-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Sh9sIqtESkYRwIacH1Pw2aA1CIHwDK5DqBfXaJoMx/bJOlXanXPb3nTy5/G3xAzM dTtIU9oP0fW9TF7L8OI5cQ== 0000950130-99-000948.txt : 19990224 0000950130-99-000948.hdr.sgml : 19990224 ACCESSION NUMBER: 0000950130-99-000948 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 24 CONFORMED PERIOD OF REPORT: 19981130 FILED AS OF DATE: 19990223 FILER: COMPANY DATA: COMPANY CONFORMED NAME: MORGAN STANLEY DEAN WITTER & CO CENTRAL INDEX KEY: 0000895421 STANDARD INDUSTRIAL CLASSIFICATION: FINANCE SERVICES [6199] IRS NUMBER: 363145972 STATE OF INCORPORATION: DE FISCAL YEAR END: 1130 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 001-11758 FILM NUMBER: 99547440 BUSINESS ADDRESS: STREET 1: 1585 BROADWAY CITY: NEW YORK STATE: NY ZIP: 10036 BUSINESS PHONE: 2127614000 MAIL ADDRESS: STREET 1: 1585 BROADWAY STREET 2: 38TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10036 FORMER COMPANY: FORMER CONFORMED NAME: DEAN WITTER DISCOVER & CO DATE OF NAME CHANGE: 19960315 10-K405 1 FORM 10-K - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED NOVEMBER 30, 1998 Commission File Number 1-11758 Morgan Stanley Dean Witter & Co. (Exact name of Registrant as specified in its charter) Delaware 36-3145972 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 1585 Broadway 10036 New York, N.Y. (Zip Code) (Address of principal executive offices) Registrant's telephone number, including area code: (212) 761-4000 Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange Title of each class on which registered ------------------- ----------------------- Common Stock, $.01 par value New York Stock Exchange Pacific Exchange Rights to Purchase Series A Junior Participating Preferred Stock New York Stock Exchange Pacific Exchange Depositary Shares, each representing 1/4 of a share of 7 3/4% Cumulative Preferred Stock, $200 stated value New York Stock Exchange Depositary Shares, each representing 1/4 of a share of Series A Fixed/Adjustable Rate Cumulative Preferred Stock, $200 stated value New York Stock Exchange 7.82% Capital Units; 7.80% Capital Units; 9.00% Capital Units; 8.40% Capital Units; 8.20% Capital Units; 8.03% Capital Units/1/ New York Stock Exchange 6% PERQSSM Due February 16, 1999; 10% PERQS Due April 15, 1999; 6% Reset PERQS Due May 15, 2000/2/ American Stock Exchange Exchangeable Notes Due September 30, 2000; Exchangeable Notes Due July 31, 2003; Exchangeable Notes Due December 30, 2005; Exchangeable Notes Due August 15, 2006/3/ New York Stock Exchange Exchangeable Notes Due July 29, 2005 (two issuances); Exchangeable Notes Due April 15, 2005/3/ American Stock Exchange PEEQSSM Due May 1, 2001/4/ American Stock Exchange 3% CPSSM Due August 8, 2000; 3% CPS Due May 17, 2000/5/ American Stock Exchange Nikkei 225 Protection Step-Up Exchangeable Notes Due July 31, 2003 New York Stock Exchange Dow Jones Industrial Average BRIDGESSM Due April 30, 2004; Standard & Poor's 500 BRIDGES Due December 31, 2003; Dow Jones Euro Stoxx 50 BRIDGES Due July 30, 2004/6/ New York Stock Exchange 5 5/8% Notes Due January 20, 2004 New York Stock Exchange
- ------- /1/ Each Capital Unit consists of (a) a Subordinated Debenture (of the same rate) of Morgan Stanley Finance plc guaranteed by the Registrant and (b) a related purchase contract of the Registrant requiring the holder to purchase one Depositary Share representing shares (or fractional shares) of the Registrant's Cumulative Preferred Stock (of the same rate), $200 stated value. The Capital Units and the Depositary Shares are registered on the New York Stock Exchange. /2/ "Performance Equity-linked Redemption Quarterly-pay Securities." The issue price and amount payable at maturity with respect to the PERQS are based on the share price of certain non-affiliated companies. /3/ Notes which are exchangeable for equity securities of certain non- affiliated companies. /4/ "Protected Exchangeable Equity-linked Securities." Principal protected notes that are exchangeable for cash based on the value of the S&P 500 Index. /5/ "Currency Protected Securities." Currency protected notes that pay at maturity equity securities of certain non-affiliated companies or the equivalent value in cash. /6/ "BRoad InDex Guarded Equity-linked Securities." Principal protected notes that pay at maturity a cash amount based on the value of certain broad equity indices. Securities registered pursuant to Section 12(g) of the Act: NONE Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. YES [X] NO [_] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] Aggregate market value of the voting stock held by non-affiliates of the Registrant at January 19, 1999 was approximately $41,925,493,769. For purposes of this information, the outstanding shares of common stock owned by (1) directors and executive officers of the Registrant and (2) certain senior officers of certain wholly-owned subsidiaries of the Registrant who are subject to certain restrictions on voting and disposition, were deemed to be shares of common stock held by affiliates. Indicate the number of shares outstanding of each of the Registrant's classes of common stock, as of the latest practicable date: As of January 19, 1999, there were 571,113,010 shares of Common Stock, $.01 par value, outstanding. DOCUMENTS INCORPORATED BY REFERENCE (1) Morgan Stanley Dean Witter & Co. 1998 Annual Report to Shareholders-- Incorporated in part in Form 10-K, Parts I, II and IV. (2) Morgan Stanley Dean Witter & Co. Proxy Statement for its 1999 Annual Meeting of Stockholders--Incorporated in part in Form 10-K, Parts I and III. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- PART I Item 1. BUSINESS A. GENERAL Background and Overview Morgan Stanley Dean Witter & Co. (the "Company"*) is a preeminent global financial services firm that maintains leading market positions in each of its three primary businesses--securities, asset management and credit and transaction services.** The Company combines global strength in investment banking (including the origination of underwritten public offerings and mergers and acquisitions advice) and institutional sales and trading with strength in providing investment and global asset management products and services and, primarily through its Discover(R) Card brand, quality consumer credit products. As of November 30, 1998, the Company had the second largest financial advisor sales organization in the U.S., with 11,238 professional financial advisors and 438 securities branch offices. The Company also had one of the largest global asset management operations of any full-service securities firm, with total assets under management and supervision of $376 billion. In addition, based on its approximately 38 million general purpose credit card accounts as of November 30, 1998, the Company was the nation's third largest credit card issuer as measured by number of accounts, with the largest proprietary merchant and cash access network in the U.S. The Company, through its subsidiaries, provides a wide range of financial and securities services on a global basis and provides credit and transaction services nationally. Its securities businesses ("Securities") include securities underwriting, distribution and trading; merger, acquisition, restructuring, real estate, project finance and other corporate finance advisory activities; full-service brokerage services; research services; the trading of foreign exchange and commodities, as well as derivatives on a broad range of asset categories, rates and indices; and securities lending. The Company's asset management businesses ("Asset Management") include providing global asset management advice and services to individual and institutional investors through a variety of product lines and brand names, including Morgan Stanley Dean Witter Advisors (formerly known as Dean Witter InterCapital) ("MSDW Advisors"), Van Kampen Investments ("Van Kampen"), Morgan Stanley Dean Witter Investment Management ("MSDW Investment Management") and Miller Anderson & Sherrerd ("MAS"); and principal investment activities. The Company's credit and transaction services businesses ("Credit Services") include the issuance of the Discover Card and other proprietary general purpose credit cards, the operation of the Discover/NOVUS(R) Network, a proprietary network of merchant and cash access locations, and direct-marketed activities such as the on-line securities services offered by Discover Brokerage Direct Inc. ("Discover Brokerage"). The Company's products and services are provided to a large and diversified group of clients and customers, including corporations, governments, financial institutions and individuals. The Company conducts its business from its headquarters in New York City, its regional offices and branches throughout the U.S., and its principal offices in London, Tokyo, Hong Kong and other financial centers throughout the world. At November 30, 1998, the Company had 45,712 employees. None of the Company's employees is covered by a collective bargaining agreement. The Company is a combination of Dean Witter, Discover & Co. ("Dean Witter Discover") and Morgan Stanley Group Inc. ("Morgan Stanley") and was formed - -------- * Unless the context otherwise requires, the term "Company" means Morgan Stanley Dean Witter & Co. and its consolidated subsidiaries. ** Certain statements contained herein, including (without limitation) certain statements made under "Legal Proceedings" in Part I, Item 3 of this Report; "Management's Discussion and Analysis of Financial Condition and Results of Operations" incorporated by reference in Part II, Item 7 of this Report ("MD&A"); and "Quantitative and Qualitative Disclosure about Market Risk" incorporated by reference in Part II, Item 7A of this Report, are forward- looking statements. The matters referred to in such statements could be affected by the risks and uncertainties involved in the Company's businesses, including (without limitation) the effect of economic and market conditions, the level and volatility of interest rates and currency values and equity and commodity prices, the actions undertaken by both current and potential new competitors, the impact of current, pending or future legislation and regulation both in the U.S. and throughout the world, the potential effects of technological changes such as the Year 2000 computer code issue and other risks and uncertainties detailed in the MD&A and in "Competition and Regulation" under "Securities," "Asset Management" and "Credit and Transaction Services" herein. pursuant to a merger of equals that was effected on May 31, 1997 (the "Merger"). The Company was originally incorporated under the laws of the State of Delaware in 1981, and its