfolio held and the repre- sentative market portfolio used to independently verify market data. Negative replacement values Negative replacement values decreased from CHF 10.8 billion to CHF 6.5 billion during the year primarily due to settlements of CHF 3.9 billion, which mainly included structured credit positions, corpo- rate CDS and CMBS CDO, and net trading gains of CHF 1.3 billion. This decrease was partially offset by issuances of structured credit positions totaling CHF 1.1 billion. Transfers into and out of level 3 amounted to CHF 2.7 billion and CHF 2.3 billion, respectively, and were comprised primarily of structured credit bespoke CDO, corpo- rate CDS, index tranche CDS, structured rates and structured credit positions, resulting from changes in the availability of observable inputs for credit spread and rates volatility data and changes in the correlation between the portfolio held and the representative mar- ket portfolio used to independently verify market data. Financial liabilities designated at fair value Financial liabilities designated at fair value increased from CHF 12.1 billion to CHF 14.7 billion during the year due to issuances of CHF 5.9 billion, which were comprised primarily of structured fi- nancing trades, credit- and interest rate-linked notes, net losses of CHF 1.4 billion and foreign currency movements of CHF 0.6 bil- lion. These increases were partially offset by settlements of CHF 6.0 billion, comprised primarily of structured financing trades and credit- and equity-linked notes. Transfers into and out of level 3 amounted to CHF 5.9 billion and CHF 5.3 billion, respectively. Transfers into level 3 consisted primarily of equity- and interest rate-linked notes as a reduction in observable volatility inputs im- pacted the embedded options in these structures. Transfers out of level 3 consisted primarily of credit-, equity- and interest rate- linked notes and were driven in part by a reduction over time of the maturity of the underlying notes such that volatility inputs became observable, and also by improved observability of credit spread, equity and rate volatility and equity dividend inputs. 402 Note 27 Fair value of financial instruments (continued) Note 27 Fair value of financial instruments (continued) Sensitivity information Included in the fair value estimates of financial instruments car- ried at fair value on the balance sheet are financial instruments for which fair value is estimated in full or in part using valuation tech- niques based on assumptions that are not supported by market observable prices, rates, or other inputs. Consequently, there may be uncertainty about a valuation which results from the choice of valuation technique or model used, the assumptions embedded in those models, the extent to which inputs are not market ob- servable, or from other elements affecting the valuation tech- nique or model. To estimate the effect of changing the unobservable inputs to a reasonably possible alternative assumption, UBS performed a sensitivity analysis on its level 3 financial instruments, which are measured using valuation techniques, and for which significant inputs are unobservable in the markets in which the underlying products are transacted. The fair values of these financial instru- ments were adjusted by zero to 25 percent. These adjustments Sensitivity of level 3 financial assets and liabilities CHF billion Cash instruments Mortgage securities Debt securities Equity securities Traded loans Total cash instruments Derivative instruments Equity derivatives 1 Interest rate derivatives Credit derivatives Total derivative instruments were determined by product type based on the professional judg- ment of control functions, which perform procedures to establish the reasonableness of UBS’s valuation assertions as of the balance sheet date. Cash instruments referred to in the below table relate to long and short inventory, if applicable, for the respective product type. For presentation purposes, derivative instruments in the table be- low include positive and negative replacement values, as well as issued notes with embedded equity- or interest-rate derivative features, which are presented on UBS’s balance sheet as financial assets or liabilities designated at fair value. For all instruments, favorable changes are increases to asset values and decreases to liability values as a consequence of applying the relevant sensitiv- ity percentage. Unfavorable changes are decreases in asset values and increases in liability values as a consequence of applying the relevant sensitivity percentage for the respective financial instru- ments. 31.12.12 31.12.11 Favorable changes Unfavorable changes Favorable changes Unfavorable changes 0.1 0.2 0.1 0.2 0.6 0.3 0.1 0.2 0.6 (0.1) (0.2) (0.1) (0.2) (0.6) (0.3) (0.1) (0.2) (0.6) 0.3 0.2 0.0 0.1 0.6 0.3 0.3 0.5 1.1 1 Includes UBS’s option to acquire the equity of the SNB StabFund. In 2011, this option was presented in Derivative instruments – other. The prior period was restated for this change in presentation. (0.3) (0.2) 0.0 (0.1) (0.6) (0.3) (0.3) (0.5) (1.1) 403 Financial information Financial information Notes to the consolidated financial statements This section includes a description of main product categories and related valuation techniques employed by UBS. Government and corporate bonds, bills and loans Government bonds and bills are generally actively traded with quoted prices in liquid markets. Should market prices not be avail- able, the securities are valued against yield curves implied from similar issuances. Corporate bonds are priced at market levels, which are based on recent trades or broker and dealer quotes. In cases where no directly comparable price is available, the bonds are tested against yields derived from other securities by the same issuer or bench- marked against similar securities adjusting for seniority, maturity and liquidity. For illiquid securities, credit modeling may be used, which considers the features of the security and discounts cash- flows using observable or implied credit spreads and prevailing interest rates. Loans held at fair value are priced at market levels reflecting re- cent transactions or quoted dealer prices. For illiquid loans where no market price is available, alternative valuation techniques are used which may include relative value benchmarking using pricing derived from debt instruments for comparable entities or different products in the same entity. The corporate lending portfolio is valued using either directly observed market prices typically from consensus providers or a credit-default-swap pricing model, which requires credit spreads, recovery and interest rate inputs. Equity securities, hedge fund and investment fund units, convertible bonds and derivatives The majority of the Group’s equity securities are traded on public stock exchanges where quoted prices are readily and regularly available. Hedge funds are measured at fair value based on their pub- lished net asset values (NAV), considering the availability of NAV from the funds or restrictions imposed upon the redemption of these funds. Convertible bonds are mostly valued using observable pricing sources, which are generally available given the frequency of trad- ing in the market. Investment fund units are predominantly exchange traded, with quoted prices in liquid markets. Should market prices not be available, these instruments may be valued based on their NAV. UBS has positions in both exchange-traded derivatives (ETD) and OTC derivatives. ETD derivatives generally have observable prices and UBS considers these market prices within the fair value assessment. OTC derivatives are measured using either in- dustry standard models or internally developed proprietary mod- els. Inputs to these models include equity prices, equity dividend and funding rates, equity volatilities, FX rates and correlations. Residential Mortgage-Backed Securities (RMBS), Commercial Mortgage-Backed Securities (CMBS), Asset-Backed Securities (ABS) and Collateralized Debt Obligations (CDO) Values of RMBS, CMBS, ABS and CDOs are estimated by refer- ence to traded prices and independently verified market data when available. In the absence of direct market data, values are derived from traded and quoted prices on one or more se- curities with similar characteristics or indices through bench- marking or triangulation. Securities with plain vanilla features, but limited observable market data are valued using industry standard valuation models, while those with complex structures are valued using proprietary models and fundamental analysis. Key inputs to such models in- clude management’s quantitative and qualitative assessment of current and future economic conditions, the securities’ projected performance under such conditions as well as liquidity in the mar- ket, among other factors. Credit derivatives related to RMBS, CMBS, ABS and CDO Credit derivatives include credit default swaps, total return swaps and balance guaranteed swaps either referencing an in- dex, single-name securities or a basket of single-name securi- ties. Single-name contracts are primarily priced using reliable market data or are derived from traded and quoted securities prices on similar exposures in order to estimate fair value. More illiquid and bespoke credit derivatives are valued using propri- etary models and inputs to such models are derived from mar- ket data and calibration to similar transactions, reference indi- ces and securities. Credit derivatives Single-name, index and portfolio credit default swaps, and any derivation or combination which can be classified as complex structured credit products are valued using market available cred- it spreads and recovery rates from either consensus pricing ser- vices or other market participants. This data is fed into industry- standard models in order to derive fair value. Complex structured credit products are valued using proprie- tary models, which are calibrated to market-derived data. Inputs to these models include single-name credit spreads, recovery rates, implied correlations, credit volatilities, cash-synthetic basis spreads and quanto basis spreads. Interest rate swaps and forwards OTC swap products include interest rate swaps, basis swaps, cross currency swaps, inflation swaps and interest rate for- wards, often referred to as forward rate agreements (FRA). All of these products are valued by estimating future interest cash flows (both fixed and future index levels) and then discounting these cash flows using an interest rate that reflects the appro- 404 Note 27 Fair value of financial instruments (continued)c) Valuation techniques by product priate funding rate for that portion of the portfolio. Interest rates and future index levels used in the respective calculations are generated from observing current market interest rates as- sociated with typical interest rate derivatives (considering swap rates, basis swap spreads, futures prices and FRA rates) and converting these into rates specific to the portfolio using mar- ket standard yield curve models. Interest rates options Interest rate caps and floors, swaptions and other more complex non-linear interest-rate products are valued using market standard option models. These models use inputs that include (but are not limited to) interest rate yield curves, inflation curves, interest rates volatilities, FX rate volatilities, inflation volatilities and correlations (between different interest rates or between rates and FX or infla- tion). The models are calibrated to recover market-observed prices for standard option instruments trading within the market and the calibrated model is then used to revalue the portfolio. FX options OTC options on FX rates are valued using market standard option models. Inputs to these models include (but are not limited to) FX spot rates, FX forward points, FX volatilities, interest rate yield curves and correlations between FX rates and interest rates. The models are calibrated to recover market-observed prices for stan- dard option instruments trading within the market and the cali- brated model is then used to revalue the portfolio. FX spot and forward Open spot and settled FX positions are valued using the observed market FX spot rate. Forward FX positions are valued using the spot rate adjusted for forward pricing points observed from stan- dard market sources. ➔ Refer to the “Risk, treasury and capital management” section of this report for more information on certain financial instruments with significant valuation uncertainty (CVA on monolines, US and non-US reference-linked notes, and the option to acquire equity of the SNB StabFund) The table reflects the activity in deferred profit or loss for financial instruments for which fair value is estimated using valuation mod- els when not all significant inputs are market observable. Such fi- nancial instruments are initially recognized at their transaction price, even if the values obtained from the relevant valuation model on day 1 differ. Day 1 reserves are released and gains or losses are re- corded in Net trading income when product equivalent quotes be- come available or the underlying parameters become observable, the transaction is closed out or using an appropriate amortization methodology. The following table shows the aggregate difference yet to be recognized in the income statement at the beginning and end of the period and a reconciliation of changes during the period. Deferred day 1 profit or loss CHF million Balance at the beginning of the year Deferred profit / (loss) on new transactions Recognized (profit) / loss in the income statement Foreign currency translation Balance at the end of the year For the year ended 31.12.12 31.12.11 433 424 (367) (16) 474 565 221 (354) 1 433 As of 31 December 2012, deferred day 1 profit of CHF 0.5 billion primarily consisted of CHF 0.2 billion related to OTC equity op- tions (31 December 2011: CHF 0.3 billion), CHF 0.1 billion related to credit default swaps (31 December 2011: CHF 0.1 billion) and CHF 0.1 billion related to interest rate swaps (31 December 2011: CHF 0.1 billion). 405 Financial informationNote 27 Fair value of financial instruments (continued)d) Deferred day-1 profit or loss Financial information Notes to the consolidated financial statements The following table reflects the estimated fair values for UBS’s instruments accounted for at amortized cost. Refer to Note 29 for an overview of financial assets classified as “loans and receivables” and financial liabilities accounted for at amortized cost. Financial instruments accounted for at amortized cost CHF billion Assets Cash and balances with central banks Due from banks Cash collateral on securities borrowed Reverse repurchase agreements Cash collateral receivables on derivative instruments Loans Accrued income, other assets Liabilities Due to banks Cash collateral on securities lent Repurchase agreements Cash collateral payables on derivative instruments Due to customers Debt issued Accrued expenses, other liabilities Guarantees / Loan commitments Guarantees 1 Loan commitments 2 31.12.12 31.12.11 Carrying value Fair value Carrying value Fair value 66.4 21.2 37.4 130.9 30.4 279.9 12.1 23.0 9.2 37.6 71.1 371.9 104.9 45.0 0.1 0.0 66.4 21.2 37.4 131.1 30.4 282.9 12.1 23.1 9.2 37.6 71.1 371.9 107.8 45.0 (0.1) 0.3 40.6 23.2 58.8 213.5 41.3 266.6 10.2 30.2 8.1 102.4 67.1 342.4 141.6 47.2 0.1 0.0 40.6 23.2 58.8 213.3 41.3 268.2 10.2 30.2 8.1 102.4 67.1 342.4 140.6 47.2 0.1 0.7 1 The carrying value of guarantees represents a liability of CHF 0.1 billion as of 31 December 2012 and 31 December 2011, respectively. The estimated fair value of guarantees represents an asset of CHF 0.1 billion as of 31 December 2012 and a liability of CHF 0.1 billion as of 31 December 2011. 2 The carrying value of loan commitments represents a liability of CHF 0.0 billion as of 31 December 2012 and 31 December 2011, respectively. The estimated fair value of loan commitments represents a liability of CHF 0.3 billion as of 31 December 2012 and a liability of CHF 0.7 billion as of 31 December 2011. Loans include Wealth Management and Retail & Corporate assets, mainly mortgage loans, where fair values exceeded related carrying values by CHF 3.8 billion as of 31 December 2012 (31 December 2011: CHF 3.4 billion), and Legacy Portfolio assets reported in Cor- porate Center where fair values were below related carrying values by CHF 0.6 billion as of 31 December 2012 (31 December 2011: CHF 1.5 billion). The fair values included in the table above were calculated for disclosure purposes only. The fair value valuation techniques and assumptions described below relate only to fair value of UBS’s fi- nancial instruments accounted for at amortized cost. Other insti- tutions may use different methods and assumptions for their fair value estimation, therefore, such fair value disclosures cannot nec- essarily be compared from one financial institution to another. UBS applies significant judgments and assumptions to arrive at these fair values, which are more holistic and less sophisticated than UBS’s established fair value and model governance policies and processes applied to financial instruments accounted for at fair value whose fair values impact UBS’s balance sheet and net profit. The following principles were applied when determining fair value estimates for financial instruments accounted for at am- ortized cost: – For financial instruments with remaining maturities greater than three months, the fair value was determined from quoted market prices, if available. – Where quoted market prices were not available, the fair values were estimated by discounting contractual cash flows using current market interest rates or appropriate yield curves for in- struments with similar credit risk and maturity. These estimates generally include adjustments for counterparty credit or UBS’s own credit. – For short-term financial instruments with remaining maturities of three months or less, the carrying amount, which is net of credit loss allowances, is generally considered a reasonable estimate of fair value. The following financial instruments accounted for at amortized cost have remaining maturities of three months or less: 100% of cash and balances with central 406 Note 27 Fair value of financial instruments (continued)e) Financial instruments accounted for at amortized cost banks; 82% of amounts due from banks; 98% of cash collat- eral on securities borrowed; 95% of reverse repurchase agree- ments; 100% of cash collateral receivables on derivatives; 51% of loans; 88% of amounts due to banks; 93% of cash collateral on securities lent; 93% of repurchase agreements; 100% of cash collateral payable on derivatives; 98% of amount due to customers; and 21% of debt issued. quality of counterparties or UBS’s own credit movements. – The fair value estimates for repurchase and reverse repurchase agreements with variable and fixed interest rates, for all ma- turities, include the valuation of the interest rate component of these instruments. Credit and debit valuation adjustments have not been included in the valuation due to the short-term nature of these instruments. – The fair value of variable interest-bearing financial instruments accounted for at amortized cost is assumed to be approximat- ed by their carrying amounts, which are net of credit loss al- lowances, and does not reflect fair value changes in the credit – The estimated fair values of off-balance sheet financial instru- ments are based on market prices for similar facilities and guar- antees. Where this information is not available, fair value is estimated using discounted cash flow analysis. This Note provides information about assets pledged as collateral for liabilities or contingent liabilities (Note 28a), transfers of finan- cial assets (Note 28b and 28c), and financial assets which are received as collateral with the right to resell or re-pledge these assets (Note 28d). a) Financial assets pledged as collateral The Group pledges financial assets mainly in securities lending transactions, in repurchase transactions, against loans from Swiss mort- gage institutions, in connection with derivative transactions, as security deposits for stock exchanges and clearinghouse memberships, and in connection with the issuance of covered bonds. Financial assets pledged as collateral for liabilities or contingent liabilities CHF million Trading portfolio assets of which: assets pledged as collateral which may be sold or repledged by counterparties Loans of which: mortgage loans 2 Total financial assets pledged as collateral 3 Carrying amount 31.12.12 53,656 44,698 34,005 33,928 87,661 31.12.11 1 56,162 39,936 27,884 27,841 84,047 1 Comparative data has been restated due to a change in the definition of financial assets pledged as collateral. Refer to “Note 1b Changes in accounting policies, comparability, and other adjustments” for more infor- mation. 2 These pledged mortgage loans serve as collateral for existing liabilities against Swiss central mortgage institutions and for existing covered bond issuances. Of these pledged mortgage loans, approximately CHF 7.5 billion for 31 December 2012 (31 December 2011: approximately CHF 5.7 billion) could be withdrawn or used for future liabilities or covered bond issuances without breaching existing collateral require- ments. 3 Does not include assets placed with central banks related to undrawn credit lines and for payment, clearing and settlement purposes (31 December 2012: CHF 4.8 billion, 31 December 2011: CHF 3.6 billion). 407 Financial informationNote 27 Fair value of financial instruments (continued)Note 28 Pledged and transferred financial assets Financial information Notes to the consolidated financial statements b) Transferred financial assets that are not derecognized in their entirety The following table presents information for financial assets, which have been transferred but are subject to continued recognition in full, as well as recognized liabilities associated with those transferred assets. Transferred financial assets subject to continued recognition in full CHF million Trading portfolio assets transferred which may be sold or repledged by counterparties relating to repurchase agreements in exchange for cash received relating to securities lending agreements in exchange for cash received relating to securities lending agreements in exchange for securities received relating to other financial asset transfers Total financial assets transferred 31.12.12 31.12.111, 2 Carrying value of transferred assets Carrying value of associated liabili- ties recognized on-balance sheet Carrying value of transferred assets 8,305 15,268 18,258 2,868 44,698 8,287 14,063 0 152 22,502 15,481 12,309 10,248 1,899 39,936 1 Comparative data has been restated due to a change in the definition of transferred financial assets. Refer to “Note 1b Changes in accounting policies, comparability, and other adjustments” for more information. 2 The relationship between the carrying value of transferred assets and the associated liabilities as of 31 December 2011 was substantially the same as that in 2012. Transactions whereby financial assets are transferred, but con- tinue to be recognized in their entirety on UBS’ balance sheet include securities lending and repurchase agreements as well as other financial asset transfers. Repurchase agreements and se- curities lending agreements are discussed in Notes 1a) 13) and 1a) 14). Repurchase and securities lending arrangements are, for the most part, conducted under standard market agree- ments, and are undertaken with counterparties subject to UBS’s normal credit risk control processes. Other financial asset trans- fers include securities transferred to collateralize derivative transactions. Approximately half of the transferred financial assets are trad- ing portfolio assets transferred in exchange for cash, in which case the associated recognized liability represents the amount to be repaid to counterparties. For securities lending and repurchase agreements, a haircut between 0% and 15% is generally applied to the collateral, which results in associated liabilities having a car- rying value below the carrying value of the transferred assets. The counterparties to the associated liabilities presented in the table above have full recourse to UBS. In securities lending arrangements entered into in exchange for the receipt of other securities as collateral, neither the securi- ties received nor the obligation to return them are recognized on UBS’s balance sheet as the risks and rewards of ownership are not transferred to UBS. In cases where such financial assets received are subsequently sold or re-pledged in another transaction, this is not considered to be a transfer of financial assets. Transferred assets other than trading portfolio assets which may be sold or repledged by counterparties were not material in 2012 and 2011. Transferred financial assets that are not subject to derecogni- tion in full, but which remain on the balance sheet to the extent of the Group’s continuing involvement, were not material in 2012 and 2011. 408 Note 28 Pledged and transferred financial assets (continued) c) Transferred financial assets that are derecognized in their entirety with continuing involvement Continuing involvement in a transferred and fully derecognized financial asset may result from contractual provisions in the trans- fer agreement or in a separate agreement with the counterparty or a third party entered into in connection with the transfer. Such transactions include purchased call options on transferred finan- cial assets, certain lending arrangements as well as interests pur- chased and retained upon the transfer of assets into securitization structures and special purpose entities. The table below provides information on the Group’s continuing involvement in transferred and fully derecognized financial assets. Transferred financial assets that are derecognized in their entirety with continuing involvement CHF million 31.12.12 Type of continuing involvement Purchased call option Lending arrangements Purchased and retained interests in securitization structures Total Balance sheet line item Carrying amount of continuing involvement Fair value of continuing involvement Gain/(loss) recog- nized at the date of transfer of the financial assets Gain/(loss) from continuing involvement in transferred and derecognized financial assets For the year ended 31.12.12 Life-to-date Positive replacement values Loans Trading portfolio assets / Replacement values 2,103 3,342 205 5,650 2,103 3,271 205 5,579 (1,003) 0 0 (1,003) 526 61 0 587 (2,256) 651 (1,701) (3,306) There are a limited number of specific transactions for which UBS has continuing involvement in derecognized financial assets, as detailed below. Purchased call option: UBS’s option to acquire the SNB StabFund’s equity In 2008 and 2009, UBS transferred assets to a fund owned and controlled by the Swiss National Bank (SNB StabFund). The price at which the SNB StabFund purchased the assets from UBS was CHF 1.0 billion below the fair value at which these assets were held by UBS. The SNB has financed the fund with a loan in the amount of 90% of the purchase price, secured by the assets of the fund. 10% of the purchase price was financed through an equity contri- bution by the SNB. The loan is non-recourse to UBS. The fund and loan facility terminates in eight years from inception, but the ter- mination date may be extended to 10 or 12 years. UBS has pur- chased, for an amount equal to the SNB’s equity contribution, an option to acquire the fund’s equity once the loan has been fully repaid. This option to acquire the SNB StabFund’s equity represents a continuing involvement in the assets transferred to the fund, which is reflected in the table above. The option exercise price is USD 1 billion plus 50% of the amount by which the fund’s equity value exceeds USD 1 billion at the time of exercise. This option is carried on UBS’s balance sheet at fair value, which is also the max- imum exposure to loss. In the event of a change of control of UBS, the SNB has the right, but not the obligation, to require UBS to purchase the loan the SNB provided to the SNB StabFund at its outstanding principal amount plus accrued interest and the fund’s equity at 50% of its value at the time. If, upon the fund’s termina- tion, the SNB incurs a loss on the loan it has made to the fund, the SNB will be entitled to receive 100 million UBS ordinary shares against payment of the par value of those shares. ➔ Refer to the “Risk, treasury and capital management” section for more information on UBS’s option to acquire the SNB StabFund’s equity Lending arrangements: loan to BlackRock fund In 2008, UBS sold a portfolio of US RMBSs for proceeds of USD 15 billion to the RMBS Opportunities Master Fund, LP (the “RMBS fund”), a special purpose entity managed by BlackRock, Inc. The USD 15 billion proceeds were approximately in line with the fair value of the assets at the date of the transfer of the assets. The RMBS fund was capitalized with approximately USD 3.75 billion in equity raised by BlackRock from third-party investors and an eight-year amortizing USD 11.25 billion senior secured loan pro- vided by UBS, which represents a continuing involvement in the assets transferred to the fund and is reflected in the table above. The maximum exposure to loss is equal to the carrying amount of loan to the RMBS fund. ➔ Refer to the “Risk, treasury and capital management” section of this report for more information on the management of credit risk 409 Financial informationNote 28 Pledged and transferred financial assets (continued) Financial information Notes to the consolidated financial statements Purchased and retained interests in securitization structures In securitization structures where UBS has transferred assets into a third-party special purpose entity and retained or purchased interests therein, UBS has a continuing involvement in those transferred assets. The majority of our retained securitization po- sitions held in the trading portfolio are collateralized debt obliga- tions, US commercial mortgage-backed securities and residential mortgage-backed securities. As a result of losses incurred in pre- vious years, the majority of these positions have a carrying amount of zero as of 31 December 2012. The maximum expo- sure to loss was CHF 0.3 billion as of 31 December 2012. Life-to- date losses presented in the table on the previous page only re- late to retained interests held as of 31 December 2012. d) Off-balance-sheet securities received The following table presents the amounts of securities received from third parties that are not recognized on the balance sheet, but that are held as collateral, including amounts that have been sold or repledged. Off-balance sheet securities received CHF million Fair value of securities received which can be sold or repledged received as collateral under reverse repurchase, securities borrowing and lending arrangements, derivative transactions and other transactions received in unsecured borrowings thereof sold or repledged as collateral for liabilities or contingent liabilities 1, 2 in connection with financing activities to satisfy commitments under short sale transactions in connection with derivative and other transactions 31.12.12 400,150 398,496 1,654 284,599 224,361 34,154 26,084 31.12.11 551,590 550,023 1,567 365,087 298,645 39,480 26,962 1 Comparative data has been restated due to a change in the definition of financial assets pledged as collateral. Refer to “Note 1b Changes in accounting policies, comparability, and other adjustments” for more infor- mation 2 Does not include off-balance sheet securities (31 December 2012: CHF 29.4 billion, 31 December 2011: CHF 27.4 billion) placed with central banks related to undrawn credit lines and for payment, clearing and settlement purposes for which there are no associated liabilities or contingent liabilities. 410 Note 28 Pledged and transferred financial assets (continued) a) Measurement categories of financial assets and financial liabilities The following table provides information about the carrying amounts of individual classes of financial instruments within the measurement categories of financial assets and financial liabilities as defined in IAS 39 Financial instruments: recognition and mea- surement. Only those assets and liabilities which are financial in- struments as defined in IAS 32 Financial instruments: presentation are included in the table below, which causes certain balances to differ from those presented on the balance sheet. ➔ Refer to “Note 27 Fair value of financial instruments” for more information on how fair value of financial instruments is determined CHF million Financial assets 1 Held for trading Trading portfolio assets of which: assets pledged as collateral which may be sold or repledged by counterparties Debt issued 2 Positive replacement values Total Fair value through profit or loss Financial assets designated at fair value Financial assets at amortized cost Cash and balances with central banks Due from banks Cash collateral on securities borrowed Reverse repurchase agreements Cash collateral receivables on derivative instruments Loans Accrued income Other assets Total Available-for-sale Financial investments available-for-sale Total financial assets 31.12.12 31.12.11 143,767 44,698 405 418,029 562,201 162,821 39,936 1,149 486,584 650,554 9,106 10,336 66,383 21,230 37,372 130,941 30,413 279,901 1,514 10,545 578,299 40,638 23,218 58,763 213,501 41,322 266,604 1,464 8,757 654,267 66,383 1,215,989 53,174 1,368,331 39,480 194 473,400 513,074 34,154 172 395,070 429,396 Financial liabilities Held for trading Trading portfolio liabilities Debt issued 2 Negative replacement values Total Fair value through profit or loss, other Financial liabilities designated at fair value Amounts due under unit-linked contracts Total Financial liabilities at amortized cost Due to banks Cash collateral on securities lent Repurchase agreements Cash collateral payables on derivative instruments Due to customers Accrued expenses Debt issued Other liabilities Total Total financial liabilities 1 As of 31 December 2012, CHF 113 billion of Loans, CHF 0 billion of Due from banks, CHF 1 billion of Reverse repurchase agreements, CHF 29 billion of Financial investments available-for-sale and CHF 7 billion of Financial assets designated at fair value are expected to be recovered or settled after twelve months. As of 31 December 2011, CHF 118 billion of Loans, CHF 1 billion of Due from banks, CHF 1 billion of Reverse repurchase agree- ments, CHF 20 billion of Financial investments available-for-sale and CHF 8 billion of Financial assets designated at fair value were expected to be recovered or settled after twelve months. 2 Represents the embedded de- rivative component of structured debt issued for which the fair value option has not been applied. The amounts shown here as positive and negative replacement values are presented within Debt issued on the balance sheet. 23,024 9,203 37,639 71,148 371,892 4,548 104,889 40,473 662,816 1,200,435 30,201 8,136 102,429 67,114 342,409 6,646 141,572 40,512 739,019 1,357,555 92,878 15,346 108,223 88,982 16,481 105,462 411 Financial informationNote 29 Measurement categories of financial assets and financial liabilities Financial information Notes to the consolidated financial statements b) Reclassification of financial assets In the fourth quarter of 2008 and the first quarter of 2009, finan- cial assets with fair values on their reclassification dates of CHF 26 billion and CHF 0.6 billion, respectively, were reclassified out of Trading portfolio assets to Loans. The reclassification of financial assets reflected UBS’s change in intent and ability to hold these financial assets for the fore- seeable future rather than for trading in the near term. The foreseeable future is interpreted to mean a period of approxi- mately 12 months following the date of reclassification. The fi- nancial assets were reclassified using their fair value on the date of the reclassification, which became their new cost basis at that date. Held-for-trading assets reclassified to loans and receivables CHF billion Carrying value Fair value Pro-forma fair value gain / (loss) 31.12.12 31.12.11 3.2 3.1 (0.1) 5.3 4.9 (0.4) The following table provides notional values, fair values and carrying values by product category for the remaining reclassified finan- cial assets. Held-for-trading assets reclassified to loans and receivables CHF billion US student loan and municipal auction rate securities Monoline-protected assets Leveraged finance US reference-linked notes Other assets Total 31.12.12 Notional value Fair value Carrying value 2.0 0.6 0.3 0.1 0.5 3.6 1.7 0.6 0.3 0.1 0.5 3.1 1.9 0.5 0.3 0.1 0.4 3.2 Ratio of carry- ing to notional value (%) 94 91 85 73 83 90 In 2012, the carrying value of the remaining reclassified financial assets decreased by CHF 2.1 billion, mainly due to sales of CHF 1.9 billion, of which CHF 0.9 billion related to sales of US student loan auction rate securities and CHF 0.3 billion related to sales of mon- oline-protected assets. The overall impact on operating profit be- fore tax from the financial assets for the year ended 31 December 2012 was a profit of CHF 49 million (see table below). If the finan- cial assets had not been reclassified, the impact on operating profit before tax for the year ended 31 December 2012 would have been a profit of approximately CHF 0.3 billion (2011: CHF 0.2 billion). Contribution of the reclassified assets to the income statement CHF million Net interest income Credit loss (expense) / recovery Other income 1 Impact on operating profit before tax 1 Includes net gains / (losses) on the disposal of reclassified financial assets. 