predecessor companies date back to 1924. The Company conducts its worldwide businesses through several highly integrated subsidiaries and affiliates, which frequently participate together in the facilitation and consummation of a single transaction. Because of the increasing integration of the international financial markets, the Company manages its principal operating subsidiaries on a coordinated global basis with a view to the profitability of the enterprise as a whole. Financial information concerning the Company for each of the three fiscal years ended November 30, 1998, November 30, 1997 and November 30, 1996, including the amount of total revenue contributed by classes of similar products or services that accounted for 10% or more of the Company's consolidated revenue in any one of those periods and information with respect to the Company's operations by geographic area, is set forth in the Consolidated Financial Statements and the Notes thereto in the 1998 Annual Report to Shareholders and is incorporated herein by reference. A discussion of the Company's preparations to address the potential effects on its operations resulting from the Year 2000 computer code issue appears on pages 43 through 45 of "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources" in the 1998 Annual Report to Shareholders and is incorporated herein by reference. B. SECURITIES Overview The Company is a leading global financial services firm which provides financial services and advice to, and raises capital worldwide for, a diverse group of domestic and international corporate and institutional clients through Morgan Stanley & Co. Incorporated (U.S.) ("MS&Co."), Morgan Stanley & Co. International Limited (U.K.), Morgan Stanley Japan Limited (Japan), Morgan Stanley Asia Limited (non-Japan Asia) and other direct and indirect subsidiaries. The Company also conducts sales and trading activities both as principal and as agent on behalf of a wide range of domestic and international institutional investors. The Company offers individual investors a broad range of securities and savings products and services, primarily through Dean Witter Reynolds Inc. ("DWR"). The Company offers services on a global basis under the brand name "Morgan Stanley Dean Witter." Investment Banking Underwriting The Company manages and participates in public offerings and private placements of debt, equity and other securities denominated in U.S. dollars and other currencies in the U.S. and international capital markets. The Company is a leading underwriter of common stock, preferred stock and other equity-related securities, including American Depositary Receipts ("ADRs"), Preferred Equity Redemption Cumulative Stock ("PERCS(R)"), Performance Equity- linked Redemption Quarterly-pay Securities ("PERQS(SM)") and capital securities. The Company also underwrites taxable fixed income securities and tax-exempt securities, mortgage-related securities, including private pass-throughs and collateralized mortgage obligations ("CMOs"), and other asset-backed securities. The Company is active as an underwriter and distributor of commercial paper and other short-term and medium-term securities. The Company is also involved in tender offers, repurchase programs, consent solicitations, rights offerings and exchange offers on behalf of clients. Financial Advisory Services The Company provides domestic and international corporate and institutional clients with a wide range of advisory services on key strategic matters such as mergers, acquisitions, joint ventures, privatizations, defenses, divestitures, spin-offs, restructurings, proxy mechanisms and leveraged buyouts, as well as long-range financial 2 planning. Other services provided to clients include advice with respect to recapitalizations, dividend policy, valuations, foreign exchange exposures and financial risk management strategies. The Company also furnishes advice and other services in connection with project financings, including infrastructure, electric power and natural resource projects. In addition, the Company provides advisory services in connection with the purchase, sale and financing of real estate and lease transactions. Financing In connection with its investment banking activities, the Company from time to time also provides financing or financing commitments to certain companies. For example, the Company may provide extensions of credit to leveraged companies in the form of senior or subordinated debt, as well as bridge financing on a select basis. The Company also conducts senior lending activities, including the origination and syndication of senior secured loans of non-investment grade companies. A subsidiary of the Company also acts as general partner of Princes Gate Investors II, L.P. ("Princes Gate"), a limited partnership with $1 billion in aggregate investment capacity that was formed to invest in special situation opportunities. Princes Gate generally makes minority equity and equity-related investments which are short to medium-term in duration and which arise out of the Company's worldwide investment banking activities. Sales, Trading and Market-Making Activities Equity The Company's equity sales, trading and market-making activities cover domestic and foreign equity and equity-related securities (both exchange traded and over-the-counter ("OTC")), including ADRs, World Equity Benchmark Shares ("WEBS(SM)") and restricted/control stock; convertible debt and preferred securities, including PERCS(R), PERQS(SM) and warrants; equity index products, equity swaps, options and other structured products; and international index arbitrage, equity repurchases, and program and block trade execution. The Company also engages in a variety of proprietary trading activities including arbitrage transactions for its own account. The Company provides various equity financing services, including prime brokerage, which offers consolidated clearance and settlement of securities trades, custody, financing and portfolio reporting services. The Company acts as principal and agent in stock borrowing and stock loan transactions in support of its domestic and international trading and brokerage, asset management and clearing activities, and as an intermediary between broker- dealers. Fixed Income The Company distributes and trades domestic and international debt securities, including preferred stock and corporate debt instruments (bonds, medium-term notes and commercial paper), offers investment strategies to institutional accounts, develops swap and other risk management strategies for customers, and assists corporations in their repurchase of debt. In addition, the Company trades a full range of money market and other short-term instruments, including certificates of deposit, bankers' acceptances, floating-rate certificates of deposit and floating-rate notes. The Company is an active dealer and market-maker in a broad range of long-term and short-term tax exempt securities. The Company is also involved in structuring debt securities with multiple risk/return factors designed to suit investor objectives and repackaged asset vehicles ("RAVs") through which investors can restructure asset portfolios to provide liquidity or recharacterize risk profiles. MS&Co. is one of 30 primary dealers of U.S. government securities currently recognized by the Federal Reserve Bank of New York. As such, it is among the firms with which the Federal Reserve conducts its open market operations and is required to submit bids in Treasury auctions, make secondary markets in U.S. 3 government securities, provide the Federal Reserve Bank of New York with market information and maintain certain capital standards. The Company is also a member of a number of selling groups responsible for the distribution of various issues of U.S. agency and other debt securities. As such, it is required to make secondary markets in these securities and to provide market information to the U.S. agency issuers. The Company is also a member of the primary syndicate that issues German government bonds, a member of the Japanese government bond syndicate and a primary dealer in Belgian, Canadian, French, Italian and U.K. government bonds. The Company also makes secondary markets in various foreign government bonds and corporate bonds issued in the Eurobond market and in the U.S. The Company's daily trading inventory positions in government and agency securities are financed substantially through the use of repurchase agreements. The Company also borrows and lends fixed income securities. In addition, the Company acts as an intermediary between borrowers and lenders of short-term funds utilizing repurchase and reverse repurchase agreements. At any given point in time, the Company may hold large positions in certain types of securities or commitments to purchase securities of a single issuer, sovereign governments and other entities, issuers located in a particular country or geographic area, public and private issuers involving developing countries or issuers engaged in a particular industry. In addition, a large portion of the collateral held by the Company for reverse repurchase agreements and bonds borrowed consists of securities issued by the U.S. government, federal agencies or non-U.S. governments. The Company trades and distributes mortgage-backed and other asset-backed securities. The Company makes markets and trades in Government National Mortgage Association ("GNMA") securities, Federal Home Loan Mortgage Corp. ("FHLMC") participation certificates and Federal National Mortgage Association ("FNMA") obligations. The Company enters into commitments, such as forward contracts, standby arrangements and OTC options contracts, for GNMA, FHLMC and FNMA securities. The Company also acts as an underwriter of and market-maker in mortgage-backed securities, CMOs and related instruments and a market-maker in commercial, residential and real estate loan products. In this capacity, the Company takes positions in market segments for which liquidity can vary greatly from time to time. The Company also underwrites, trades, invests and makes markets in high- yield debt securities and emerging market loans and securitized instruments. "High-yield" refers to companies or sovereigns whose debt is rated as non- investment grade. Securities owned by the Company in connection with its high- yield trading activities typically rank subordinate to bank debt of the issuer and may rank subordinate to other debt of the issuer. The market for these securities has been, and may in the future be, characterized by periods of illiquidity. In addition, the Company, through its market-making and trading activities, may be the sole or principal source of liquidity in certain issues and, as a result, may substantially affect the prices at which such issues trade. The Company also engages in trading senior loans of non-investment grade companies. Such loans are generally made on a secured basis and are senior to the non-investment grade securities of these issuers that trade in the capital markets. To mitigate the potential impact on the Company's operating results of the greater risks inherent in high-yield debt securities and emerging market loans and securitized instruments, the Company monitors and controls its total inventory positions in these securities and instruments in a manner consistent with its overall risk management policies and procedures. The Company also maintains credit policies designed to manage exposures to individual high-yield issuers and emerging market counterparties. Foreign Exchange and Commodities The Company actively trades numerous foreign currencies on a spot and forward basis with its customers, for its own account and to hedge its securities positions or liabilities. In connection with its market-making activities, the Company takes open positions in the foreign exchange market for its own account. On a more limited basis, the Company also enters into forward currency transactions both as agent and as principal. The Company is a leading participant in currency futures trading at the International Monetary Market division of the Chicago Mercantile Exchange and is a leading dealer in OTC and exchange-traded currency options on a worldwide basis. 