412 For the year ended 31.12.12 31.12.11 116 (73) 7 49 381 36 306 723 Note 29 Measurement categories of financial assets and financial liabilities (continued) c) Maximum exposure to credit risk and credit quality information The table below represents the Group’s maximum exposure to credit risk by class of financial instrument and the respective col- lateral and other credit enhancements mitigating credit risk for these classes of financial instruments. The maximum exposure to credit risk includes the carrying amounts of financial instruments recognized on the balance sheet subject to credit risk and the notional amounts for off-balance sheet arrangements. Where information is available, collateral is presented at fair value; for other collateral such as real estate, a reasonable alterna- tive value is used. Credit enhancements (credit derivative con- tracts / guarantees) are included at their notional amounts. Both are capped at the maximum exposure to credit risk for which they serve as security. The section “Risk management and control” describes man- agement’s view of credit risk and the related exposures. These differ in certain respects to the requirements of the accounting standard. Maximum exposure to credit risk CHF billion Financial assets measured at amortized cost on the balance sheet Balances with central banks Due from banks 2 Loans 3 Cash collateral on securities borrowed Reverse repurchase agreements Cash collateral receivables on derivative instruments 4 Accrued income, other assets Total financial assets measured at amortized cost Financial assets measured at fair value on the balance sheet Positive replacement values 5 Trading portfolio assets – debt instruments 6, 7 Financial assets designated at fair value – debt instruments 8 Financial investments available-for-sale – debt instruments 9 Total financial assets measured at fair value Total maximum exposure to credit risk reflected on the balance sheet Guarantees Loan commitments Forward starting transactions, reverse repurchase and securities borrowing agreements Total maximum exposure to credit risk not reflected on the balance sheet Total at the year-end 31.12.12 Collateral Credit enhancements Maximum exposure to credit risk Cash collateral received Collateral- ized by securities Secured by real estate Other collateral 1 Netting Credit derivative contracts Guarantees 155.8 0.4 18.3 0.9 0.4 2.5 64.1 21.2 279.9 37.4 130.9 30.4 12.3 576.2 418.0 67.4 8.5 65.3 559.2 1,135.5 20.0 59.8 18.8 98.6 1,234.1 13.1 13.2 0.0 13.2 1.5 0.2 1.7 14.8 2.7 65.9 37.2 130.9 7.9 244.6 6.5 6.5 155.8 18.7 0.0 251.1 155.8 2.0 2.1 18.8 22.9 274.0 0.3 1.7 1.9 157.7 0.2 0.2 18.9 2.0 9.2 11.2 30.1 17.4 17.4 376.7 376.7 394.1 0.0 394.1 0.9 2.9 1.0 1.0 1.9 1.4 16.9 18.3 20.2 0.0 2.9 2.5 1.5 4.0 6.9 1 Includes but not limited to life insurance contracts, inventory, accounts receivable, patents, and copyrights. 2 Due from banks includes amounts held with 3rd party banks on behalf of clients. The credit risk associated to these balances may be borne by those clients. 3 Loans include a balance outstanding of USD 3.6 billion to the BlackRock fund. This loan is collateralized by a portfolio of US residential mortgage-backed securities included within “Other collateral”. Refer to the “Risk, treasury and capital management” section of this report for more information. 4 Included within cash collateral receivables on derivative instruments are margin balances due from exchanges or clearing houses. The amount shown in the netting column represents the netting with related negative replacement values in accordance with Swiss Federal Banking Law. 5 The amount shown in the netting column represents the netting with related negative replacement values and cash collateral payables in accordance with Swiss Federal Banking Law. For the purpose of this disclosure, securities col- lateral was not considered. 6 These positions are generally managed under the market risk framework and are included in VaR. For the purpose of this disclosure, collateral and credit enhancements were not consid- ered. 7 Does not include debt instruments held for unit-linked investment contracts and investment fund units. 8 Does not include investment fund units. 9 Does not include investment fund units. 413 Financial informationNote 29 Measurement categories of financial assets and financial liabilities (continued) Financial information Notes to the consolidated financial statements Maximum exposure to credit risk (continued) CHF billion Financial assets measured at amortized cost on the balance sheet Balances with central banks Due from banks 2 Loans 3, 4, 5 Cash collateral on securities borrowed Reverse repurchase agreements Cash collateral receivables on derivative instruments 6 Accrued income, other assets Total financial assets measured at amortized cost Financial assets measured at fair value on the balance sheet Positive replacement values 7 Trading portfolio assets – debt instruments 8, 9 Financial assets designated at fair value – debt instruments 10 Financial investments available-for-sale – debt instruments 11 Total financial assets measured at fair value Total maximum exposure to credit risk reflected on the balance sheet Guarantees Loan commitments Forward starting transactions, reverse repurchase and securities borrowing agreements Total maximum exposure to credit risk not reflected on the balance sheet Total at the year-end 31.12.11 Collateral Credit enhancements Maximum exposure to credit risk Cash collateral received Collateralized by securities Secured by real estate Other collateral 1 Netting Credit derivative contracts Guarantees 38.6 23.2 266.6 58.8 213.5 41.3 10.2 652.2 486.6 99.2 9.6 52.3 647.7 1,299.9 18.8 58.2 27.6 104.6 1,404.5 0.0 11.4 11.5 0.0 11.5 1.5 0.3 1.8 13.2 2.7 53.9 58.8 213.5 6.2 335.1 6.7 6.7 341.8 1.9 0.4 27.6 29.9 371.7 148.2 0.5 18.9 0.6 0.6 2.6 148.2 19.3 0.2 0.2 19.5 1.5 8.8 10.3 29.9 0.0 148.2 0.2 1.1 1.3 149.5 28.0 28.0 428.9 428.9 456.9 456.9 0.6 3.2 1.4 1.4 2.0 1.8 18.1 19.8 21.8 0.0 3.2 1.9 3.0 5.0 8.2 1 Includes but not limited to life insurance contracts, inventory, accounts receivable, patents, and copyrights. 2 Due from banks includes amounts held with 3rd party banks on behalf of clients. The credit risk associated to these balances may be borne by those clients. 3 Loans include a balance outstanding of USD 4.7 billion to the BlackRock fund. This loan is collateralized by a portfolio of US residential mortgage-backed securities included within “Other collateral”. Refer to the “Risk, treasury and capital management” section of this report for more information. 4 Loans include monoline-protected assets which were reclassified from held-for- trading to loans and receivables in fourth quarter 2008. The remaining carrying value of these assets was CHF 0.8 billion as of 31 December 2011. The fair value of credit default swap protection after credit valuation adjustments related to these assets was CHF 0.2 billion, which is not included in the column “Credit derivative contracts”. 5 In 2012, we corrected the classification of certain loans which were previously classified as unsecured loans to secured loans. As a result, total loans secured by Other collateral were increased by CHF 2.4 billion as of 31 December 2011. 6 Included within cash collateral receivables on derivative instruments are margin balances due from exchanges or clearing houses. The amount shown in the netting column represents the netting with related negative replacement values in accordance with Swiss Federal Banking Law. 7 The amount shown in the netting column represents the netting with related negative replacement values and cash collateral payables in accordance with Swiss Federal Banking Law. For the purpose of this disclosure, securities collateral received was not considered. 8 These positions are generally managed under the market risk framework and are included in VaR. For the purpose of this disclosure, collateral and credit enhancements were not considered. 9 Does not include debt instruments held for unit-linked investment contracts and investment fund units. 10 Does not include investment fund units. 11 Does not include invest- ment fund units. 414 Note 29 Measurement categories of financial assets and financial liabilities (continued) Financial assets subject to credit risk by rating category CHF billion Rating category 1 Balances with central banks Due from banks Loans Cash collateral on securities borrowed and reverse repurchase agreements Positive replacement values Cash collateral receivables on derivative instruments Trading portfolio assets – debt instruments 2 Financial investments available-for-sale – debt instruments Other financial instruments Financial instruments not recognized on the balance sheet Guarantees Loan commitments Forward starting reverse repurchase agreements Forward starting securities borrowing agreements Total CHF billion Rating category 1 Balances with central banks Due from banks Loans Cash collateral on securities borrowed and reverse repurchase agreements Positive replacement values Cash collateral receivables on derivative instruments Trading portfolio assets – debt instruments 2 Financial investments available-for-sale – debt instruments Other financial instruments Financial instruments not recognized on the balance sheet Guarantees Loan commitments Forward starting reverse repurchase agreements Forward starting securities borrowing agreements Total 0–1 46.2 0.9 4.6 2.3 13.4 6.3 34.2 57.7 0.3 2.3 0.2 0.0 2–3 17.9 14.0 84.2 123.3 348.9 17.1 17.2 7.6 3.2 9.7 34.6 17.4 0.2 4–5 0.0 4.5 121.3 25.8 44.4 4.0 7.8 0.0 7.9 3.7 11.6 0.6 31.12.12 6–8 9–13 defaulted 1.6 57.2 14.9 9.9 2.9 3.4 0.0 8.8 3.3 6.7 0.5 0.1 11.5 2.0 1.4 0.1 4.8 0.0 0.4 0.9 6.7 0.0 1.1 0.0 0.2 0.0 0.2 0.2 0.0 0.1 Total 64.1 21.2 279.9 168.3 418.0 30.4 67.4 65.3 20.8 20.0 59.8 18.6 0.2 168.2 695.4 231.5 109.2 28.0 1.8 1,234.1 0–1 27.3 0.4 6.9 1.3 11.9 7.0 45.6 43.3 0.1 2.0 0.3 0.1 2–3 11.2 16.0 78.6 215.9 400.6 25.8 36.5 9.0 5.8 9.9 31.7 26.1 0.5 4–5 0.0 3.5 110.6 29.2 53.4 3.8 8.0 0.0 3.0 3.2 13.2 0.6 31.12.11 6–8 0.0 3.0 57.4 22.7 17.4 4.6 3.8 0.0 7.9 2.7 5.8 0.4 9–13 defaulted 0.2 11.9 3.1 2.5 0.1 5.2 0.0 2.7 1.1 7.1 0.0 1.1 0.0 0.7 0.0 0.1 0.3 0.1 Total 38.6 23.2 266.6 272.3 486.6 41.3 99.2 52.3 19.9 - 18.8 58.2 27.1 0.5 146.2 867.6 228.5 125.7 34.0 2.4 1,404.5 1 Refer to the “UBS internal rating scale and mapping of external ratings” table in the “Risk, treasury and capital management” section of this report for more information on rating categories. 2 Does not include debt instruments held for unit-linked investment contracts and investment fund units. 415 Financial informationNote 29 Measurement categories of financial assets and financial liabilities (continued) Financial information Notes to the consolidated financial statements During the fourth quarter of 2012, UBS adopted revisions to IAS19 Employee Benefits (“IAS 19R”) retrospectively in accor- dance with the transitional provisions set out in IAS 19R and IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors. IAS 19R introduces changes to the recognition, measurement, presentation and disclosure of post-employment benefits. Refer to “Note 1b Changes in accounting policies, comparability, and other adjustments” for more information. The following table provides information relating to pension costs for defined benefit plans and defined contribution plans. These costs are part of Personnel expenses. Income statement – pension and other post-employment benefit plans CHF million Net periodic pension cost for defined benefit plans of which: related to major pension plans 1 of which: Swiss plan of which: International plans of which: related to post-retirement medical and life insurance plans 2 of which: related to remaining plans and other costs 3 Pension cost for defined contribution plans 4 Total pension and other post-employment benefit plans 5 31.12.12 31.12.11 31.12.10 (222) (116) (198) 82 (102) (3) 240 18 577 519 453 66 (2) 60 254 831 588 542 457 85 20 25 246 834 1 Refer to “Note 30a Defined benefit pension plans” for more information. 2 Refer to “Note 30b Post-retirement medical and life insurance plans” for more information. 3 Other costs include differences between actual and estimated performance award accruals and net accrued pension costs related to restructuring. 4 Refer to “Note 30c Defined contribution plans” for more information. 5 Refer to “Note 6 Personnel expenses”. The following table provides information relating to amounts recognized in other comprehensive income for defined benefit plans. Other comprehensive income – gains / (losses) on pension and other post-employment benefit plans CHF million Major pension plans 1 of which: Swiss plan of which: International plans Post-retirement medical and life insurance plans 2 Remaining plans Gains / (losses) recognized in other comprehensive income, before tax Tax (expense) / benefit relating to defined benefit plans recognized in other comprehensive income Gains / (losses) recognized in other comprehensive income, after tax 3 Cumulative amount of gains / (losses) recognized in other comprehensive income, before tax Cumulative tax (expense) / benefit relating to defined benefit plans recognized in other comprehensive income Cumulative gains / (losses) recognized in other comprehensive income, after tax 4 31.12.12 31.12.11 31.12.10 1,053 1,095 (42) (26) (5) 1,023 (413) 609 (5,542) 736 (4,806) (2,120) (1,811) (309) (19) 0 (2,141) 321 (1,820) (6,565) 1,149 (5,415) 160 117 42 (36) 0 124 (3) 120 (4,424) 828 (3,596) 1 Refer to “Note 30a Defined benefit pension plans” for more information. 2 Refer to “Note 30b Post-retirement medical and life insurance plans” for more information. 3 Refer to the “Statement of comprehensive income”. 4 Refer to the “Statement of changes in equity”. The following table provides information on UBS’s liabilities with respect to pension and post-employment benefit plans. These are recognized on the balance sheet within Other liabilities. All major plans are currently in a net deficit situation. Balance sheet – net defined benefit pension and post-employment liability CHF million Major pension plans 1 of which: Swiss plan of which: International plans Post-retirement medical and life insurance plans 2 Remaining plans Total net defined benefit pension and post-employment liability 3 31.12.12 1,108 118 990 136 39 1,284 31.12.11 31.12.10 2,897 1,941 956 219 18 3,135 831 184 647 209 17 1,056 1 Refer to “Note 30a Defined benefit pension plans” for more information. 2 Refer to “Note 30b Post-retirement medical and life insurance plans” for more information. 3 Refer to “Note 22 Other liabilities”. 416 Note 30 Pension and other post-employment benefit plans a) Defined benefit pension plans UBS has established pension plans for its employees in various locations. The major plans are located in Switzerland, the UK, the US and Germany. Independent actuarial valuations for the plans in these countries are performed as required. The overall investment policy and strategy for UBS’s defined benefit pension plans is guided by the objective of achieving an investment return which, together with contributions, ensures that there will be sufficient assets to pay pension benefits as they fall due while also mitigating the various risks of the plans. For the plans with assets (i.e. funded plans), the investment strategies for the plans are generally managed under local laws and regulations in each jurisdiction. The actual asset allocation is determined by current and expected economic and market conditions and in consideration of specific asset class risk in the risk profile. Within this framework, UBS ensures that the fiduciaries consider how the asset investment strategy correlates with the maturity profile of the plan liabilities and the respective potential impact on the funded status of the plans, including potential short term liquidity requirements. Specific asset-liability matching strategies for each pension plan are independently determined by the responsible governance body in each country. The pension assets are invested in a diversified portfolio of assets across geographic regions to ensure diversified returns to the extent allowed under local pen- sion laws. Swiss pension plan The Swiss pension plan covers nearly all UBS employees in Swit- zerland and exceeds the minimum benefit requirements under Swiss pension law. Contributions to the pension plan are paid by the employees and the employer. The Swiss pension plan allows employees a choice with regard to the level of annual contribu- tions paid by the employee. Employee contributions are calcu- lated as a percentage of contributory salary and are deducted monthly. The percentages deducted from salary depend on age and vary between 1% and 13.5% of contributory base salary and between 0% and 9% of contributory variable compensa- tion. Depending on the age of the employee, UBS pays a contri- bution that ranges between 6.5% and 27.5% of contributory base salary and between 3.6% and 9% of contributory variable compensation for retirement credits. UBS also pays risk contribu- tions which are used to finance benefits paid out in the event of death and disability, as well as to finance the old age and survi- vors’ bridging pensions. The benefits include retirement benefits and disability, death and survivor pensions. The pension plan provides a lifetime pension to members at the normal retirement age of 62 for 2012. From 2013 onwards, the normal retirement age is 64. Members can draw retirement benefits early from the age of 58. A portion of the benefit, up to the full amount under certain conditions, can be taken as a lump sum payment at retire- ment. The amount of pension payable is a result of the conver- sion rate applied on the accumulated balance of the individual plan participant’s pension account at the retirement date. The accumulated balance on the pension account is based on the employee and employer contributions that have been made to the pension account of each individual plan participant, as well as the interest accrued on the accumulated balance. The interest rate accrued is defined annually by the Pension Foundation Board. Although the Swiss pension plan is a defined contribution plan under Swiss pension law, it is accounted for as a defined benefit plan under IAS 19R, primarily because of the need to accrue interest on the pension accounts and the payment of lifetime pensions. The Swiss pension plan is governed by the Pension Foundation Board as required by the Swiss pension law. The responsibilities of the Pension Foundation Board are defined by Swiss pension law and by the plan rules. According to Swiss pension law, a temporary limited underfunding is permitted. However, the Pension Foundation Board is required to take the necessary measures to ensure that full funding can be expected to be restored within a period up to a maximum of ten years. Under Swiss pension law, if the Swiss pension plan became sig- nificantly underfunded on a Swiss pension law basis, additional employer and employee contributions could be required. In these situations, the risk is shared between employer and employees, and the employer is not legally obliged to cover more than 50% of the additional contributions required. The Swiss pension plan has a technical funding ratio under Swiss pension law of 123.4% as of 31 December 2012 (as of 31 December 2011: 117.3%), and thus it is not expected that additional contributions will be re- quired in the next year. The investment strategy of the Swiss plan is in line with Swiss pension law, including the rules and regula- tions relating to diversification of plan assets. The Pension Foun- dation Board strives for a medium- and long-term consistency and sustainability between assets and liabilities. Under IAS 19R, volatility arises in the Swiss pension plan net liability because the fair value of the plan assets is not directly correlated to move- ments in the value of the plan’s defined benefit obligation in the short-term. There are ongoing discussions in the Swiss parliament on pos- sible changes to Swiss pension law. The outcome of these discus- sions and the timing of any resulting changes are uncertain. In the first quarter of 2012, UBS announced certain changes to its Swiss pension plan. The main changes were a reduction in con- version rate on retirement and an increase of the normal retire- ment age, which serve in part to offset the impact of the increased life expectancy reflected in the defined benefit obligation due to the adoption of the BVG 2010 generational table in 2011. This plan amendment reduced the defined benefit obligation by CHF 730 million resulting in a gain in the first quarter of 2012. The employer contributions expected to be made to the Swiss pension plan in 2013 are estimated to be CHF 480 million. The actuarial 417 Financial informationNote 30 Pension and other post-employment benefit plans (continued) Financial information Notes to the consolidated financial statements assumptions used for the Swiss pension plan are based on the local economic environment and are disclosed below. Refer also to Note 1a) 24) for a description of the accounting policy for de- fined benefit pension plans. International pension plans The international locations of UBS operate various pension plans in accordance with local regulations and practices. The locations with significant defined benefit plans are the UK, the US and Germany. The remaining non-major plans are located mainly in Asia Pacific, Europe and the Americas. As these other plans are not significant, no further disclosure is given within this note. The amounts shown for the international plans reflect the net funded positions of the significant international plans. UBS’s general principle is to ensure that the plans are appropriately funded under local pension regu- lations in each country and this is the primary driver for determin- ing when additional contributions are required. Similar to the Swiss pension plan, volatility arises in the international pension plans’ net liability because the fair value of the plan assets are not directly correlated to movements in the value of the plans’ defined benefit obligation. The pension plans provide benefits in the event of retirement, death or disability. The level of benefits provided depends on the specific rate of benefit accrual and the level of employee compensation. The employer contributions expected to be made to these pension plans in 2013 are estimated to be CHF 136 million. The funding policy for these plans is consistent with local government regulations and tax requirements. The actuarial assumptions used for the international plans are based on the local economic environment and are disclosed below. Refer also to Note 1a) 24) for a description of the accounting policy for defined benefit pension plans. UK The UK plan is a career average revalued earnings scheme; bene- fits increase automatically based on UK price inflation. Normal retirement age for the UK plan is 60. The plan is closed to new entrants, who instead can participate in a defined contribution arrangement. There is a UK Pension Trustee Board which is re- quired under local pension laws. The responsibility for governance of the UK plan lies jointly with the Pension Trustee Board and UBS. The employer contributions to the pension fund are determined based on regular scheduled actuarial valuations. These actuarial valuations are required to be conducted on assumptions deter- mined by the Trustees and agreed by UBS. In the event of an un- derfunding, UBS must agree a deficit recovery plan with the Pen- sion Trustee Board within statutory deadlines. As the plan’s obligation is to provide guaranteed lifetime pension benefits to plan participants upon retirement, increases in life expectancy will result in an increase in the plan’s liabilities. This is particularly sig- nificant in the UK plan where inflationary increases result in high- er sensitivity to changes in the life expectancy. Based on the plan rules and due to local pension legislation there 418 are caps on the level of inflationary increase applied to plan ben- efits. The plan assets are invested in a diversified class of assets and a portion of the plan assets are invested in inflation-indexed bonds, to provide a partial hedge against inflation. If inflation in- creases, the plan obligation will likely increase more significantly than any change in the fair value of plan assets; this would result in an increase in the net pension plan liability. US There are two distinct major pension plans in the US. Normal re- tirement age for the US plans is 65. The plans are closed to new entrants, who instead can participate in defined contribution plans. One plan is a contribution-based plan where each partici- pant accrues a percentage of salary in a pension account. The pension account is credited annually with interest based on a rate which is linked to the yield on a US government bond. On retire- ment, the plan participant can elect to receive the retirement benefit as a lump sum or a lifetime pension. The other plan pro- vides a lifetime pension which is based on the career average earnings of each individual plan participant. There are pension plan fiduciaries for both of the major pension plans as required under local state pension laws. The fiduciaries, jointly with UBS, are responsible for the governance of the plans. Actuarial valua- tions are regularly completed for the plans and UBS has histori- cally elected to make contributions to the plans to at least main- tain a funded ratio of 80% as valued under local pension regulations. The annual employer contributions are equal to the present value of benefits accrued each year plus a rolling amorti- zation of any prior underfunding. If the employer contributes more than the minimum or the plan has assets exceeding the liabilities, the excess can be used to offset minimum funding requirements. Germany There are two different pension plans in Germany and both are contribution-based plans. Normal retirement age for the German plans is 65. The major pension plan is funded entirely by UBS, and the contribution is based on the salary of the employee. On an annual basis the accumulated account balance of the plan participant is credited with guaranteed interest at a rate of 5%. The other plan is a deferred compensation plan. The deferred compensation plan has a guaranteed interest rate of 4% on con- tributions paid after 2009. The German plans are regulated un- der German pension law under which the responsibility to pay pension benefits when they are due is entirely the responsibility of UBS. The following table provides an analysis of the movement in the net asset / (liability) recognized on the balance sheet for de- fined benefit pension plans between the beginning to the end of the year, as well as an analysis of amounts recognized in net prof- it and in other comprehensive income. Note 30 Pension and other post-employment benefit plans (continued) Defined benefit pension plans CHF million For the year ended Swiss International 31.12.12 31.12.11 31.12.10 31.12.12 31.12.11 31.12.10 Defined benefit obligation at the beginning of the year 22,555 20,873 20,684 4,414 4,053 4,353 Current service cost Interest expense Plan participant contributions Remeasurement of defined benefit obligation of which: actuarial (gains) / losses arising from changes in demographic assumptions of which: actuarial (gains) / losses arising from changes in financial assumptions of which: experience (gains) / losses Past service cost related to plan amendments Curtailments Benefit payments Termination benefits Foreign currency translation Defined benefit obligation at the end of the year of which: amounts owing to active members of which: amounts owing to deferred members of which: amounts owing to retirees Fair value of plan assets at the beginning of the year Return on plan assets excluding amounts included in interest income Interest income Employer contributions – excluding termination benefits Employer contributions – termination benefits Plan participant contributions Benefit payments Administration expenses, taxes and premiums paid Foreign currency translation Fair value of plan assets at the end of the year Net defined benefit asset / (liability) Movement in the net asset / (liability) recognized on the balance sheet Net asset / (liability) recognized on the balance sheet at the beginning of the year Net periodic pension cost Amounts recognized in other comprehensive income Employer contributions – excluding termination benefits Employer contributions – termination benefits Foreign currency translation 531 462 205 29 0 20 1 9 (730) (54) (1,139) 43 0 21,901 10,602 0 11,299 20,614 1,124 460 486 43 205 (1,139) (11) 0 21,783 (118) (1,941) 198 1,095 486 43 0 435 557 211 1,452 838 614 0 0 0 407 643 197 149 (423) 825 (253) 0 0 33 211 0 258 (27) 269 17 0 0 (985) (1,252) (164) 11 0 22,555 12,269 0 10,286 20,690 (359) 562 495 11 211 (985) (11) 0 20,614 (1,941) (184) (453) (1,811) 495 11 0 45 0 20,873 11,418 0 9,455 20,286 266 650 510 45 197 (1,252) (12) 0 20,690 (184) (398) (457) 117 510 45 0 0 20 4,773 713 2,378 1,682 3,458 216 167 84 0 0 (164) (5) 26 3,783 (990) (956) (82) (42) 84 0 5 33 210 0 260 87 219 (47) 0 0 (145) 0 3 4,414 644 2,188 1,582 3,406 (50) 180 71 0 0 (145) (3) (1) 3,458 (956) (647) (66) (309) 71 0 (5) Net asset / (liability) recognized on the balance sheet at the end of the year (118) (1,941) (184) (990) (956) Funded and unfunded plans Defined benefit obligation from funded plans Defined benefit obligation from unfunded plans Plan assets Surplus / (deficit) 21,901 22,555 20,873 0 21,783 (118) 0 20,614 (1,941) 0 20,690 (184) 4,472 301 3,783 (990) 4,174 240 3,458 (956) 41 237 0 141 28 95 18 0 0 (148) 0 (573) 4,053 792 1,986 1,275 3,517 184 198 86 0 0 (148) (5) (427) 3,406 (647) (836) (85) 42 86 0 146 (647) 3,813 240 3,406 (647) 1 During 2012, UBS revised its approach for calculating past service cost for certain members of the Swiss pension plan to consider not only age but also the initial employee contributions transferred to, or withdrawn from, the plan. This affected the distribution between past and future service costs, resulting in a current period reduction in the defined benefit obligation of CHF 841 million. This amount is offset by other remeasure- ment changes relating to changes in financial assumptions. 419 Financial informationNote 30 Pension and other post-employment benefit plans (continued) Financial information Notes to the consolidated financial statements Defined benefit pension plans (continued) Analysis of amounts recognized in net profit CHF million For the year ended Current service cost Interest expense related to defined benefit obligation Interest income related to plan assets Administration expenses, taxes and premiums paid Past service cost related to plan amendments Curtailments Termination benefits Net periodic pension cost Swiss International 31.12.12 31.12.11 31.12.10 31.12.12 31.12.11 31.12.10 531 462 (460) 11 (730) (54) 43 (198) 435 557 (562) 11 0 0 11 453 407 643 (650) 12 0 0 45 457 33 211 (167) 5 0 0 0 82 33 210 (180) 3 0 0 0 66 41 237 (198) 5 0 0 0 85 Analysis of gains / (losses) recognized in other comprehensive income CHF million For the year ended Remeasurement of defined benefit obligation Return on plan assets excluding amounts included in interest income Total gains / (losses) recognized in other comprehensive income Swiss International 31.12.12 31.12.11 31.12.10 31.12.12 31.12.11 31.12.10 (29) 1,124 1,095 (1,452) (359) (1,811) (149) 266 117 (258) 216 (42) (260) (50) (309) (141) 184 42 The following table provides information on the weighted average duration of the defined benefit pension obligations and the distri- bution of the timing of benefit payments. Duration of the defined benefit obligation Maturity analysis of benefits expected to be paid Benefits expected to be paid within 12 months Benefits expected to be paid between 1 to 3 years Benefits expected to be paid between 3 to 6 years Benefits expected to be paid between 6 to 11 years Benefits expected to be paid between 11 to 16 years Benefits expected to be paid in more than 16 years 1 For international plans the duration is a weighted average duration. Swiss 31.12.12 31.12.11 31.12.10 31.12.12 International 1 31.12.11 15.7 15.8 15.1 18.2 19.1 1,036 2,051 3,022 5,527 5,783 1,014 2,036 3,136 5,819 6,117 1,017 2,052 3,146 5,430 5,679 28,828 29,597 30,563 150 310 538 1,157 1,471 9,264 153 310 532 1,110 1,410 9,625 31.12.10 18.1 153 320 580 1,290 1,627 8,748 420 Note 30 Pension and other post-employment benefit plans (continued) The following tables show the principal actuarial assumptions used in calculating the defined benefit obligations. Principal actuarial assumptions used (%) Assumptions used to determine defined benefit obligations at the end of the year Discount rate Rate of salary increase Rate of pension increase Rate of interest credit on retirement savings 1 For the international plans the actuarial assumptions are weighted average assumptions. Swiss 31.12.12 31.12.11 31.12.10 31.12.12 International 1 31.12.11 31.12.10 1.9 2.5 0.0 2.1 2.3 2.5 0.0 2.5 2.8 2.5 0.3 3.0 4.3 4.1 2.1 4.8 4.1 2.1 5.4 4.9 2.3 421 Financial informationNote 30 Pension and other post-employment benefit plans (continued)Mortality tables and life expectancies for major plansLife expectancy at age 65 for a male member currentlyaged 65aged 45CountryMortality table31.12.1231.12.1131.12.1031.12.1231.12.1131.12.10SwitzerlandBVG 2010 G 121.221.117.923.022.817.9UKS1NA_L CMI 2010 G, with projections 224.524.323.027.527.325.9GermanyDr. K. Heubeck 2005 G19.619.419.322.322.122.0USPPA mandated mortality table per IRC 1.430(h)(3)19.219.119.019.219.119.0Life expectancy at age 65 for a female member currentlyaged 65aged 45CountryMortality table31.12.1231.12.1131.12.1031.12.1231.12.1131.12.10SwitzerlandBVG 2010 G 123.723.621.025.425.321.0UKS1NA_L CMI 2010 G, with projections 225.625.524.727.927.826.6GermanyDr. K. Heubeck 2005 G23.723.523.426.226.126.0USPPA mandated mortality table per IRC 1.430(h)(3)21.021.020.921.021.020.91 In 2010 the mortality table BVG 2005 was used; the mortality tables are updated every five years. 2 In 2010 the mortality table PA 2000 G, medium cohort with adjustment was used. Financial information Notes to the consolidated financial statements The following table presents a sensitivity analysis for each significant actuarial assumption showing how the defined benefit obligation would have been affected by changes in the relevant actuarial assumption that were reasonably possible at the balance sheet date. This sensitivity analysis applies to the defined benefit obligation only and not to the net defined benefit pension liability in its entirety, the measurement of which is driven by a number of factors including, in addition to the assumptions below, the fair value of plan assets. Sensitivity analysis of significant actuarial assumptions 1 CHF million Discount rate Increase by 50 basis points Decrease by 50 basis points Rate of salary increase Increase by 50 basis points Decrease by 50 basis points Rate of pension increase Increase by 50 basis points Decrease by 50 basis points Rate of interest credit on retirement savings Increase by 50 basis points Decrease by 50 basis points Life expectancy Increase in longevity by one additional year Swiss plan: increase / (decrease) in defined benefit obligation International plans: increase / (decrease) in defined benefit obligation 31.12.12 31.12.12 (1,438) 1,639 163 (155) 1,118 0 2 304 (286) 613 (410) 470 2 (2) 355 (281) 125 1 The sensitivity analyses are based on a change in one assumption while holding all other assumptions constant, so that interdependencies between the assumptions are excluded. The methodology applied is consistent to that used to determine the recognized pension liability. 2 As the assumed rate of pension increase was 0% as of 31 December 2012, a downward change in assumption is not applicable. 422 Note 30 Pension and other post-employment benefit plans (continued) The following table provides information on the composition and fair value of plan assets of the Swiss pension plan and the interna- tional pension plans. Composition and fair value of plan assets Swiss Plan 31.12.12 31.12.11 31.12.10 Fair value Plan asset allocation % Fair value Plan asset allocation % Fair value Plan asset allocation % Quoted in an active market 602 Other 0 Total 602 0 2,377 2,377 597 5,210 3,492 0 7,060 615 0 593 0 0 824 0 0 0 0 138 259 16 597 6,034 3,492 0 7,060 615 138 853 16 Quoted in an active market 436 Other 0 0 2,312 477 4,423 2,543 0 8,385 0 133 649 0 0 804 0 0 0 0 158 274 20 3 11 3 28 16 0 32 3 1 4 0 Quoted in an active market 122 Other 0 0 2,249 432 4,772 1,019 0 10,197 0 141 521 0 0 768 0 0 0 0 134 313 20 2 11 2 26 12 0 41 0 1 4 0 1 11 2 27 5 0 49 0 1 4 0 18,169 3,614 21,783 100 17,047 3,567 100 17,205 3,485 100 CHF million Cash and cash equivalents Real estate / property Domestic Investment funds Equity Domestic Foreign Bonds 1 Domestic, AAA to BBB– Domestic, below BBB– Foreign, AAA to BBB– Foreign, below BBB– Real estate Foreign Other Other investments Total Total fair value of plan assets of which: UBS debt instruments and bank accounts at UBS UBS shares Property occupied by UBS Derivative financial instruments, counterparty UBS 31.12.12 21,783 611 32 158 83 31.12.11 20,614 516 23 157 20 31.12.10 20,690 258 25 188 298 1 The bond credit ratings are primarily based on Standard and Poor’s credit ratings. Ratings AAA to BBB– and below BBB– represent investment grade and non-investment grade ratings, respectively. In cases where credit ratings from other rating agencies were used, these were converted to the equivalent rating in the Standard & Poor’s rating classification. 423 Financial informationNote 30 Pension and other post-employment benefit plans (continued) Financial information Notes to the consolidated financial statements Composition and fair value of plan assets (continued) International Plans 31.12.12 31.12.11 31.12.10 Fair value Quoted in an active market Other 95 121 121 19 23 0 624 874 1,082 219 125 132 0 0 61 0 8 3,503 0 0 0 0 0 0 4 0 0 0 0 0 95 0 163 15 4 280 Total 95 121 121 19 23 0 628 874 1,082 219 125 132 95 0 223 15 11 3,783 3,783 Weighted average plan asset allocation % Weighted average plan asset allocation % Fair value Quoted in an active market Other Fair value Quoted in an active market Other Weighted average plan asset allocation % 3 3 3 1 1 0 16 23 29 6 3 4 3 0 6 0 0 83 118 118 17 21 0 543 771 1,152 62 201 59 0 0 31 0 10 100 3,185 0 0 0 0 0 3 0 0 0 0 0 93 0 163 14 0 273 3,458 2 3 3 1 1 0 16 22 33 2 6 2 3 0 6 0 0 27 129 72 7 14 0 708 814 964 58 140 99 0 0 34 0 14 100 3,079 0 0 0 0 0 3 3 0 0 0 0 0 92 0 215 14 0 327 3,046 1 4 2 0 0 0 21 24 28 2 4 3 3 0 7 0 0 100 CHF million Cash and cash equivalents Bonds 1 Domestic, AAA to BBB– Domestic, below BBB– Foreign, AAA to BBB– Foreign, below BBB– Private equity Investment funds Equity Domestic Foreign Bonds 1 Domestic, AAA to BBB– Domestic, below BBB– Foreign, AAA to BBB– Foreign, below BBB– Real estate Domestic Foreign Other Insurance contracts Other investments Total Total fair value of plan assets 1 The bond credit ratings are primarily based on Standard and Poor’s credit ratings. Ratings AAA to BBB– and below BBB– represent investment grade and non-investment grade ratings, respectively. In cases where credit ratings from other rating agencies were used, these were converted to the equivalent rating in the Standard & Poor’s rating classification. b) Post-retirement medical and life insurance plans In the US and the UK, UBS offers retiree medical benefits that contribute to the health care coverage of certain employees and their beneficiaries after retirement. The UK medical plan is closed to new entrants. In the US, in addition to retiree medical benefits, UBS also provides retiree life insurance benefits to certain em- ployees. The post-retirement medical benefits in the UK and the US cover all types of medical expenses including, but not limited to, cost of doctor visits, hospitalization, surgery and pharmaceu- ticals. The retirees contribute to the cost of the post-retirement medical benefits. These plans are not pre-funded plans; cost are incurred as amounts are paid. In the second quarter of 2012, UBS announced changes to the retiree medical and life insurance benefit plans in the US. This change reduced the defined benefit obligation by CHF 116 million with a corresponding gain recognized in the income statement. The employer contributions expected to be made to the post- retirement medical and life insurance plans in 2013 are estimated at CHF 7 million. 424 Note 30 Pension and other post-employment benefit plans (continued) Pension and other post-employment benefit plans The following table provides an analysis of the net asset / (liability) recognized on the balance sheet for post-retirement medical and life insurance plans between the beginning to the end of the year, as well as an analysis of amounts recognized in net profit and in other comprehensive income. Post-retirement medical and life insurance plans CHF million For the year ended Defined benefit obligation at the beginning of the year Current service cost Interest expense Plan participant contributions Remeasurement of defined benefit obligation of which: actuarial (gains) / losses arising from changes in demographic assumptions of which: actuarial (gains) / losses arising from changes in financial assumptions of which: experience (gains) / losses Past service cost related to plan amendments Curtailments Benefit payments 1 Foreign currency translation Defined benefit obligation at the end of the year of which: amounts owing to active members of which: amounts owing to deferred members of which: amounts owing to retirees Fair value of plan assets at the end of the year Net defined benefit asset / (liability) Analysis of amounts recognized in net profit Current service cost Interest expense related to defined benefit obligation Past service cost related to plan amendments Curtailments Net periodic cost Analysis of gains / (losses) recognized in other comprehensive income Remeasurement of defined benefit obligation Total gains / (losses) recognized in other comprehensive income 1 Benefits payments are funded by employer contribution and plan participant contributions. 31.12.12 219 6 9 3 26 0 10 16 (9) (108) (9) (1) 136 27 0 109 0 (136) 6 9 (9) (108) (102) (26) (26) 31.12.11 209 9 11 2 19 0 19 0 (9) (13) (9) 1 219 122 0 97 0 (219) 9 11 (9) (13) (2) (19) (19) 31.12.10 186 9 11 2 36 8 21 6 0 0 (10) (25) 209 112 0 97 0 (209) 9 11 0 0 20 (36) (36) The post-retirement benefit obligation is determined by using the assumed average health care cost trend rate. On a country-by- country basis, the same discount rate is used for the calculation of the post-retirement benefit obligation from medical and life insur- ance plans as for the defined benefit obligations arising from pen- sion plans. The discount rate and the assumed average health care cost trend rates are presented in the following table. The calculation of the post-retirement benefit obligation also uses life expectancy rates, as disclosed in “Note 30a Defined benefit pension plans” above. Principal weighted average actuarial assumptions used (%) 1 Assumptions used to determine defined benefit obligations at the end of the year CHF million For the year ended Discount rate Average health care cost trend rate – initial Average health care cost trend rate – ultimate 1 The assumptions for life expectancies are provided within “Note 30a Defined benefit pension plans”. 31.12.12 31.12.11 31.12.10 4.1 7.6 5.0 5.0 7.9 5.0 5.5 8.1 5.0 425 Financial informationNote 30 Pension and other post-employment benefit plans (continued) Financial information Notes to the consolidated financial statements The following table presents a sensitivity analysis for each significant actuarial assumption showing how the defined benefit obligation would have been affected by changes in the relevant actuarial assumption that were reasonably possible at the balance sheet date. Sensitivity analysis of significant actuarial assumptions 1 CHF million Discount rate Increase by 50 basis points Decrease by 50 basis points Average health care cost trend rate Increase by 100 basis points Decrease by 100 basis points Life expectancy Increase in longevity by one additional year Increase / (decrease) in defined benefit obligation 31.12.12 (8) 9 12 (10) 9 1 The sensitivity analyses are based on a change in one assumption while holding all other assumptions constant, so that interdependencies between the assumptions are excluded. The methodology applied is consistent to that used to determine the recognized post-retirement benefit liability. c) Defined contribution plans UBS also sponsors a number of defined contribution plans in its international locations. The locations with significant defined con- tribution plans are the UK and the US. Certain plans permit em- ployees to make contributions and earn matching or other contri- butions from UBS. The employer contributions to these plans are recognized as an expense which, for the years ended 31 December 2012, 31 December 2011 and 31 December 2010, amounted to CHF 240 million, CHF 254 million and CHF 246 million, respectively. d) Related party disclosure UBS is the principal bank for the pension fund of UBS in Switzer- land. In this function, UBS is engaged to execute most of the pension fund’s banking activities. These activities can include, but are not limited to, trading and securities lending and borrowing. All transactions have been executed under arm’s length condi- tions. The international UBS pension funds do not have a similar banking relationship with UBS. In 2008, UBS sold certain bank-occupied properties to the Swiss pension fund. Simultaneously, UBS and the Swiss pension fund entered into lease-back arrangements for some of the properties with 25-year lease terms and two renewal options for ten years each. During 2009, UBS renegotiated one of the lease contracts which reduced UBS’s remaining lease commitment. As of 31 December 2012, the minimum commitment towards the Swiss pension fund under the related leases is approximately CHF 11 million (31 December 2011: CHF 16 million). The following amounts have been received or paid by UBS from and to the pension funds in respect of these banking activi- ties and arrangements: Related party disclosure CHF million Received by UBS Fees Paid by UBS Rent Interest 426 For the year ended 31.12.12 31.12.11 31.12.10 31 9 1 24 10 3 21 11 3 Note 30 Pension and other post-employment benefit plans (continued) The transaction volumes in UBS shares and other UBS securities are as follows: Transaction volumes – related parties Financial instruments bought by pension funds UBS shares (in thousands of shares) UBS debt instruments (par values in CHF million) Financial instruments sold by pension funds or matured UBS shares (in thousands of shares) UBS debt instruments (par values in CHF million) For the year ended 31.12.12 31.12.11 31.12.10 2,926 10 3,645 81 2,713 7 2,374 18 2,684 40 4,735 10 Details of the fair value of the plan assets of the defined pen- sion plans are disclosed in “Note 30a Defined benefit pension plans”. In addition, UBS defined contribution pension funds held 16,690,174 UBS shares with a fair value of CHF 240 mil- lion as of 31 December 2012 (31 December 2011: 17,628,845 UBS shares with a fair value of CHF 196 million; 31 December 2010: 17,665,621 UBS shares with a fair value of CHF 272 mil- lion). 427 Financial informationNote 30 Pension and other post-employment benefit plans (continued) Financial information Notes to the consolidated financial statements a) Plans offered UBS operates several equity participation and other compensation plans to align the interests of executives, managers and staff with the interests of shareholders. Some plans (e.g. Equity Plus and EOP) are granted to eligible employees in approximately 50 coun- tries and are designed to meet the legal, tax and regulatory re- quirements of each country in which they are offered. Certain plans are used in specific countries, business areas (e.g. awards granted within Wealth Management Americas), or are offered to members of the Group Executive Board (GEB) only. UBS operates compensation plans on a mandatory, discretionary and voluntary basis. The explanations below provide a general description of the terms of the most significant plans which relate to the perfor- mance year 2012 (granted in 2013) and those from prior years that are partly expensed in 2012. Refer to Note 1a) 25) for a de- scription of the accounting policy related to equity participation and other compensation plans. Mandatory share-based compensation plans Equity Ownership Plan (EOP): Selected employees receive a por- tion of their annual performance-related compensation above a certain threshold in the form of an EOP award of UBS shares, notional shares or UBS performance shares (i.e. notional shares which are subject to performance conditions). Since 2011 (for the performance year 2010), performance shares have been granted to EOP participants who are risk-takers, Group Managing Direc- tors or employees whose incentive exceeds a certain threshold. In respect of an award granted in 2011 and 2012, these perfor- mance shares will only vest in full if certain performance targets are met, i.e. if the participant’s business division is profitable (for Corporate Center participants, the Group as a whole needs to be profitable) in the financial year preceding the relevant vesting date. Adjustments to reported profitability may be made based on considerations relating to risk, quality and reliability of earnings, as well as achievement of specific targets. For performance shares granted in respect of the performance year 2012, the perfor- mance conditions are based on the Group return on tangible equity and the divisional return on attributed equity. Replacement awards (including sign-on payments) can be offered in deferred cash under the EOP plan rules. Awards of UBS shares allow for voting and dividend rights dur- ing the vesting period, whereas notional and performance shares represent a promise to receive UBS shares at vesting and do not allow for voting rights or dividends during the vesting period. Awards granted in the form of UBS shares, notional shares and performance shares are settled by delivering UBS shares at vest- ing, except in countries where this is not permitted for legal rea- sons. EOP awards granted until 2012 generally vest in three equal increments over a three-year vesting period and awards granted since March 2013 generally vest in equal increments in years two and three. The awards are generally forfeitable upon, among other circumstances, voluntary termination of employment with UBS. Compensation expense is recognized in the performance year if the employee meets the retirement eligibility requirements at the date of grant. Otherwise, compensation expense is recog- nized from the grant date to the earlier of the vesting date or the retirement eligibility date of the employee, on a tiered basis. Senior Executive Equity Ownership Plan (SEEOP): GEB members receive a portion of their mandatory deferral in UBS shares or notional shares, which vest in one-fifth increments over a five- year vesting period and are forfeitable if certain conditions are not met. Awards granted since 2011 are subject to the same perfor- mance conditions as performance shares granted under the EOP, i.e. they will only vest in full if the participant’s business division is profitable (for Corporate Center participants, the Group as a whole must be profitable) in the financial year preceding sched- uled vesting. Awards granted under SEEOP are settled by deliver- ing UBS shares at vesting. Compensation expense is recognized on the same basis as for share-settled EOP awards. No SEEOP awards are granted for the performance year 2012. Incentive Performance Plan (IPP): In 2010, GEB members and certain other senior employees received part of their annual in- centive in the form of performance shares granted under the IPP. Each performance share granted is a contingent right to receive between one and three UBS shares at vesting, depending on the achievement of share price targets. The IPP awards vest after five years in 2015 and are subject to continued employment with UBS. Compensation expense is recognized on a tiered basis from the grant date to the earliest of the vesting date or the retirement eli- gibility date of the employee. IPP was a one-time plan granted in 2010 only. Performance Equity Plan (PEP): From 2010 to 2012, GEB mem- bers received part of their annual incentive in the form of perfor- mance shares granted under the PEP. Each performance share is a contingent right to receive between zero and two UBS shares at vesting, depending on the achievement of Economic Profit (EP) and Total Shareholder Return (TSR) targets. PEP awards vest after three years. EP is a risk-adjusted profit measure that takes into account the cost of risk capital. TSR measures the total return to UBS share- holders (in the form of share price appreciation and dividends) as compared to the constituents of a banking index. Vesting is subject to continued employment with UBS. Compensation expense is rec- ognized on a tiered basis from the grant date to the earliest of the vesting date or the retirement eligibility date of the employee. No PEP awards are granted for the performance year 2012. 2012 Special Plan Award Program for the Investment Bank (SPAP): In April 2012, certain Managing Directors and Group Managing Directors of the Investment Bank were granted an award of UBS shares which will vest three years after grant. Vest- ing is subject to performance conditions, continued employment with the firm and certain other conditions. The vesting of Special 428 Note 31 Equity participation and other compensation plans Plan awards is subject to performance conditions based on the level of reduction in risk-weighted assets achieved and the aver- age return on risk-weighted assets in the Investment Bank for 2012, 2013 and 2014. Compensation expense is recognized from the grant date to the earlier of the vesting date or the retirement eligibility date of the employee. Mandatory deferred cash compensation plans Global Asset Management Equity Ownership Plan: To align their compensation with the performance of the funds that they man- age, with effect from 2012, all Global Asset Management em- ployees who receive EOP awards do so in the form of deferred cash, the amount of which depends on the value of the relevant underlying Global Asset Management funds at the time of vest- ing. In prior years certain Global Asset Management employees received EOP awards in a combination of shares and deferred cash, the amount of which depends on the value of the underly- ing Global Asset Management funds at the time of vesting. Conditional Variable Compensation Plan (CVCP): In 2009, cer- tain employees received part of their incentive in the form of a mandatory deferred cash award that vests in increments over a three-year vesting period subject to performance conditions. The award consists of a contingent right to receive cash payments at vesting. The awards are forfeitable upon voluntary termination of employment. Compensation expense is recognized over the indi- vidual performance periods and accelerated to the retirement-eli- gibility date for those employees who are, or become, retirement eligible during the service period. CVCP was a one-time plan granted in 2009. The last tranche of CVCP vested and was distrib- uted in 2012. Cash Balance Plan (CBP): From 2010 to 2012, Group Executive Board (GEB) members received part of their annual incentive in the form of a mandatory deferred cash award. CBP awards are paid out in two equal installments during the two years following the year of grant, subject to certain performance conditions. Awards granted in 2011 and 2012 (for performance years 2010 and 2011, respec- tively) are subject to a Group return on equity performance condi- tions, whereas awards granted in 2010 (for performance year 2009) are subject to profitability hurdles. After a GEB member has left the firm, the deferred portion of the CBP award continues to be at risk of forfeiture. Awards granted under the CBP from 2011 on- wards are forfeited if a GEB member voluntarily terminates his or her employment and joins another financial services organization. Compensation expense is recognized in the performance year, which is generally the financial year prior to the grant date. No CBP awards are granted for the performance year 2012. Deferred Cash Plan (DCP): In 2011, DCP awards were granted to Investment Bank employees whose total compensation ex- ceeded a certain threshold. DCP awards vest in one-third incre- ments over a three-year vesting period following the grant date. The awards are forfeitable upon voluntary termination of employ- ment. Compensation expense is recognized ratably over the vest- ing period. DCP was a one-time plan granted in 2011. Long-Term Deferred Retention Senior Incentive Scheme (LTDRSIS): Awards granted under the LTDRSIS are granted to employees in Australia only and represent a profit share amount based on the profitability of the Australian business. Awards vest and are paid in equal installments over three years and include an arrangement which allows for unpaid installments to be reduced if the business has a loss during the calendar year preceding vest- ing. The awards are generally forfeitable upon voluntary termina- tion of employment with UBS. Compensation expense is recog- nized in the performance year if the employee meets the retirement eligibility requirements at the date of the grant. Other- wise, compensation expense is recognized ratably from the grant date to the earlier of the vesting date or the retirement eligibility date of the employee. Deferred Contingent Capital Plan (DCCP): The DCCP is a man- datory performance award deferral plan for all employees whose total compensation exceeds a certain threshold. Such employees receive part of their annual incentive in the form of notional bonds, which are a right to receive a cash payment at vesting. DCCP awards vest in full five years from grant and are forfeited if the phase-in Basel III Common Equity Tier 1 Ratio of the Group falls below 7%, if FINMA determines that the DCCP awards need to be written down to prevent the insolvency, bankruptcy or failure of UBS AG, or if UBS AG has received a commitment of extraordinary support from the public sector that is necessary to prevent such insolvency, bankruptcy or failure. Interest is paid annually for per- formance years in which the firm generates an adjusted pre-tax profit. In any years during the vesting period where UBS does not achieve an adjusted pre-tax profit, GEB members would forfeit 20% of the award. The awards are subject to standard forfeiture and harmful acts provisions, including voluntary termination of employment with UBS. Compensation expense is recognized in the performance year if the employee meets the retirement eligi- bility requirements at the date of grant. Otherwise, compensation expense is recognized from the grant date to the earlier of the vesting date or the retirement eligibility date of the employee. Wealth Management Americas financial advisor compensation Financial advisor compensation – cash payments consist primarily of a formula-based compensation plan, which fluctuates in pro- portion to the level of business activity. UBS also may enter into compensation arrangements with cer- tain financial advisors primarily as a recruitment incentive and to incentivize financial advisors to achieve specified revenue produc- tion and other performance thresholds. The compensation is earned and paid to the employee during a period of continued employment and may be forfeited under certain circumstances. In certain cases, UBS grants loans to financial advisors in connection with these compensation arrangements. GrowthPlus is a program for selected financial advisors whose revenue production and length of service exceeds defined thresh- 429 Financial informationNote 31 Equity participation and other compensation plans (continued) Financial information Notes to the consolidated financial statements olds from 2010 through 2017. Compensation arrangements were granted in 2010 and 2011 with potential arrangements to be granted in 2015 and 2018. The awards vest ratably over seven years from grant with the exception of the 2018 commitment, which vests over five years. generally forfeitable upon termination of employment with UBS. Compensation expense is recognized on a tiered basis from the grant date to the earlier of the vesting date or the retirement eli- gibility date of the employee. No Options or SARs awards have been granted since 2009. PartnerPlus is a mandatory deferred cash compensation plan for selected employees. Awards (UBS contributions) are based on a predefined formula during the performance year. Participants are also allowed to voluntarily contribute additional amounts earned during the year, up to a percentage of UBS’s contribution. Awards earn an above-market rate of interest during the initial four-year period and a market rate of interest thereafter. Volun- tary contributions can earn an above-market rate of interest dur- ing the initial four-year period and a market rate of interest there- after, or alternatively be benchmarked to various mutual funds. The awards vest in 20% increments six to ten years after the grant date. Awards and interest earned on both UBS and voluntary con- tributions are forfeitable under certain circumstances. Compensa- tion expense for awards is recognized in the performance year if the employee meets the retirement eligibility requirements at the date of grant. Otherwise, compensation expenses for awards are recognized ratably commencing in the performance year to the earlier of the vesting date or the retirement eligibility date of the employee. Compensation expenses for voluntary contributions are recognized in the year of deferral. Discretionary share-based compensation plans Key Employee Stock Appreciation Rights Plan (KESAP) and Key Employee Stock Option Plan (KESOP): Until 2009, key and high potential employees were granted discretionary share-settled Stock Appreciation Rights (SARs) or UBS options with a strike price not less than the fair market value of a UBS share on the date the SAR or option was granted. A SAR gives employees the right to receive a number of UBS shares equal to the value of any appreciation in the market price of a UBS share between the grant date and the exercise date. One option gives the right to acquire one registered UBS share at the option’s strike price. SARs and options are settled by delivering UBS shares, except in countries where this is not permitted for legal reasons. These awards are Voluntary share-based compensation plans Equity Plus Plan (Equity Plus): Equity Plus is a voluntary plan that provides eligible employees with the opportunity to purchase UBS shares at market value and receive, at no additional cost, one free notional UBS share for every three shares purchased, up to a max- imum annual limit. Share purchases may be made annually from the performance award and / or monthly through regular deduc- tions from salary. Shares purchased under Equity Plus are restrict- ed from sale for a maximum of three years from the time of pur- chase. Equity Plus awards vest after up to three years. Prior to 2010, instead of notional shares participants received two UBS options for each share they purchased under this plan. The op- tions had a strike price equal to the fair market value of a UBS share on the grant date, a two-year vesting period and generally expired ten years from the grant date. The options are forfeitable in certain circumstances and are settled by delivering UBS shares, except in countries where this is not permitted for legal reasons. Compensation expense for the Equity Plus plan is recognized from the grant date to the earliest of the vesting date or the retirement eligibility date of the employee. Share delivery obligations UBS satisfies share delivery obligations under its share-based plans either by purchasing UBS shares in the market or through the is- suance of new shares. As of 31 December 2012, UBS held approximately 74 million shares in treasury (31 December 2011: approximately 77 million shares) and approximately 145 million (31 December 2011: 149 million shares) unissued shares (out of 150 million approved in 2006) in conditional share capital. These treasury shares and unissued shares are available to satisfy the exercising of options and SAR awards by employees. The shares available cover all vested and in-the-money (i.e. exercisable) em- ployee options and SARs. 430 Note 31 Equity participation and other compensation plans (continued) b) Effect on income statement Effect on the income statement for the financial year and future periods The following table summarizes the compensation expenses rec- ognized for the year ended 31 December 2012 and deferred compensation expenses that will be recognized as an expense in the income statements for 2013 and later. The deferred compen- sation expenses in the table also include vested and non-vested awards granted mainly in March 2013, which relate to the per- formance year 2012. Personnel expenses – Recognized and deferred 1 Personnel expenses for the year ended 2012 Personnel expenses deferred to 2013 and later CHF million Performance awards Cash performance awards Deferred Contingent Capital Plan (DCCP) Deferred cash plans (CBP, DCP and other cash plans) Equity Ownership Plan (EOP / SEEOP) – UBS shares Performance Equity Plan (PEP) Incentive Performance Plan (IPP) Total UBS share plans UBS share option plans (KESAP / KESOP) Equity Ownership Plan (EOP) – AIVs Total performance awards Variable compensation Variable compensation – other Financial advisor compensation – cash payments Compensation commitments and advances related to recruited financial advisors GrowthPlus and other deferral plans UBS share plans Wealth Management Americas: Financial advisor compensation 2 Total Expenses relating to awards for 2012 Expenses relating to awards for prior years 1,411 145 5 135 0 0 135 0 28 1,724 424 1,957 54 54 21 2,087 4,235 (38) 0 149 995 10 62 1,067 14 84 1,276 (57) 0 579 129 78 786 2,005 Relating to awards for 2012 Relating to awards for prior years 0 361 10 383 0 0 383 0 20 774 4944 0 587 54 66 706 1,974 0 0 87 495 4 82 581 0 46 714 71 0 2,115 620 216 2,951 3,736 Total 1,373 145 154 1,130 10 62 1,202 14 112 3,000 3673 1,957 634 183 99 2,873 6,240 Total 0 361 97 878 4 82 964 0 66 1,488 565 0 2,702 674 282 3,657 5,710 1 Total share-based personnel expenses recognized for the year ended 31 December 2012 were CHF 1,584 million and were comprised of UBS share plans of CHF 1,261 million, UBS share option plans of CHF 14 mil- lion, Equity Ownership Plan – AIVs of CHF 112 million, related social security costs of CHF 89 million and other compensation plans (reported within Variable compensation – other) of CHF 108 million. 2 Financial ad- visor compensation consists of grid-based compensation based directly on compensable revenues generated by financial advisors and supplemental compensation calculated based on financial advisor productivity, firm tenure, assets and other variables. It also includes costs related to compensation commitments and advances granted to financial advisors at the time of recruitment, which are subject to vesting requirements. Amounts reflected as deferred expenses represent the maximum deferred exposure as of the balance sheet date. 3 Includes replacement payments of CHF 109 million (of which CHF 94 million related to prior years), forfeiture credits of CHF 174 million (entirely related to prior years), severance payments and provisions of CHF 303 million (entirely related to the current year) and retention plan and other payments of CHF 128 million (of which CHF 21 million related to prior years). 4 Includes interest expense of CHF 137 million related to DCCP. 431 Financial informationNote 31 Equity participation and other compensation plans (continued) Financial information Notes to the consolidated financial statements Personnel expenses – Recognized and deferred 1 Personnel expenses for the year ended 2011 Personnel expenses deferred to 2012 and later CHF million Performance awards Cash performance awards Deferred cash plans (CBP, DCP and other cash plans) Equity Ownership Plan (EOP / SEEOP) – UBS shares Performance Equity Plan (PEP) Incentive Performance Plan (IPP) Total UBS share plans UBS share option plans (KESAP / KESOP) Equity Ownership Plan (EOP) – AIVs Total performance awards Variable compensation Variable compensation – other Financial advisor compensation – cash payments Compensation commitments and advances related to recruited financial advisors GrowthPlus and other deferral plans UBS share plans Wealth Management Americas: Financial advisor compensation 2 Total Expenses relating to awards for 2011 Expenses relating to awards for prior years 1,554 34 231 3 0 234 0 25 1,847 295 1,695 37 90 20 1,842 3,984 (88) 309 1,153 5 97 1,256 100 93 1,669 (104) 0 499 89 88 676 2,242 Relating to awards for 2011 Relating to awards for prior years 0 3 740 10 0 750 0 69 822 132 0 561 377 86 1,024 1,978 0 179 720 4 134 858 15 48 1,100 111 0 2,131 422 261 2,814 4,025 Total 1,466 343 1,384 8 97 1,490 100 118 3,516 191 3 1,695 536 179 108 2,518 6,226 Total 0 182 1,460 14 134 1,608 15 117 1,922 243 0 2,692 799 347 3,838 6,003 1 Total share-based personnel expenses recognized for the year ended 31 December 2011 were CHF 1,789 million and were comprised of UBS share plans of CHF 1,490 million, UBS share option plans of CHF 100 mil- lion, Equity Ownership Plan – AIVs of CHF 118 million, related social security costs of CHF 39 million and other compensation plans (reported within Variable compensation – other) of CHF 42 million. In 2012, costs related to guarantees for new hires were reclassified from Variable compensation – other to Variable compensation – performance awards. In addition, costs related to both supplemental severance and certain retention payments were reclassified from Variable compensation – performance awards to Variable compensation – other. Prior periods were adjusted for these changes. The combined impact of these changes resulted in a net increase to Variable compensation – performance awards of CHF 125 million for the year ended 31 December 2011 with a corresponding net decrease to Variable compensation – other. 2 Financial advisor compen- sation consists of grid-based compensation based directly on compensable revenues generated by financial advisors and supplemental compensation calculated based on financial advisor productivity, firm tenure, assets and other variables. It also includes costs related to compensation commitments and advances granted to financial advisors at the time of recruitment, which are subject to vesting requirements. Amounts reflected as deferred expenses represent the maximum deferred exposure as of the balance sheet date. 3 Includes replacement payments of CHF 121 million, forfeiture credits of CHF 215 million, severance payments of CHF 239 million and retention plan and other payments of CHF 46 million. Additional disclosures on income statement During 2012, UBS accelerated the recognition of expenses for cer- tain deferred compensation arrangements relating to employees that were made redundant as part of restructuring programs. Based on the redundancy provisions of the plan rules, these employees retain their deferred compensation awards, however, as the em- ployees are not required to provide future service, compensation expense relating to these awards was accelerated to the termina- tion date based on the shortened service period. The amounts ac- celerated and recognized in 2012 were CHF 63 million relating to share-based payment awards and CHF 13 million related to de- ferred cash awards. UBS also shortened the service period for cer- tain employees in accordance with the mutually agreed termination provisions of their deferred compensation awards. Expense recog- nition was accelerated to the revised vesting date. The amounts accelerated and recognized in 2012 were CHF 20 million relating to share-based payment awards and CHF 2 million related to deferred cash awards. These amounts are included in personnel expenses. Additional disclosures on mandatory, discretionary and voluntary share-based compensation plans (including AIVs granted under EOP) The total share-based personnel expenses recognized for the years ended 31 December 2012, 2011 and 2010 were CHF 432 Note 31 Equity participation and other compensation plans (continued) Personnel expenses – Recognized and deferred 1 Personal expenses for the year ended 2010 Personal expenses deferred to 2011 and later CHF million Performance awards Cash performance awards Deferred cash plans (CBP, DCP and other cash plans) Equity Ownership Plan (EOP / SEEOP) – UBS shares Performance Equity Plan (PEP) Incentive Performance Plan (IPP) Total UBS share plans UBS share option plans (KESAP / KESOP) Equity Ownership Plan (EOP) – AIVs Total performance awards Variable compensation Variable compensation – other Financial advisor compensation – cash payments Compensation commitments and advances related to recruited financial advisors GrowthPlus and other deferral plans UBS share plans Wealth Management Americas: Financial advisor compensation 2 Total Expenses relating to awards for 2010 Expenses relating to awards for prior years 2,168 64 434 6 0 440 0 28 2,700 310 1,813 29 127 11 1,980 4,990 5 250 852 5 131 988 145 83 1,471 (169) 0 570 35 82 687 1,989 Relating to awards for 2010 Relating to awards for prior years (10) 236 1,249 16 6 1,271 0 67 1,564 347 0 388 221 89 698 2,609 0 311 515 2 221 738 114 57 1,220 0 0 2,186 302 266 2,754 3,974 Total 2,173 314 1,286 11 131 1,428 145 111 4,171 1413 1,813 599 162 93 2,667 6,979 Total (10) 547 1,764 18 227 2,009 114 124 2,784 347 0 2,574 523 355 3,452 6,583 1 Total share-based personnel expenses recognized for the year ended 31 December 2010 were CHF 1,843 million and where comprised of UBS share plans of CHF 1,428 million, UBS share option plans of CHF 145 million, Equity Ownership Plan – AIVs of CHF 111 million, related social security costs of CHF 90 million and other compensation plans (reported within Variable compensation – other) of CHF 69 million. In 2012, costs related to guarantees for new hires were reclassified from Variable compensation – other to Variable compensation – performance awards. In addition, costs related to both supplemental severance and certain retention payments were reclassified from Variable compensation – performance awards to Variable compensation – other. Prior periods were adjusted for these changes. The combined impact of these changes resulted in a net increase to Variable compensation – performance awards of CHF 89 million for the year ended 31 December 2010 with a corresponding net decrease to Variable compensation – other. 2 Financial advisor compen- sation consists of grid-based compensation based directly on compensable revenues generated by financial advisors and supplemental compensation calculated based on financial advisor productivity, firm tenure, assets and other variables. It also includes costs related to compensation commitments and advances granted to financial advisors at the time of recruitment, which are subject to vesting requirements. Amounts reflected as deferred expenses represent the maximum deferred exposure as of the balance sheet date. 3 Includes replacement payments of CHF 107 million, forfeiture credits of CHF 167 million, severance payments of CHF 80 million and retention plan and other payments of CHF 121 million. 1,584 million, CHF 1,789 million, and CHF 1,843 million, respectively. This includes the current period expense, amor- tization and related social security costs for awards issued in prior periods and performance year expensing for awards granted to retirement-eligible employees where the terms of the awards do not require the employee to provide future ser- vices. The total compensation expenses for non-vested share-based awards granted up to 31 December 2012 relating to prior years to be recognized in future periods is CHF 1,108 million and will be recognized as personnel expenses over a weighted average period of 2.4 years. This includes UBS share plans, UBS share op- tion plans, the Equity Ownership Plan (AIVs), other variable com- pensation and the Equity Plus Plan. Total deferred compensation amounts included in the 2012 table differ from this amount as the deferred compensation amounts also include non-vested awards granted in March 2013 related to the performance year 2012. Actual payments to participants in cash-settled share-based plans, including amounts granted as AIVs issued under the EOP, for the years ended 31 December 2012, 2011 and 2010 were CHF 141 million, CHF 93 million and CHF 79 million, respectively. The total carrying amount of the liability related to these plans was CHF 249 million at 31 December 2012. 433 Financial informationNote 31 Equity participation and other compensation plans (continued) Financial information Notes to the consolidated financial statements c) Movements during the year UBS share and performance share awards Movements in UBS share and notional share awards were as follows: UBS share awards Outstanding, at the beginning of the year Shares awarded during the year Distributions during the year Forfeited during the year Outstanding, at the end of the year of which: shares vested for accounting purposes Weighted average grant date fair value (CHF) 17 12 17 17 15 Number of shares 2012 214,698,539 120,208,862 (72,997,669) (12,850,203) 249,059,529 61,555,483 Number of shares 2011 171,085,140 111,254,968 (54,443,660) (13,197,909) 214,698,539 59,154,235 Weighted average grant date fair value (CHF) 18 18 21 18 17 Number of shares 2010 86,888,626 125,133,310 (29,669,688) (11,267,108) 171,085,140 47,366,286 Weighted average grant date fair value (CHF) 31 15 42 21 18 The fair value of shares that became legally vested and were distributed (i.e. all restrictions were fulfilled) during the years ended 31 December 2012, 2011 and 2010 was CHF 1,216 million, CHF 980 million and CHF 421 million, respectively. Movements in performance shares granted under the IPP are as follows: Incentive Performance Plan Forfeitable, at the beginning of the year Awarded during the year Distributions during the year Forfeited during the year Increase / decrease of UBS shares to be delivered upon vesting, based on conditions at the end of the year Forfeitable, at the end of the year of which: performance shares vested for accounting purposes Forfeitable, at the beginning of the year Awarded during the year Distributions during the year Forfeited during the year Increase / decrease of UBS shares to be delivered upon vesting, based on conditions at the end of the year Forfeitable, at the end of the year of which: performance shares vested for accounting purposes Forfeitable, at the beginning of the year Awarded during the year Distributions during the year Forfeited during the year Increase / decrease of UBS shares to be delivered upon vesting, based on conditions at the end of the year Forfeitable, at the end of the year of which: performance shares vested for accounting purposes 2012 Weighted average fair value of IPP performance shares at grant date (CHF) 1 22 0 22 22 N/A 22 22 21 0 22 N/A 22 0 22 0 22 N/A 22 2011 2010 Number of performance shares 2012 16,137,466 0 (7,182) (1,898,453) N/A 14,231,831 8,965,917 18,157,242 31,848 0 (2,051,624) N/A 16,137,466 6,727,398 0 19,629,916 0 (1,472,674) N/A 18,157,242 4,073,546 Representative of UBS shares 2012 2 16,137,466 0 (7,182) (1,898,453) N/A 14,231,831 8,965,917 18,157,242 31,848 0 (2,051,624) 0 16,137,466 6,727,398 0 19,629,916 0 (1,472,674) N/A 18,157,242 4,073,546 1 Valuations take into account the relevant performance conditions, targets set, and the range of possible outcomes. 