4 The Company also trades as principal in the spot, forward and futures markets in a variety of commodities, including precious metals, base metals, crude oil, oil products, natural gas, electric power and related energy products. The Company is an active market-maker in swaps and OTC options on commodities such as metals, crude oil, oil products, natural gas and electricity, and offers a range of hedging programs relating to production, consumption and reserve/inventory management. The Company is an electricity power marketer in the U.S. and owns a majority equity interest in an exempt wholesale generator from which the Company is the exclusive purchaser of electric power. Derivatives The Company actively offers to clients and trades for its own account a variety of financial instruments described as "derivative products" or "derivatives." These products, some of which are complex in structure, generally take the form of exchange-traded futures and options and OTC forwards, options, swaps, caps, collars, floors, swap options and similar instruments which derive their value from underlying interest rates, foreign exchange rates or commodity or equity instruments and indices. All of the Company's trading-related business units use derivative products as an integral part of their respective trading strategies, and such products are used extensively to manage the market exposure that results from proprietary trading activities. In addition, as a dealer in certain derivative products (most notably interest rate and currency swaps), the Company enters into derivative contracts to meet a variety of risk management objectives and other financial needs of its clients. Through a triple-A rated subsidiary of the Company (Morgan Stanley Derivative Products Inc.), the Company also enters into swap and related derivative transactions with certain clients seeking a triple-A rated counterparty.* Derivatives facilitate risk transfer and enhance liquidity in the marketplace, and the origination and trading of derivatives are often utilized to adjust risk profiles, such as exposure to interest rate or currency risk, or to take proprietary trading positions. Widespread acceptance of derivatives has contributed to the development of more complex OTC products structured for particular clients to address specific financing and risk management needs. Derivative transactions may have both on- and off-balance sheet implications, depending on the nature of the contract. The Company's use of derivative products may subject the Company to various risks, although in many cases derivatives serve to reduce, rather than increase, the Company's exposure to losses from market, credit and other risks. In times of market stress, liquidity in certain derivatives positions, as well as in underlying cash instruments, may be reduced. The Company manages the risks associated with derivative products in a manner consistent with its overall risk management policies. Exposure to changes in interest rates, foreign currencies and other factors are managed on an individual product basis, generally through offsetting or other positions in a variety of financial instruments and derivative products. In addition, with respect to certain derivatives, the Company has agreements with customers and counterparties that permit the Company to close out positions or require additional (and, in many cases, excess) collateral if certain events occur. In certain instances, the Company may also limit the types of derivative products that may be traded in a particular account. See also "Risk Management" incorporated by reference in Part II, Item 7A of this Report. MSCI Morgan Stanley Capital International Inc. ("MSCI"), a majority-owned subsidiary of the Company, markets and distributes over 3,500 country, industry and regional equity and fixed income benchmark indices (including The World, EAFE(R) and Emerging Market Free Indices) covering 51 countries, and has a 29-year historical database that includes fundamental and valuation data on over 5,500 companies in developed and emerging market countries. Investment professionals around the world use MSCI data for purposes such as performance measurement, security valuation and asset allocation. - -------- * For a detailed discussion of the Company's use of derivatives, see "MD&A -- Derivative Financial Instruments" incorporated by reference in Part II, Item 7 of this Report and "Notes to Consolidated Financial Statements, Note 9" incorporated by reference in Part II, Item 8 of this Report. In addition, the Company uses derivative products (primarily interest rate and currency swaps) to assist in asset and liability management and to reduce borrowing costs. See also "Notes to Consolidated Financial Statements, Note 6" incorporated by reference in Part II, Item 9 of this Report. 5 Securities Services to Individual Investors Financial Advisory Activities Principally through DWR, a full-service retail broker-dealer, the Company offers clients a broad range of securities and investment products and services that are supported by the Company's investment banking, research, asset management, execution and operational resources. At November 30, 1998, the Company had the second largest financial advisor sales organization in the domestic securities industry, with 11,238 financial advisors located in 438 securities branch offices, providing investment services to more than 3.9 million client accounts having assets of $438 billion. The Company focuses on providing its clients with comprehensive financial planning services, tailored to meet individual investment goals and risk profiles. The Company believes that employing knowledgeable investment professionals is a key factor in serving the individual investor and has undertaken an aggressive campaign to grow and train its financial advisor sales organization. Through retention of existing financial advisors and extensive recruiting, the Company has increased its financial advisor sales organization by over 40% over the past five years. Client assets have increased by over 100% over the same five-year period. The Company provides execution, trading and research services to its individual clients for listed equity securities, OTC equity securities, options and ADRs. The Company also provides execution, trading and research services to individual clients for a broad range of fixed income securities, including U.S. government obligations, mortgage and other asset-backed securities, corporate bonds, preferred stocks, municipal securities and certificates of deposit. The Company's fixed income trading activity on behalf of individual investors focuses primarily on establishing and maintaining inventory based upon actual and anticipated orders from its clients, rather than risk-oriented proprietary trading. In December 1998, the Company implemented a strategy to pair its financial advisor sales force with its institutional fixed income platform in order to provide mid-sized institutions with greater access to the Company's comprehensive products and research capabilities. The Company also provides its clients with an extensive array of investment and credit products and services, including mutual funds, unit investment trusts, insurance products, financial planning, retirement planning, personal trust and estate planning, tax planning, credit management and account services. One of the Company's products designed to help clients manage their assets is the Active Assets Account(R) ("AAA Account"). Through the AAA Account, clients can consolidate their financial assets into a single account, invest funds in a wide variety of investment products and ensure that funds are automatically invested daily, either in a money market account insured by the Federal Deposit Insurance Corporation ("FDIC") or in one of four different money market funds. In addition, the AAA Account offers dividend reinvestment, check writing, direct deposit and electronic funds transfer and bill payment services. The Company also offers its Internet technology service, ClientServ(SM), to its AAA Account customers, which allows them to track their accounts on-line, obtain research reports and real-time securities quotes, create customized personal portfolio monitors and chart the performance of various securities over time. Total client assets in AAA Accounts were $144.7 billion as of November 30, 1998. Clients planning for their retirement have access through the Company's IRA- 2000(R) Individual Retirement Account ("IRA-2000 Account") to a broad array of investment choices. Total client assets in IRA-2000 Accounts were $80.3 billion as of November 30, 1998. The Company also provides individual annuities and complete defined contribution plan services for businesses, including 401(k) plans. Other Activities The Company provides investment consulting services that assist clients in analyzing their investment objectives and in selecting investment advisory services offered by unaffiliated investment advisors. Through its wholly-owned insurance agency subsidiaries, the Company also acts as a national general agency for leading insurance carriers to