2 Based on conditions existing at the relevant balance sheet date. 434 Note 31 Equity participation and other compensation plans (continued) Movements in performance shares granted under the PEP are as follows: Performance Equity Plan Forfeitable, at the beginning of the year Awarded during the year Distributions during the year Forfeited during the year Increase / decrease of UBS shares to be delivered upon vesting, based on conditions at the end of the year Forfeitable, at the end of the year of which: performance shares vested for accounting purposes Forfeitable, at the beginning of the year Awarded during the year Distributions during the year Forfeited during the year Increase / decrease of UBS shares to be delivered upon vesting, based on conditions at the end of the year Forfeitable, at the end of the year of which: performance shares vested for accounting purposes Forfeitable, at the beginning of the year Awarded during the year Distributions during the year Forfeited during the year Increase / decrease of UBS shares to be delivered upon vesting, based on conditions at the end of the year Forfeitable, at the end of the year of which: performance shares vested for accounting purposes 2012 Weighted average fair value of PEP performance shares at grant date (CHF) 1 18 13 0 13 N/A 16 Number of performance shares 2012 1,210,598 845,580 0 (230,979) N/A 1,825,199 1,160,836 Representative of UBS shares 2012 2 1,210,598 845,580 0 (230,979) (878,516) 946,683 587,828 518,837 754,530 0 (62,769) N/A 1,210,598 594,235 0 545,642 0 (26,805) N/A 518,837 221,638 2011 2010 16 19 0 19 N/A 18 0 16 0 16 N/A 16 518,837 754,530 0 (62,769) (732,364) 478,234 244,332 0 545,642 0 (26,805) (251,636) 267,201 114,143 1 Valuations take into account the relevant performance conditions, targets set, and the range of possible outcomes. 2 Based on conditions existing at the relevant balance sheet date. UBS option awards Movements in option awards were as follows: UBS option awards Outstanding, at the beginning of the year Granted during the year Exercised during the year Forfeited during the year Expired unexercised Outstanding, at the end of the year Exercisable, at the end of the year Number of options 2012 179,992,361 0 (992,180) (1,283,626) (19,625,991) 158,090,564 158,090,564 Weighted average exercise price (CHF) 1 43 0 11 44 40 43 43 Number of options 2011 205,545,575 0 (1,306,764) (810,094) (23,436,356) 179,992,361 178,008,644 Weighted average exercise price (CHF) 1 42 0 12 24 42 43 43 Number of options 2010 228,623,886 0 (40,894) (5,814,986) (17,222,431) 205,545,575 155,302,104 Weighted average exercise price (CHF) 1 43 0 14 33 54 42 48 1 Some of the options in this table have exercise prices denominated in USD which have been converted into CHF at the year-end spot exchange rate for the purposes of this table. The following table provides additional information about option exercises, grants and intrinsic values: For the year ended Weighted average share price of options exercised (CHF) Intrinsic value of options exercised during the year (CHF million) Weighted average grant date fair value of options granted (CHF) 31.12.12 13 3.6 N/A 31.12.11 17 7.5 N/A 31.12.10 16 0.1 N/A 435 Financial informationNote 31 Equity participation and other compensation plans (continued) Financial information Notes to the consolidated financial statements The following table provides additional information about options outstanding and options exercisable as of 31 December 2012: Options outstanding Options exercisable Number of options outstanding Weighted average exercise price (CHF / USD) Aggregate intrinsic value (CHF / USD million) Weighted average remaining contractual term (years) Number of options exercisable Weighted average exercise price (CHF / USD) Aggregate intrinsic value (CHF / USD million) Weighted average remaining contractual term (years) 14,801,336 10,306,684 34,383,941 8,768,140 16,679,077 4,589,852 48,336,965 137,865,995 5,312,270 6,809,592 5,772,639 2,330,068 20,224,569 11.38 18.75 30.97 41.98 49.36 60.10 67.59 19.51 31.69 37.27 41.12 43.8 0.0 0.0 0.0 0.0 0.0 0.0 43.8 0.0 0.0 0.0 0.0 0.0 6.1 6.3 4.4 2.0 2.5 4.0 3.7 0.2 1.4 2.2 2.5 14,801,336 10,306,684 34,383,941 8,768,140 16,679,077 4,589,852 48,336,965 137,865,995 5,312,270 6,809,592 5,772,639 2,330,068 20,224,569 11.38 18.75 30.97 41.98 49.36 60.10 67.59 19.51 31.69 37.27 41.12 43.8 0.0 0.0 0.0 0.0 0.0 0.0 43.8 0.0 0.0 0.0 0.0 0.0 6.1 6.3 4.4 2.0 2.5 4.0 3.7 0.2 1.4 2.2 2.5 Range of exercise prices CHF Awards 10.21–15.00 15.01–25.00 25.01–35.00 35.01–45.00 45.01–55.00 55.01–65.00 65.01–75.00 10.21–75.00 USD Awards 17.88–25.00 25.01–35.00 35.01–40.00 40.01–45.96 17.88–45.96 UBS SAR awards Movements in SAR awards were as follows: UBS SARs awards Outstanding, at the beginning of the year Granted during the year Exercised during the year Forfeited during the year Expired unexercised Outstanding, at the end of the year Exercisable, at the end of the year Number of SARs 2012 55,021,238 0 (14,217,629) (684,717) (7,000,557) 33,118,335 33,118,335 Weighted average exercise price (CHF) 12 0 11 11 11 12 12 Number of SARs 2011 58,015,041 0 (44,333) (2,946,350) (3,120) 55,021,238 4,018,634 Weighted average exercise price (CHF) 12 0 15 11 16 12 10 Number of SARs 2010 60,907,175 0 (160,334) (2,721,700) (10,100) 58,015,041 4,005,317 Weighted average exercise price (CHF) 12 0 12 11 11 12 10 The following table provides additional information about SARs exercises, grants and intrinsic values: For the year ended Weighted average share price of SARs exercised (CHF) Intrinsic value of SARs exercised during the year (CHF million) Weighted average grant date fair value of SARs granted (CHF) 31.12.12 31.12.11 31.12.10 13 24.6 N/A 18 0.1 N/A 16 0.6 N/A 436 Note 31 Equity participation and other compensation plans (continued) The following table provides additional information about SARs outstanding as of 31 December 2012: SARs outstanding SARs exercisable Number of SARs outstanding Weighted average exercise price (CHF) Aggregate intrinsic value (CHF million) Weighted average remaining contractual term (years) Number of SARs exercisable Weighted average exercise price (CHF) Aggregate intrinsic value (CHF million) Weighted average remaining contractual term (years) 31,704,385 32,000 110,950 366,000 905,000 33,118,335 11.34 14.51 16.80 19.25 40.00 92.7 0.0 0.0 0.0 0.0 92.7 6.2 6.5 6.4 6.7 6.2 31,704,385 32,000 110,950 366,000 905,000 33,118,335 11.34 14.51 16.80 19.25 40.00 92.7 0.0 0.0 0.0 0.0 92.7 6.2 6.5 6.4 6.7 6.2 Range of exercise prices CHF 9.35–12.50 12.51–15.00 15.01–17.50 17.51–20.00 20.01–40.00 9.35–40.00 d) Valuation UBS share awards UBS measures compensation expense based on the average market price of the UBS share on the grant date as quoted on the SIX Swiss Exchange, taking into consideration post-vesting sale and hedge re- strictions, non-vesting conditions and market conditions, where ap- plicable. The fair value of the share awards subject to post-vesting sale and hedge restrictions is discounted based upon the duration of the post-vesting restriction and is referenced to the cost of purchas- ing an at-the-money European put option for the term of the trans- fer restriction. The weighted average discount for share and perfor- mance share awards granted during 2012 is approximately 15.4% (2011: 13.9%) of the market price of the UBS share. The grant date fair value of notional UBS shares without dividend entitlements also includes a deduction for the present value of future expected divi- dends to be paid between the grant date and distribution. UBS options and SARs awards Since 2010, the fair values of options and SARs have been deter- mined using a standard closed-formula option valuation model. The expected term of each instrument is calculated based on historical employee exercise behavior patterns, taking into account the share price, strike price, vesting period and the contractual life of the in- strument. The term structure of volatility is derived from the implied volatilities of traded UBS options in combination with the observed long-term historical share price volatility. Expected future dividends are derived from traded UBS options or from the historical dividend pattern. No options or SARs have been granted since 2009. Incentive Performance Plan (IPP) and Performance Equity Plan (PEP) For performance share awards granted in 2012, 2011 and 2010, UBS obtained independent third-party valuations based on the market conditions at the date of grant. The valuation methodol- ogy applied was a Monte Carlo simulation. The approach to de- termining input parameters and valuing the post-vesting transfer restriction is in line with that used for options. The fair value of IPP units granted in 2010 and PEP units granted in 2012, 2011 and 2010 was determined using the following assumptions: Expected total shareholder return volatility (%) Expected economic profit volatility (%) 1 Risk-free interest rate (%) Expected dividend (CHF) Share price (CHF) 1 For the PEP award in 2012, the expected volatility of economic profit was determined prior to the cost of equity deduction, resulting in a lower volatility compared with prior periods when the expected volatility of eco- nomic profit was determined after the cost of equity deduction. This refinement to the calculation did not have a significant impact on compensation expense for this award. Refer to the “Capital management” section in this report for more information on economic profit. 31.12.12 PEP CHF awards 43.00 16.00 0.09 0.13 12.76 31.12.11 PEP CHF awards 62.00 52.00 0.62 0.03 18.43 31.12.10 PEP CHF awards 63.00 57.00 0.60 0.10 14.80 Expected total shareholder return volatility (%) Expected economic profit volatility (%) Risk-free interest rate (%) Expected dividend (CHF) Share price (CHF) 31.12.10 IPP CHF awards 38.07 N/A 1.06 0.12 14.80 437 Financial informationNote 31 Equity participation and other compensation plans (continued) Financial information Notes to the consolidated financial statements UBS defines related parties as associated companies (entities which are significantly influenced by UBS), post-employment ben- efit plans for the benefit of UBS employees, key management personnel, close family members of key management personnel and entities which are, directly or indirectly, controlled or jointly controlled by key management personnel or their close family members. Key management personnel is defined as members of the Board of Directors (BoD) and Group Executive Board (GEB). a) Remuneration of key management personnel The non-independent members of the BoD have top management employment contracts and receive pension benefits upon retire- ment. Total remuneration of the non-independent members of the BoD and GEB members, including those who stepped down during 2012 1, is as follows: Remuneration of key management personnel CHF million Base salaries and other cash payments Incentive awards – cash 2 Annual incentive award under DCCP Employer’s contributions to retirement benefit plans Benefits in kind, fringe benefits (at market value) Equity-based compensation 3 Total 31.12.12 31.12.11 31.12.10 20 0 21 1 1 34 76 21 22 0 1 1 33 79 16 30 0 1 1 48 96 1 During 2012, Alexander Wilmot-Sitwell and Carsten Kengeter stepped down from the GEB. 2 Includes immediate and deferred cash. 3 Expenses for shares granted is measured at grant date and allocated over the vesting period, generally for 5 years. In 2012, equity-based compensation was entirely comprised of EOP awards. In 2011 and 2010, equity-based compensation included PEP and SEEOP awards, as well as blocked shares due to applicable UK FSA regulations. The independent members of the BoD do not have employment or service contracts with UBS, and thus are not entitled to bene- fits upon termination of their service on the BoD. Payments to these individuals for their services as external board members amounted to CHF 7.6 million in 2012, CHF 7.0 million in 2011 and CHF 6.7 million in 2010. b) Equity holdings Number of stock options from equity participation plans held by non-independent members of the BoD and the GEB members 1 Number of shares held by members of the BoD, GEB and parties closely linked to them 2 31.12.12 3,137,426 4,557,522 31.12.11 4,800,170 3,562,771 31.12.10 9,085,194 4,850,196 1 Refer to “Note 31 Equity participation and other compensation plans” for more information. 2 Excludes shares granted under variable compensation plans with forfeiture provisions. Of the share totals above, 5,597 shares on 31 December 2012, 31 December 2011 and 31 December 2010, respectively, were held by close family members of key management personnel. No shares were held by entities that are directly or indirectly con- trolled or jointly controlled by key management personnel or their close family members on 31 December 2012, 31 December 2011 and 31 December 2010. Refer to “Note 31 Equity participation and other compensation plans” for more information. No member of the BoD or GEB is the beneficial owner of more than 1% of UBS AG’s shares on 31 December 2012. 438 Note 32 Related parties c) Loans, advances and mortgages to key management personnel Non-independent members of the BoD and GEB members have been granted loans, fixed advances and mortgages on the same terms and conditions that are available to other employees, based on terms and conditions granted to third parties but adjusted for reduced credit risk. Independent BoD members are granted loans and mortgages under general market conditions. Movements in the loan, advances and mortgage balances are as follows: Loans, advances and mortgages to key management personnel 1 CHF million Balance at the beginning of the year Additions Reductions Balance at the end of the year 2012 2011 19 5 (5) 19 22 0 (3) 19 2 1 All loans are secured loans, except for CHF 311,308 in 2012 and CHF 45,435 in 2011. 2 Includes a forgivable loan of CHF 3.3 million, subject to the GEB member’s continued full-time employment with UBS and a performance satisfactory and commensurate with his responsibilities. The loan has been fully repaid in 2012, as the GEB member stepped down during the year. d) Associated companies All transactions with associated companies are conducted at arm’s length: Loans and receivables with associated companies CHF million Balance at the beginning of the year Additions Reductions Credit loss (expense) / recovery Foreign currency translation Balance at the end of the year of which: unsecured loans of which: allowances for credit losses Other transactions with associated companies CHF million Payments to associates for goods and services received Fees received for services provided to associates Commitments and contingent liabilities to associates 2012 231 251 (32) 0 1 450 276 1 2011 259 3 (33) 0 1 231 28 1 2010 373 2 (118) 0 2 259 39 1 As of or for the year ended 31.12.12 31.12.11 31.12.10 131 0 8 131 1 9 139 1 68 Refer to “Note 34 Significant subsidiaries and associates” for an overview of significant associates. 439 Financial informationNote 32 Related parties (continued) Financial information Notes to the consolidated financial statements e) Other related party transactions During 2012 and 2011, UBS entered into transactions at arm’s length with entities which are directly or indirectly controlled or jointly controlled by UBS’s key management personnel or their close family members. In 2012 and 2011, these entities included H21 Macro Fund Ltd (Cayman Islands) and Immo Heudorf AG (Switzerland). In 2010, UBS provided services for H21 Macro Fund Ltd (Cayman Islands). Other related party transactions CHF million Balance at the beginning of the year Additions Reductions Balance at the end of the year 1 Comprised of loans. Other transactions with these related parties include: CHF million Goods sold and services provided to UBS Fees received for services provided by UBS f) Additional information 2012 2011 2010 11 1 0 11 1 2012 0 0 0 15 4 11 1 2011 0 3 0 0 0 0 2010 0 1 UBS also engages in trading and risk management activities (e.g. swaps, options and forwards) with various related parties men- tioned in previous sections. These transactions may give rise to credit risk either for UBS or for a related party towards UBS. As part of its normal course of business, UBS is also a market-maker in equity and debt instruments and at times may hold positions in instruments of related parties. These transactions are generally entered into at arm’s length terms. There have been no material events after the reporting period which would require disclosure in or adjustment to the 31 Decem- ber 2012 Financial Statements. 440 Note 32 Related parties (continued)Note 33 Events after the reporting period Note 34 Significant subsidiaries and associates Significant subsidiaries as of 31 December 2012 Company CCR Asset Management SA OOO UBS Bank Registered office Paris, France Moscow, Russia Swiss Finance Corporation (Mauritius) Limited Port Louis, Mauritius Business division Global Asset Management Investment Bank Investment Bank Topcard Service AG UBS (Bahamas) Ltd UBS (China) Limited 1 UBS (France) SA Glattbrugg, Switzerland Retail & Corporate Nassau, Bahamas Beijing, China Paris, France Wealth Management Investment Bank Wealth Management UBS (Grand Cayman) Limited George Town, Cayman Islands Investment Bank UBS (Italia) SpA UBS (Luxembourg) SA UBS (Monaco) SA Milan, Italy Wealth Management Luxembourg, Luxembourg Wealth Management Monte Carlo, Monaco Wealth Management UBS Alternative and Quantitative Investments LLC Wilmington, Delaware, USA Global Asset Management UBS Americas Inc. UBS Asesores Mexico, S.A. de C.V. UBS Bank (Canada) UBS Bank (Netherlands) B.V. UBS Bank Mexico, S.A. Institucion de Banca Multiple, UBS Grupo Financiero UBS Bank USA UBS Bank, SA UBS Belgium SA/NV UBS Beteiligungs-GmbH & Co. KG UBS Brasil Administradora de Valores Mobiliarios Ltda São Paulo, Brazil UBS Capital Securities (Jersey) Limited UBS Card Center AG St. Helier, Jersey Glattbrugg, Switzerland UBS Casa de Bolsa, S.A. de C.V., UBS Grupo Financiero Mexico City, Mexico UBS Derivatives Hong Kong Limited UBS Deutschland AG UBS Finance (Curaçao) NV UBS Finance (Delaware) LLC UBS Financial Services Inc. Wilmington, Delaware, USA Investment Bank Mexico City, Mexico Toronto, Canada Wealth Management Wealth Management Americas Amsterdam, Netherlands Wealth Management Mexico City, Mexico Investment Bank Salt Lake City, Utah, USA Wealth Management Americas Madrid, Spain Brussels, Belgium Frankfurt, Germany Hong Kong, China Frankfurt, Germany Willemstad, Curaçao Wealth Management Wealth Management Wealth Management Wealth Management Corporate Center Retail & Corporate Investment Bank Investment Bank Wealth Management Corporate Center Wilmington, Delaware, USA Investment Bank Wilmington, Delaware, USA Wealth Management Americas UBS Financial Services Incorporated of Puerto Rico San Juan, Puerto Rico Wealth Management Americas UBS Fund Advisor, L.L.C. Wilmington, Delaware, USA Wealth Management Americas UBS Fund Management (Luxembourg) SA Luxembourg, Luxembourg Global Asset Management UBS Fund Management (Switzerland) AG Basel, Switzerland Global Asset Management UBS Fund Services (Cayman) Ltd UBS Fund Services (Luxembourg) SA UBS Futures Singapore Ltd George Town, Cayman Islands Global Asset Management Luxembourg, Luxembourg Global Asset Management Singapore, Singapore Investment Bank UBS Global Asset Management (Americas) Inc. Wilmington, Delaware, USA Global Asset Management UBS Global Asset Management (Australia) Ltd UBS Global Asset Management (Canada) Inc. UBS Global Asset Management (Japan) Ltd Sydney, Australia Toronto, Canada Tokyo, Japan UBS Global Asset Management (Singapore) Ltd Singapore, Singapore Global Asset Management Global Asset Management Global Asset Management Global Asset Management UBS Global Asset Management (UK) Ltd London, United Kingdom Global Asset Management UBS Global Asset Management Holding Ltd London, United Kingdom Global Asset Management UBS Global Life AG UBS Grupo Financiero, S.A. de C.V. UBS Hana Asset Management Company Ltd UBS Holding (France) SA 1 Incorporated in 2012. 2 Share capital and share premium. Vaduz, Liechtenstein Mexico City, Mexico Seoul, South Korea Paris, France Wealth Management Investment Bank Global Asset Management Investment Bank Share capital in million Equity interest accumulated in % EUR RUB USD CHF USD CNY EUR USD EUR CHF EUR USD USD MXN CAD EUR MXN USD EUR EUR EUR BRL EUR CHF MXN HKD EUR USD USD USD USD USD EUR CHF USD CHF USD USD AUD CAD JPY SGD GBP GBP CHF MXN KRW EUR 5.3 3,450.0 0.0 0.2 4.0 2,000.0 125.7 0.0 60.0 150.0 9.2 0.1 0.0 303.6 8.5 0.2 706.4 1,880.0 2 82.2 28.0 568.8 114.2 0.0 0.1 114.9 880.0 176.0 0.1 37.3 2 4,522.5 2 56.0 2 0.0 10.0 1.0 5.6 2.5 35.1 0.0 19.9 117.0 2,200.0 4.0 125.0 151.4 5.0 918.8 45,000.0 418.9 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 51.0 100.0 441 Financial information Financial information Notes to the consolidated financial statements Note 34 Significant subsidiaries and associates (continued) Significant subsidiaries as of 31 December 2012 Company UBS Hypotheken AG UBS International Holdings B.V. UBS International Life Limited UBS Italia SIM SpA UBS Life AG UBS Limited UBS Loan Finance LLC UBS O’Connor LLC UBS Preferred Funding (Jersey) Limited UBS Preferred Funding Company LLC IV UBS Preferred Funding Company LLC V Registered office Zurich, Switzerland Business division Retail & Corporate Amsterdam, Netherlands Corporate Center Dublin, Ireland Milan, Italy Zurich, Switzerland Wealth Management Investment Bank Wealth Management London, United Kingdom Investment Bank Wilmington, Delaware, USA Investment Bank Dover, Delaware, USA Global Asset Management St. Helier, Jersey Corporate Center Wilmington, Delaware, USA Corporate Center Wilmington, Delaware, USA Corporate Center UBS Real Estate Kapitalanlagegesellschaft mbH Munich, Germany Global Asset Management UBS Real Estate Securities Inc. UBS Realty Investors LLC UBS Securities (Thailand) Ltd UBS Securities Australia Ltd UBS Securities Canada Inc. UBS Securities España Sociedad de Valores SA UBS Securities France SA UBS Securities Hong Kong Limited UBS Securities India Private Limited UBS Securities Japan Co., Ltd UBS Securities LLC UBS Securities Pte. Ltd UBS Securities Pte. Ltd Seoul Branch UBS Securities Pte. Ltd Taipei Branch UBS Service Centre (Poland) Sp. z o.o. UBS South Africa (Proprietary) Limited UBS Swiss Financial Advisers AG UBS Trust Company of Puerto Rico UBS UK Properties Limited Wilmington, Delaware, USA Investment Bank Boston, Massachusetts, USA Global Asset Management Bangkok, Thailand Sydney, Australia Toronto, Canada Madrid, Spain Paris, France Hong Kong, China Mumbai, India Tokyo, Japan Investment Bank Investment Bank Investment Bank Investment Bank Investment Bank Investment Bank Investment Bank Investment Bank Wilmington, Delaware, USA Investment Bank Singapore, Singapore Seoul, South Korea Taipei, Taiwan Zabierzow, Poland Sandton, South Africa Zurich, Switzerland Hato Rey, Puerto Rico Investment Bank Investment Bank Investment Bank Corporate Center Investment Bank Wealth Management Wealth Management Americas London, United Kingdom Investment Bank UBS Wealth Management Australia Ltd Sydney, Australia Wealth Management 1 Incorporated in 2012. 2 Share capital and share premium. Significant subsidiaries deconsolidated during 2012 Significant deconsolidated companies UBS Leasing AG Registered office Zurich, Switzerland Significant associates as of 31 December 2012 Company SIX Group AG 1 UBS Securities Co. Limited 1 1 UBS is represented on the Board of Directors. Registered office Zurich, Switzerland Beijing, China Industry Financial Financial 442 Share capital in million Equity interest accumulated in % CHF EUR EUR EUR CHF GBP USD USD EUR USD USD EUR USD USD THB AUD CAD EUR EUR HKD INR JPY USD SGD KRW TWD PLN ZAR CHF USD GBP AUD 0.1 6.8 1.0 15.1 25.0 193.6 16.7 2 1.0 0.0 0.0 0.0 7.5 1,300.4 2 9.0 500.0 209.8 2 10.0 15.0 22.9 430.0 140.0 74,450.0 22,205.6 2 311.5 0.0 0.0 1.4 0.0 1.5 5.0 2 132.0 53.9 98.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 94.9 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 Reason for deconsolidation Merger with UBS AG Equity interest in % 17.3 20.0 Invested assets Invested assets include all client assets managed by or deposited with UBS for investment purposes. Invested assets include man- aged fund assets, managed institutional assets, discretionary and advisory wealth management portfolios, fiduciary deposits, time deposits, savings accounts and wealth management securi- ties or brokerage accounts. All assets held for purely transac- tional purposes and custody-only assets, including corporate cli- ent assets held for cash management and transactional purposes, are excluded from invested assets as the Group only administers the assets and does not offer advice on how the assets should be invested. Also excluded are non-bankable assets (e.g. art col- lections) and deposits from third-party banks for funding or trading purposes. In the first quarter 2012, the definition of in- vested assets for Retail & Corporate was refined and hence pen- sion fund assets are no longer counted as invested assets. Accordingly, the Group’s invested assets were restated as of 31 December 2011 from CHF 2,167 billion to CHF 2,088 billion. Discretionary assets are defined as client assets that UBS de- cides how to invest. Other invested assets are those where the client ultimately decides how the assets are invested. When a single product is created in one business division and sold in an- other, it is counted in both the business division that manages the investment and the one that distributes it. This results in double counting within UBS total invested assets, as both business divi- sions are providing a service independently to their respective clients, and both add value and generate revenue. Net new money Net new money in a reporting period is the amount of invested assets that are entrusted to UBS by new and existing clients, less those withdrawn by existing clients and clients who terminated their relationship with UBS. Net new money is calculated using the direct method, under which inflows and outflows to / from invested assets are deter- mined at the client level based on transactions. Interest and divi- dend income from invested assets are not counted as net new money inflows. Market and currency movements as well as fees, commissions and interest on loans charged are excluded from net new money, as are the effects resulting from any acquisition or divestment of a UBS subsidiary or business. Reclassifications be- tween invested assets and custody-only assets as a result of a change in the service level delivered are generally treated as net new money flows; however, where such change in service level directly results from a new externally-imposed regulation, the one-time net effect of the implementation is reported as an asset reclassification without net new money impact. The Investment Bank does not track invested assets and net new money. However, when a client is transferred from the In- vestment Bank to another business division, this produces net new money even though client assets were already with UBS. Net new money resulting from such transfers between business divi- sions was zero in 2012 and 2011. CHF billion Fund assets managed by UBS Discretionary assets Other invested assets Total invested assets (double counts included) of which: double count of which: acquisitions (divestments) Net new money (double counts included) As of or for the year ended 31.12.12 31.12.11 270 635 1,325 2,230 172 (13.8) 32.9 270 585 1,233 2,088 183 24.6 40.4 443 Financial informationNote 35 Invested assets and net new money Financial information Notes to the consolidated financial statements Business combinations in 2012 In 2012, no significant business combinations were completed. Business combinations completed in 2011 In 2011, UBS completed acquisitions in Global Asset Manage- ment and in the equities business of the Investment Bank. The aggregated acquisition costs of these two acquisitions amounted to approximately CHF 54 million of which CHF 11 million related to goodwill, CHF 20 million to intangible assets, and CHF 23 mil- lion to other net assets. Intangible assets from both business ac- quisitions included customer relationships and beneficial con- tracts. The aggregated acquisition costs included cash payments of CHF 44 million and contingent consideration of CHF 10 million, including CHF 8 million in restricted UBS AG shares. Business combinations in 2010 In 2010, no significant business combinations were completed. For the year ended 31.12.12 31.12.11 31.12.10 26 (1) 331 20 3 (8) 371 358 0 14 82 10 216 26 32 15 380 261 93 26 (9) 162 (25) 1 (3) (13) 113 (2) 79 37 For the year ended 31.12.12 31.12.11 31.12.10 64 115 247 0 (10) (56) 0 (1) 358 31 54 122 0 20 30 (1) 6 261 0 3 (10) 0 1 0 2 2 (2) Net restructuring charges by business division and Corporate Center CHF million Wealth Management Wealth Management Americas Investment Bank Global Asset Management Retail & Corporate Corporate Center Total net restructuring charges of which: personnel expenses of which: general and administrative expenses of which: depreciation and impairment of property and equipment Net restructuring charges by personnel expense category CHF million Salaries Variable compensation – performance awards Variable compensation – other Contractors Social security Pension and other post-employment benefit plans Wealth Management Americas: Financial advisor compensation Other personnel expenses Total net restructuring charges: personnel expenses 444 Note 36 Business combinationsNote 37 Changes in organization Note 38 Currency translation rates The following table shows the rates of the main currencies used to translate the financial information of our foreign operations into Swiss francs: 1 USD 1 EUR 1 GBP 100 JPY Spot rate As of Average rate 1 Year ended 31.12.12 31.12.11 31.12.12 31.12.11 31.12.10 0.92 1.21 1.49 1.05 0.94 1.21 1.46 1.22 0.92 1.21 1.50 1.07 0.88 1.23 1.45 1.11 1.04 1.37 1.62 1.18 1 Monthly income statement items of foreign operations with a functional currency other than Swiss franc are translated with month-end rates into Swiss francs. Disclosed average rates for a year represent an average of twelve month-end rates, weighted according to the income and expense volumes of all foreign operations of the Group with the same functional currency for each month. Weighted average rates for individual business divisions may deviate from the weighted average rates for the Group. The consolidated Financial Statements of UBS are prepared in ac- cordance with International Financial Reporting Standards (IFRS). The Swiss Financial Market Supervisory Authority (FINMA) requires banks which present their financial statements under IFRS to pro- vide a narrative explanation of the main differences between IFRS and Swiss GAAP (FINMA Circular 2008 / 2 and the Banking Ordi- nance). Included in this note are the significant differences in re- gard to recognition and measurement between IFRS and the pro- visions of the Banking Ordinance and the guidelines of the FINMA governing financial statement reporting pursuant to Article 23 through Article 27 of the Banking Ordinance. The differences out- lined in points two through eleven also apply to the Parent Bank statutory accounts. 1. Consolidation Under IFRS, all entities which are controlled by the Group are con- solidated. Under Swiss law, only entities that are active in the field of banking and finance and real estate entities are subject to con- solidation. Entities which are held temporarily are generally re- corded as financial investments. 2. Financial investments available-for-sale Under IFRS, financial investments available-for-sale are carried at fair value. Changes in fair value are recorded directly in equity until an investment is sold, collected or otherwise disposed of, or until an investment is determined to be impaired. At the time an available-for-sale investment is determined to be impaired, the cumulative unrealized loss previously recognized in equity is in- cluded in net profit or loss for the period. On disposal of a finan- cial investment available-for-sale, the cumulative unrecognized gain or loss previously recognized in equity is recognized in the income statement. Under Swiss law, financial investments are carried either at the lower of cost or market or at amortized cost less impair- ment with changes in measurement recorded in the income statement. Reductions to market value below cost and reversals of such reductions up to original cost as well as gains and losses on disposal are included in Other income. Permanent equity in- vestments are classified on the balance sheet as Investments in subsidiaries and other participations and are measured at cost less impairment with impairment losses recorded in the income statement. 3. Cash flow hedges The Group designates derivative instruments in cash flow hedge accounting relationships. Under IFRS, when hedge ac- counting is applied, the fair value gain or loss on the effective portion of the derivative designated as a cash flow hedge is recognized in equity. When the hedged cash flows materialize, the accumulated unrecognized gain or loss is reclassified to in- come. Under Swiss law, the effective portion of the fair value change of the derivative instrument used to hedge cash flow exposures is deferred on the balance sheet as Other assets or Other liabilities. The deferred amounts are released to income when the hedged cash flows materialize. 4. Investment property Under IFRS, investment property is carried at fair value, with changes in fair value recognized in the income statement. Under Swiss law, unless the investment property is classified as held for sale, investment property is carried at amortized cost less any accumulated depreciation and impairment losses. Investment property classified as held for sale is carried at the lower of cost or market value. 445 Financial informationNote 39 Swiss banking law requirements Financial information Notes to the consolidated financial statements 5. Fair value option Under IFRS, the Group applies the fair value option to certain fi- nancial assets and financial liabilities. Instruments for which the fair value option is applied are accounted for at fair value with changes in fair value reflected in Net trading income. The fair value option is applied primarily to hybrid debt instruments, cer- tain loans and loan commitments and certain fund investments. Under Swiss accounting rules, the fair value option can only be applied to structured products issued that consist of a debt host contract and an embedded derivative(s) that requires bifurcation. Changes in fair value attributable to changes in own credit are not recognized in the income statement. 6. Goodwill and intangible assets Under IFRS, goodwill acquired in a business combination is not amortized but tested annually for impairment. Intangible assets acquired in a business combination with an indefinite useful life are also not amortized but tested annually for impairment. Under Swiss law, goodwill and intangible assets with indefinite useful lives are amortized over a period not exceeding five years, unless a longer useful life, which may not exceed twenty years, can be justified. 7. Pension funds Swiss law permits the use of IFRS or Swiss accounting standards for pension funds, with the election made on a plan by plan basis. UBS applies IFRS for its non-Swiss defined benefit plans and Swiss accounting standards (FER 16) for the Swiss pension plan in the Parent Bank. The requirements of FER 16 are better aligned with the specific nature of Swiss pension plans, which are hybrid in that they combine elements of defined contribution and defined benefit plans, but are treated as defined benefit plans under IFRS. Key differences between FER 16 / 26 and IAS 19R relate to the treatment of future salary increases, which are not considered under FER 16 / 26, and the determination of the discount rate. For defined benefit plans, IFRS requires the full defined benefit obligation net of the plan assets to be recorded on the balance sheet, with changes resulting from remeasurements recognized directly in equity. For plans for which IFRS is elected, Swiss law requires that changes due to remeasurements are recognized in the income statement. Swiss accounting standards require that employer contribu- tions to the pension fund are recognized as personnel expenses in the income statement. Further, FER 16 requires an assessment as to whether, based on the financial statements of the pension fund prepared in accordance with Swiss accounting standards (FER 26), an economic benefit or obligation for the employer arises from the pension fund and is recognized in the balance sheet when conditions are met. Conditions for recording a pension asset or liability would be met if, for example, an employer contribution reserve is available or the employer is required to contribute to the reduction of a pension deficit (on a FER 26 basis). 8. Netting of replacement values Under IFRS, replacement values are reported on a gross basis un- less certain restrictive requirements are met. Under Swiss law, re- placement values and the related cash collateral are reported on a net basis, provided the master netting and the related collateral agreements are legally enforceable. 9. Restructuring provisions Under Swiss law, a provision for restructuring costs should be rec- ognized when the governing body has authorized a plan for the direction, supervision and control of restructuring measures. For IFRS, in addition to a detailed formal plan for the restructuring, a provision for restructuring costs is recognized only when the en- tity also has raised a valid expectation in those affected that it will carry out the restructuring by starting to implement the plan or announcing its main features to those affected by it. Accordingly, recognition of a provision for restructuring may occur earlier un- der Swiss GAAP than under IFRS. 10. Discontinued operations Under certain conditions, IFRS requires that non-current assets or disposal groups be classified as held for sale. Disposal groups that meet the criteria of discontinued operations are presented in the income statement in a single line as net income from discontinued operations. Under Swiss law, the concept of discontinued operations does not exist, therefore no such reclassification takes place. 11. Extraordinary income and expense Certain items of non-recurring and non-operating income and ex- pense are classified as extraordinary items under Swiss law. This distinction is not available under IFRS. 446 Note 39 Swiss banking law requirements (continued) Guarantee of PaineWebber securities Following the acquisition of Paine Webber Group Inc. (PaineWeb- ber), UBS AG entered into a full and unconditional guarantee of the senior notes, the subordinated notes and the trust pre- ferred securities (“Debt Securities”) of PaineWebber. Prior to the acquisition, PaineWebber was a SEC registrant. Upon the acquisi- tion, Paine Webber was merged into UBS Americas Inc., a wholly- owned subsidiary of UBS AG. Under the guarantee, if UBS Americas Inc. fails to make any timely payment under the Debt Securities agreements, the holders of the Debt Securities or the Debt Securities trustee may demand payment from UBS AG without first proceeding against UBS Americas Inc. UBS AG’s obligations under the sub- ordinated note guarantee are subordinated to the prior pay- ment in full of the deposit liabilities of UBS AG and all other liabilities of UBS AG. The information presented in this note is prepared in accordance with IFRS and should be read in conjunction with the consolidated financial statements of UBS of which this information is a part. Supplemental guarantor consolidated income statement CHF million For the year ended 31 December 2012 UBS AG (Parent Bank) 1 UBS Americas Inc. Other subsidiaries Consolidating entries UBS Group Operating income Interest income Interest expense Net interest income Credit loss (expense) / recovery Net interest income after credit loss expense Net fee and commission income Net trading income Income from subsidiaries Other income Total operating income Operating expenses Personnel expenses General and administrative expenses Depreciation and impairment of property and equipment Impairment of goodwill Amortization and impairment of intangible assets Total operating expenses Operating profit / (loss) from continuing operations before tax Tax expense / (benefit) Net profit / (loss) from continuing operations Net profit from discontinued operations Net profit / (loss) Net profit attributable to non-controlling interests Net profit / (loss) attributable to UBS shareholders 13,376 (9,615) 3,762 (7) 3,754 5,933 3,115 (4,009) 1,545 10,338 7,682 4,643 501 14 3 12,843 (2,505) 6 (2,511) 0 (2,511) 0 (2,511) 2,774 (1,153) 1,622 (112) 1,510 6,333 250 0 783 8,876 5,369 2,618 104 2,860 84 11,034 (2,158) 165 (2,323) 0 (2,323) 0 (2,323) 2,153 (1,542) 610 1 611 3,139 115 0 (1,646) 2,220 1,686 1,393 84 156 20 3,339 (1,119) 290 (1,409) 0 (1,409) 276 (1,686) (2,336) 2,336 0 0 0 0 0 4,009 0 4,009 0 0 0 0 0 0 4,009 0 4,009 0 4,009 0 4,009 15,968 (9,974) 5,994 (118) 5,875 15,405 3,480 0 682 25,443 14,737 8,653 689 3,030 106 27,216 (1,774) 461 (2,235) 0 (2,235) 276 (2,511) 1 UBS AG (Parent Bank) prepares its audited financial statements in accordance with Swiss banking law requirements. Amounts presented in this column serve as a basis for preparing Group Financial Statements under IFRS. 447 Financial informationNote 40 Supplemental guarantor information required under SEC rules Financial information Notes to the consolidated financial statements Supplemental guarantor consolidated balance sheet CHF million For the year ended 31 December 2012 Assets Cash and balances with central banks Due from banks Cash collateral on securities borrowed Reverse repurchase agreements Trading portfolio assets of which: assets pledged as collateral which may be sold or repledged by counterparties Positive replacement values Cash collateral receivables on derivative instruments Financial assets designated at fair value Loans Financial investments available-for-sale Accrued income and prepaid expenses Investments in subsidiaries and associates Property and equipment Goodwill and intangible assets Deferred tax assets Other assets Total assets Liabilities Due to banks Cash collateral on securities lent Repurchase agreements Trading portfolio liabilities Negative replacement values Cash collateral payables on derivative instruments Financial liabilities designated at fair value Due to customers Accrued expenses and deferred income Debt issued Provisions Other liabilities Total liabilities Equity attributable to UBS shareholders Equity attributable to non-controlling interests Total equity Total liabilities and equity UBS AG (Parent Bank) 1 UBS Americas Inc. Other subsidiaries Consolidating entries UBS Group 54,192 29,107 35,749 105,197 117,337 47,226 416,098 32,740 7,007 279,038 51,041 1,954 64,807 5,034 323 5,132 8,969 11,395 7,875 35,172 60,659 21,786 5,467 5,695 4,045 3,037 38,663 10,637 3,994 2 593 5,116 2,643 3,718 796 68,713 3,126 60,880 33,072 2,466 129,090 28,331 10,535 11,765 4,706 590 1 376 1,023 368 1,233 1,213,726 215,030 354,604 0 (84,464) (36,675) (95,795) (11,335) (10,460) (132,854) (34,703) (11,473) (49,566) 0 (446) (63,951) 0 0 0 66,383 21,230 37,372 130,941 160,861 44,698 418,029 30,413 9,106 279,901 66,383 6,093 858 6,004 6,461 8,143 (2,865) (524,128) 11,055 1,259,232 54,795 19,704 24,540 24,996 391,863 58,650 88,775 330,271 4,731 102,015 1,166 24,622 1,126,129 87,597 0 87,597 1,213,726 46,014 22,105 51,057 8,892 5,856 10,907 988 45,107 2,047 353 1,023 18,642 212,993 2,037 0 2,037 215,030 6,680 4,069 57,837 6,137 (84,464) (36,675) (95,795) (5,870) 130,204 (132,854) 36,294 15,154 46,079 549 7,186 347 19,503 330,038 20,213 4,353 24,566 354,604 (34,703) (12,039) (49,566) (446) (4,899) 0 (2,865) (460,177) (63,951) 0 (63,951) (524,128) 23,024 9,203 37,639 34,154 395,070 71,148 92,878 371,892 6,881 104,656 2,536 59,902 1,208,983 45,895 4,353 50,249 1,259,232 1 UBS AG (Parent Bank) prepares its financial statements in accordance with Swiss banking law requirements. Amounts presented in this column serve as a basis for preparing Group Financial Statements under IFRS. 448 Note 40 Supplemental guarantor information required under SEC rules (continued) Supplemental guarantor consolidated statement of cash flows 1 CHF million For the year ended 31 December 2012 Net cash flow from / (used in) operating activities Cash flow from / (used in) investing activities Purchase of subsidiaries, associates and intangible assets Disposal of subsidiaries, associates and intangible assets 3 Purchase of property and equipment Disposal of property and equipment Net (investment in) / divestment of financial investments available-for-sale Net cash flow from / (used in) investing activities Cash flow from / (used in) financing activities Net short-term debt issued / (repaid) Net movements in treasury shares and own equity derivative activity Dividends paid Issuance of long-term debt, including financial liabilities designated at fair value Repayment of long-term debt, including financial liabilities designated at fair value Dividends paid to / decrease in non-controlling interests Net activity in investments in subsidiaries Net cash flow from / (used in) financing activities UBS AG (Parent Bank) 2 49,070 UBS Americas Inc. Other subsidiaries 10,795 7,186 UBS Group 67,050 (11) 41 (878) 194 (12,429) (13,082) (26,177) (1,159) (379) 49,885 (49,981) 0 (2,600) (30,410) 0 0 (189) 5 (780) (965) 0 0 0 575 (23) 0 (99) 452 0 0 (50) 3 (737) (784) (11,790) 0 0 5,287 (3,991) (288) 2,698 (8,084) (11) 41 (1,118) 202 (13,946) (14,831) (37,967) (1,159) (379) 55,747 (53,996) (288) 0 (38,041) Effects of exchange rate differences (200) (352) (121) (673) Net increase / (decrease) in cash and cash equivalents Cash and cash equivalents at the beginning of the year Cash and cash equivalents at the end of the year Cash and cash equivalents comprise: Cash and balances with central banks Money market paper 4 Due from banks 5 Total 5,377 66,481 71,858 54,192 4,279 13,387 71,858 9,930 4,336 14,266 11,395 47 2,824 14,266 (1,802) 14,796 12,994 796 56 12,142 12,994 13,506 85,612 99,118 66,383 4,382 28,354 99,118 1 In 2012, the estimation of the effects of foreign currency translation on the statement of cash flows was refined. This change in estimate resulted for UBS Group in Net cash flows from / (used in) operating activities being higher by CHF 1.8 billion (recorded in Other net adjustments), from / (used in) investing activities being higher by CHF 0.5 billion, from / (used in) financing activities being higher by CHF 1.4 billion and the amounts presented under the line item Effects of exchange rate differences being lower by CHF 3.7 billion. 2 UBS AG (Parent Bank) prepares its audited financial statements in accordance with Swiss banking law requirements. Amounts presented in this column serve as a basis for preparing Group Financial Statements under IFRS. 3 Includes dividends received from associates. 4 Money market paper is included in the balance sheet under Trading portfolio assets and Financial investments available-for-sale. 5 Includes positions recognized in the balance sheet under Due from banks and Cash collateral receivables on derivative instruments. 449 Financial informationNote 40 Supplemental guarantor information required under SEC rules (continued) Financial information Notes to the consolidated financial statements Supplemental guarantor consolidated income statement CHF million For the year ended 31 December 2011 UBS AG (Parent Bank) 1 UBS Americas Inc. Other subsidiaries Consolidating entries UBS Group Operating income Interest income Interest expense Net interest income Credit loss (expense) / recovery Net interest income after credit loss expense Net fee and commission income Net trading income Income from subsidiaries Other income Total operating income Operating expenses Personnel expenses General and administrative expenses Depreciation and impairment of property and equipment Impairment of goodwill Amortization and impairment of intangible assets Total operating expenses Operating profit / (loss) from continuing operations before tax Tax expense / (benefit) Net profit / (loss) from continuing operations Net profit from discontinued operations Net profit / (loss) Net profit attributable to non-controlling interests Net profit / (loss) attributable to UBS shareholders 15,311 (10,854) 4,457 (96) 4,361 6,351 4,155 677 1,427 16,972 8,772 2,577 564 0 26 11,940 5,032 895 4,138 0 4,138 0 4,138 2,910 (1,102) 1,808 18 1,826 5,757 (81) 0 728 8,230 5,199 2,283 117 0 80 7,679 551 61 490 0 490 2 488 2,952 (2,391) 561 (6) 555 3,128 269 0 (689) 3,263 1,663 1,099 81 0 21 2,864 399 (55) 454 0 454 266 189 (3,203) 3,203 0 0 0 0 0 (677) 0 (677) 0 0 0 0 0 0 (677) 0 (677) 0 (677) 0 (677) 17,969 (11,143) 6,826 (84) 6,742 15,236 4,343 0 1,467 27,788 15,634 5,959 761 0 127 22,482 5,307 901 4,406 0 4,406 268 4,138 1 UBS AG (Parent Bank) prepares its audited financial statements in accordance with Swiss banking law requirements. Amounts presented in this column serve as a basis for preparing Group Financial Statements under IFRS. 450 Note 40 Supplemental guarantor information required under SEC rules (continued) Supplemental guarantor consolidated balance sheet CHF million For the year ended 31 December 2011 Assets Cash and balances with central banks Due from banks Cash collateral on securities borrowed Reverse repurchase agreements Trading portfolio assets of which: assets pledged as collateral which may be sold or repledged by counterparties Positive replacement values Cash collateral receivables on derivative instruments Financial assets designated at fair value Loans Financial investments available-for-sale Accrued income and prepaid expenses Investments in subsidiaries and associates Property and equipment Goodwill and intangible assets Deferred tax assets Other assets Total assets Liabilities Due to banks Cash collateral on securities lent Repurchase agreements Trading portfolio liabilities Negative replacement values Cash collateral payables on derivative instruments Financial liabilities designated at fair value Due to customers Accrued expenses and deferred income Debt issued Provisions Other liabilities Total liabilities Equity attributable to UBS shareholders Equity attributable to non-controlling interests Total equity Total liabilities and equity UBS AG (Parent Bank) 1 UBS Americas Inc. Other subsidiaries Consolidating entries UBS Group 38,094 26,085 41,783 161,663 130,585 50,064 482,528 44,906 6,290 263,927 39,431 1,971 59,809 4,757 329 6,274 9,425 1,977 4,866 57,893 123,923 30,864 2,801 8,244 4,640 4,537 37,836 9,877 4,046 4 523 8,172 2,839 2,141 568 80,863 3,040 88,167 33,451 609 146,545 25,894 7,515 11,391 3,866 872 0 408 1,194 514 1,688 1,317,857 302,381 405,973 63,340 16,498 38,030 32,299 467,112 55,378 84,386 321,393 4,530 125,251 752 25,913 1,234,882 82,975 0 82,975 1,317,857 41,669 32,622 141,005 8,437 8,312 11,188 533 31,934 2,203 407 527 19,080 297,917 4,463 0 4,463 302,381 13,787 2,969 83,646 5,751 148,708 34,666 13,522 35,632 678 19,873 347 21,879 381,457 20,111 4,406 24,517 405,973 0 (88,596) (43,953) (160,252) (13,374) (13,537) (150,732) (34,118) (8,005) (46,549) 0 (561) (59,018) 0 0 0 (4,089) (609,248) (88,596) (43,953) (160,252) (7,007) (150,732) (34,118) (9,459) (46,549) (561) (4,914) 0 (4,089) (550,230) (59,017) 0 (59,017) (609,248) 40,638 23,218 58,763 213,501 181,525 39,936 486,584 41,322 10,336 266,604 53,174 6,327 795 5,688 9,695 9,627 9,165 1,416,962 30,201 8,136 102,429 39,480 473,400 67,114 88,982 342,409 6,850 140,617 1,626 62,784 1,364,027 48,530 4,406 52,935 1,416,962 1 UBS AG (Parent Bank) prepares its financial statements in accordance with Swiss banking law requirements. Amounts presented in this column serve as a basis for preparing Group Financial Statements under IFRS. 451 Financial informationNote 40 Supplemental guarantor information required under SEC rules (continued) Financial information Notes to the consolidated financial statements Supplemental guarantor consolidated statement of cash flows CHF million For the year ended 31 December 2011 Net cash flow from / (used in) operating activities Cash flow from / (used in) investing activities Purchase of subsidiaries, associates and intangible assets Disposal of subsidiaries, associates and intangible assets 2 Purchase of property and equipment Disposal of property and equipment Net (investment in) / divestment of financial investments available-for-sale Net cash flow from / (used in) investing activities Cash flow from / (used in) financing activities Net short-term debt issued / (repaid) Net movements in treasury shares and own equity derivative activity Issuance of long-term debt, including financial liabilities designated at fair value Repayment of long-term debt, including financial liabilities designated at fair value Increase in non-controlling interests Dividends paid to / decrease in non-controlling interests Net activity in investments in subsidiaries Net cash flow from / (used in) financing activities Effects of exchange rate differences Net increase / (decrease) in cash and cash equivalents Cash and cash equivalents at the beginning of the year Cash and cash equivalents at the end of the year Cash and cash equivalents comprise: Cash and balances with central banks Money market paper 3 Due from banks 4 Total UBS AG (Parent Bank) 1 (12,251) UBS Americas Inc. (933) Other subsidiaries (1,057) UBS Group (14,241) (58) 50 (917) 137 19,125 18,336 5,459 (1,885) 48,844 (55,668) 0 0 640 (2,610) (2,587) 889 65,592 66,481 38,094 3,804 24,582 66,481 0 0 (114) 91 1,165 1,142 0 0 197 (8) 0 0 (366) (177) 299 333 4,003 4,336 1,977 29 2,330 4,336 0 0 (98) 5 (9) (101) 9,879 0 3,549 (6,950) 1 (748) (274) 5,457 (58) 50 (1,129) 233 20,281 19,377 15,338 (1,885) 52,590 (62,626) 1 (749) 0 2,670 159 (2,129) 4,457 10,339 14,796 568 67 14,162 14,796 5,678 79,934 85,612 40,638 3,900 41,074 85,612 1 UBS AG (Parent Bank) prepares its audited financial statements in accordance with Swiss banking law requirements. Amounts presented in this column serve as a basis for preparing Group Financial Statements under IFRS. 2 Includes dividends received from associates. 3 Money market paper is included in the balance sheet under Trading portfolio assets and Financial investments available-for-sale. 4 Includes positions recognized in the balance sheet under Due from banks and Cash collateral receivables on derivative instruments. 452 Note 40 Supplemental guarantor information required under SEC rules (continued) Supplemental guarantor consolidated income statement CHF million For the year ended 31 December 2010 UBS AG (Parent Bank) 1 UBS Americas Inc. Other subsidiaries Consolidating entries UBS Group Operating income Interest income Interest expense Net interest income Credit loss (expense) / recovery Net interest income after credit loss expense Net fee and commission income Net trading income Income from subsidiaries Other income Total operating income Operating expenses Personnel expenses General and administrative expenses Depreciation and impairment of property and equipment Impairment of goodwill Amortization and impairment of intangible assets Total operating expenses Operating profit / (loss) from continuing operations before tax Tax expense / (benefit) Net profit / (loss) from continuing operations Net profit from discontinued operations Net profit / (loss) Net profit attributable to non-controlling interests Net profit / (loss) attributable to UBS shareholders 15,732 (12,153) 3,579 (2) 3,577 7,293 6,979 1,392 1,515 20,757 9,339 2,729 628 0 3 12,700 8,057 605 7,452 0 7,452 0 7,452 3,388 (1,409) 1,980 (16) 1,964 6,465 (117) 0 1,296 9,608 5,842 2,691 172 0 90 8,796 812 (1,150) 1,962 0 1,962 0 1,962 2,723 (2,067) 656 (48) 608 3,401 609 0 (1,597) 3,022 1,849 1,164 117 0 24 3,154 (132) 136 (268) 2 (266) 304 (570) (2,971) 2,971 0 0 0 0 0 (1,392) 0 (1,392) 0 0 0 0 0 0 (1,392) 0 (1,392) 0 (1,392) 0 (1,392) 18,872 (12,657) 6,215 (66) 6,149 17,160 7,471 0 1,214 31,994 17,031 6,585 918 0 117 24,650 7,345 (409) 7,754 2 7,756 304 7,452 1 UBS AG (Parent Bank) prepares its audited financial statements in accordance with Swiss banking law requirements. Amounts presented in this column serve as a basis for preparing Group Financial Statements under IFRS. 453 Financial informationNote 40 Supplemental guarantor information required under SEC rules (continued) Financial information Notes to the consolidated financial statements Supplemental guarantor consolidated statement of cash flows CHF million For the year ended 31 December 2010 Net cash flow from / (used in) operating activities Cash flow from / (used in) investing activities Purchase of subsidiaries, associates and intangible assets Disposal of subsidiaries, associates and intangible assets 2 Purchase of property and equipment Disposal of property and equipment Net (investment in) / divestment of financial investments available-for-sale Net cash flow from / (used in) investing activities Cash flow from / (used in) financing activities Net short-term debt issued / (repaid) Net movements in treasury shares and own equity derivative activity Capital issuance Issuance of long-term debt, including financial liabilities designated at fair value Repayment of long-term debt, including financial liabilities designated at fair value Increase in non-controlling interests Dividends paid to / decrease in non-controlling interests Net activity in investments in subsidiaries Net cash flow from / (used in) financing activities Effects of exchange rate differences Net increase / (decrease) in cash and cash equivalents Cash and cash equivalents at the beginning of the year Cash and cash equivalents at the end of the year Cash and cash equivalents comprise: Cash and balances with central banks Money market paper 3 Due from banks 4 Total UBS AG (Parent Bank) 1 10,719 UBS Americas Inc. (2,772) Other subsidiaries 5,440 UBS Group 13,385 (75) 307 (367) 196 2,123 2,185 3,241 (1,456) (113) 75,842 (65,968) 0 0 (122) 11,424 (10,218) 14,110 51,482 65,592 26,372 15,798 23,422 65,592 0 0 (88) 22 3,474 3,408 0 0 0 8 (82) 0 (6) 235 154 1,482 2,272 1,731 4,003 69 1,190 2,744 4,003 0 0 (86) 24 (1,433) (1,497) 1,218 0 0 2,568 (11,447) 6 (2,047) (113) (9,815) (75) 307 (541) 242 4,164 4,097 4,459 (1,456) (113) 78,418 (77,497) 6 (2,053) 0 1,764 (3,444) (12,181) (9,315) 19,654 10,339 498 123 9,719 10,339 7,066 72,868 79,934 26,939 17,110 35,885 79,934 1 UBS AG (Parent Bank) prepares its audited financial statements in accordance with Swiss banking law requirements. Amounts presented in this column serve as a basis for preparing Group Financial Statements under IFRS. 2 Includes dividends received from associates. 3 Money market paper is included in the balance sheet under Trading portfolio assets and Financial investments available-for-sale. 4 Includes positions recognized in the balance sheet under Due from banks and Cash collateral receivables on derivative instruments. 454 Note 40 Supplemental guarantor information required under SEC rules (continued) Guarantee of other securities UBS AG, acting through wholly-owned US-domiciled finance subsidiaries, has issued the following outstanding trust preferred securities: Guarantee of other securities USD billion, unless otherwise indicated As of 31.12.12 Issuing entity Type of security Date issued Interest (%) Amount outstanding UBS Preferred Funding Trust IV UBS Preferred Funding Trust V Non-cumulative trust preferred securities Non-cumulative trust preferred securities May 2003 May 2006 one-month USD LIBOR + 0.7 6.243 0.3 1.0 UBS AG has fully and unconditionally guaranteed these securities. UBS’s obligations under the trust preferred securities guarantee are subordinated to the prior payment in full of the deposit and all other liabilities of UBS. At 31 December 2012, the amount of se- nior liabilities of UBS to which the holders of the subordinated debt securities would be subordinated is approximately CHF 1,198 billion. Guarantee to UBS Ltd. UBS AG has issued a guarantee for the benefit of each counter- party of UBS Limited. Under this guarantee, UBS AG irrevocably and unconditionally guarantees each and every obligation that UBS Limited entered into. UBS AG promises to pay to that coun- terparty on demand any unpaid balance of such liabilities under the terms of the guarantee. 455 Financial informationNote 40 Supplemental guarantor information required under SEC rules (continued) UBS AG (Parent Bank) Parent Bank review The following review is based on changes in UBS AG’s (Parent Bank) financial statements from 31 December 2011 to 31 Decem- ber 2012. Income statement UBS AG (Parent Bank) recorded a net loss of CHF 6,645 million in 2012, compared with a net profit of CHF 5,440 million in 2011. The loss before extraordinary items and tax was CHF 3,016 mil- lion, compared with a profit of CHF 4,434 million in the prior year. This was mainly a result of a CHF 649 million decline in operating income, a CHF 1,214 million increase in operating expenses, and as the impairment of investments in subsidiaries and other partici- pations increased by CHF 4,045 million as the net asset values of subsidiaries declined due to goodwill impairments and the adop- tion of IAS 19R. Furthermore, expenses for allowances, provisions and losses increased by CHF 1,582 million, mainly related to higher charges for provisions for litigation, regulatory and similar matters. Extraordinary expenses were CHF 4,117 million compared with CHF 649 million, mainly related to changes in pension accounting in 2012. Net interest income Net interest income decreased by CHF 736 million, or 16%, to CHF 3,861 million, reflecting a CHF 1,996 million decline in inter- est income, partly offset by CHF 1,260 million lower interest ex- penses. The CHF 1,996 million decline in interest income was driven by CHF 1,040 million lower interest and discount income which mainly reflected lower interest earned on loans and advances. In addition, interest and dividend income from the trading portfolio decreased by CHF 731 million. Interest and dividend income from financial investments decreased by CHF 225 million, or 48%, mainly as 2011 included interest income from our strategic invest- ment portfolio, which was sold in the third quarter of 2011. Interest expense decreased by CHF 1,260 million, mainly due to lower interest expenses due to banks and customers. Interest expenses on debt issued increased slightly. Net fee and commission income Net fee and commission income decreased by CHF 358 million to CHF 6,015 million. Fee and commission income from securities and investment businesses decreased by CHF 532 million to CHF 6,270 million. Portfolio management and advisory fees declined in Wealth Man- agement and the Investment Bank. Investment fund fees de- creased mainly in Global Asset Management. Brokerage fees de- creased in the Investment Bank due to a lower level of client activity. Merger and acquisition and corporate finance fees de- creased in the Investment Bank due to a lower volume of transac- tions. These decreases were partly offset by an increase in under- writing fees in the Investment Bank. Fee and commission expense decreased by CHF 104 million, mainly due to lower brokerage fees paid. Net trading income Net trading income was CHF 5,097 million in 2012 compared with CHF 3,545 million in 2011. Net trading income within the equities business in the Investment Bank was positive CHF 1,427 million, compared with negative CHF 114 million in 2011 which included a loss of CHF 1,951 million related to the unau- thorized trading incident. Investment Bank fixed income, cur- rencies and commodities net trading income increased by CHF 86 million to CHF 2,398 million. Net trading income in other business divisions and Corporate Center was CHF 1,177 million compared with CHF 1,286 million in 2011. Other income from ordinary activities Other income from ordinary activities was CHF 2,401 million, a decline of CHF 1,107 million. Net income from the disposal of financial investments de- creased by CHF 758 million, as 2011 included a gain of CHF 652 million from the sale of our strategic investment portfolio. Dividend income from investments in subsidiaries and other participations increased by CHF 147 million. Sundry income from ordinary activities decreased by CHF 482 million to CHF 3,959 million, mainly as sundry income related to financial investments was zero in 2012 compared with CHF 464 million in 2011, which reflected the reversal of unrealized losses incurred on the strategic investment portfolio. In 2012, sundry income included CHF 3,856 million of income received from sub- sidiaries for services rendered, an increase of CHF 180 million compared with the prior year. Gains on sales of loans and receiv- ables were CHF 29 million, a decline of CHF 205 million from the prior year. Sundry ordinary expenses were largely unchanged at CHF 2,569 million. Charges from subsidiaries for services received were down CHF 154 million to CHF 2,368 million, while unreal- 457 Financial information Financial information UBS AG (Parent Bank) ized losses on financial investments increased by CHF 97 million and losses from disposals of loans and receivables increased by CHF 80 million. Operating expenses Personnel expenses increased by CHF 579 million to CHF 8,888 million, mainly due to restructuring charges of CHF 1,364 million. This was partly offset by a credit to personnel expenses of CHF 485 million related to changes to our Swiss pension plan as well as lower accruals for variable compensation. General and administrative expenses increased by CHF 636 million, mainly due to higher cost charges from subsidiaries, in- creased expenses related to outsourcing of IT and other services due to higher business demand, as well as higher marketing and public relations costs, partly due to expenditures related to our 150th anniversary. Impairment of investments in subsidiaries and other participations Impairment of investments in subsidiaries and other participations increased by CHF 4,045 million to CHF 4,210 million, mainly as the net asset value of subsidiaries which recorded a goodwill im- pairment declined, resulting in an impairment of the investments in those subsidiaries of CHF 2,951 million. In addition, the adop- tion of IAS 19R by foreign subsidiaries also resulted in lower net asset values, resulting in an impairment of CHF 620 million of the respective investments. Allowances, provisions and losses Allowances, provisions and losses increased by CHF 1,582 million to CHF 1,735 million. Extraordinary expenses Extraordinary expenses increased by CHF 3,468 million to CHF 4,117 million, mainly related to changes in the pension account- ing, which resulted in extraordinary expenses of CHF 3,954 mil- lion, of which 3,063 million related to the Swiss pension plan and CHF 892 million related to the International defined benefit plans. ➔ Refer to “Note 2b Changes in accounting policies, comparability and other adjustments” for more information on the pension accounting changes Tax expense / benefit The net income tax benefit in 2012 was CHF 59 million compared with a tax expense of CHF 232 million in 2011. The net income tax benefit in 2012 was mainly due to a net release of prior year re- lated tax risk provisions. Deferred tax assets are not accounted for or reported in UBS AG’s (Parent Bank) financial statements prepared under Swiss GAAP. As a consequence, there is no amortization of deferred tax assets for tax losses used against profits arising from business operations. This is the main difference to the Group net income tax expense of CHF 461 million for IFRS purposes, for which the net amortization of deferred tax assets represents the most sig- nificant element. Balance sheet Assets Total assets stood at CHF 776 billion as of 31 December 2012, a decrease of CHF 70 billion from 31 December 2011, predomi- nantly relating to the accelerated implementation of our strategy announced in October 2012. The increase mainly related to higher charges for provisions for litigation, regulatory and similar matters, which increased by CHF 1,368 million, primarily as a result of charges for provisions arising from fines and disgorgement resulting from regulatory investiga- tions concerning LIBOR and other benchmark rates. In addition, restructuring charges of CHF 200 million were recorded in 2012. Decreases were mainly seen in reverse repurchase agreements with banks, holdings of money market paper and in positive re- placement values. These decreases were partially offset by higher liquid assets held at central banks, an increase in high-quality gov- ernment debt held as financial investments and higher amounts due from customers. Extraordinary income Extraordinary income decreased by CHF 1,459 million to CHF 429 million. Reversals of impairments and provisions of subsidiaries and other participations decreased by CHF 1,191 million, mainly as 2011 included significant net impairment reversals related to posi- tive foreign currency impacts on the valuation of US subsidiaries. Liquid assets and money market paper Liquid assets increased by CHF 16 billion to CHF 54 billion on 31 December 2012, predominantly due to higher balances with central banks. Money market paper held decreased by CHF 10 billion to CHF 31 billion, primarily due to reductions in Japanese, British and Hong Kong government bills held, partly offset by a net increase in German and Dutch government bills. Gains from sale of subsidiaries and other participations de- creased by CHF 155 million due to fewer disposals. Prior period related income decreased to CHF 115 million from CHF 280 million. Due from banks and due from customers Interbank lending (due from banks) decreased by CHF 64 billion to CHF 167 billion, mainly reflecting reduced reverse repurchase 458 agreements with UBS subsidiaries, in particular in the Americas and Europe. Due from customers increased by CHF 13 billion to CHF 161 billion, mainly due to an increase in reverse repurchase agree- ments with non-bank clients of CHF 5 billion, an increase in non- mortgage loans of CHF 3 billion as well as an increase in current accounts of CHF 2 billion, mainly in Switzerland. Financial investments Financial investments increased by CHF 11 billion to CHF 31 bil- lion, primarily due to increased holdings of high-quality govern- ment debt. Investments in subsidiaries and other participations Investments in subsidiaries decreased by CHF 3 billion to CHF 21 billion. This was mainly due to the abovementioned net write- downs of investments in subsidiaries of CHF 4 billion. An additional write-down of CHF 1 billion was due to dividend payments. These decreases were partly offset by net capital injec- tions of CHF 2 billion. Positive replacement values Positive replacement values, which are reported on a net basis, pro- vided the master netting and the related collateral agreements are legally enforceable, decreased by CHF 29 billion to CHF 35 billion, mainly as replacement values for interest rate contracts fell due to lower volumes. Further, credit derivative contracts fell due to the tightening of credit spreads and reduced volumes. In addition, re- placement values decreased due to increased netting with cash col- lateral payables to subsidiaries (reported within due to banks). Other assets Other assets decreased by CHF 4 billion to CHF 3 billion, mainly due to the early adoption of FER 16 for the Swiss pension plan and IAS 19R for the International defined benefit plans, which resulted in the derecognition of deferred pension expenses. ➔ Refer to “Note 2b Changes in accounting policies, comparability and other adjustments” for more information on the pension accounting changes Liabilities Money market paper issued Money market paper issued decreased by CHF 36 billion to CHF 21 billion on 31 December 2012, mainly due to a reduction in certificates of deposit outstanding as well as due to the change in balance sheet presentation of certain structured liabilities, which were reclassified from money market paper issued to bonds is- sued and loans from central mortgage institutions. Due to banks and due to customers Due to banks decreased by CHF 22 billion to CHF 102 billion, reflecting lower unsecured interbank borrowing of CHF 9 billion and lower repurchase activity of CHF 7 billion. In addition, cash collateral payables decreased by CHF 10 billion, mainly due to increased netting with positive replacement values. These de- creases were partly offset by increased securities lending of CHF 4 billion. Total amounts due to customers remained stable at CHF 364 billion. Trading portfolio liabilities Trading portfolio liabilities declined by CHF 7 billion to CHF 25 billion as of 31 December 2012, mainly related to a reduction in debt instruments sold short. Negative replacement values Negative replacement values fell by CHF 15 billion to CHF 44 bil- lion, primarily due to lower replacement values for credit deriva- tive and interest rate contracts, partly due to reduced volumes. Bonds issued and loans from central mortgage institutions Bonds issued and loans from central mortgage institutions in- creased by CHF 11 billion, mainly as a result of the aforemen- tioned change in balance sheet presentation of certain structured liabilities. Other liabilities and allowances and provisions Other liabilities increased by CHF 3 billion, mainly related to in- creased deferrals for hedging instruments and also reflecting re- classified provisions which are no longer uncertain in timing or amount. Allowances and provisions increased by CHF 2 billion, mainly related to restructuring provisions. Equity Total equity attributable to shareholders stood at CHF 33,176 mil- lion as of 31 December 2012, compared with CHF 40,174 million at the end of 2011, mainly due to the 2012 loss of CHF 6,645 million. The general statutory reserve decreased by CHF 353 mil- lion to CHF 31,997 million as of 31 December 2012, mainly re- flecting the distribution out of the capital contribution reserve in May 2012. The reserve for own shares decreased by CHF 176 million to CHF 889 million, reflecting the net disposal of treasury shares. Other reserves increased by CHF 5,617 million, reflecting the ap- propriation of 2011 earnings of CHF 5,440 million as well as the net disposal of treasury shares, which increased other reserves by CHF 176 million. 