meet the insurance and annuity needs of individual investors. The Company originates and 6 services a broad range of consumer loans secured by mortgages on residential properties. The Company also offers trust and fiduciary services to both individual and corporate clients, primarily trustee services for personal trusts and tax-qualified retirement plans. Private Wealth Management The Company's Private Wealth Management group (formerly known as Private Client Services) ("PWM") is a financial advisory group that provides solutions to individuals, families and foundations who control significant pools of wealth. PWM has offices in the U.S., Europe and Asia and provides access to the Company's trading capabilities, fundamental research and analytical products, as well as to its securities underwritings. PWM financial advisors manage specific financial asset classes and provide tailored global asset allocation strategies for its clients. PWM also offers private investors the opportunity to co-invest with the Company in its principal investing activities and specialized funds. Private banking services and other PWM financial advisory services are provided to select international clients through the Company's Swiss bank subsidiary, Bank Morgan Stanley AG. International Private Client Group Because of the strategic opportunities that the Company believes are presented by the further development of an international individual securities and asset management business, the International Private Client Group was formed as a new business unit in December 1998. The International Private Client Group will encompass all of the Company's international activities relating to individual securities and asset management (including international PWM activities) and electronic commerce businesses, as well as future international expansion in such businesses. See also "ASSET MANAGEMENT." Research The Company's global research department ("Research"), comprised of economists, industry analysts and strategists, is actively engaged in a wide range of research activities. Research produces reports and studies on the economy, financial markets, portfolio strategy, technical market analyses and industry developments. It analyzes worldwide trends covering a broad range of industries and more than 2,000 individual companies, half of which are located outside of the U.S. Research also provides analyses and forecasts relating to economic and monetary developments affecting matters such as interest rates, foreign currencies and securities and economic trends. Support for the sales and trading of fixed income securities is also provided in the form of quantitative and credit analyses and the development of research products that are distributed to the Company's individual and institutional clients. Timely data contained in Research's numerous publications, such as the Investment Strategy Chartbook and The Competitive Edge, are disseminated to both individual and institutional investors through a proprietary database accessible via the Internet and through the Company's financial advisors. In addition, Research provides analytical support and publishes reports on mortgage-related securities and the markets in which they are traded and does original research on valuation techniques. Operations and Information Processing In its Securities business, the Company executes and clears all of its transactions (delivery of securities sold, receipt of securities purchased and transfer of related funds) through its own facilities and through memberships in various clearing corporations. In order to minimize the risks of systems failures, the Company maintains redundant processing systems. Competition and Regulation Competition The Company encounters intense competition in all aspects of its Securities business and competes worldwide directly with other firms, a number of which may have greater capital and other resources. The 7 Company and its competitors employ advertising and direct solicitation of potential customers as methods of increasing business, and many of the Company's competitors engage in more extensive advertising programs than does the Company. Among the principal competitive factors affecting the Company's Securities business are the Company's general reputation, the overall quality of its professionals and other personnel, its ability to maintain existing client relationships and develop new ones, the relative prices of services and products offered and its capability in originating and marketing innovative products and services. Moreover, the Company's ability to access capital at competitive rates (which is generally dependent on the Company's credit ratings) and to commit capital efficiently are important competitive factors, particularly for its capital-intensive investment banking and sales, trading and market-making activities. In addition to competition from firms traditionally engaged in the financial services business, there has been increasing competition in recent years from other sources, such as commercial banks, insurance companies, on-line service providers, sponsors of mutual funds and other companies offering financial services both in the U.S. and globally. As a result of recent and pending legislative and regulatory initiatives in the U.S. to remove or relax certain restrictions on commercial banks, competition in some markets which have traditionally been dominated by investment banks and retail securities firms has increased and is likely to increase in the future. In addition, recent convergence and consolidation in the financial services industry has led to increased competition from larger diversified financial services organizations. Increased competition affects, among other things, the Company's ability to attract and retain highly skilled individuals. The complementary trends in the financial services industry of consolidation and globalization also present technological, risk management and other infrastructure challenges that will require effective resource allocation in order for the Company to remain competitive. Regulation The Company's Securities business is, and the securities, commodities and financial services industries generally are, subject to extensive regulation in the U.S., at both the federal and state levels, as well as internationally. The Company is subject to the rules and regulations of the various regulatory bodies that are charged with safeguarding the integrity of the securities and other financial markets and with protecting the interests of customers participating in those markets. MS&Co., DWR and certain other subsidiaries of the Company are broker- dealers. MS&Co. and DWR are registered as broker-dealers with the Securities and Exchange Commission ("SEC") and in all 50 states, the District of Columbia and Puerto Rico, and are members of the National Association of Securities Dealers, Inc. ("NASD") and the New York Stock Exchange ("NYSE"). Broker- dealers are subject to regulation by securities administrators in those states in which they conduct business. Broker-dealers are also subject to regulations that cover all aspects of the securities business, including sales and trading practices, use and safekeeping of customers' funds and securities, capital structure, record-keeping and the conduct of directors, officers and employees. The SEC, other governmental regulatory authorities, including state securities commissions, and self-regulatory organizations may institute administrative proceedings against broker-dealers or members, which could result in censure, fine, the issuance of cease-and-desist orders, the suspension or expulsion of such broker-dealer or member or its officers or employees, or other similar consequences. Occasionally, the Company's subsidiaries have been subject to investigations, other proceedings and fines relating to infractions of various regulations relating to their activities as broker-dealers, none of which, to date, has had a material adverse effect on the Company or its business. New legislation or regulations, including any relating to the activities of affiliates of broker-dealers, changes in rules promulgated by the SEC or other governmental regulatory or self-regulatory authorities (such as changes to the U.S. Internal Revenue Code and related regulations or rules promulgated by the Financial Accounting Standards Board) or changes in the interpretation or enforcement of existing laws and regulations, may directly affect the manner of operation and profitability of the Company. The Company's U.S. broker-dealer subsidiaries, including MS&Co. and DWR, are members of the Securities Investor Protection Corporation, which provides, in the event of the liquidation of a broker-dealer, 8 protection for customer accounts held by the firm of up to $500,000 for each customer, subject to a limitation of $100,000 for claims for cash balances. Margin lending by certain subsidiaries is subject to the margin rules of the Federal Reserve Board that restrict the amount they may lend in connection with certain purchases of securities by customers, and such subsidiaries are also required by NYSE rules to impose maintenance requirements on the amount of securities contained in margin accounts. These rules augment the Company's margin policies, which in many cases are more stringent. As broker-dealers, MS&Co. and DWR are subject to the SEC's temporary risk assessment rules which require, among other things, that a broker-dealer maintain and preserve certain information, describe risk management policies and procedures and report on the financial condition of certain affiliates whose financial activities are reasonably likely to have a material impact on the financial and operational condition of the broker-dealer. As futures commission merchants, MS&Co. and DWR are registered with the Commodity Futures Trading Commission ("CFTC"), and their activities in the futures and options-on-futures markets are subject to regulation by the CFTC and various domestic boards of trade and other commodity exchanges. Certain subsidiaries of the Company are registered as commodity trading advisers and/or commodity pool operators with the CFTC. The Company's futures and options-on-futures business is also regulated by the National Futures Association, a not-for-profit membership corporation that has been designated a registered futures association by the CFTC and of which MS&Co. and DWR are members. With respect to OTC derivatives, the Company is a member of the International Swaps and Derivatives Association ("ISDA"), the Group of 30 and the Derivatives Policy Group, a group of securities firms formed at the request of the SEC and CFTC to address