459 Financial information Financial information UBS AG (Parent Bank) Parent Bank financial statements Income statement CHF million Interest and discount income Interest and dividend income from trading portfolio Interest and dividend income from financial investments Interest expense Net interest income Credit-related fees and commissions Fee and commission income from securities and investment business Other fee and commission income Fee and commission expense Net fee and commission income Net trading income Net income from disposal of financial investments Dividend income from investments in subsidiaries and other participations Income from real estate holdings Sundry income from ordinary activities Sundry ordinary expenses Other income from ordinary activities Operating income Personnel expenses General and administrative expenses Operating expenses Operating profit Impairment of investments in subsidiaries and other participations Depreciation of fixed assets Allowances, provisions and losses Profit / (loss) before extraordinary items and taxes Extraordinary income Extraordinary expenses Tax (expense) / benefit Profit / (loss) for the period 460 For the year ended % change from Note 31.12.12 10,047 3,258 242 (9,686) 3,861 378 6,270 634 (1,267) 6,015 5,097 75 905 31 3,959 (2,569) 2,401 17,374 8,888 5,016 13,904 3,470 4,210 541 1,735 (3,016) 429 (4,117) 59 (6,645) 3 4 4 31.12.11 (9) (18) (48) (12) (16) 16 (8) 3 (8) (6) 44 (91) 19 3 (11) 1 (32) (4) 7 15 10 (35) (7) (77) 534 31.12.11 11,087 3,989 467 (10,946) 4,597 326 6,802 616 (1,371) 6,373 3,545 833 758 30 4,441 (2,554) 3,508 18,023 8,309 4,380 12,690 5,333 165 581 153 4,434 1,888 (649) (232) 5,440 Balance sheet CHF million Assets Liquid assets Money market paper Due from banks Due from customers Mortgage loans Trading balances in securities and precious metals Financial investments Investments in subsidiaries and other participations Fixed assets Accrued income and prepaid expenses Positive replacement values Other assets Total assets of which: subordinated assets of which: amounts due from subsidiaries Liabilities Money market paper issued Due to banks Trading portfolio liabilities Due to customers on savings and deposit accounts Other amounts due to customers Medium-term notes Bonds issued and loans from central mortgage institutions Financial liabilities designated at fair value Accruals and deferred income Negative replacement values Other liabilities Allowances and provisions Total liabilities Equity Share capital General statutory reserve thereof capital contribution reserve thereof retained earnings Reserve for own shares thereof capital contribution reserve thereof retained earnings Other reserves Profit / (loss) for the period Equity attributable to shareholders Total liabilities and equity of which: subordinated liabilities of which: amounts due to subsidiaries Note 31.12.12 31.12.11 % change from 31.12.11 54,192 31,066 167,204 160,996 149,002 115,906 30,778 21,090 5,054 2,157 35,206 3,037 775,687 3,776 201,982 21,257 102,401 25,419 94,086 269,992 1,341 100,166 64,808 6,434 43,518 9,653 3,435 38,094 41,222 231,401 148,474 144,346 120,312 20,193 23,990 4,807 2,114 64,580 6,552 846,085 1,894 288,870 56,788 124,625 32,522 85,393 278,096 1,951 89,361 62,976 6,671 58,994 7,122 1,412 742,511 805,911 384 31,997 42,184 (10,187) 889 889 6,551 (6,645) 33,176 775,687 15,985 103,148 383 32,350 42,537 (10,187) 1,066 1,066 934 5,440 40,174 846,085 12,339 133,696 13 5 13 5 8 9,10 9 9 9 9 42 (25) (28) 8 3 (4) 52 (12) 5 2 (45) (54) (8) 99 (30) (63) (18) (22) 10 (3) (31) 12 3 (4) (26) 36 143 (8) 0 (1) (1) 0 (17) (17) 601 (17) (8) 30 (23) 461 Financial information Financial information UBS AG (Parent Bank) Statement of appropriation of retained earnings The Board of Directors proposes that the Annual General Meeting (AGM) on 2 May 2013 approves the following appropriation of retained earnings: Proposed appropriation of retained earnings CHF million Loss for the period Total available for appropriation Appropriation to other reserves Appropriation to general statutory reserve: retained earnings Total appropriation Proposed distribution of capital contribution reserve For the year ended 31.12.12 (6,645) (6,645) (1,751) (4,894) (6,645) The Board of Directors proposes that the AGM on 2 May 2013 approves the pay-out of CHF 0.15 per share of CHF 0.10 par value out of the capital contribution reserve. Provided that the pro- posed distribution of the capital contribution reserve is approved, the payment of CHF 0.15 per share would be made on 10 May 2013 to holders of shares on the record date 8 May 2013. The shares will be traded ex-dividend as of 6 May 2013, and accord- ingly the last day on which the shares may be traded with entitle- ment to receive a pay-out will be 3 May 2013. CHF million, except where indicated Total capital contribution reserve before proposed distribution 1, 2 Proposed distribution of capital contribution reserve within general statutory reserve: CHF 0.15 per dividend bearing share 3 Total capital contribution reserve after proposed distribution For the year ended 31.12.12 42,184 (575) 41,609 1 As presented on the balance sheet, the capital contribution reserve of CHF 42,184 million is a component of the general statutory reserve of CHF 31,997 million after taking into account negative retained earnings of CHF 10,187 million. 2 Effective 1 January 2011, the Swiss withholding tax law provides that payments out of the capital contribution reserve are not subject to withholding tax. This law has led to interpretational dif- ferences between the Swiss Federal Tax Authorities and companies about the qualifying amounts of the capital contribution reserve and the disclosure in the financial statements. In view of this, the Swiss Federal Tax Authorities have confirmed that UBS would be able to repay to shareholders CHF 27.4 billion of disclosed capital contribution reserve (status as of 1 January 2011) without being subject to the withholding tax deduction that applies to dividends paid out of retained earnings. This amount reduced to CHF 27.0 billion as of 31 December 2012 subsequent to the distribution of CHF 379 million as approved by the Annual General Meet- ing 2012. The decision about the remaining amount has been deferred to a future point in time. 3 Dividend-bearing shares are all shares issued except for treasury shares held by UBS AG (Parent Bank) as of the record date 8 May 2013. 462 Notes to the Parent Bank financial statements Note 1 Business activities, risk assessment, outsourcing and personnel Business activities Outsourcing The business activities of UBS AG (Parent Bank) are described in the context of the description of the activities of the UBS Group in the “Operating environment and strategy” section of this report. Outsourcing of IT and other services through agreements with external service providers is in compliance with FINMA Circular 2008 / 7 “Outsourcing-banks”. Risk assessment Personnel UBS AG (Parent Bank), as the ultimate parent company of UBS Group, is fully integrated into the group wide internal risk assess- ment process described in the audited part of the “Risk, treasury and capital management” section of this report. UBS AG (Parent Bank) employed 35,153 personnel on a full time equivalent basis as of 31 December 2012, compared with 36,693 personnel on 31 December 2011. Note 2 Accounting policies a) Significant accounting policies UBS AG’s (Parent Bank) financial statements are prepared in ac- cordance with Swiss Federal banking law. The accounting policies are principally the same as for the consolidated financial state- ments outlined in “Note 1 Summary of significant accounting policies”. Major differences between the Swiss Federal banking law requirements and International Financial Reporting Standards are described in “Note 39 Swiss banking law requirements” to the consolidated financial statements. The significant accounting policies applied for the statutory accounts of UBS AG (Parent Bank) are discussed below. In addition the presentation of the bal- ance sheet and income statement under Swiss law differs from the presentation under IFRS. The risk management of UBS AG (Parent Bank) is described in the context of the risk management of UBS Group. statement. Treasury shares recognized as Financial investments are valued according to the principles of lower of cost or market value. Realized gains and losses on the sale or acquisition of trea- sury shares are recognized in the income statement. For treasury shares held as Financial investments or for non- genuine trading purposes (e.g. treasury shares held to hedge eq- uity compensation plans), a Reserve for own shares must be cre- ated in equity through the reclassification of free reserves equal to the cost value of the treasury shares held. Repurchases of shares for the purpose of holding these as Financial investments or non- genuine trading can be made to the extent that sufficient free re- serves are available. The Reserve for own shares is not available for distribution to shareholders. Total treasury shares held cannot ex- ceed 10% of total issued shares. Treasury shares Foreign currency translation Treasury shares are own equity instruments held by an entity. Un- der Swiss law, treasury shares are recognized in the balance sheet as Trading balances in securities and precious metals or as Finan- cial investments. Short positions in treasury shares are presented as Trading portfolio liabilities. Treasury shares recognized as trad- ing balances (which include treasury shares held as economic hedges of equity compensation plans) and short positions in trea- sury shares are measured at fair value with unrealized gains or losses from remeasurement to fair value included in the income Assets and liabilities of foreign branches are translated into Swiss francs at the spot exchange rate at the balance sheet date. In- come and expense items are translated at weighted average exchange rates for the period. All exchange differences are recog- nized in the income statement. The main currency translation rates used by UBS AG (Parent Bank) can be found in “Note 38 Currency translation rates” to the consolidated financial statements. 463 Financial information Financial information UBS AG (Parent Bank) Note 2 Accounting policies (continued) Investments in subsidiaries and other participations Investments in subsidiaries and other participations are equity in- terests which are held for the purpose of UBS AG’s (Parent Bank) business activities or for strategic reasons. They include all directly held subsidiaries through which UBS AG (Parent Bank) conducts its business on a global basis. The investments are carried at cost less impairment. The carrying value is tested for impairment when indications for a decrease in value exist, which include incurrence of significant operating losses or a severe depreciation of the cur- rency in which the investment is denominated. If an investment in subsidiary is impaired, its value is generally written down to the net asset value. Subsequent recoveries in value are recognized up to the original cost value based on either the increased net asset value or a value above the net asset value if, in the opinion of management, forecasts of future profitability provide sufficient evidence that a carrying value above net asset value is supported. Management may exercise its discretion as to what extent and in which period a recovery in value is recognized. Reversals of impairments are presented as Extraordinary in- come in the income statement. Impairments of investments are presented in Profit / (loss) before extraordinary items and taxes un- der Impairment of investments in subsidiaries and other participa- tions. The classification as extraordinary income or expense of prior period related amounts is dependent on whether the invest- ment in the respective subsidiary, on a net basis, is a partial or full reversal of impairment (extraordinary income) or an impairment (extraordinary expenses). Deferred taxes Deferred tax assets are not recognized in UBS AG’s (Parent Bank) financial statements under Swiss Federal banking law. However, deferred tax liabilities may be recognized for taxable temporary differ ences. The change in the deferred tax liability balance is rec- ognized in profit or loss. Equity participation and other compensation plans Equity participation plans Under Swiss law, employee share and option awards are recog- nized as compensation expense and accrued over the perfor- mance year, which is generally the financial year prior to the grant date. Equity- and cash-settled awards are classified as liabilities. The employee share option awards are remeasured to fair value at each balance sheet date. However, for employee share options that UBS intends to settle in shares from conditional capital, no compensation expense is recognized in the income statement as these awards are not a liability of UBS. Upon exercise of employee options, cash received for payment of the strike price is credited against Share capital and the General statutory reserve. 464 Other compensation plans Fixed and variable deferred cash compensation is recognized as compensation expenses over the performance year. Sundry income from ordinary activities and sundry ordinary expenses Sundry income from ordinary activities mainly includes income from hard cost and revenue transfers between UBS AG (Parent Bank) and its subsidiaries and income from lower of cost or mar- ket accounting of financial investments. Sundry ordinary expenses mainly include costs for hard revenue transfers between UBS AG (Parent Bank) and its subsidiaries and expenses from lower of cost or market accounting of financial investments. Hard transfers of costs and revenues are performed on an arm’s length basis and are settled in cash between UBS AG (Parent Bank) and its subsid- iaries. Dispensations in statutory financial statements As UBS Group prepares consolidated financial statements in ac- cordance with IFRS, UBS AG (Parent Bank) is dispensed from vari- ous disclosures in the statutory financial statements. Refer to the consolidated financial statements for more information. Accounting for pension funds FINMA Circular 2008 / 2 “Accounting – banks” permits the use of IAS 19 or Swiss GAAP FER 16 (“FER 16”) in the accounting for the pension plan and defined benefit plans. Election of the ac- counting standard may be done on a plan-by-plan basis. As of 1 October 2012, UBS AG (Parent Bank) elected to adopt FER 16 for the Swiss pension plan. FER 16 requires recognizing the em- ployer contributions to the pension fund as personnel expenses. The employer contributions to the Swiss pension fund are deter- mined as a percentage of compensation. Under FER 16 it is peri- odically assessed whether, from the point of view of UBS AG (Parent Bank), an economic benefit or obligation arises from the pension fund which, when conditions are met, is recorded on the balance sheet. The financial statements of the pension fund prepared in accordance with Swiss GAAP FER 26 (“FER 26”) are used for the assessment. UBS AG (Parent Bank) continues to apply IAS 19 to the Interna- tional defined benefit plans. As of 1 October 2012, UBS AG (Parent Bank) has adopted the revisions to IAS 19 issued by the IASB in June 2011. For Swiss GAAP, remeasurements of the de- fined benefit obligation and the plan assets are recognized in the income statement rather than equity. Key differences between FER 16 / 26 and IAS 19R include the treatment of future salary increases, which are not considered under FER 16 / 26, and the determination of the discount rate. Note 2 Accounting policies (continued) b) Changes in accounting policies, comparability and other adjustments Presentation of certain structured liabilities In 2012, UBS amended the balance sheet classification of certain structured liabilities. As a consequence, financial liabilities of CHF 10.8 billion as of 30 September 2012 were reclassified from Money market paper issued to Bonds issued and loans from cen- tral mortgage institutions. Had UBS not amended the balance sheet classification of certain structured liabilities, Money market paper issued would have been CHF 8.6 billion higher and Bonds issued and loans from central mortgage institutions would have been CHF 8.6 billion lower as of 31 December 2012. Measurement of financial investments not held until maturity Under Swiss federal banking law, financial investments are carried either at the lower of cost or market value (LOCOM) or at amor- tized cost less impairment. In July 2012, the Swiss Financial Mar- ket Supervisory Authority (FINMA) issued a “Frequently Asked Questions” document that allows the use of amortized cost for the cost value when applying LOCOM. UBS adopted this account- ing policy change prospectively as of 1 July 2012. The change in accounting policy had no material impact on UBS AG’s (Parent Bank) financial statements. Accounting for pension funds In the fourth quarter of 2012, UBS AG (Parent Bank) adopted the revisions to IAS 19 issued by the IASB in June 2011 (“IAS 19R”) for the International defined benefit plans, and at the same time ad- opted FER 16 for the Swiss pension plan. Further information on the changes introduced by IAS 19R can be found in “Note 1 Summary of significant accounting policies” to the consolidated financial statements. The key difference in applying IAS 19R for Swiss GAAP purposes is that it is not permis- sible to recognize amounts directly in equity. As a result, under Swiss GAAP, all actuarial changes are recognized directly in the income statement. UBS AG (Parent Bank) has elected to apply FER 16 for the Swiss pension plan as it is aligned with the Swiss pension framework. Under FER 16 it is assessed periodically whether, from the point of view of UBS AG (Parent Bank), an economic benefit or obligation arises from the pension fund which, when conditions are met, is recorded on the balance sheet. In addition, FER 16 requires that employer contributions to the pension fund are recognized direct- ly as personnel expenses in the income statement. The cumulative effect of adopting these changes in accounting policy as of 1 October 2012 was a debit to extraordinary expenses in the income statement of CHF 3,063 million relating to the Swiss pension plan and CHF 892 million relating to the Interna- tional defined benefit plans. 465 Financial information Financial information UBS AG (Parent Bank) Additional income statement information Note 3 Net trading income CHF million Investment Bank investment banking Investment Bank equities Investment Bank fixed income, currencies and commodities Other business divisions and Corporate Center Total Note 4 Extraordinary income and expenses CHF million Gains from disposals of subsidiaries and other participations Reversal of impairments and provisions of subsidiaries and other participations Prior period related income Other extraordinary income Total extraordinary income Losses from disposals of subsidiaries and other participations Prior period related expenses Expenses related to changes in pension accounting 1 Total extraordinary expenses For the year ended % change from 31.12.12 31.12.11 31.12.11 95 1,427 2,398 1,177 5,097 60 (114) 2,312 1,286 3,545 58 4 (8) 44 For the year ended % change from 31.12.12 31.12.11 31.12.11 37 161 115 116 429 (67) (96) (3,954) (4,117) 192 1 352 280 64 1 888 (10) (639) 0 (649) (81) (88) (59) 81 (77) 570 (85) 534 1 Refer to “Note 2 Accounting policies” for more information with regard to the adoption of FER16 for the Swiss pension plan and IAS 19R for International defined benefit plans. 466 Additional balance sheet information Note 5 Other assets and other liabilities CHF million Other assets Deferred pension expenses Settlement and clearing accounts VAT and other tax receivables Receivables from subsidiaries Other receivables Total other assets Other liabilities CHF million Deferral position for hedging instruments Settlement and clearing accounts VAT and other tax payables Payables to subsidiaries Other payables 1 Total other liabilities 31.12.12 31.12.11 % change from 31.12.11 0 470 178 1,784 606 3,037 31.12.12 5,453 757 451 770 2,222 9,653 2,980 376 99 2,277 819 6,552 31.12.11 4,400 600 360 754 1,008 7,122 (100) 25 80 (22) (26) (54) % change from 31.12.11 24 26 25 2 120 36 1 Includes liabilities of CHF 1.3 billion arising from fines and disgorgement resulting from regulatory investigations concerning LIBOR and other benchmark rates. Note 6 Pledged assets CHF million Money market paper Mortgage loans 1 Securities Pledges of precious metals to subsidiaries Total 2 31.12.12 31.12.11 Change in % Carrying value of pledged assets Associated liability recognized on the balance sheet 1,880 33,928 49,316 4,163 89,287 1,226 21,902 26,889 0 50,017 Carrying value of pledged assets3 3,056 27,841 41,892 4,364 77,152 Associated liability recognized on the balance sheet Carrying value of pledged assets Associated liability recognized on the balance sheet 788 16,966 21,027 0 38,781 (38) 22 18 (5) 16 56 29 28 29 1 These pledged mortgage loans serve as collateral for existing liabilities against Swiss central mortgage institutions and for existing covered bond issuances. Of these pledged mortgage loans, approximately CHF 7.5 billion for 31 December 2012 (31 December 2011: approximately CHF 5.7 billion) could be withdrawn or used for future liabilities or covered bond issuances without breaching existing collateral require- ments. 2 Does not include assets placed with central banks related to undrawn credit lines and for payment, clearing and settlement purposes (31 December 2012: CHF 3.5 billion, 31 December 2011: CHF 2.0 bil- lion). 3 Comparative data has been restated due to a change in the definition of pledged assets. Refer to “Note 1b Changes in accounting policies, comparability, and other adjustments” in the consolidated financial statements for more information. UBS AG (Parent Bank) pledges assets mainly in securities lending transactions, in repurchase transactions, against loans from Swiss mortgage institutions, in connection with derivative trans- actions, as security deposits for stock exchanges and clearing- house memberships, and in connection with the issuance of covered bonds. 467 Financial information Financial information UBS AG (Parent Bank) Note 7 Swiss pension plan and International defined benefit plans a) Liabilities due to Swiss pension plan and International defined benefit plans CHF million Provisions for Swiss pension plan Provisions for International defined benefit plans Total provisions for Swiss pension plan and International defined benefit plans1 UBS debt instruments and bank accounts at UBS held by Swiss pension fund UBS derivative financial instruments held by UBS Swiss pension fund Total liabilities due to Swiss pension plan and International defined benefit plans 1 Refer to “Note 8 Allowances and provisions”. b) Swiss pension plan 1 CHF million Pension cost recognized in UBS’s income statement under IAS 19 until 30 September 2012 of which: current service cost of which: past service cost related to plan amendment Employer contributions for the period recognized in UBS’s income statement under FER 16 from 1 October 2012 Performance awards related employer contributions accrued Total pension expense recognized in UBS’s income statement within Personnel expenses 2 For the year ended 31.12.12 31.12.11 0 510 510 611 98 1,219 0 98 98 516 36 650 As of or for the year ended 31.12.12 31.12.11 (128) 357 (485) 108 14 (6) 353 353 0 N/A N/A 353 1 The pension plan surplus of CHF 4,115 million as of 31 December 2012 (CHF 4,023 million as of 1 October 2012) is determined in accordance with FER 26 and consists of the reserve for the fluctuation in asset value. The surplus did not represent an economic benefit for UBS in accordance with FER 16 as of 31 December 2012 or 1 October 2012. 2 In addition, extraordinary expenses of CHF 3,063 million were recognized in the income state- ment related to changes in accounting for the UBS Swiss pension plan. These extraordinary expenses included the reversal of the credit of CHF 485 million shown on the line Past service cost related to plan amendments. The Swiss pension plan had no employer contribution reserve in 2012 or 2011. Details on the Swiss pension plan and International defined benefit plans can be found in “Note 30 Pension and other post-employment benefit plans” to the consolidated financial state- ments. 468 Note 8 Allowances and provisions CHF million Default risks of which: specific allowances for due from customers and mortgage loans of which: specific allowances for due from banks of which: collective loan loss allowances 1 of which: provisions for loan commitments and guarantees Operational risks Litigation risks 2 Restructuring Real estate 6 Employee benefits Defined benefit plans Provisions related to parental support provided by UBS AG (Parent Bank) to subsidiaries in the form of indemnities, letter of support, letters of undertaking and similar agreements Deferred taxes Other provisions 8 Total allowances and provisions Allowances deducted from assets Total allowances and provisions as per balance sheet Provisions applied in accordance with their specified purpose Recoveries, doubt- ful interest, cur- rency translation differences and reclassi fications Balance at 31.12.11 Provisions released to income New provisions charged to income Balance at 31.12.12 (129) (129) 0 (12) (1,152) 3,4 (161) (19) (58) (34) (249) (8) (1,821) 802 593 17 128 64 22 101 191 100 216 98 258 6 357 2,150 738 1,412 81 79 0 1 0 51 (14) 9 (3) 19 (8) (42) 92 (220) (165) (7) (28) (20) (6) (47) (53) (4) (61) (222) 7 (8) (3) 221 195 12 12 2 19 1,548 4 1,650 5 3 141 649 7 84 2 30 (625) 4,347 754 573 22 113 47 23 501 1,612 88 235 510 84 0 334 4,142 707 3,435 1 Mainly relates to due from customers. 2 Includes provisions for litigation resulting from security risks. 3 Represents amounts paid out for the intended purpose and amounts transferred to Other liabilities – Other payables, presented in “Note 5 Other assets / Other liabilities” for liabilities, which are no longer uncertain in timing or amount. 4 Mainly relates to provisions arising from fines and disgorgement resulting from regula- tory investigations concerning LIBOR and other benchmark rates. 5 Refer to “Note 39 Swiss banking law requirements” in the consolidated financial statements for more information with regard to differences between IFRS and Swiss Federal Banking Law with respect to timing of recognizing restructuring provisions. 6 Includes provisions for onerous lease contracts of CHF 22 million as of 31 December 2012 (31 December 2011: CHF 30 million) and reinstatement cost provisions for leasehold improvements of CHF 66 million as of 31 December 2012 (31 December 2011: CHF 70 million). 7 Of the total provision release of CHF (222) million, CHF (119) million related to the adoption of IAS 19R for the International defined benefit plans. Of the total charge to income of CHF 649 million, CHF 610 million related to the adoption of IAS 19R for the Internation- al defined benefit plans. The net expense of CHF 490 million (CHF 610 million charge less CHF 119 million release) was recorded as extraordinary expense. 8 Includes a reinvestment relief provision related to the sale of UBS Pactual in 2009. 469 Financial information Financial information UBS AG (Parent Bank) Note 9 Statement of shareholders’ equity CHF million As of 31 December 2010 and 1 January 2011 Capital increase Profit / (loss) appropriation Prior year dividend Profit / (loss) for the period Changes in reserve for own shares As of 31 December 2011 and 1 January 2012 Capital increase Profit / (loss) appropriation Prior year dividend Profit / (loss) for the period Changes in reserve for own shares As of 31 December 2012 Share capital 383 General statutory reserve 27,379 14 4,525 383 0 432 32,350 26 (379) 384 31,997 Reserve for own shares 432 634 1,066 (176) 889 Other reserves 402 Profit / (loss) for the year 6,123 1,598 (6,123) (1,066) 934 5,440 176 6,551 5,440 5,440 (5,440) (6,645) (6,645) Total shareholders’ equity (before distribution of capital contribution reserve) 34,719 14 0 0 5,440 0 40,174 26 0 (379) (6,645) 0 33,176 Note 10 Share capital and significant shareholders As of 31 December 2012 Issued of which: shares outstanding of which: treasury shares held by UBS AG (Parent Bank) 1 of which: treasury shares held by subsidiaries of UBS AG (Parent Bank) 1 Conditional share capital As of 31 December 2011 Issued of which: shares outstanding of which: treasury shares held by UBS AG (Parent Bank) 1 of which: treasury shares held by subsidiaries of UBS AG (Parent Bank) 1 Par value Dividend bearing No. of shares Capital in CHF No. of shares Capital in CHF 3,835,250,233 3,747,370,632 87,786,359 93,242 625,510,992 383,525,023 374,737,063 8,778,636 9,324 62,551,099 3,747,463,874 3,747,370,632 374,746,387 374,737,063 93,242 9,324 3,832,121,899 3,747,166,348 84,751,096 204,455 628,639,326 383,212,190 374,716,635 8,475,110 20,446 62,863,933 3,747,370,803 3,747,166,348 374,737,080 374,716,635 204,455 20,446 Conditional share capital 1 During 2012, 114.3 million treasury shares were acquired at market prices and 111.4 million treasury shares were disposed of, mainly related to the delivery of shares under employee share based compensation plans. Conditional share capital As of 31 December 2012, 145,510,992 additional shares (31 De- cember 2011: 148,639,326 shares) could have been issued to fund UBS‘s employee share option programs. Further conditional capital up to 100,000,000 shares was available in connection with an arrangement with the Swiss National Bank (SNB). The SNB pro- vided a loan to a fund owned and controlled by the SNB (the SNB StabFund), to which UBS transferred certain illiquid securities and other positions. As part of this arrangement, UBS granted war- rants on shares to the SNB and these warrants become exercisable if the SNB incurs a loss on its loan to the SNB StabFund. Further on 14 April 2010, the Annual General Meeting of UBS AG (Parent Bank) shareholders approved the creation of condi- tional capital to a maximum amount of 380,000,000 shares for conversion rights / warrants granted in connection with the issu- ance of bonds or similar financial instruments. 470 Significant shareholders According to disclosure notifications filed with UBS AG and the SIX under the Swiss Stock Exchange Act, on 30 September 2011, Norges Bank (the Central Bank of Norway), Oslo, disclosed a hold- ing of 3.04%. On 12 March 2010, the Government of Singapore Investment Corp., Singapore, as beneficial owner, disclosed a holding by the Government of Singapore Investment Corp. of 6.45%. On 17 December 2009, BlackRock Inc., New York, dis- closed a holding of 3.45%. In accordance with the Swiss Stock Exchange Act, the percentages indicated above were calculated in relation to the total UBS share capital reflected in the Articles of Association at the time of the respective disclosure notification. Information on disclosures under the Swiss Stock Exchange Act can be found on the following website of the SIX: http://www. six- exchange-regulation.com/obligations/disclosure/major_share- holders_en.html. According to our share register, the shareholders (acting in their own name or in their capacity as nominees for other inves- tors or beneficial owners) listed in the table ”Significant share- holders” below were registered with 3% or more of the total share capital on 31 December 2012, 2011 and 2010. ➔ Refer to the “Corporate governance” section of this report for more information on significant shareholders and shareholders’ participation rights Shareholders registered in the UBS shares register with 3% or more of shares issued 31.12.12 Total nominal Chase Nominees Ltd, London DTC (Cede & Co.), New York 1 Government of Singapore Investment Corp., Singapore Nortrust Nominees Ltd, London Quantity 457,784,081 202,368,918 245,517,417 147,144,758 value (CHF million) 46 20 25 15 Share % 11.94 5.28 6.40 3.84 Quantity 419,533,402 270,808,806 245,481,682 160,917,513 1 DTC (Cede & Co.), New York, “The Depository Trust Company”, is a US securities clearing organization. 31.12.11 Total nominal value (CHF million) 42 27 25 16 Share % 10.95 7.07 6.41 4.20 Note 11 Transactions with related parties Transactions with related parties (such as securities transactions, payment transfer services, borrowing and compensation for deposits) are conducted at internally agreed transfer prices or at arm’s length. Refer to the “Compensation of the members of the Board of Di- rectors and the Group Executive Board” section for information on loans granted to GEB and BoD members. Amounts due from / to subsidiaries are disclosed on the “Balance sheet”. 471 Financial information Financial information UBS AG (Parent Bank) Off-balance sheet and other information Note 12 Commitments and contingent liabilities CHF million Contingent liabilities of which: Guarantees to third parties related to subsidiaries of which: credit guarantees and similar instruments of which: performance guarantees and similar instruments of which: documentary credits Irrevocable commitments of which: loan commitments of which: underwriting commitments of which: payment commitment related to deposit insurance Forward starting transactions 1 of which: reverse repurchase agreements of which: securities borrowing agreements of which: repurchase agreements Liabilities for calls on shares and other equities 1 Cash to be paid in the future by either UBS or the counterparty. 31.12.12 115,254 97,335 7,676 2,847 7,397 68,420 67,448 0 972 33,510 22,321 249 10,940 63 31.12.11 137,661 121,072 7,595 2,843 6,151 66,107 64,302 850 955 47,273 23,491 503 23,279 126 % change from 31.12.11 (16) (20) 1 0 20 3 5 (100) 2 (29) (5) (50) (53) (50) The table above includes indemnities and guarantees issued by UBS AG (Parent Bank) for the benefit of subsidiaries and creditors of subsidiaries. UBS AG has issued a guarantee for the benefit of each coun- terparty of UBS Limited. Under this guarantee, UBS AG irrevocably and unconditionally guarantees each and every obligation that UBS Limited entered into. UBS AG promises to pay to that coun- terparty on demand any unpaid balance of such liabilities under the terms of the guarantee. In instances in which the indemnity amount issued by UBS AG (Parent Bank) is not specifically defined, the indemnity relates to the solvency or minimum capitalization of a subsidiary, and there- fore no amount is included in the table above. In addition, UBS AG (Parent Bank) is jointly and severally liable for the value added tax (VAT) liability of Swiss subsidiaries that belong to its VAT group. This contingent liability is not included in the table above. Note 13 Derivative instruments 1 31.12.12 31.12.11 CHF million, unless indicated otherwise Interest rate contracts Credit derivative contracts Foreign exchange contracts Precious metal contracts Equity / Index contracts Commodities contracts, excluding precious metal contracts Total before netting 4 Replacement value netting Total after netting PRV 2 238,567 31,935 83,808 1,789 13,397 797 370,293 335,087 35,206 NRV 3 234,016 33,152 93,450 2,118 15,018 852 378,606 335,087 43,518 Notional amount (CHF billion) 28,129 2,400 6,689 109 505 86 37,918 PRV 2 264,146 67,364 97,158 4,193 16,538 775 450,173 385,593 64,580 Notional amount (CHF billion) 36,209 2,737 6,323 99 416 110 45,894 NRV 3 252,725 62,704 106,117 3,924 18,105 1,012 444,587 385,593 58,994 1 Bifurcated embedded derivatives are presented in the same balance sheet line as the host contract and are excluded from this table 2 PRV: Positive replacement value. 3 NRV: Negative replacement value. 4 Replacement values are presented net of cash collateral, where applicable. 472 Note 14 Fiduciary transactions CHF million Deposits: with third-party banks with subsidiaries Total 31.12.12 31.12.11 31.12.11 % change from 6,175 2,261 8,436 9,375 2,346 11,721 (34) (4) (28) Fiduciary transactions encompass transactions entered into or granted by UBS that result in holding or placing assets on behalf of individuals, trusts, defined benefit plans and other institutions. Unless the recognition criteria for the assets are satisfied, these assets and the related income are excluded from UBS AG’s (Parent Bank) balance sheet and income statement, but disclosed in this Note as off-balance sheet fiduciary transactions. Client deposits which are initially placed as fiduciary transactions with UBS AG (Parent Bank) may be recognized on UBS AG’s (Parent Bank) bal- ance sheet in situations in which the deposit is subsequently placed within UBS AG (Parent Bank). In such cases, these deposits are not reported in the table above. 473 Financial information Financial information UBS AG (Parent Bank) Compensation of the members of the Board of Directors and the Group Executive Board d e t i d u A Total compensation for GEB members for the performance years 2011 and 2012 CHF, except where indicated a Name, function For the year Base salary Sergio P. Ermotti, Group CEO 2012 Sergio P. Ermotti, Group CEO 2 2011 Oswald J. Grübel, former Group CEO 3 Robert J. McCann, CEO Wealth Management Americas (highest-paid after Group CEO) 2011 2012 Immediate cash (for 2011 under CBP) b 0 553,200 2,500,000 1,394,445 2,191,667 0 Annual performance award under EOP c 3,660,000 Annual performance award under DCCP d 2,440,000 Annual performance award under PEP e – Annual performance award under SEEOP f – Deferred cash under CBP 1, b – Contribu- tions to retirement benefit plans h 201,088 Benefits in kind g 69,500 Total 8,870,588 – – – – 1,290,800 922,000 1,844,000 195,450 150,816 6,350,711 0 – 0 – 0 – 35,971 0 2,227,638 45,004 6,110 8,555,366 1,373,130 0 4,278,673 2,852,449 Robert J. McCann, CEO Wealth Management Americas (highest-paid) Aggregate of all GEB members who were in office at the end of the year 4 Aggregate of all GEB members who stepped down during the year 5 2011 2012 2011 2012 2011 1,321,538 1,869,233 – – 1,246,155 1,557,694 3,115,388 67,053 6,264 9,183,325 16,273,460 0 31,355,592 20,903,728 – – – 640,683 1,233,719 70,407,181 15,962,737 11,929,365 1,593,288 4,155,602 0 509,201 – 0 – – 0 – 8,874,910 10,402,137 20,804,274 1,165,601 995,290 70,134,314 – 1,166,759 – 0 – 962,768 105,865 171,954 14,799 80,499 1,713,952 7,046,783 1 In 2011, for Sergio P. Ermotti, due to applicable UK FSA regulations, deferred cash includes blocked shares. 2 Sergio P. Ermotti was appointed on 1 April 2011 as GEB member and Regional CEO of Europe, Middle East and Africa. He was appointed as the new Group CEO ad interim on 24 September 2011 and confirmed as Group CEO on 15 November 2011. 3 Oswald J. Grübel stepped down on 24 September 2011 as Group CEO. 4 Number and distribution of GEB members: 11 GEB members were in office on 31 December 2012 and 12 GEB members were in office on 31 December 2011. 5 Number and distribution of former GEB mem- bers: 2012: includes three months in office as a GEB member for Alexander Wilmot-Sitwell and 10 months in office as a GEB member for Carsten Kengeter. 