concerns regarding the OTC derivatives activities of U.S. broker-dealer affiliates not subject to direct regulatory oversight. The Derivatives Policy Group has agreed to adhere to a voluntary oversight framework relating to reporting, capital, management controls and counterparty relationships. Certain of the Company's government securities activities are conducted through Morgan Stanley Market Products Inc., which is a member of the NASD and is registered as a government securities broker-dealer with the SEC and in certain states. The Department of the Treasury has promulgated regulations concerning, among other things, capital adequacy, custody and use of government securities and transfers and control of government securities subject to repurchase transactions. The rules of the Municipal Securities Rulemaking Board, which are enforced by the NASD, govern the municipal securities activities of the Company. The Company's Securities business is also subject to extensive regulation by various non-U.S. governments, securities exchanges, central banks and regulatory bodies, especially in those jurisdictions in which the Company maintains an office. For example, the Company's Securities business in the U.K. is regulated by the Securities and Futures Authority and a number of exchanges, including the London Stock Exchange and the London International Financial Futures and Options Exchange; The Deutsche Bundesbank, the Bundesaufsichtsamt fur das Kreditwesen (the Federal Banking Supervisory Authority), the Bundesaufsichtsamt fur den Wertpapierhandel (the Federal Supervisory Authority for Securities Trading), Eurex Deutschland and the Deutsche Borse AG regulate the Company's activities in the Federal Republic of Germany; the Company's Securities business in Japan is subject to Japanese law applicable to foreign securities firms and related regulations of the Japanese Ministry of Finance and to the rules of the Bank of Japan, the Japanese Securities Dealers Association and several Japanese securities and futures exchanges, including the Tokyo Stock Exchange, the Osaka Securities Exchange and the Tokyo International Financial Futures Exchange; the Monetary Authority of Singapore and the Singapore International Monetary Exchange Ltd. regulate the Company's business in Singapore; and the Company's Securities operations in Hong Kong are regulated by the Securities and Futures Commission, The Stock Exchange of Hong Kong Ltd. and the Hong Kong Futures Exchange Ltd. As registered broker-dealers and member firms of the NYSE, certain subsidiaries of the Company, including MS&Co. and DWR, are subject to the SEC's net capital rule, and as futures commission merchants, MS&Co. 9 and DWR are subject to the net capital requirements of the CFTC and various commodity exchanges. Many non-U.S. securities exchanges and regulatory authorities also either have imposed or are imposing rules relating to capital requirements that apply to subsidiaries of the Company (such as rules that have been promulgated in connection with the European Union Capital Adequacy Directive), including certain European subsidiaries that are considered banking organizations under local law. These rules, which specify minimum capital requirements, are designed to measure general financial integrity and liquidity and require that at least a minimum amount of assets be kept in relatively liquid form. Compliance with the capital requirements may limit those operations of the Company that require the intensive use of capital, such as underwriting, principal investing and trading activities, and the financing of customer account balances. Such requirements also restrict the Company's ability to withdraw capital from its subsidiaries, which in turn may limit the Company's ability to pay dividends, repay debt or redeem or purchase shares of its outstanding capital stock. A change in such rules or the imposition of new rules affecting the scope, coverage, calculation or amount of capital requirements, or a significant operating loss or any unusually large charge against capital, could adversely affect the ability of the Company to pay dividends or to expand or even maintain its present levels of business. C. ASSET MANAGEMENT The Company manages a wide range of asset management products for individual investors, primarily through MSDW Advisors and Van Kampen, and provides global portfolio management to a wide range of institutional investors through MSDW Investment Management. The Company also sponsors, acts as general partner for and invests in several limited partnerships that conduct a variety of activities broadly described as principal investing. Morgan Stanley Dean Witter Advisors MSDW Advisors develops, markets and manages a broad spectrum of proprietary open- and closed-end mutual funds and provides professional money management services on a customized basis to affluent individuals, institutional investors and retirement plan sponsors. MSDW Advisors assets include equities, taxable and tax-exempt fixed income securities and money market instruments. At November 30, 1998, there were 138 funds and portfolios with assets of approximately $121 billion for which MSDW Advisors, through Morgan Stanley Dean Witter Services Company Inc., a wholly-owned subsidiary of the Company, served in various investment management and administrative capacities. Morgan Stanley Dean Witter Distributors Inc., a wholly-owned subsidiary of the Company and a registered broker-dealer ("MSDW Distributors"), distributes shares of MSDW Advisors products that are open-end investment companies. MSDW Distributors has entered into agreements with DWR and other selected dealers for the marketing and distribution of such products. DWR, its affiliates and other selected dealers are compensated for their distribution-related expenses through contingent deferred sales charges, front-end sales charges and fees authorized pursuant to the provisions of Rule 12b-1 under the Investment Company Act of 1940. Van Kampen Investments Van Kampen operates a family of open- and closed-end mutual funds for individual and institutional shareholders, and markets and provides ongoing evaluation and credit surveillance for fixed income and equity unit investment trusts ("UITs"). Sponsored fund assets cover a broad range of taxable and tax- exempt domestic and international products. Sponsored UITs include portfolios of nationally diversified and single-state insured and uninsured municipal securities and, depending on market demand, also include portfolios of government securities, insured and uninsured corporate debt securities, global fixed income securities and equity securities. At November 30, 1998, Van Kampen had more than 50 open-end funds and 39 closed-end funds and 2,500 series of UITs, and Van Kampen and its affiliates managed, administered or supervised approximately $72 billion in assets. 10 Van Kampen distributes its investment products through a large and diversified network of unaffiliated national and regional broker-dealers, commercial banks and thrifts, insurance companies and their affiliated broker- dealers and financial planners ("retail distribution firms"), as well as the Company's financial advisors. A relatively small number of retail distribution firms account for a substantial portion of sales of Van Kampen's products, and Van Kampen has proprietary and preferred distribution relationships with several of its unaffiliated retail distribution firms. Morgan Stanley Dean Witter Investment Management MSDW Investment Management, through its various advisory entities, including MAS, primarily manages financial assets for institutions around the world, including pension funds, corporations, non-profit organizations and governmental agencies. MSDW Investment Management offers product lines covering a full range of equity, fixed income and alternative investments in developed and emerging markets, and a variety of investment styles including value, growth and blended; active and passive management; and diversified and concentrated portfolios. Products are available through separate account management, pooled vehicles, U.S. and non-U.S. mutual funds and variable annuities. A broad range of fiduciary and named fiduciary services for pension funds and trusts is also available through MSDW Investment Management. At November 30, 1998, MSDW Investment Management had assets under management or supervision of approximately $157 billion, including approximately $45 billion related to international products. Approximately $54 billion of these assets related to mutual funds and approximately $103 billion related to separate accounts, pooled vehicles and other arrangements. The Company distributes certain domestic and international investment products advised or sub-advised by MSDW Investment Management through the distribution networks of MSDW Advisors and Van Kampen. Principal Investing The Company's principal investing activities include, among other things, making commitments to purchase, and making negotiated investments in, equity and debt securities in merger, acquisition, restructuring, private investment and leveraged capital transactions. Such activities also include venture capital investments and investments in real estate assets, portfolios and operating companies. Such activities are generally conducted through private investment funds in which the Company acts as general partner and clients of the Company are limited partners. The Company typically contributes a minority of the capital of the private investment funds, and clients of the Company contribute the remaining capital. The Company also typically receives management fees for operating the private investment funds, as well as a share of the profits of the funds when investment performance criteria have been met. Morgan Stanley Capital Partners III, L.P. ("MSCP III") was formed in 1994 with $1.9 billion in capital commitments to invest in private equity or equity-related securities of operating and financial services companies. As of November 30, 1998, MSCP III, and its predecessor funds (which are only making follow-on investments), had $1.2 billion of cost basis in their portfolios related to 38 companies in a wide range of industries. Morgan Stanley Venture Partners III, L.P. ("MSVP III") was formed in 1996 with $275 million in capital commitments to invest in private equity and equity-related securities of emerging growth companies, in the healthcare and information technology sectors based primarily in the U.S. As of November 30, 1998, MSVP III, and its predecessor funds (which are no longer making new investments), had $208 million of cost basis in their portfolios related to 34 companies. Morgan Stanley Global Emerging Markets Private Investment Fund, L.P. ("MSGEM") was formed in 1997 with approximately $330 million in capital commitments to invest in private equity or equity-related securities of emerging markets companies. As of November 30, 1998, MSGEM had $32 million of cost basis in its portfolio related to two emerging markets companies. 