2011: includes five months in office as a GEB member for John Cryan, nine months for Oswald J. Grübel and 11 months for Maureen Miskovic. Explanation of the tables outlining compensation details for GEB and BoD members a. Local currencies are converted into CHF using the exchange rates as detailed in Note 38 “Currency translation rates” in the “Financial information” section in this report. b. For performance year 2012, no immediate cash was paid. For performance year 2011, 40% of the 2011 performance award was granted in the form of Cash Balance Plan awards, of which 60% is paid out immediately (representing 24% of a GEB member’s performance award). The balance is paid out in equal installments of 20%, each over the subsequent two years, and is subject to performance adjustments. c. For EOP awards for the performance year 2012, the number of shares allocated at grant will be determined by dividing the amount communicated with the average price of UBS shares over the 10 trading days prior to and including the grant date (15 March 2013), which for notional shares is adjusted for the estimated value of dividends paid on UBS shares over the vesting period. As the grant date occurs after publication, no share price is yet available at the time of publication. d. DCCP awards vest in full after year 5 of the five-year vesting period. The amount reflects the amount of the notional bond excluding future notional inter- est. The notional interest rate is set at 6.25% for awards denominated in USD and 5.40% for awards denominated in CHF. e. For PEP awards for the performance year 2011, the number of performance shares allocated at grant has been determined by dividing the amount com- municated with CHF 12.52 or USD 13.75 (based on the average price of UBS shares over the last 10 trading days of February 2012 adjusted for the esti- mated value of dividends paid on UBS shares over the vesting period). For SEEOP awards for the performance year 2011, the number of shares allocated at grant has been determined by dividing the amount communicated with CHF 12.92 or USD 14.19 (for actual shares) and with CHF 12.52 or USD 13.75 (notional shares), based on the average closing price of UBS shares over the last 10 trading days of February 2012, which for notional shares is adjusted for the estimated value of dividends paid on UBS shares over the vesting period. f. g. Benefits in kind are all valued at market price, for example, health and welfare benefits and general expense allowances. h. Swiss executives participate in the same pension plan as all other employees. Under this plan, UBS makes contributions to the plan, which covers compen- sation of up to CHF 835,200 (CHF 842,400 as from 1 January 2013). The retirement benefits consist of a pension, a bridging pension and a one-off payout of accumulated capital. Employees must also contribute to the plan. This figure excludes the mandatory employer’s social security contributions (AHV, ALV), but includes the portion attributed to the employer’s portion of the legal BVG requirement. The employee contribution is included in the base salary and annual incentive award components. In both the US and the UK, senior management participates in the same pension plans as all other employees. In the US, there are separate pension plans for Wealth Management Americas compared with the other business divisions. There are generally two different types of pension plans: grandfathered plans and principal plans. The grandfathered plans, which are no longer open to new hires, operate (depending on the abovementioned distinction by business division) either on a cash balance basis or a career average salary basis. Participants accrue a pension based on their annual compensation limited to USD 250,000 (or USD 150,000 for Wealth Management Americas employees). The principal plans for new hires are defined contribution plans. In the defined contribution plans, UBS makes contributions to the plan based on compensation and limited to USD 250,000 (USD 255,000 as from 1 January 2013). US management may also participate in a 401(k) defined contribution plan (open to all employees), which provides a limited company matching contribution for employee contributions. In 2012, Wealth Management Americas employees with a compensation in excess of USD 250,000 did not receive a company match. Effective 1 January 2013, the match was reinstated for these employees. In the UK, management partici- pates in either the principal pension plan, which operates on a defined contribution basis and is limited to an earnings cap of GBP 100,000, or a grandfa- thered defined benefit plan which provides a pension upon retirement based on career average base salary (individual caps introduced as of 1 July 2010). 474 d e t i d u A Share and option ownership / entitlements of GEB members on 31 December 2011 / 2012 1 Name, function For the year Sergio P. Ermotti, Group Chief Executive Officer Markus U. Diethelm, Group General Counsel John A. Fraser, Chairman and CEO Global Asset Management Lukas Gähwiler, CEO UBS Switzerland and CEO Retail & Corporate Carsten Kengeter, former co-CEO Investment Bank 5 Ulrich Körner, Group Chief Operating Officer, CEO Corporate Center and CEO Group EMEA Philip J. Lofts, Group Chief Risk Officer Robert J. McCann, CEO Group Americas and CEO Wealth Management Americas Tom Naratil, Group Chief Financial Officer Andrea Orcel, CEO Investment Bank Alexander Wilmot-Sitwell, former co-Chairman and co-CEO Group Asia Pacific 5 Chi-Won Yoon, CEO Group Asia Pacific Jürg Zeltner, CEO UBS Wealth Management 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2012 2011 2012 2011 2012 2011 Number of unvested shares / at risk 2 220,928 Number of vested shares Total number of shares 41,960 262,888 0 506,132 358,042 617,529 460,707 412,199 252,293 – 971,575 605,284 389,090 542,402 377,614 658,470 330,047 340,757 221,238 1,755,691 – – 495,553 478,986 306,515 522,500 306,487 0 126,098 91,506 315,270 280,414 95,537 37,517 – 556,016 121,837 95,597 169,789 150,772 18,112 0 233,603 193,836 0 – – 220,955 370,760 350,311 38,329 11,756 0 632,230 449,548 932,799 741,121 507,736 289,810 – 1,527,591 727,121 484,687 712,191 528,386 676,582 330,047 574,360 415,074 1,755,691 – – 716,508 849,746 656,826 560,829 318,243 Potentially conferred voting rights in % 0.013 0.000 0.030 0.021 0.045 0.034 0.024 0.013 – 0.070 0.035 0.022 0.034 0.024 0.032 0.015 0.027 0.019 0.084 – – 0.033 0.041 0.030 0.027 0.015 Number of options 3 0 Potentially conferred voting rights in % 4 0.000 0 0 0 884,531 1,088,795 0 0 – 905,000 0 0 536,173 577,723 0 0 935,291 1,046,122 0 – – 353,807 578,338 623,253 203,093 205,470 0.000 0.000 0.000 0.042 0.050 0.000 0.000 – 0.041 0.000 0.000 0.026 0.026 0.000 0.000 0.045 0.048 0.000 – – 0.016 0.028 0.029 0.010 0.009 1 This table includes all vested and unvested shares and options of GEB members, including related parties. 2 Includes shares granted under variable compensation plans with forfeiture provisions. The actual number of shares vesting in the future will be calculated under the terms of the plans. Refer to the “Deferred variable compensation plans” section in this report for more information on the plans. 3 Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information. 4 No conversion rights are outstanding. 5 GEB members who stepped down during 2012. 475 Financial information d e t i d u A d e t i d u A Financial information UBS AG (Parent Bank) Compensation details and additional information for non-independent BoD members CHF, except where indicated a Name, function 1 Axel A. Weber, Chairman Kaspar Villiger, former Chairman For the year 2012 2011 2012 2011 Base salary 1,322,581 – 354,167 850,000 Annual performance award (cash) – – – 0 Annual share award 2,003,9952 – 200,000 2 500,000 2 Benefits in kind g 69,867 – 54,926 144,568 Contributions to retirement benefit plans h 171,898 – – 0 Total 3,568,341 – 609,093 1,494,568 1 Axel A. Weber was the only non-independent member in office on 31 December 2012; Kaspar Villiger did not stand for reelection at the AGM on 3 May 2012. Kaspar Villiger was the only non-independent member in office on 31 December 2011. 2 These shares are blocked for four years. Remuneration details and additional information for independent BoD members CHF, except where indicated a e e t t i m m o C t i d u A M M M M M C C M M & s e c r u o s e R n a m u H n o i t a s n e p m o C e e t t i m m o C & e c n a n r e v o G g n i t a n m o N i e e t t i m m o C y t i l i b i s n o p s e R e e t t i m m o C e t a r o p r o C e e t t i m m o C k s i R For the period AGM to AGM Base fee Committee retainer(s) Benefits in kind M M M M M M M M M M C C M M M M 2012/2013 325,000 2011/2012 325,000 C 2012/2013 325,000 C 2011/2012 325,000 M 2012/2013 325,000 M 2011/2012 325,000 2012/2013 – 2011/2012 325,000 2012/2013 325,000 2011/2012 325,000 M 2012/2013 325,000 M 2011/2012 325,000 2012/2013 325,000 2011/2012 325,000 M 2012/2013 325,000 M 2011/2012 325,000 2012/2013 325,000 2011/2012 325,000 2012/2013 325,000 2011/2012 – 300,000 300,000 500,000 500,000 300,000 400,000 – 200,000 500,000 550,000 300,000 250,000 200,000 200,000 300,000 300,000 350,000 300,000 300,000 – 2012/2013 325,000 250,000 2011/2012 – M 2012/2013 325,000 M 2011/2012 325,000 – 250,000 250,000 M C C M M M M Name, function 1 Michel Demaré, Vice Chairman David Sidwell, Senior Independent Director Rainer-Marc Frey, member Bruno Gehrig, former member Ann F. Godbehere, member Axel P. Lehmann, member Wolfgang Mayrhuber, member Helmut Panke, member William G. Parrett, member Isabelle Romy, member Beatrice Weder di Mauro, member Joseph Yam, member Total 2012 Total 2011 Total 875,000 Additional payments 250,000 5 250,000 5 875,000 250,000 5 1,075,000 250,000 5 1,075,000 625,000 725,000 – 525,000 825,000 875,000 625,000 575,000 525,000 525,000 625,000 625,000 675,000 625,000 625,000 – 575,000 – 575,000 575,000 7,625,000 7,000,000 Share percentage 2 50 Number of shares 3, 4 34,233 50 50 50 100 100 50 50 50 100 100 50 50 50 50 50 50 50 50 50 50 39,845 42,057 48,952 46,367 62,635 23,907 32,276 39,845 46,367 49,632 20,539 23,907 24,452 28,460 26,408 28,460 24,452 22,496 22,496 26,183 Legend: C = Chairperson of the respective Committee; M = Member of the respective Committee 1 There were 11 independent BoD members in office on 31 December 2012. Isabelle Romy and Beatrice Weder di Mauro were appointed at the AGM on 3 May 2012 and Bruno Gehrig did not stand for reelection at the AGM on 3 May 2012. There were 10 independent BoD members in office on 31 December 2011. Joseph Yam was appointed at the AGM on 28 April 2011 and Sally Bott stepped down on 11 February 2011. 2 Fees are paid 50% in cash and 50% in blocked UBS shares. However, independent BoD members can elect to have 100% of their remuneration paid in blocked UBS shares. 3 For 2012, shares valued at CHF 15.03 (average price of UBS shares at SIX Swiss Exchange over the last 10 trading days of February 2013), and were granted with a price discount of 15% for a new value of CHF 12.78. These shares are blocked for four years. For 2011, shares valued at CHF 12.92 (average price of UBS shares at SIX Swiss Exchange over the last 10 trading days of February 2012), and were granted with a price discount of 15% for a new value of CHF 10.98. These shares are blocked for four years. 4 Number of shares is reduced in case of the 100% election to deduct social security contribution. All remuneration payments are subject to social security contributions / withholding tax. 5 This payment is associated with the Vice Chairman or the Senior Independent Director function, respectively. 476 d e t i d u A d e t i d u A Total payments to BoD members CHF, except where indicated a Aggregate of all BoD members Number of shares of BoD members on 31 December 2011 / 2012 1 Name, function Axel A. Weber, Chairman 2 Kaspar Villiger, former Chairman 3 Michel Demaré, Vice Chairman David Sidwell, Senior Independent Director Rainer-Marc Frey, member Bruno Gehrig, former member 3 Ann F. Godbehere, member Axel P. Lehmann, member Wolfgang Mayrhuber, member Helmut Panke, member William G. Parrett, member Isabelle Romy, member 2 Beatrice Weder di Mauro, member 2 Joseph Yam, member For the year 2012 2011 Total 11,802,434 8,494,568 For the year Number of shares held Voting rights in % 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 200,000 0.010 – – 49,440 116,179 76,334 149,199 100,247 162,677 100,042 – 54,409 81,286 41,441 139,603 89,971 38,957 15,050 137,792 109,332 91,078 62,618 0 – 0 – 26,183 0 0.002 0.006 0.003 0.007 0.005 0.008 0.005 0.002 0.004 0.002 0.007 0.004 0.002 0.001 0.007 0.005 0.004 0.003 0.000 0.000 0.001 0.000 1 This table includes blocked and unblocked shares held by BoD members, including related parties. No options were granted in 2011 and 2012. 2 Axel A. Weber, Isabelle Romy and Beatrice Weder di Mauro were ap- pointed at the AGM on 3 May 2012. 3 Kaspar Villiger and Bruno Gehrig did not stand for reelection at the AGM on 3 May 2012. 477 Financial information Financial information UBS AG (Parent Bank) d e t i d u A d e t i d u A d e t i d u A Compensation paid to former BoD and GEB members1 CHF, except where indicated a Name, function Former BoD members Aggregate of all former GEB members 2 Aggregate of all former BoD and GEB members For the year Compensation Benefits in kind 2012 2011 2012 2011 2012 2011 0 0 0 0 0 0 0 0 25,465 0 25,465 0 Total 0 0 25,465 0 25,465 0 1 Compensation or remuneration that is connected with the former member’s activity on the BoD or GEB or that is not at market conditions. 2 Includes one former GEB member in 2012 and no former GEB member in 2011. Total of all vested and unvested shares of GEB members 1, 2 Total Of which vested Of which vesting 2013 2014 2015 Shares on 31 December 2012 3,414,568 1,531,295 952,668 583,281 347,324 Shares on 31 December 2011 2,863,887 1,988,680 408,037 290,631 1 Includes related parties. 2 Excludes shares granted under variable compensation plans with forfeiture provisions. 2012 2013 2014 88,269 2016 0 2015 88,269 2017 0 2016 0 Total of all blocked and unblocked shares of BoD members 1 Shares on 31 December 2012 1,142,954 56,624 302,118 204,792 231,501 347,919 Shares on 31 December 2011 1 Includes related parties. 698,884 72,775 2012 9,349 2013 2014 2015 115,690 225,995 275,075 Total Of which unblocked Of which blocked until 2013 2014 2015 2016 478 Vested and unvested options of GEB members on 31 December 2011 / 2012 1 d e t i d u A For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price Sergio P. Ermotti, Group Chief Executive Officer Philip J. Lofts, Group Chief Risk Officer (continued) 2012 2011 0 0 Markus U. Diethelm, Group General Counsel 2012 2011 0 0 John A. Fraser, Chairman and CEO Global Asset Management 2012 884,531 127,884 2003 31.01.2006 31.01.2013 USD 22.53 170,512 2004 01.03.2007 27.02.2014 USD 38.13 202,483 2005 01.03.2008 28.02.2015 USD 44.81 213,140 2006 01.03.2009 28.02.2016 CHF 72.57 170,512 2007 01.03.2010 28.02.2017 CHF 73.67 2011 1,088,795 76,380 2002 31.01.2005 31.01.2012 USD 21.24 127,884 2002 28.06.2005 28.06.2012 CHF 37.90 127,884 2003 31.01.2006 31.01.2013 USD 22.53 170,512 2004 01.03.2007 27.02.2014 USD 38.13 202,483 2005 01.03.2008 28.02.2015 USD 44.81 213,140 2006 01.03.2009 28.02.2016 CHF 72.57 170,512 2007 01.03.2010 28.02.2017 CHF 73.67 Lukas Gähwiler, CEO UBS Switzerland and CEO Retail & Corporate 2012 2011 0 0 2011 577,723 117,090 2005 01.03.2008 28.02.2015 CHF 52.32 117,227 2006 01.03.2009 28.02.2016 CHF 72.57 85,256 2007 01.03.2010 28.02.2017 CHF 73.67 74 599 2008 01.03.2011 28.02.2018 CHF 35.66 11,445 11,104 11,098 1,240 5,464 1,199 9,985 9,980 9,974 1,833 1,830 1,830 35,524 35,524 35,521 2002 31.01.2003 31.01.2012 CHF 36.49 2002 31.01.2004 31.01.2012 CHF 36.49 2002 31.01.2005 31.01.2012 CHF 36.49 2002 28.02.2003 28.02.2012 CHF 36.65 2002 28.02.2004 28.02.2012 CHF 36.65 2002 28.02.2005 28.02.2012 CHF 36.65 2003 01.03.2004 31.01.2013 CHF 27.81 2003 01.03.2005 31.01.2013 CHF 27.81 2003 01.03.2006 31.01.2013 CHF 27.81 2003 01.03.2004 28.02.2013 CHF 26.39 2003 01.03.2005 28.02.2013 CHF 26.39 2003 01.03.2006 28.02.2013 CHF 26.39 2004 01.03.2005 27.02.2014 CHF 44.32 2004 01.03.2006 27.02.2014 CHF 44.32 2004 01.03.2007 27.02.2014 CHF 44.32 117,090 2005 01.03.2008 28.02.2015 CHF 52.32 117,227 2006 01.03.2009 28.02.2016 CHF 72.57 85,256 74,599 2007 01.03.2010 28.02.2017 CHF 73.67 2008 01.03.2011 28.02.2018 CHF 35.66 Carsten Kengeter, former co-CEO Investment Bank 4 2012 – 2011 905,000 905,000 2009 01.03.2012 27.12.2019 CHF 40.00 Robert J. McCann, CEO Group Americas and CEO Wealth Management Americas 2012 2011 0 0 Tom Naratil, Group Chief Financial Officer 2012 935,291 63,942 2003 31.01.2006 31.01.2013 USD 22.53 Ulrich Körner, Group Chief Operating Officer, CEO Corporate Center and CEO Group EMEA 2012 2011 0 0 Philip J. Lofts, Group Chief Risk Officer 2012 536,173 9,985 9,980 9,974 1,833 1,830 1,830 35,524 35,524 35,521 2003 01.03.2004 31.01.2013 CHF 27.81 2003 01.03.2005 31.01.2013 CHF 27.81 2003 01.03.2006 31.01.2013 CHF 27.81 2003 01.03.2004 28.02.2013 CHF 26.39 2011 1,046,122 2003 01.03.2005 28.02.2013 CHF 26.39 2003 01.03.2006 28.02.2013 CHF 26.39 2004 01.03.2005 27.02.2014 CHF 44.32 2004 01.03.2006 27.02.2014 CHF 44.32 2004 01.03.2007 27.02.2014 CHF 44.32 4,262 2003 28.02.2005 28.02.2013 USD 19.53 145,962 2004 01.03.2007 27.02.2014 USD 38.13 166,010 2005 01.03.2008 28.02.2015 USD 44.81 142,198 2006 01.03.2009 28.02.2016 CHF 72.57 131,277 2007 01.03.2010 28.02.2017 CHF 73.67 181,640 2008 01.03.2011 28.02.2018 CHF 35.66 100,000 2009 01.03.2012 27.02.2019 CHF 11.35 35,524 35,524 35,521 2002 31.01.2003 31.01.2012 USD 21.24 2002 31.01.2004 31.01.2012 USD 21.24 2002 31.01.2005 31.01.2012 USD 21.24 4,262 2002 29.02.2004 28.02.2012 USD 21.70 63,942 2003 31.01.2006 31.01.2013 USD 22.53 4,262 2003 28.02.2005 28.02.2013 USD 19.53 1 This table includes all options of GEB members, including related parties. 2 No conversion rights are outstanding. 3 Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information. 4 GEB member who stepped down during 2012. 479 Financial information Financial information UBS AG (Parent Bank) Vested and unvested options of GEB members on 31 December 2011 / 2012 1 (continued) d e t i d u A For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price Tom Naratil, Group Chief Financial Officer (continued) Chi-Won Yoon, CEO Group Asia Pacific (continued) 145,962 2004 01.03.2007 27.02.2014 USD 38.13 2011 623,253 166,010 2005 01.03.2008 28.02.2015 USD 44.81 142,198 2006 01.03.2009 28.02.2016 CHF 72.57 131,277 2007 01.03.2010 28.02.2017 CHF 73.67 181,640 2008 01.03.2011 28.02.2018 CHF 35.66 100,000 2009 01.03.2012 27.02.2019 CHF 11.35 Andrea Orcel, CEO Investment Bank 2012 2011 0 – Alexander Wilmot-Sitwell, former co-Chairman and co-CEO Group Asia Pacific 4 2012 – 2011 353,807 53,282 2005 01.03.2008 28.02.2015 CHF 47.58 2,130 2005 04.03.2007 04.03.2015 CHF 47.89 35,524 35,524 35,521 2006 01.03.2007 28.02.2016 CHF 65.97 2006 01.03.2008 28.02.2016 CHF 65.97 2006 01.03.2009 28.02.2016 CHF 65.97 106,570 2007 01.03.2010 28.02.2017 CHF 73.67 85,256 2008 01.03.2011 28.02.2018 CHF 35.66 Chi-Won Yoon, CEO Group Asia Pacific 2012 578,338 8,648 8,642 8,635 4,262 3,374 3,371 3,371 6,200 4,262 6,198 6,195 10,659 10,657 10,654 21,316 21,314 21,311 8,881 8,880 8,880 2003 01.03.2004 31.01.2013 USD 20.49 2003 01.03.2005 31.01.2013 USD 20.49 2003 01.03.2006 31.01.2013 USD 20.49 2003 28.02.2005 28.02.2013 USD 19.53 2003 01.03.2004 28.02.2013 USD 19.53 2003 01.03.2005 28.02.2013 USD 19.53 2003 01.03.2006 28.02.2013 USD 19.53 2004 01.03.2005 27.02.2014 CHF 44.32 Jürg Zeltner, CEO UBS Wealth Management 2004 27.02.2006 27.02.2014 CHF 44.32 2012 203,093 2004 01.03.2006 27.02.2014 CHF 44.32 2004 01.03.2007 27.02.2014 CHF 44.32 2005 01.03.2006 28.02.2015 CHF 47.58 2005 01.03.2007 28.02.2015 CHF 47.58 2005 01.03.2008 28.02.2015 CHF 47.58 2006 01.03.2007 28.02.2016 CHF 65.97 2006 01.03.2008 28.02.2016 CHF 65.97 2006 01.03.2009 28.02.2016 CHF 65.97 2007 01.03.2008 28.02.2017 CHF 67.00 2007 01.03.2009 28.02.2017 CHF 67.00 2007 01.03.2010 28.02.2017 CHF 67.00 42,628 2008 01.03.2011 28.02.2018 CHF 32.45 350,000 2009 01.03.2012 27.02.2019 CHF 11.35 11,577 11,229 11,227 2002 31.01.2002 31.01.2012 USD 21.24 2002 31.01.2004 31.01.2012 USD 21.24 2002 31.01.2005 31.01.2012 USD 21.24 2,252 6,446 2,184 8,648 8,642 8,635 4,262 3,374 3,371 3,371 6,200 4,262 6,198 6,195 10,659 10,657 10,654 21,316 21,314 21,311 8,881 8,880 8,880 2002 28.02.2002 28.02.2012 USD 21.70 2002 29.02.2004 28.02.2012 USD 21.70 2002 28.02.2005 28.02.2012 USD 21.70 2003 01.03.2004 31.01.2013 USD 20.49 2003 01.03.2005 31.01.2013 USD 20.49 2003 01.03.2006 31.01.2013 USD 20.49 2003 28.02.2005 28.02.2013 USD 19.53 2003 01.03.2004 28.02.2013 USD 19.53 2003 01.03.2005 28.02.2013 USD 19.53 2003 01.03.2006 28.02.2013 USD 19.53 2004 01.03.2005 27.02.2014 CHF 44.32 2004 27.02.2006 27.02.2014 CHF 44.32 2004 01.03.2006 27.02.2014 CHF 44.32 2004 01.03.2007 27.02.2014 CHF 44.32 2005 01.03.2006 28.02.2015 CHF 47.58 2005 01.03.2007 28.02.2015 CHF 47.58 2005 01.03.2008 28.02.2015 CHF 47.58 2006 01.03.2007 28.02.2016 CHF 65.97 2006 01.03.2008 28.02.2016 CHF 65.97 2006 01.03.2009 28.02.2016 CHF 65.97 2007 01.03.2008 28.02.2017 CHF 67.00 2007 01.03.2009 28.02.2017 CHF 67.00 2007 01.03.2010 28.02.2017 CHF 67.00 42,628 2008 01.03.2011 28.02.2018 CHF 32.45 350,000 2009 01.03.2012 27.02.2019 CHF 11.35 4,972 7,106 7,103 7,103 93 161 149 127 7,106 7,103 7,103 110 242 230 2004 01.03.2007 27.02.2014 CHF 44.32 2005 01.03.2006 28.02.2015 CHF 47.58 2005 01.03.2007 28.02.2015 CHF 47.58 2005 01.03.2008 28.02.2015 CHF 47.58 2005 04.03.2007 04.03.2015 CHF 47.89 2005 06.06.2007 06.06.2015 CHF 45.97 2005 09.09.2007 09.09.2015 CHF 50.47 2005 05.12.2007 05.12.2015 CHF 59.03 2006 01.03.2007 28.02.2016 CHF 65.97 2006 01.03.2008 28.02.2016 CHF 65.97 2006 01.03.2009 28.02.2016 CHF 65.97 2006 03.03.2008 03.03.2016 CHF 65.91 2006 09.06.2008 09.06.2016 CHF 61.84 2006 08.09.2008 08.09.2016 CHF 65.76 1 This table includes all options of GEB members, including related parties. 2 No conversion rights are outstanding. 3 Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information. 4 GEB member who stepped down during 2012. 480 Vested and unvested options of GEB members on 31 December 2011 / 2012 1 (continued) d e t i d u A For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price For the year Total number of options 2 Number of options 3 Year of grant Vesting date Expiry date Strike price Jürg Zeltner, CEO UBS Wealth Management (continued) Jürg Zeltner, CEO UBS Wealth Management (continued) 2011 205,470 221 2006 08.12.2008 08.12.2016 CHF 67.63 7,105 7,105 7,103 2007 01.03.2008 28.02.2017 CHF 67.00 2007 01.03.2009 28.02.2017 CHF 67.00 2007 01.03.2010 28.02.2017 CHF 67.00 223 2007 02.03.2009 02.03.2017 CHF 67.08 42,628 2008 01.03.2011 28.02.2018 CHF 35.66 90,000 2009 01.03.2012 27.02.2019 CHF 11.35 809 784 784 4,972 7,106 7,103 7,103 93 161 2002 31.01.2003 31.01.2012 CHF 36.49 2002 31.01.2004 31.01.2012 CHF 36.49 2002 31.01.2005 31.01.2012 CHF 36.49 2004 01.03.2007 27.02.2014 CHF 44.32 2005 01.03.2006 28.02.2015 CHF 47.58 2005 01.03.2007 28.02.2015 CHF 47.58 2005 01.03.2008 28.02.2015 CHF 47.58 2005 04.03.2007 04.03.2015 CHF 47.89 2005 06.06.2007 06.06.2015 CHF 45.97 149 127 7,106 7,103 7,103 110 242 230 221 7,105 7,105 7,103 2005 09.09.2007 09.09.2015 CHF 50.47 2005 05.12.2007 05.12.2015 CHF 59.03 2006 01.03.2007 28.02.2016 CHF 65.97 2006 01.03.2008 28.02.2016 CHF 65.97 2006 01.03.2009 28.02.2016 CHF 65.97 2006 03.03.2008 03.03.2016 CHF 65.91 2006 09.06.2008 09.06.2016 CHF 61.84 2006 08.09.2008 08.09.2016 CHF 65.76 2006 08.12.2008 08.12.2016 CHF 67.63 2007 01.03.2008 28.02.2017 CHF 67.00 2007 01.03.2009 28.02.2017 CHF 67.00 2007 01.03.2010 28.02.2017 CHF 67.00 223 2007 02.03.2009 02.03.2017 CHF 67.08 42,628 90,000 2008 01.03.2011 28.02.2018 CHF 35.66 2009 01.03.2012 27.02.2019 CHF 11.35 1 This table includes all options of GEB members, including related parties. 2 No conversion rights are outstanding. 3 Refer to “Note 31 Equity participation and other compensation plans” in the “Financial information” section of this report for more information. 481 Financial information d e t i d u A d e t i d u A Financial information UBS AG (Parent Bank) Loans granted to GEB members on 31 December 2011 / 2012 1 CHF, except where indicated Name, function Markus U. Diethelm, Group General Counsel 3 Jürg Zeltner, CEO UBS Wealth Management 3 Aggregate of all GEB members For the year 2012 2011 2012 2011 Loans 2 5,564,012 5,387,500 18,862,820 17,539,601 4 1 No loans have been granted to related parties of the GEB members at conditions not customary in the market. 2 All loans granted are secured loans, except for CHF 311,308 in 2012 and CHF 45,435 in 2011. 3 GEB member with the highest loan granted. 4 Includes a forgivable loan of CHF 3.3 million, subject to the GEB member’s continued full-time employment with UBS and a performance satisfactory and commensurate with his responsibilities. The loan was fully repaid in 2012, as the GEB member stepped down during the year. Loans granted to BoD members on 31 December 2011 / 2012 1 CHF, except where indicated a Name, function Axel A. Weber, Chairman 3 Kaspar Villiger, former Chairman 4 Michel Demaré, Vice Chairman David Sidwell, Senior Independent Director Rainer-Marc Frey, member Bruno Gehrig, former member 4, 5 Ann F. Godbehere, member Axel P. Lehmann, member Wolfgang Mayrhuber, member Helmut Panke, member William G. Parrett, member Isabelle Romy, member 3 Beatrice Weder di Mauro, member 3 Joseph Yam, member Aggregate of all BoD members For the year 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 2012 2011 Loans 2 0 – – 0 500,000 850,000 0 0 0 0 – 798,000 0 0 0 0 0 0 0 0 0 0 0 – 0 – 0 0 500,000 1,648,000 1 No loans have been granted to related parties of the BoD members at conditions not customary in the market. 2 All loans granted are secured loans. 3 Axel A. Weber, Isabelle Romy and Beatrice Weder di Mauro were appointed at the AGM on 3 May 2012. 4 Kaspar Villiger and Bruno Gehrig did not stand for reelection at the AGM on 3 May 2012. 5 Secured loan granted prior to his election to the BoD. 482 483 Financial information Financial information UBS AG (Parent Bank) 484 485 Financial information A – Introduction The following pages contain additional disclosures about UBS Group which are required under SEC regulations. UBS’s consoli- dated financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB) and are denominated in Swiss francs (CHF), the reporting currency of the Group. 487 Financial informationAdditional disclosure required under SEC regulations Financial information Additional disclosure required under SEC regulations The tables below provide information concerning the noon purchase rate for the Swiss franc, expressed in United States dollars, or USD, per one Swiss franc. The noon purchase rate is the rate in New York for cable transfers in foreign currencies as certified for customs purposes by the Federal Reserve Bank of New York. On 28 February 2013, the noon purchase rate was 1.0711 USD per 1 CHF. Year ended 31 December 2008 2009 2010 2011 2012 Month September 2012 October 2012 November 2012 December 2012 January 2013 February 2013 1 The average of the noon purchase rates on the last business day of each full month during the relevant period. Average rate 1 (USD per 1 CHF) At period end 0.9298 0.9260 0.9670 1.1398 1.0724 0.9369 0.9654 1.0673 1.0668 1.0923 High 1.0142 1.0016 1.0673 1.3706 1.1174 High 1.0811 1.0850 1.0794 1.0971 1.0997 1.1074 Low 0.8171 0.8408 0.8610 1.0251 1.0043 Low 1.0462 1.0638 1.0545 1.0715 1.0700 1.0711 488 B – Selected financial data Key figures CHF million, except where indicated Balance sheet data Total assets Equity attributable to UBS shareholders Average equity to average assets (%) Market capitalization Shares Registered ordinary shares Treasury shares Capital strength BIS core tier 1 capital ratio (%) 1 BIS total capital ratio (%) 1 BIS risk-weighted assets 1 Invested assets (CHF billion) 2 Personnel (full-time equivalents) Americas of which: USA Asia Pacific Europe, Middle East and Africa of which: United Kingdom of which: Rest of Europe of which: Middle East and Africa Switzerland Total 31.12.12 31.12.11 31.12.10 31.12.09 31.12.08 As of or for the year ended 1,259,232 1,416,962 1,314,813 1,338,239 2,012,876 45,895 3.4 54,729 48,530 3.2 42,843 43,728 2.7 58,803 37,704 1.7 57,108 28,244 1.3 43,519 3,835,250,233 3,832,121,899 3,830,840,513 3,558,112,753 2,932,580,549 87,879,601 84,955,551 38,892,031 37,553,872 61,903,121 19.0 25.2 192,505 2,230 21,995 20,833 7,426 10,829 6,459 4,202 167 22,378 62,628 14.1 17.2 240,962 2,088 22,924 21,746 7,690 11,019 6,674 4,182 162 23,188 64,820 17.8 20.4 198,875 2,075 23,178 22,031 7,263 10,892 6,634 4,122 137 23,284 64,617 15.4 19.8 206,525 2,160 23,834 22,702 6,865 10,484 6,204 4,145 134 24,050 65,232 11.0 15.0 302,273 2,174 29,346 27,362 9,998 12,032 7,071 4,817 145 26,406 77,783 1 Capital management data as of 31 December 2012 and as of 31 December 2011 is disclosed in accordance with the Basel 2.5 framework. Capital management data as of 31 December 2010, 31 December 2009 and 31 December 2008 is disclosed in accordance with the Basel II framework. Refer to the “Capital management” section of this report for more information. 2 In 2012, the definition of invested assets was refined. Prior period data were restated for this change, with the exception of data for 31 December 2008. Refer to “Note 35 Invested assets and net new money” within the Notes to the consolidated financial statements for more information. 489 Financial information Financial information Additional disclosure required under SEC regulations Income statement data CHF million, except where indicated Interest income Interest expense Net interest income Credit loss (expense) / recovery Net interest income after credit loss (expense) / recovery Net fee and commission income Net trading income Other income Total operating income Total operating expenses Operating profit / (loss) from continuing operations before tax Tax expense / (benefit) Net profit / (loss) from continuing operations Net profit / (loss) from discontinued operations Net profit / (loss) Net profit attributable to non-controlling interests Net profit / (loss) attributable to UBS shareholders Cost / income ratio (%) 1 Per share data (CHF) Basic earnings per share 2 Diluted earnings per share 2 Cash dividends declared per share (CHF) 3, 4 Cash dividends declared per share (USD) 3, 4 Dividend payout ratio (%) 3, 4 Rates of return (%) Return on equity attributable to UBS shareholders 5 Return on average equity Return on average assets 31.12.12 15,968 (9,974) 5,994 (118) 5,875 15,405 3,480 682 25,443 27,216 (1,774) 461 (2,235) 0 (2,235) 276 (2,511) 106.5 (0.67) (0.67) 0.15 (22.4) (5.2) (5.1) (0.2) 31.12.11 17,969 (11,143) 6,826 (84) 6,742 15,236 4,343 1,467 27,788 22,482 5,307 901 4,406 0 4,406 268 4,138 80.7 1.10 1.08 0.10 0.11 9.1 9.1 9.1 0.3 For the year ended 31.12.10 18,872 (12,657) 6,215 (66) 6,149 17,160 7,471 1,214 31,994 24,650 7,345 (409) 7,754 2 7,756 304 7,452 76.9 1.97 1.94 N/A N/A N/A 18.0 17.9 0.5 31.12.09 31.12.08 23,461 (17,016) 6,446 (1,832) 4,614 17,712 (324) 599 22,601 25,128 (2,527) (444) (2,082) (7) (2,089) 610 (2,700) 102.8 (0.74) (0.74) N/A N/A N/A (7.9) (8.7) (0.1) 65,679 (59,687) 5,992 (2,996) 2,996 22,929 (25,820) 692 796 28,290 (27,493) (6,777) (20,716) 198 (20,519) 568 (21,087) 746.0 (7.55) (7.56) N/A N/A N/A (59.0) (68.3) (0.9) 1 Operating expenses / operating income before credit loss expense. 2 Refer to “Note 8 Earnings per share (EPS) and shares outstanding” in the consolidated financial statements for more information. 3 Dividends and / or distribution of capital contribution reserve are normally approved and paid in the year subsequent to the reporting period. 4 For the year 2012, an amount of CHF 0.15 per share will be paid out of capital con- tribution reserve on 10 May 2013, subject to approval by shareholders at the Annual General Meeting on 2 May 2013. The USD amount per share will be determined on 6 May 2013. 5 Net profit attributable to UBS shareholders / average equity attributable to UBS shareholders. The calculation excludes expected deductions for dividends and distribution of capital contribution reserve. 490 Balance sheet data CHF million Assets Total assets Cash and balances with central banks Due from banks Cash collateral on securities borrowed Reverse repurchase agreements Trading portfolio assets of which: assets pledged as collateral which may be sold or repledged by counterparties Positive replacement values Cash collateral receivables on derivative instruments Loans Financial investments available-for-sale Other assets Liabilities and equity Due to banks Cash collateral on securities lent Repurchase agreements Trading portfolio liabilities Negative replacement values Cash collateral payables on derivative instruments Financial liabilities designated at fair value Due to customers Debt issued Other liabilities Equity attributable to UBS shareholders 31.12.12 31.12.11 31.12.10 31.12.09 31.12.08 1,259,232 1,416,962 1,314,813 1,338,239 2,012,876 66,383 21,230 37,372 130,941 160,861 44,698 418,029 30,413 279,901 66,383 11,055 23,024 9,203 37,639 34,154 395,070 71,148 92,878 371,892 104,656 59,902 45,895 40,638 23,218 58,763 213,501 181,525 39,936 486,584 41,322 266,604 53,174 9,165 30,201 8,136 102,429 39,480 473,400 67,114 88,982 342,409 140,617 62,784 48,530 26,939 17,133 62,454 142,790 228,815 61,352 401,146 38,071 262,877 74,768 19,506 41,490 6,651 74,796 54,975 393,762 58,924 100,756 332,301 130,271 62,674 43,728 20,899 16,804 63,507 116,689 232,258 44,221 421,694 53,774 266,477 81,757 20,642 31,922 7,995 64,175 47,469 409,943 66,097 112,653 339,263 131,352 70,953 37,704 32,744 17,694 122,897 224,648 312,054 40,216 854,100 85,703 291,456 5,248 16,916 76,822 14,063 102,561 62,431 851,864 92,937 101,546 362,639 197,254 101,560 28,244 491 Financial informationRatio of earnings to fixed chargesThe following table sets forth UBS’s ratio of earnings to fixed charges on an IFRS basis for the periods indicated. The ratios are calculated based on earnings from continuing operations.For the year ended31.12.1231.12.1131.12.1031.12.0931.12.080.801.421.520.830.54 Financial information Additional disclosure required under SEC regulations 492 C – Information on the companyAt 31 December 2012, UBS operated about 874 business and banking locations worldwide, of which about 42% were in Swit-zerland, 42% in the Americas, 11% in the rest of Europe, Middle East and Africa and 5% in Asia-Pacific. Of the business and bank-ing locations in Switzerland, 35% were owned directly by UBS, Property, plant and equipmentwith the remainder, along with most of UBS’s offices outside Swit-zerland, being held under commercial leases. These premises are subject to continuous maintenance and upgrading and are con-sidered suitable and adequate for current and anticipated opera-tions. 493 Financial informationD – Information required by industry guide 3Selected statistical informationThe following tables set forth selected statistical information regarding the Group’s banking operations extracted from the Financial Statements. Unless otherwise indicated, average bal-ances for the years ended 31 December 2012, 31 December 2011 and 31 December 2010 are calculated from monthly data. The distinction between domestic and foreign is generally based on the booking location. For loans, this method is not significantly different from an analysis based on the domicile of the borrower. Financial information Additional disclosure required under SEC regulations Average balances and interest rates The following table sets forth average interest-earning assets and average interest-bearing liabilities, along with the average yield, for the years ended. CHF million, except where indicated Assets Due from banks Domestic Foreign Cash collateral on securities borrowed and reverse repurchase agreements Domestic Foreign Trading portfolio assets Domestic Foreign taxable Foreign non-taxable Foreign total Cash collateral receivables on derivative instruments Domestic Foreign Financial assets designated at fair value Domestic Foreign Loans Domestic Foreign Financial investments available-for-sale Domestic Foreign taxable Foreign non-taxable Foreign total Other interest-earning assets Domestic Foreign Total interest-earning assets Net interest income on swaps Interest income on off-balance sheet securities and other 31.12.12 Average balance Interest income Average yield (%) Average balance 31.12.11 Interest income Average yield (%) Average balance 31.12.10 Interest income Average yield (%) 3,566 24,729 33 282 4,884 4 263,958 1,155 6,019 156,839 235 4,247 0.9 1.1 0.1 0.4 3.9 2.7 3,465 17,623 8,025 281,544 12,821 189,861 1,313 22 142 15 1,485 299 5,163 4 156,839 4,247 2.7 191,174 5,167 9 21 36,892 143 0.4 37,696 454 8,790 185,969 88,246 1,572 61,412 61,412 369 4,280 2,150 8 373 373 493 8,262 3,465 60,026 4.2 2.3 2.4 0.5 0.6 0.6 60,026 7,143 439 850,482 13,718 6.1 1.6 12,001 901,496 1,804 446 0 324 0 248 4 611 611 501 15,624 1,923 422 0.6 0.8 0.2 0.5 2.3 2.7 0.3 2.7 3,037 14,280 11,277 296,252 14,150 212,430 2,033 214,463 0.9 49,095 568 9,128 1,712 74,821 3.0 2.5 2.7 0.1 1.0 1.0 74,821 0 15,227 973,206 4.2 1.7 13 60 8 1,221 231 5,769 15 5,784 306 0 262 18 539 539 0 484 16,210 2,234 428 182,125 82,755 4,604 2,203 179,164 90,032 4,921 2,363 0.4 0.4 0.1 0.4 1.6 2.7 0.7 2.7 0.6 2.9 2.7 2.6 1.1 0.7 0.7 3.2 1.7 Interest income and average interest-earning assets 850,482 15,968 1.9 901,496 17,969 2.0 973,206 18,872 1.9 Non-interest-earning assets Positive replacement values Fixed assets Other Total average assets 459,582 5,859 130,901 1,446,824 410,839 5,420 86,469 1,404,224 471,046 5,884 79,585 1,529,721 494 Average balances and interest rates (continued) CHF million, except where indicated Liabilities and equity Due to banks Domestic Foreign Cash collateral on securities lent and repurchase agreements Domestic Foreign Trading portfolio liabilities Domestic Foreign Cash collateral payables on derivative instruments Domestic Foreign Financial liabilities designated at fair value Domestic Foreign Due to customers Domestic demand deposits Domestic savings deposits Domestic time deposits Domestic total Foreign 1 Short-term debt Domestic Foreign Long-term debt Domestic Foreign Other interest-bearing liabilities Domestic Foreign Total interest-bearing liabilities Interest expense on off-balance sheet securities Interest expense and average interest-bearing liabilities Non-interest-bearing liabilities Negative replacement values Other Total liabilities Total equity Total average liabilities and equity Net interest income Net yield on interest-earning assets 1 Due to customers in foreign offices consists mainly of time deposits. 31.12.12 31.12.11 31.12.10 Average balance Interest expense Average interest rate (%) Average balance Interest expense Average interest rate (%) Average balance Interest expense Average interest rate (%) 25,843 7,709 6,289 147,669 886 46,926 1,131 67,955 1,335 90,742 111,975 90,312 4,821 207,108 151,721 1,776 48,525 11,188 61,952 36,823 915,578 61 65 7 766 18 2,373 134 11 1,751 95 356 30 481 574 9 365 264 2,564 98 9,541 433 0.2 0.8 0.1 0.5 2.0 5.1 0.2 0.8 1.9 0.1 0.4 0.6 0.2 0.4 0.5 0.8 2.4 4.1 25,672 10,250 8,836 168,429 1,095 52,373 357 58,731 1,548 91,920 95,679 82,004 6,672 184,355 145,772 1,303 57,873 12,705 57,830 0.3 1.0 36,926 915,975 259 93 12 969 26 2,826 281 10 1,982 132 422 41 595 696 4 382 126 2,394 116 10,772 371 1.0 0.9 0.1 0.6 2.3 5.4 0.5 0.7 2.2 0.1 0.5 0.6 0.3 0.5 0.3 0.7 1.0 4.1 0.3 1.2 29,400 10,318 12,089 176,098 1,068 59,672 361 69,223 878 108,405 85,838 75,802 7,977 169,617 168,099 1,140 53,454 13,462 68,267 0 37,996 979,547 253 99 8 893 37 3,757 0 242 3 2,389 106 409 49 564 756 9 394 142 2,661 0 69 12,276 381 0.9 1.0 0.1 0.5 3.5 6.3 0.3 0.3 2.2 0.1 0.5 0.6 0.3 0.4 0.8 0.7 1.1 3.9 0.2 1.3 915,578 9,974 915,975 11,143 979,547 12,657 443,790 33,989 1,393,357 53,467 1,446,824 402,535 35,672 1,354,182 50,042 1,404,224 459,987 41,779 1,481,313 48,408 1,529,721 5,994 6,826 6,215 0.7 0.8 0.6 The percentage of total average interest-earning assets attrib- utable to foreign activities was 76% for 2012 (77% for 2011 and 78% for 2010). The percentage of total average interest- bearing liabilities attributable to foreign activities was 72% for 2012 (74% for 2011 and 77% for 2010). All assets and liabili- ties are translated into CHF at uniform month-end rates. Inter- est income and expense are translated at monthly average rates. Average rates earned and paid on assets and liabilities can change from period to period based on the changes in interest rates in general, but are also affected by changes in the currency mix included in the assets and liabilities. This is especially true for foreign assets and liabilities. Tax-exempt income is not recorded on a tax-equivalent basis. For all three years presented, tax- exempt income is considered to be insignificant and the impact from such income is therefore negligible. 