11 The Morgan Stanley Real Estate Fund III, L.P. ("MSREF III") was formed in 1997 and currently has approximately $2.1 billion in capital commitments to invest in real estate assets. As of November 30, 1998, MSREF III and its predecessor funds (which are no longer making new investments), had $2.1 billion of cost basis in real estate assets in their portfolios relating to 52 investments. Morgan Stanley Real Estate Special Situations Investment Program ("Special Situations") was created in 1997 as a series of separate accounts managed by MSDW Investment Management with $375 million in capital commitments to invest in private equity or equity-related securities of real estate companies (primarily real estate investment trusts). As of November 30, 1998, Special Situations had $298 million of cost basis in its portfolios related to 14 real estate companies. From time to time, the Company expects to sponsor additional private investment funds and commit to invest in such funds. Equity securities purchased in principal investment transactions generally are held for appreciation, are not readily marketable and do not provide dividend income. It is not possible to determine whether, when or if the Company will realize the value of the investments, including any appreciation, dividends or other distributions thereon, since, among other things, such investments are generally subject to restrictions on such realization relating to the circumstances of particular transactions. Moreover, estimates of the eventual realizable value of the investments fluctuate significantly over time in light of business, market, economic and financial conditions generally or in relation to specific transactions or other factors, including the financial leverage involved in the underlying transactions. The Company may also underwrite, trade, invest and make markets in, and publish research with respect to, the securities and senior loans of issuers in which the Company or the private investment funds have an investment. Such securities may include equity and high-yield debt securities of such issuers. In addition, the Company may provide financial advisory services to and have securities and commodity trading relationships with these issuers. From time to time, the Company may provide loans, financing commitments or other extensions of credit, including on a subordinated and interim basis, to companies (which may otherwise be leveraged) associated with its principal investment activities. Competition and Regulation Competition The Company's Asset Management business competes in the highly competitive investment management industry, in which approximately 7,336 open-end investment management companies held over $5.4 trillion in assets as of November 30, 1998. Competition in the sale of mutual funds is affected by a number of factors, including investment objectives and performance, advertising and sales promotion efforts, level of fees, distribution channels and types and quality of services offered. In addition to fund products offered by other broker-dealers, the funds offered by the Company are in competition with funds sold directly by investment management firms and insurance companies, as well as with other investment alternatives sold by such companies and by banks and other financial institutions. The Company's private investment funds compete for investors and for investment opportunities with other private investment funds, some of which are sponsored by financial institutions. The Company's private investment funds also compete for investment opportunities in specific industries with companies that operate in such industries. Regulation The Company and certain subsidiaries, including MS&Co., DWR, and those related to MSDW Advisors, Van Kampen and MSDW Investment Management, are registered as investment advisers with the SEC and in certain states. Virtually all aspects of the Company's investment advisory business are subject to various federal and state laws and regulations. These laws and regulations are primarily intended to benefit the investment 12 product holder and generally grant supervisory agencies and bodies broad administrative powers, including the power to limit or restrict the Company from carrying on its investment advisory business in the event that it fails to comply with such laws and regulations. Possible sanctions which may be imposed for such failure include the suspension of individual employees, limitations on the Company's engaging in the investment advisory business for specified periods of time, the revocation of registrations, other censures and fines. The Company's Asset Management business is also subject to regulation outside the U.S. For example, the Investment Management Regulatory Organization Limited regulates the Company's business in the U.K.; the Japanese Ministry of Finance and the Japan Securities Investment Advisors Association regulates the Company's business in Japan; the Securities and Exchange Board of India regulates the Company's business in India; and the Monetary Authority of Singapore regulates the Company's business in Singapore. By virtue of the Company's affiliation with the private investment funds that own equity interests in companies that operate in certain regulated industries (e.g., insurance or broadcasting), or that are subject to regulation in non-U.S. jurisdictions, the Company could be subject to additional regulation applicable to such industries or in such jurisdictions. Morgan Stanley Dean Witter Trust FSB ("MSDWT"), a subsidiary of the Company that provides trust, fiduciary and transfer agent services, is a federally chartered savings bank and is subject to comprehensive regulation and periodic examination by the federal Office of Thrift Supervision ("OTS") and by the FDIC. MSDWT is also a registered transfer agent, subject to regulation and examination in such capacity by the SEC. As a result of its ownership of MSDWT, the Company is registered with the OTS as a unitary savings and loan holding company ("SLHC") and subject to regulation and examination by the OTS as a SLHC. D. CREDIT AND TRANSACTION SERVICES As of November 30, 1998, the Company, through its Credit Services business, was the third largest single issuer of general purpose credit cards in the U.S. as measured by number of accounts. Credit Services' proprietary general purpose credit card business is operated by the Company's Discover Financial Services business unit, which also operates the Discover/NOVUS Network, the Company's proprietary merchant and cash access network. The credit cards offered by Discover Financial Services include the Discover Card, the Discover Platinum Card ("Discover Platinum"), which was launched in December 1998, the Private Issue(R) Card by Discover ("Private Issue"), and co-branded and affinity cards. Discover Financial Services Overview Discover Financial Services offers general purpose credit cards designed to appeal to different market segments of consumers for use on the Discover/NOVUS Network. The Discover/NOVUS Network is the largest independent credit card network in the U.S., consisting of more than three million merchant and cash access locations accepting credit cards carrying the Discover/NOVUS logo. Discover Financial Services offers several brands of proprietary cards, including the Discover Card, Discover Platinum, Private Issue, the Smithsonian Card (an affinity program that allows cardmembers to support the Smithsonian Institution) and the Universal Studios Card (a co-branded credit card that allows cardmembers to earn entertainment rewards from Universal Studios). Discover Financial Services promotes its proprietary cards through the use of different and distinctive features that are designed to appeal to different consumer bases. The Discover Card offers the Cashback Bonus(R) award and no annual fee. Discover Platinum is a premium credit card offering opportunities to double Cashback Bonus awards, no annual fee, low balance transfer and annual percentage rates, higher credit lines and advanced fraud protection for on-line banking. Cardmembers use the Discover Card as well as other general purpose credit cards issued by subsidiaries of the Company bearing the Discover/NOVUS logo to purchase goods and services at participating merchant 13 locations and to obtain cash advances at merchant and bank locations and automated teller machines or by writing checks drawn against their lines of credit. Discover Financial Services also offers cardmembers various financial services, including a revolving line of credit, credit insurance, and card registration to protect against losses in connection with card theft or loss. Discover, Discover Platinum and Private Issue cardmembers are also offered money market deposit accounts and time deposits. Cardmembers receive account statements monthly and may elect to pay all or part of the outstanding balance each month. The unpaid portion of the outstanding balance is carried over to the next month, and finance charges are assessed on the revolving balance. A late fee is charged if less than a required minimum portion of the outstanding balance is paid each month. Cardmembers are assessed other fees if their credit card use violates other terms of the cardmember agreement. Discover Financial Services accrues revenues through finance charges on cardmembers' revolving balances, the fees paid by merchants to the Company for transactions effected through the Discover/NOVUS Network, transaction fees paid by cardmembers for cash advances, late payment fees, over-limit fees, fees for checks returned due to insufficient funds, fees from providing product enhancements to cardmembers (e.g., credit life insurance and card registration), merchant fees for processing transactions on other networks, and proceeds from the sale of point-of-sale terminals and related equipment to merchants. Pursuant to the Cashback Bonus award, the Company annually pays cardmembers up to one percent (up to two percent for participating Private Issue cardmembers, subject to a maximum of $500) of their purchase amounts based upon their level of annual purchases. The Cashback Bonus award is remitted to cardmembers in the form of a check or as a credit to their accounts in the anniversary month of the account opening. Cardmembers enter into agreements governing