495 Financial information Financial information Additional disclosure required under SEC regulations Analysis of changes in interest income and expense The following tables allocate, by categories of interest-earning assets and interest-bearing liabilities, the changes in interest in- come and expense due to changes in volume and interest rates for the year ended 31 December 2012 compared with the year ended 31 December 2011, and for the year ended 31 Decem- ber 2011 compared with the year ended 31 December 2010. Volume and rate variances have been calculated on movements in average balances and changes in interest rates. Changes due to a combination of volume and rates have been allocated pro- portionally. Refer to the appropriate section of Industry Guide 3 for a discussion of the treatment of impaired and non-perform- ing loans. 2012 compared with 2011 2011 compared with 2010 Increase / (decrease) due to changes in Increase / (decrease) due to changes in Average volume Average interest rate Net change Average volume Average interest rate Net change 1 57 (6) (88) (156) (892) (4) (896) 10 83 (5) (242) 92 (24) (24) (7) (174) 16 96 148 (2) 14 14 105 (420) (201) 6 (252) (252) (204) 142 (67) (960) (1,027) (316) (563) (879) 2 13 (3) (59) (21) (609) (5) (614) 0 (68) 0 (25) 80 (189) 19 (104) 0 (104) 0 (103) 77 (1,149) (1,072) 11 140 (11) (330) (64) (916) (4) (920) 0 (181) 0 121 (324) (53) 4 (238) 0 (238) 0 (62) (383) (1,523) (1,906) (119) 24 (2,001) 7 69 10 323 89 3 (6) (3) 0 86 0 11 (397) 29 (33) 176 0 176 0 120 (325) 811 486 9 82 7 264 68 (606) (11) (617) 0 18 0 (14) (317) (160) (14) 72 0 72 0 17 (248) (338) (586) (311) (6) (903) CHF million Interest income from interest-earning assets Due from banks Domestic Foreign Cash collateral on securities borrowed and reverse repurchase agreements Domestic Foreign Trading portfolio assets Domestic Foreign taxable Foreign non-taxable Foreign total Cash collateral receivables on derivative instruments Domestic Foreign Financial assets designated at fair value Domestic Foreign Loans Domestic Foreign Financial investments available-for-sale Domestic Foreign taxable Foreign non-taxable Foreign total Other interest-bearing assets Domestic Foreign Interest income Domestic Foreign Total interest income from interest-earning assets Net interest on swaps Interest income on off-balance sheet securities and other Total interest income 496 Analysis of changes in interest income and expense (continued) CHF million Interest expense on interest-bearing liabilities Due to banks Domestic Foreign Cash collateral on securities lent and repurchase agreements Domestic Foreign Trading portfolio liabilities Domestic Foreign Cash collateral payables on derivative instruments Domestic Foreign Financial liabilities designated at fair value Domestic Foreign Due to customers Domestic demand deposits Domestic savings deposits Domestic time deposits Domestic total Foreign Short-term debt Domestic Foreign Long-term debt Domestic Foreign Other interest-bearing liabilities Domestic Foreign Interest expense Domestic Foreign Total interest bearing liabilities Interest expense on off-balance sheet securities Total interest expense 2012 compared with 2011 2011 compared with 2010 Increase / (decrease) due to changes in Increase / (decrease) due to changes in Average volume Average interest rate Net change Average volume Average interest rate Net change 2 (23) (3) (125) (5) (294) 46 (1) (26) 16 42 (11) 47 30 1 (65) (15) 169 26 (288) (262) (200) (5) (2) (78) (3) (159) (193) 2 (205) (53) (108) 0 (161) (152) 4 48 153 1 (18) (208) (761) (969) (198) (28) (5) (203) (8) (453) 0 (147) 1 (231) (37) (66) (11) (114) (122) 5 (17) 138 170 0 (18) (182) (1,049) (1,231) 62 (1,169) (34) (1) (3) (38) 1 (460) 0 (31) 2 (363) 10 31 (8) 33 (89) 1 31 (8) (407) 0 (2) (8) (1,360) (1,368) 40 (5) 7 114 (12) (471) 0 70 5 (44) 16 (18) 0 (2) 29 (6) (43) (8) 140 0 49 25 (161) (136) 6 (6) 4 76 (11) (931) 0 39 7 (407) 26 13 (8) 31 (60) (5) (12) (16) (267) 0 47 17 (1,521) (1,504) (10) (1,514) 497 Financial information Financial information Additional disclosure required under SEC regulations Deposits The following table analyzes average deposits and average rates on each deposit category listed below for the years ended 31 De- cember 2012, 2011 and 2010. The geographic allocation is based on the location of the office or branch where the deposit is made. Deposits by foreign depositors in domestic offices were CHF 74,252 million, CHF 66,540 million and CHF 63,953 million at 31 December 2012, 31 December 2011 and 31 December 2010, respectively. CHF million, except where indicated Banks Domestic offices Demand deposits Time deposits Total domestic offices Foreign offices Interest-bearing deposits 1 Total due to banks 2 Customer accounts Domestic offices Demand deposits Savings deposits Time deposits Total domestic offices Foreign offices Demand deposits Time and savings deposits 1 Total foreign offices Total due to customers 31.12.12 31.12.11 31.12.10 Average deposits Average rate (%) Average deposits Average rate (%) Average deposits Average rate (%) 1,270 2,296 3,566 24,729 28,295 111,975 90,312 4,821 207,108 37,049 114,672 151,721 358,829 0.0 0.7 0.5 0.8 0.8 0.1 0.4 0.6 0.2 0.0 0.5 0.4 0.3 1,402 2,063 3,465 17,623 21,088 95,679 82,004 6,672 184,355 34,414 111,358 145,772 330,127 0.0 2.8 1.6 1.0 1.1 0.1 0.5 0.6 0.3 0.1 0.6 0.5 0.4 1,315 1,722 3,037 14,280 17,317 85,838 75,802 7,977 169,617 35,588 132,511 168,099 337,716 0.0 2.1 1.2 1.0 1.0 0.1 0.5 0.6 0.3 0.2 0.5 0.4 0.4 1 Mainly time deposits. 2 Due to banks is considered to represent short-term borrowings to the extent that these liabilities exceed Due from banks. The remainder of Due to banks is considered to represent deposits for the purpose of this disclosure. At 31 December 2012, the maturity of time deposits was as follows: Domestic 4,410 616 258 243 18 Foreign 67,236 5,418 5,088 350 127 5,544 78,219 CHF million Within 3 months 3 to 6 months 6 to 12 months 1 to 5 years Over 5 years Total time deposits 498 Short-term borrowings The following table shows the period-end, average and maximum month-end outstanding amounts for short-term borrowings, along with the average rates and period-end rates at and for the years ended 31 December 2012, 2011 and 2010. Short-term debt CHF million, except where indicated 31.12.12 31.12.11 31.12.10 31.12.12 Period-end balance Average balance Maximum month-end balance Average interest rate during the period (%) Average interest rate at period-end (%) 32,493 50,301 72,432 0.7 0.7 71,377 59,175 71,377 0.7 0.7 56,039 54,594 64,941 0.7 0.7 1,773 5,256 13,541 0.4 0.2 Due to banks 1 31.12.11 6,966 14,834 20,080 1.0 1.0 31.12.10 24,332 22,401 37,886 0.9 1.0 Repurchase agreements 2 31.12.11 31.12.10 31.12.12 72,440 144,766 182,098 0.3 0.2 152,121 170,442 194,684 0.4 0.3 150,024 178,458 207,828 0.4 0.4 1 Presented net of Due from banks to reflect short-term borrowings. The difference between the gross Due to banks amount and the amount disclosed here is presented as deposits from banks on the preceding page. 2 Repurchase agreements are presented on a gross basis, and therefore, for the purpose of this disclosure, do not reflect the effect of netting permitted under IFRS. Contractual maturities of investments in debt instruments available-for-sale1, 2 CHF million, except percentages 31 December 2012 Swiss national government and agencies US Treasury and agencies Foreign governments and official institutions Corporate debt securities Mortgage-backed securities Total fair value 3 CHF million, except percentages 31 December 2011 Swiss national government and agencies US Treasury and agencies Foreign governments and official institutions Corporate debt securities Mortgage-backed securities Total fair value 3 CHF million, except percentages 31 December 2010 Swiss national government and agencies US Treasury and agencies Foreign governments and official institutions Corporate debt securities 4 Mortgage-backed securities Other debt instruments Total fair value Within 1 year 1 to 5 years 5 to 10 years Over 10 years Amount Yield (%) Amount Yield (%) Amount Yield (%) Amount Yield (%) 110 11,152 23,189 2,030 36,482 0.13 0.20 0.27 0.69 45 12,397 3,869 4,154 20,464 0.44 0.25 0.74 0.93 877 2 113 0 993 1.34 3.11 4.76 4.62 1 18 3 7,313 7,335 4.00 8.15 8.83 1.51 Within 1 year 1 to 5 years 5 to 10 years Over 10 years Amount Yield (%) Amount Yield (%) Amount Yield (%) Amount Yield (%) 226 10,082 18,751 3,267 32,326 0.21 0.24 0.42 0.73 130 5,891 2,338 1,592 9,951 0.88 0.21 0.83 1.47 1,157 2 6 1 1,166 0.76 3.04 10.87 4.47 1 24 7 8,540 8,573 4.00 6.76 10.54 2.42 Within 1 year 1 to 5 years 5 to 10 years Over 10 years Amount Yield (%) Amount Yield (%) Amount Yield (%) Amount Yield (%) 3,048 18,500 20,916 5,119 51 47,633 0.54 0.41 0.55 1.02 14.52 95 6,687 843 652 3 3 8,284 1.34 1.11 0.78 0.81 4.83 14.52 8,792 4,552 1 1 13,345 1.62 3.28 5.38 13.09 4.00 5.20 15.84 3.04 1 28 4 4,089 4,122 1 Debt instruments without fixed maturities are not disclosed in this table. 2 Average yields are calculated on an amortized cost basis. 3 Includes investments in debt instruments as of 31 December 2012 issued by US government and government agencies of CHF 31,740 million (31 December 2011: CHF 25,677 million), the German government of CHF 6,669 million (31 December 2011: CHF 1,991 million), and the UK govern- ment of CHF 5,042 million (31 December 2011: CHF 3,477 million). 4 Absolute Return Bonds (ARBs) had been purchased below par and therefore generated a yield of 15.8% in 2010. 499 Financial information Financial information Additional disclosure required under SEC regulations Due from banks and loans (gross) CHF million Domestic Banks Construction Financial institutions Hotels and restaurants Manufacturing Private households Public authorities Real estate and rentals Retail and wholesale Services Other 1 Total domestic Foreign Banks Chemicals Construction Electricity, gas and water supply Financial institutions Manufacturing Mining Private households Public authorities Real estate and rentals Retail and wholesale Services Transport, storage and communication Other 2 Total foreign Total gross 31.12.12 31.12.11 31.12.10 31.12.09 31.12.08 541 1,360 4,265 1,745 2,976 123,167 2,708 13,682 4,345 5,862 3,538 566 1,292 4,257 1,831 3,252 120,671 2,992 13,169 4,433 5,770 3,131 1,130 1,356 3,735 1,803 3,192 119,796 4,908 12,252 4,101 5,718 3,117 609 1,381 4,370 1,882 3,374 119,432 3,785 11,745 4,288 5,702 3,423 1,056 1,554 5,984 1,811 3,739 119,285 4,042 11,921 4,781 5,935 3,523 164,189 161,364 161,108 159,991 163,632 20,711 254 1,731 1,205 40,650 1,828 1,279 46,458 4,319 2,721 2,063 10,735 3,021 693 137,669 301,858 22,669 16,028 392 750 746 38,802 1,955 1,979 41,045 5,459 2,158 2,044 8,529 2,068 703 129,300 290,664 351 952 525 41,307 2,010 2,463 31,361 9,858 1,420 1,711 9,534 1,652 841 120,014 281,121 16,227 2,358 741 653 43,345 2,547 2,217 33,166 10,781 1,110 1,438 8,180 2,474 734 16,659 2,765 566 1,064 60,198 4,126 2,859 33,216 8,075 3,821 1,873 9,530 3,115 577 125,969 285,960 148,444 312,076 1 Includes chemicals, food and beverages, transportation, storage, mining, electricity, gas and water supply. 2 Includes food and beverages, hotels and restaurants. 500 The Group’s lending portfolio is widely diversified across indus-try sectors. CHF 169.6 billion (56.2% of the total) consists of loans to thousands of private households, predominantly in Switzerland, and mostly secured by mortgages, financial collat-eral or other assets. Exposure to Banks and Financial institutions amounted to CHF 66.2 billion (21.9% of the total). Exposure to banks includes money market deposits with highly rated institu-tions. Excluding Banks and Financial institutions, the largest in-dustry sector exposure as of 31 December 2012 is CHF 16.6 billion (5.5% of the total) to Services. For further discussion of the loan port folio, refer to the “Risk management and control” section of this report. The following table illustrates the diversification of the loan portfolio among industry sectors at 31 December 2012, 2011, 2010, 2009 and 2008. The industry categories presented are con-sistent with the classification of loans for reporting to the Swiss Financial Market Supervisory Authority (FINMA) and the Swiss Na-tional Bank. Loans designated at fair value and loans held in the trading portfolio are excluded from the tables below. Due from banks and loans (gross) (continued) The following table analyzes the Group’s mortgage portfolio by geographic origin of the client and type of mortgage at 31 December 2012, 2011, 2010, 2009 and 2008. Mortgages are included in the industry categories mentioned on the previous page. CHF million Mortgages Domestic Foreign Total gross mortgages Mortgages Residential Commercial Total gross mortgages 31.12.12 31.12.11 31.12.10 31.12.09 31.12.08 142,143 12,311 154,454 132,033 22,421 154,454 138,204 8,818 147,022 125,775 21,247 147,022 136,687 6,174 142,861 122,499 20,362 142,861 136,029 4,972 141,001 121,031 19,970 141,001 134,700 8,381 143,081 121,811 21,270 143,081 Due from banks and loan maturities (gross) CHF million Domestic Banks Mortgages Other loans Total domestic Foreign Banks Mortgages Other loans Total foreign Total gross Within 1 year 1 to 5 years Over 5 years Total 505 63,077 17,110 80,692 20,556 8,885 78,507 107,947 188,639 36 51,523 3,232 54,791 128 1,976 16,201 18,305 73,096 0 27,542 1,163 28,706 27 1,450 9,940 11,417 40,123 541 142,143 21,505 164,189 20,711 12,311 104,648 137,669 301,858 At 31 December 2012, the total amount of Due from banks and Loans due after one year granted at fixed and floating rates are as follows: CHF million Fixed-rate loans Adjustable or floating-rate loans Total 1 to 5 years Over 5 years 63,715 9,381 73,096 31,780 8,343 40,123 Total 95,495 17,724 113,219 501 Financial information Financial information Additional disclosure required under SEC regulations Impaired and non-performing loans A loan (included in Due from banks or Loans) is classified as non- performing: 1) when the payment of interest, principal or fees is overdue by more than 90 days and there is no firm evidence that it will be made good by later payments or the liquidation of collat- eral; 2) when insolvency proceedings have commenced; or 3) when obligations have been restructured on concessionary terms. For IFRS reporting purposes, the definition of impaired loans is more compre- hensive, covering both non-performing loans and other situations where objective evidence indicates that UBS may be unable to col- lect all amounts due. Refer to “Impairment and default – distressed claims” in the “Risk, treasury and capital management” section of this report for comprehensive information about UBS’s impaired loans, of which non-performing loans are a component. Also, see “Note 1 Summary of significant accounting policies” to the consoli- dated financial statements for more information on the various risk factors that are considered to be indicative of impairment. The table below provides an analysis of the Group’s non-per- forming loans. CHF million Non-performing loans: Domestic Foreign Total non-performing loans 31.12.12 31.12.11 31.12.10 31.12.09 31.12.08 1,121 395 1,516 1,199 329 1,529 1,164 563 1,727 1,462 3,940 5,402 1,431 3,272 4,703 CHF million 31.12.12 31.12.11 31.12.10 31.12.09 31.12.08 Gross interest income that would have been recorded on non-performing loans: Domestic Foreign Interest income included in Net profit for non-performing loans: Domestic Foreign 8 3 28 6 10 9 29 6 11 35 35 19 13 89 41 30 16 7 32 6 UBS does not, as a matter of policy, typically restructure loans to accrue interest at rates different from the original contractual terms or reduce the principal amount of loans. Refer to the “Credit risk” section of this report for more information. Instead, specific loan allowances are established as necessary. Unrecog- nized interest related to restructured loans was not material to the results of operations in 2012, 2011, 2010, 2009 or 2008. 502 Cross-border outstandings Cross-border outstandings consist of balances with central banks and other financial institutions, loans, reverse repurchase agree- ments and cash collateral on securities borrowed with counter- parties domiciled outside Switzerland. Guarantees and commit- ments are provided separately in the table below. The following tables list those countries for which cross-border outstandings exceeded 0.75% of total IFRS assets at 31 Decem- ber 2012, 2011 and 2010. As of 31 December 2012, there were no outstandings that exceeded 0.75% of total IFRS assets in any country currently facing debt restructuring or liquidity problems that the Group expects would materially impact the country’s abil- ity to service its obligations. Aggregate country risk exposures are monitored and reported on an ongoing basis by the risk control organization, based on an internal framework. The internal risk view is not directly comparable to the cross-border outstandings in the table below due to different approaches to netting, differ- ing trade populations and a different method used for the alloca- tion of exposures to countries. For more information on the coun- try framework within risk control, refer to the “Credit risk” section of this report. CHF million USA United Kingdom Japan France CHF million USA United Kingdom Japan France CHF million USA United Kingdom Japan France Canada Germany Banks Private sector Public sector outstandings % of total assets 31.12.12 Total 45,371 13,366 2,014 4,885 Banks 114,952 13,679 3,799 5,220 Banks 58,151 20,850 4,284 3,907 9,283 4,427 93,401 36,960 21,943 5,955 35,125 4,287 4,707 409 173,897 54,613 28,663 11,250 31.12.11 13.8 4.3 2.3 0.9 Private sector Public sector Total outstandings % of total assets 107,132 37,945 13,566 12,830 10,000 6,116 3,020 72 232,084 57,740 20,385 18,122 31.12.10 16.4 4.1 1.4 1.3 Private sector Public sector Total outstandings % of total assets 88,297 36,044 3,467 8,245 2,049 5,883 11,879 3,635 9,299 71 0 195 158,326 60,529 17,049 12,223 11,332 10,506 12.0 4.6 1.3 0.9 0.9 0.8 Guarantees and commitments 1 43,904 12,106 2,208 9,161 Guarantees and commitments 1 46,285 13,487 7,090 8,034 Guarantees and commitments 2 40,606 4,010 94 2,140 1,336 2,463 1 Includes forward starting transactions (reverse repurchase agreements and securities borrowing agreements). 2 Excludes forward starting transactions. 503 Financial information Financial information Additional disclosure required under SEC regulations Summary of movements in allowances and provisions for credit losses The following table provides an analysis of movements in allow- ances and provisions for credit losses. UBS writes off loans against allowances only on final settle- ment of bankruptcy proceedings, the sale of the underlying assets and/or in the case of debt forgiveness. Under Swiss law, a creditor can continue to collect from a debtor who has emerged from bankruptcy, unless the debt has been forgiven through a formal agreement. CHF million Balance at beginning of year 31.12.12 938 31.12.11 1,287 31.12.10 2,820 31.12.09 3,070 31.12.08 1,164 Domestic Write-offs Construction Financial institutions Hotels and restaurants Manufacturing Private households Public authorities Real estate and rentals Retail and wholesale Services Other 1 Total gross domestic write-offs Foreign Write-offs Banks Chemicals Construction Financial institutions Manufacturing Mining Private households Public authorities Real estate and rentals Retail and wholesale Services Transport, storage and communication Other 2 Total gross foreign write-offs Total usage of provisions Total write-offs / usage of provisions Recoveries Domestic Foreign Total recoveries Total net write-offs / usage of provisions Increase / (decrease) in specific allowances and provisions recognized in the income statement Increase / (decrease) in collective loan loss allowances recognized in the income statement Foreign currency translation Other Balance at end of year 4 (1) 0 (1) (20) (45) 0 (2) (21) (6) (17) (8) (17) 0 (31) (59) 0 (3) (37) (21) (6) (112) (183) (8) (47) (1) (28) (66) 0 (2) (117) (49) (16) (332) (2) (846) 0 (267) (22) 0 (21) (1) (1) (1) (9) (3) 0 (1,173) 0 (1,505) 38 41 79 (8) 0 0 (39) 0 0 (72) (175) (7) 0 (1) 0 0 (303) (14) (501) 50 1 51 (450) (1,427) 0 84 (1) 18 938 67 (2) (175) 1 1,287 (15) (2) (2) (21) (61) 0 (19) (41) (3) (12) (177) (8) (111) (10) (685) (138) (5) (40) (20) (196) (122) (413) (37) (80) (1,865) (5) (2,046) 44 8 52 (1,994) 1,806 26 (61) (26) 3 2,820 (6) (37) (3) (24) (112) 0 (10) (4) (7) (8) (210) (134) (1) 0 (501) (6) 0 (4) (2) (1) 0 0 (6) (1) (658) 0 (868) 43 1 44 (824) 3,007 (11) (51) (214) 3 3,070 0 0 0 (106) 0 0 (15) (54) 0 0 (19) (5) (2) (201) 0 (313) 43 21 63 (250) 133 (15) (8) (3) 794 1 Includes chemicals, food and beverages, transportation, storage, mining, electricity, gas and water supply. 2 Includes food and beverages, hotels and restaurants. 3 In 2009, the other adjustment was due to the sale of UBS Pactual. In 2008, a loan was forgiven in exchange for the collateral. 4 Includes allowances for cash collateral on securities borrowed. 504 Allocation of the allowances and provisions for credit losses The following table provides an analysis of the allocation of the allowances and provisions for credit loss by industry sector and geographic location at 31 December 2012, 2011, 2010, 2009 and 2008. For a description of procedures with respect to allow- ances and provisions for credit losses, refer to the “Risk manage- ment and control” section of this report. CHF million Domestic Banks Construction Financial services Hotels and restaurants Manufacturing Private households Public authorities Real estate and rentals Retail and wholesale Services Other 1 Total domestic specific allowances Foreign Banks 2 Chemicals Construction Electricity, gas and water supply Financial services Manufacturing Mining Private households Public authorities Real estate and rentals Retail and wholesale Services Transport, storage and communication Other 3 Total foreign specific allowances Collective loan loss allowances Provisions for loan commitments and guarantees Total allowances and provisions for credit losses 4 31.12.12 31.12.11 31.12.10 31.12.09 31.12.08 3 16 21 9 44 60 0 10 123 24 16 326 19 1 20 1 37 23 0 45 39 4 39 35 27 0 290 114 64 794 1 15 19 6 65 77 0 14 131 24 28 379 16 8 6 1 96 23 0 60 33 10 15 28 39 0 335 131 93 938 1 23 28 5 93 91 0 19 165 45 27 497 23 8 2 0 190 15 0 139 171 15 8 12 29 0 613 47 130 1,287 1 27 126 6 104 119 1 21 221 99 43 768 31 1,037 1 0 414 83 0 171 18 36 17 100 7 0 1,913 49 90 2,820 16 39 18 8 84 125 1 50 262 79 47 729 6 960 8 2 530 25 4 226 19 208 81 205 1 12 2,287 23 31 3,070 1 Includes chemicals, food and beverages, transportation, storage, mining, electricity, gas and water supply. 2 Counterparty allowances only. 3 Includes food and beverages, hotels and restaurants. 4 Includes allow- ances for cash collateral on securities borrowed. 505 Financial information Financial information Additional disclosure required under SEC regulations Due from banks and loans by industry sector (gross) The following table presents the percentage of loans in each in- dustry sector and geographic location to total loans. This table can be read in conjunction with the preceding table showing the breakdown of the allowances and provisions for credit losses by industry sectors to evaluate the credit risks in each of the categories. In % Domestic Banks Construction Financial services Hotels and restaurants Manufacturing Private households Public authorities Real estate and rentals Retail and wholesale Services Other 1 Total domestic Foreign Banks Chemicals Construction Electricity, gas and water supply Financial services Manufacturing Mining Private households Public authorities Real estate and rentals Retail and wholesale Services Transport, storage and communication Other 2 Total foreign Total gross 31.12.12 31.12.11 31.12.10 31.12.09 31.12.08 0.2 0.5 1.4 0.6 1.0 40.8 0.9 4.5 1.4 1.9 1.2 54.4 6.9 0.1 0.6 0.4 13.5 0.6 0.4 15.4 1.4 0.9 0.7 3.6 1.0 0.2 0.2 0.4 1.5 0.6 1.1 41.5 1.0 4.5 1.5 2.0 1.1 55.5 7.8 0.1 0.3 0.3 13.3 0.7 0.7 14.1 1.9 0.7 0.7 2.9 0.7 0.2 0.4 0.5 1.3 0.6 1.1 42.6 1.7 4.4 1.5 2.0 1.1 57.3 5.7 0.1 0.3 0.2 14.7 0.7 0.9 11.2 3.5 0.5 0.6 3.4 0.6 0.3 0.2 0.5 1.5 0.7 1.2 41.8 1.3 4.1 1.5 2.0 1.2 55.9 5.7 0.8 0.3 0.2 15.2 0.9 0.8 11.6 3.8 0.4 0.5 2.9 0.9 0.3 0.3 0.5 1.9 0.6 1.2 38.2 1.3 3.8 1.5 1.9 1.1 52.4 5.3 0.9 0.2 0.3 19.3 1.3 0.9 10.6 2.6 1.2 0.6 3.1 1.0 0.2 45.6 100.0 44.5 100.0 42.7 100.0 44.1 100.0 47.6 100.0 1 Includes chemicals, food and beverages, transportation, storage, mining, electricity, gas and water supply. 2 Includes food and beverages, hotels and restaurants. 506 Loss history statistics CHF million, except where indicated Due from banks and loans (gross) Impaired loans (including due from banks) Non-performing loans (including due from banks) Allowances and provisions for credit losses 1, 2 of which: allowances for due from banks and loans 1 Net write-offs 3 of which: net write-offs for due from banks and loans Credit loss (expense) / recovery 4 of which: credit loss (expense) / recovery for due from banks and loans Ratios Impaired loans as a percentage of due from banks and loans (gross) Non-performing loans as a percentage of due from banks and loans (gross) Allowances as a percentage of due from banks and loans (gross) Net write-offs as a percentage of average due from banks and loans (gross) outstanding during the period 31.12.12 301,858 1,606 1,516 31.12.11 290,664 2,155 1,529 794 728 250 250 (118) (134) 0.5 0.5 0.2 0.1 938 842 450 413 (84) (126) 0.7 0.5 0.3 0.1 31.12.10 281,121 31.12.09 285,960 31.12.08 312,076 4,193 1,727 1,287 1,111 1,427 1,428 (66) (24) 1.5 0.6 0.4 0.5 6,865 5,402 2,820 2,680 1,994 1,882 (1,832) (1,776) 2.4 1.9 0.9 0.6 9,145 4,703 3,070 2,927 824 212 (2,996) (2,329) 2.9 1.5 0.9 0.1 1 Includes collective loan loss allowances. 2 Includes provisions for loan commitments and allowances for securities borrowing transactions. 3 Includes net write-offs for loan commitments and securities borrowing transactions. 4 Includes credit loss (expense) / recovery for loan commitments and securities borrowing transactions. 507 Financial information UBS shares (cid:55)(cid:36)(cid:53)(cid:2)(cid:85)(cid:74)(cid:67)(cid:84)(cid:71)(cid:2)(cid:82)(cid:84)(cid:75)(cid:69)(cid:71)(cid:2)(cid:69)(cid:74)(cid:67)(cid:84)(cid:86)(cid:2)(cid:88)(cid:85)(cid:2)(cid:38)(cid:44)(cid:2)(cid:36)(cid:67)(cid:80)(cid:77)(cid:85)(cid:2)(cid:54)(cid:75)(cid:86)(cid:67)(cid:80)(cid:85)(cid:2)(cid:43)(cid:80)(cid:70)(cid:71)(cid:90) (cid:75)(cid:80)(cid:2)(cid:7)(cid:2) (cid:19)(cid:2)(cid:44)(cid:67)(cid:80)(cid:87)(cid:67)(cid:84)(cid:91)(cid:2)(cid:20)(cid:18)(cid:19)(cid:18)(cid:124)(cid:115)(cid:124)(cid:21)(cid:19)(cid:2)(cid:38)(cid:71)(cid:69)(cid:71)(cid:79)(cid:68)(cid:71)(cid:84)(cid:2)(cid:20)(cid:18)(cid:19)(cid:20) (cid:19)(cid:20)(cid:23) (cid:19)(cid:18)(cid:18) (cid:2)(cid:2)(cid:25)(cid:23) (cid:2)(cid:2)(cid:23)(cid:18) (cid:2)(cid:2)(cid:20)(cid:23) (cid:2)(cid:2)(cid:2)(cid:2)(cid:18) (cid:19)(cid:51)(cid:19)(cid:18) (cid:20)(cid:51)(cid:19)(cid:18) (cid:21)(cid:51)(cid:19)(cid:18) (cid:22)(cid:51)(cid:19)(cid:18) (cid:19)(cid:51)(cid:19)(cid:19) (cid:20)(cid:51)(cid:19)(cid:19) (cid:21)(cid:51)(cid:19)(cid:19) (cid:22)(cid:51)(cid:19)(cid:19) (cid:19)(cid:51)(cid:19)(cid:20) (cid:20)(cid:51)(cid:19)(cid:20) (cid:21)(cid:51)(cid:19)(cid:20) (cid:22)(cid:51)(cid:19)(cid:20) (cid:55)(cid:36)(cid:53)(cid:2)(cid:85)(cid:74)(cid:67)(cid:84)(cid:71)(cid:2)(cid:37)(cid:42)(cid:40) (cid:38)(cid:44)(cid:2)(cid:36)(cid:67)(cid:80)(cid:77)(cid:85)(cid:2)(cid:54)(cid:75)(cid:86)(cid:67)(cid:80)(cid:85)(cid:2)(cid:43)(cid:80)(cid:70)(cid:71)(cid:90)(cid:2)(cid:37)(cid:42)(cid:40) (cid:40)(cid:81)(cid:84)(cid:2)(cid:69)(cid:87)(cid:84)(cid:84)(cid:71)(cid:80)(cid:86)(cid:2)(cid:85)(cid:74)(cid:67)(cid:84)(cid:71)(cid:2)(cid:82)(cid:84)(cid:75)(cid:69)(cid:71)(cid:2)(cid:84)(cid:71)(cid:72)(cid:71)(cid:84)(cid:2)(cid:86)(cid:81)(cid:28)(cid:2)(cid:89)(cid:89)(cid:89)(cid:16)(cid:87)(cid:68)(cid:85)(cid:16)(cid:69)(cid:81)(cid:79)(cid:17)(cid:83)(cid:87)(cid:81)(cid:86)(cid:71)(cid:85) UBS shares and market capitalization Share price (CHF) Market capitalization (CHF million) 1 31.12.12 14.27 54,729 As of 31.12.11 11.18 42,843 31.12.10 15.35 58,803 % change from 31.12.11 28 28 1 Market capitalization is calculated based on the total UBS shares issued multiplied by the UBS share price at period end. Refer to “Note 8 Earnings per share (EPS) and shares outstanding” in the “Financial information” section of this report for more information. UBS shares are registered shares with a par value of CHF 0.10 per share. They are traded and settled as global registered shares. Global registered shares provide direct and equal ownership for all shareholders, irrespective of the country and stock exchange on which they are traded. UBS shares are currently listed on the SIX Swiss Exchange and the New York Stock Exchange. ➔ Refer to the “Capital structure” and “Shareholders” participation rights" sections of this report for more information on our shares Over the course of 2012, UBS shares increased 28% on the SIX and 33% in US dollar terms on the NYSE. The global banking sec- tor as measured by the Dow Jones Banks Titans 30 Index increased 25% in Swiss franc terms and 28% in US dollar terms. Ticker symbols Trading exchange SIX Swiss Exchange New York Stock Exchange Bloomberg UBSN VX UBS UN Reuters UBSN.VX UBS.N Security identification codes ISIN Valoren Cusip CH0024899483 2 489 948 CINS H89231 33 8 509 (cid:19)(cid:20)(cid:23)(cid:16)(cid:18)(cid:18) (cid:27)(cid:21)(cid:16)(cid:25)(cid:23) (cid:24)(cid:20)(cid:16)(cid:23)(cid:18) (cid:21)(cid:19)(cid:16)(cid:20)(cid:23) (cid:18)(cid:16)(cid:18)(cid:18) Information sources Reporting publications Other information Annual publications Annual report (SAP no. 80531): Published in both English and German, this single volume report provides a description of: our operating environment and strategy; our financial and operating performance; risk, treasury and capital management; corporate governance, responsibility and compensation, including compen- sation to the Board of Directors and the Group Executive Board members; and financial information, including the financial state- ments. Review (SAP no. 80530): The booklet contains key infor- mation on our strategy and financials. It is published in English, German, French and Italian. Compensation Report (SAP no. 82307): The report discusses our compensation framework and provides information on compensation to the Board of Directors and the Group Executive Board members. It is published in English and German. Quarterly publications Letter to shareholders: The letter provides a quarterly update from executive management on our strategy and performance. The letter is published in English, German, French and Italian. Financial report (SAP no. 80834): The quarterly financial report provides an update on our strategy and performance for the respective quar- ter. It is published in English. How to order reports The annual and quarterly publications are available in PDF format on the internet at www.ubs.com/investors in the “Financial infor- mation” section. Printed copies can be ordered from the same website by accessing the “Order print publications” panel on the left-hand side of the screen. Alternatively, they can be ordered by quoting the SAP number and the language preference where ap- plicable, from UBS AG, F4UK–AUL, P.O. Box, CH-8098 Zurich, Switzerland. Website The “Investor Relations” website at www.ubs.com/investors pro- vides the following information on UBS: news releases; financial information (including results-related filings with the US Securities and Exchange Commission); corporate information, including UBS share price charts and data and dividend information; the UBS corporate calendar; and presentations by management for investors and financial analysts. Information on the internet is available in English and German. Result presentations Our quarterly results presentations are webcast live. A playback of most presentations is downloadable at www.ubs.com/presen- tations. Messaging service / UBS news alert On the www.ubs.com/newsalerts website, it is possible to sub- scribe to receive news alerts about UBS via SMS or e-mail. Messages are sent in English, German, French or Italian and it is possible to state theme preferences for the alerts received. Form 20-F and other submissions to the US Securities and Exchange Commission We file periodic reports and submit other information about UBS to the US Securities and Exchange Commission (SEC). Principal among these filings is the annual report on Form 20-F, filed pursu- ant to the US Securities Exchange Act of 1934. The filing of Form 20-F is structured as a “wrap-around” document. Most sections of the filing can be satisfied by referring to parts of the annual report. However, there is a small amount of additional informa- tion in Form 20-F which is not presented elsewhere, and is par- ticularly targeted at readers in the US. Readers are encouraged to refer to this additional disclosure. Any document that we file with the SEC is available to read and copy on the SEC’s website, www.sec.gov, or at the SEC’s public reference room at 100 F Street, N.E., Room 1580, Washington, DC, 20549. Please call the SEC by dialing +1-800-SEC-0330 for further information on the operation of its public reference room. Please visit www. ubs.com/investors for more information. 510 Annual Report 2012 Cautionary Statement Regarding Forward-Looking Statements | This report contains statements that constitute “forward-looking statements”, including but not limited to management’s outlook for UBS’s financial performance and statements relating to the anticipated effect of transactions and strategic initiatives on UBS’s business and future development. While these forward-looking statements represent UBS’s judgments and expectations concerning the matters de- scribed, a number of risks, uncertainties and other important factors could cause actual developments and results to differ materially from UBS’s expectations. These factors include, but are not limited to: (1) the degree to which UBS is successful in executing its announced strategic plans and related organizational changes, in particular its plans to transform its Investment Bank, its efficiency initiatives and its planned reduction in Basel III risk-weighted assets, and whether in each case those plans and changes will, when implemented, have the effects intended; (2) developments in the markets in which UBS operates or to which it is exposed, including movements in securities prices or liquidity, credit spreads, currency exchange rates and interest rates and the effect of economic conditions and market developments on the financial position or creditworthiness of UBS’s clients and counterparties; (3) changes in the availability of capital and funding, including any changes in UBS’s credit spreads and ratings; (4) changes in financial legislation and regulation in Switzerland, the US, the UK and other major finan- cial centers which may impose constraints on or necessitate changes in the scope and location of UBS’s business activities and in its legal and booking structures, including the imposition of more stringent capital and liquidity requirements, incremental tax requirements and constraints on remuneration; (5) changes in UBS’s competitive position, including whether differences in regulatory capital and other requirements among the major financial centers will adversely affect UBS’s ability to compete in certain lines of business; (6) the liability to which UBS may be exposed, or possible constraints or sanctions that regulatory authorities might impose on UBS, due to litigation, contractual claims and regulatory investigations, including those that may arise from the ongoing investigations relating to the setting of LIBOR and other benchmark rates, from market events and losses incurred by clients and counterparties during the financial crisis of 2007 to 2009, and from Swiss retrocessions; (7) the effects on UBS’s cross-border banking business of tax treaties negotiated or under discussion between Switzerland and other countries and future tax or regulatory developments; (8) UBS’s ability to retain and attract the employees necessary to generate revenues and to manage, support and control its businesses, which may be affected by competitive factors including compensation practices; (9) changes in accounting standards or policies, and accounting determinations or interpretations affecting the recognition of gain or loss, the valuation of goodwill and other matters; (10) limitations on the effec- tiveness of UBS’s internal processes for risk management, risk control, measurement and modeling, and of financial models generally; (11) whether UBS will be successful in keeping pace with competitors in updating its technology, particularly in trading businesses; (12) the occurrence of operational failures, such as fraud, unauthorized trading and systems failures; and (13) the effect that these or other factors or unanticipated events may have on our reputation and the additional consequences that this may have on our business and performance. Our business and financial performance could be affected by other factors identi- fied in our past and future filings and reports, including those filed with the SEC. More detailed information about those factors is set forth in documents fur- nished by UBS and filings made by UBS with the SEC, including UBS’s Annual Report on Form 20-F for the year ended 31 December 2012. UBS is not under any obligation to (and expressly disclaims any obligation to) update or alter its forward-looking statements, whether as a result of new information, future events, or otherwise. Rounding | Numbers presented throughout this report may not add up precisely to the totals provided in the tables and text. Percentages and percent changes are calculated based on rounded figures displayed in the tables and text and may not precisely reflect the percentages and percent changes that would be derived based on figures that are not rounded. UBS AG P.O. Box, CH-8098 Zurich P.O. Box, CH-4002 Basel www.ubs.com
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