the terms and conditions of their accounts. Cardmember agreements for each type of card are generally uniform from state to state. Most of the Company's proprietary general purpose credit cards are issued by Greenwood Trust Company ("Greenwood Trust"), an indirect wholly-owned subsidiary of the Company that is a state chartered bank under the laws of the State of Delaware. Because of certain banking law restrictions, most of the Company's proprietary general purpose credit cards may be used only for personal and household (as opposed to commercial) transactions. Merchants The Discover Card, Discover Platinum and Private Issue, as well as the Company's other proprietary general purpose credit cards, are accepted only by merchants who are members of the Discover/NOVUS Network. Since its introduction in 1986, the Discover/NOVUS Network has expanded rapidly and currently includes more than three million merchants across the U.S. Discover Financial Services operates both the issuing and acquiring businesses and accordingly retains the entire merchant fee paid to the Discover/NOVUS Network in a given transaction. Because of its independence from the bankcard associations, Discover Financial Services has greater flexibility than MasterCard or Visa participants in dealing with merchants. The Company believes that this enables it to better maintain and expand its merchant base by allowing it to provide customized programs in such areas as processing arrangements and to otherwise tailor program terms to meet specific merchant needs. Discover Financial Services employs its own national sales and support force to increase and maintain its merchant base. In contrast, MasterCard's and Visa's marketing efforts to merchants are generally indirect and rely largely on the unaffiliated sales forces of participating acquiring banks and their agents. In addition, the Company conducts telemarketing operations for the purpose of acquiring merchant business. Marketing Discover Financial Services is distinguished from MasterCard and Visa card issuers in that it directly controls the brand image, features, service level and pricing of its cards to both cardmembers and merchants. 14 MasterCard and Visa issuers compete directly with other issuers using the same brands and sharing common processes. The ability to control its products provides Discover Financial Services with competitive advantages that are not available to any single MasterCard or Visa issuer, including efficiencies in operations, product positioning and marketing execution. Discover Financial Services has the ability to direct and deliver a consistent, nationwide message for the Discover Card and the Company's other general purpose proprietary credit cards. Because the Company manages all aspects of both the cardmember and merchant relationship, it can determine and promote its advertising campaign and control the campaign's content, timing and promotional features. Credit Credit reviews are conducted for all cardmembers in order to establish that standards of ability and willingness to pay are met. Cardmember applications are evaluated using a credit scoring system which utilizes the information customers provide on their applications and credit bureau information to establish creditworthiness. Applications not approved under the credit scoring system may be selectively reviewed and approved by the Company's credit analysts. Applicants receiving pre-selected solicitations must satisfy criteria specified by Discover Financial Services. All recipients of pre-selected solicitations have been pre-screened through credit bureaus utilizing industry and customized models. Pre-screening is a process by which an independent credit reporting agency identifies individuals satisfying creditworthiness criteria supplied by the Company (in the form of a point scoring model or other screening factors) that are intended to provide a general indication, based on available information, of such person's ability and willingness to pay their financial obligations. Recipients who respond to the Company's pre- selected solicitations are post-screened prior to enrollment in order to confirm continued satisfaction of the Company's creditworthiness criteria. Each cardmember's credit line is reviewed at least annually, and may be reviewed more frequently if requested by the cardmember or if the Company deems more frequent review appropriate. Such reviews include scoring the cardmember's payment behavior on the applicable account as well as reviewing the cardmember's credit bureau record. Actions that may result from an account review include raising or lowering the cardmember's credit line or closing the account. Operations The Company performs the functions required to service and operate its proprietary cards' accounts either by itself or through processing agreements that the Company has with third parties. These functions include new account solicitation, application processing, new account fulfillment, transaction authorization and processing, cardmember billing, payment processing, fraud prevention and investigation, cardmember service and collection of delinquent accounts. Discover Financial Services maintains several operations centers throughout the country. Additionally, Discover Financial Services operations are supported by systems at computer centers operated by an unaffiliated communication services provider. Direct-Marketed Businesses The Company believes that direct-marketed businesses will become increasingly important in the financial services industry as new technologies develop and client demands change over time. As a result, the Company formed the Direct Business Group in 1998 in order to develop and implement a global strategy for its direct-marketed activities. Discover Brokerage, a wholly-owned subsidiary of the Company that was acquired in 1997, provides financial services and investment information nationwide via the Internet, offering customers three ways to invest- through its Internet site, via an automated telephone system or with a registered representative. The financial services provided by Discover Brokerage, principally to individual investors, include detailed account 15 information, real-time securities price quotes, graphs and portfolio performance information, trade execution at competitive rates and access to research reports and news stories. Through Discover Brokerage, the Company focuses on the growing number of consumers utilizing alternatives to the traditional brokerage channel to obtain financial and other investment services. Discover Brokerage provides its customers with direct access to financial data and other information, including through a fee-based subscription service for proprietary equity research reports and analysts' ratings, as well as a broad range of investment options such as equities, options, bonds, U.S. Treasury securities and mutual funds. The Company plans to grow Discover Brokerage by further expanding its product line. In June 1998, Discover Brokerage began offering customers the ability to trade U.S. Treasury securities on-line every weekday, 24 hours per day. In February 1999, Discover Brokerage also began offering customers the ability to trade certain municipal securities on-line. The Company believes that Discover Brokerage will enhance its ability to market financial services and products through its on-line distribution arrangements with Yahoo!, and with leading providers of Internet financial sites such as CNNfn and Quicken. Competition and Regulation Competition The Company's Credit Services business competes in highly competitive industries, including the credit card industry. The credit card market includes other bank-issued credit cards (the vast majority of which bear the MasterCard or Visa servicemark) and charge cards and credit cards issued by travel and entertainment companies. Competition centers on merchant acceptance of credit cards, credit card account acquisition and customer utilization of credit cards. Merchant acceptance is based on both competitive transaction pricing and the volume and usage of credit cards in circulation. Credit card account acquisition and customer utilization are driven by the offering of credit cards with competitive and appealing features, such as no annual fees, low introductory interest rates and other customized features targeting specific consumer groups. As new credit card issuers seek to enter the market and established issuers seek to expand, sometimes through acquisitions of other credit card issuers or portfolios, the credit card industry has seen increased use of advertising, targeted marketing and pricing competition in interest rates, annual fees and reward programs. More recently, issuers have increased their efforts to attract balances from competing sources of credit via low-priced balance transfer programs. In addition, issuers have aggressively marketed co-branded credit cards, which offer various benefits relating to the business of the issuer's co-branding partner. The Company believes its proprietary merchant base enables it to promote its proprietary card brand names on a national basis, thereby building customer acceptance and use. Discover Brokerage competes with other providers of on-line brokerage services, as well as other firms offering financial and other investment services. Discover Brokerage competes primarily on the basis of price, convenience, direct access to information and the breadth of its product line. In addition, Discover Brokerage is subject to the same competitive factors that are applicable to the highly-competitive financial services industry generally (see "SECURITIES--Competition and Regulation"). Regulation The Company conducts portions of its Credit Services business through various wholly-owned indirect subsidiaries that are banking institutions. Greenwood Trust and Bank of New Castle are state banks chartered under the laws of the State of Delaware, and Morgan Stanley Dean Witter Bank, Inc. (formerly MountainWest Financial Corporation, "MSDW Bank") is an industrial loan company chartered under the laws of the State of Utah (each a "Bank" and, collectively, the "Banks"). Each Bank has its deposits insured by the FDIC, pays FDIC assessments and is subject to comprehensive regulations and periodic examinations by the state banking commissioner of the state in which it is chartered and by the FDIC. Generally, a company which controls a "bank," as defined in the Bank Holding Company Act of 1956 (the "BHCA"), is required to register as a bank holding company under that act and becomes subject to regulation 16 and examination as a bank holding company by the Board of Governors of the Federal Reserve System. Greenwood Trust is a "bank" as defined in the BHCA. However, because Greenwood Trust did not come within the BHCA's definition of the term "bank" prior to the amendment of the BHCA by the Competitive Equality Banking Act of 1987 ("CEBA"), under certain grandfathering provisions of CEBA, the Company is not treated as a bank holding company as long as the Company and Greenwood Trust comply with certain restrictions set forth in CEBA. Bank of New Castle and MSDW Bank are not "banks" under the BHCA as long as each complies with certain other restrictions set forth in CEBA. Under the BHCA, a bank holding company is generally prohibited from engaging in any activities other than those of banking, managing or controlling banks, or providing services for its subsidiaries. Should Greenwood Trust fail to continue to qualify for grandfather rights under CEBA, or should the other Banks fail to be operated so as to maintain their exempt status as non-banks under the BHCA, the Company, in order to continue to engage in those of its present businesses that would not be permissible for a bank holding company under the BHCA, could be required to divest control of the Banks or, in the case of Greenwood Trust, to change the activities of the Bank significantly. Federal and state consumer protection laws and regulations extensively regulate the relationships among cardholders and credit card issuers. Under federal law, each of the Banks may charge interest at the rate allowed by the law of the state in which it is located and export such interest rate to all other states. The states where the Banks are domiciled do not limit the amount of interest that may be charged on loans of the types offered by the Banks. As a result, each of the Banks is permitted to export interest rates pursuant to federal law. The application of federal and state bankruptcy and debtor relief laws affect the Company to the extent such laws result in any loans being charged off as uncollectible. Under the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), the federal bank regulatory agencies are required to take "prompt corrective action" in respect of banks that do not meet minimum capital requirements, and certain restrictions are imposed upon banks that meet certain capital requirements but are not "well capitalized" for purposes of FDICIA. A bank that is not well capitalized, as defined for purposes of FDICIA, is, among other consequences, generally prohibited from accepting brokered deposits and offering interest rates on any deposits significantly higher than the prevailing rate in its normal market area or nationally (depending upon where the deposits are solicited). Greenwood Trust and MSDW Bank currently use brokered deposits as a funding source. If either Bank were not able to do so, its funding costs would likely increase. Certain acquisitions of the Company's common stock may be subject to regulatory approval and notice under Federal and state banking law. In addition, Greenwood Trust would no longer qualify for grandfather rights under CEBA if direct or indirect control of Greenwood Trust were transferred to an unaffiliated third party. In that event, the third party would either have to operate in a manner permissible for a bank holding company under the BHCA or significantly modify the activities of Greenwood Trust. Discover Brokerage is a registered broker-dealer and a member of the NASD. See "SECURITIES--Competition and Regulation" for a discussion of the regulations covering the Company's broker-dealers. Item 2. PROPERTIES The Company's executive offices are located at 1585 Broadway, New York, New York, where the Company occupies approximately 958,000 square feet as its New York headquarters. The Company also occupies approximately 368,000 square feet at 750 Seventh Avenue, New York, New York. The Company owns both the 1585 Broadway and 750 Seventh Avenue buildings. The Company also owns a 600,000 square foot building in Riverwoods, Illinois that houses Credit Services' executive offices and an adjacent undeveloped 43 acre parcel. On November 20, 1998, the Company announced its agreement with The Rockefeller Group ("RGI") for the joint development of a 1,000,000 square foot office tower at 745 Seventh Avenue, New York, New York. The building will be owned by the Company and managed by a subsidiary of RGI, and is intended to be occupied by the Company. The Company leases the land under the building from RGI pursuant to a 99-year ground lease. Construction is expected to begin in 1999, with project completion and occupancy anticipated in 2001. 17 The Company leases 864,000 square feet at Two World Trade Center, New York, New York, under a lease expiring on May 31, 2006 and also occupies space aggregating approximately 1,037,000 square feet at various other locations in New York City under leases expiring between 2000 and 2013. In addition, the Company leases space aggregating approximately 417,000 square feet in Brooklyn, New York under a lease expiring in 2013.* The Company's London headquarters are located at 25 Cabot Square, Canary Wharf, and occupy approximately 641,000 square feet (inclusive of common areas) of a building constructed by the Company. The Company owns the ground lease obligation and the freehold interest in the land and the building. The Company also leases approximately 350,000 square feet at 20 Cabot Square, Canary Wharf, under a lease arrangement expiring in 2020. The Company's Tokyo headquarters are located in Sapporo's Yebisu Garden Place, Ebisu, Shibuya-ku, where the Company occupies approximately 173,000 square feet of office space under a lease arrangement expiring in 2000, but renewable at the Company's option in two-year increments. The Company's subsidiaries have offices, operations and processing centers and warehouse facilities located throughout the U.S. and certain subsidiaries maintain offices in international locations. The Company's properties that are not owned are leased on terms and for durations that are reflective of commercial standards in the communities where these properties are located. Facilities owned or occupied by the Company and its subsidiaries are believed to be adequate for the purposes for which they are currently used and are well maintained. Item 3. LEGAL PROCEEDINGS (a) The Company is involved in the following litigation matters: I. Term Trust Class Actions. A putative class action, Thomas D. Keeley, et al. v. Dean Witter Reynolds Inc. et al. (the "Keeley Action") was commenced in the California Superior Court, Orange County, on October 27, 1994 and later consolidated with three similar class actions. Defendants are the Company, DWR, Dean Witter Distributors, Dean Witter InterCapital, Dean Witter Services Company Inc., TCW Management Co., Trust Company of the West, TCW Asset Management Co., Inc., TCW Funds Management, Inc. and eight individuals, including two DWR employees. Plaintiffs allege breach of fiduciary duty, unjust enrichment, fraud, deceit and violation of the California Corporation Code in the marketing and selling of the TCW/DW Term Trusts 2000, 2002 and 2003. Plaintiffs seek unspecified compensatory and punitive damages. Defendants filed an answer to the first amended class complaint denying all wrongdoing on December 6, 1995, and motions for judgment on the pleadings on March 13, 1997. In the Keeley Action, defendants' motions for judgment on the pleadings were denied on June 23, 1997. On June 1, 1998, the plaintiff's motion to certify the class was granted as to a California statewide class and denied as to a nationwide class. On October 13, 1998, three separate state court actions were filed in Florida, New York and New Jersey. The Florida action was removed to the U.S. District Court for the Middle District of Florida on November 10, 1998. II. TCW/DW North American Government Income Trust Litigation. Several purported class action lawsuits, which have been consolidated for pretrial purposes, were instituted in January 11, 1995 in the U.S. District Court for the Southern District of New York against the TCW/DW North American Government Income Trust (the "Trust"), DWR, some of the Trust's trustees and officers, its underwriter and distributor, the Trust's unaffiliated adviser, the Trust's manager and other defendants, by certain shareholders of the Trust. The consolidated amended complaint asserts claims under the Securities Act of 1933 and generally alleges that the defendants made inadequate and misleading disclosures in the prospectuses for the Trust, in particular as such disclosures related to the nature and risks of the Trust's investments in mortgage-backed securities and Mexican securities. Plaintiffs also challenge certain fees paid by the Trust as excessive. Damages are sought in an unspecified amount. Defendants moved to dismiss the consolidated amended complaint. Although on May 8, - -------- * The indicated total aggregate square footage leased by the Company does not include space occupied by the Company's securities branch offices in New York and throughout the U.S. 18 1996 the motions to dismiss were denied, upon reconsideration on August 28, 1996 the court dismissed several of plaintiffs' claims and clarified its earlier opinion denying defendants' motion to dismiss. In addition, on August 28, 1996, the court granted plaintiffs' motion for class certification. On December 4, 1996, in light of a new decision by the U.S. Court of Appeals for the Second Circuit, defendants filed a new motion for reconsideration of the court's decision denying the motion to dismiss, which was denied on November 20, 1997. III. Global Opportunity Fund Litigation. On December 19, 1995, 20 investors in a Cayman Islands investment fund named The Global Opportunity Fund (the "Fund") brought an action against Morgan Stanley Bank Luxembourg, S.A. ("MSBL") in Luxembourg Commercial Court seeking damages in the amount of $44 million and costs. The apparent core of plaintiffs' complaint is that MSBL was responsible for providing certain net asset valuations to the Fund and performed that function in a negligent manner. On August 14, 1997, MSBL applied to the Luxembourg Commercial Court to join Barclays de Zoete Weld Incorporated ("BZW") into the proceedings in order to assert a claim for indemnity against BZW in the event that MSBL is held liable. On November 15, 1998, the hearing for both matters was adjourned to November 24-25, 1999. On March 11, 1998, The Growth Fund, which was a sub fund of the Fund, and 14 investors in The Growth Fund (12 of whom are also plaintiffs in the Luxembourg litigation against MSBL) brought an action against Morgan Stanley & Co. International Limited ("MSIL") in New York Supreme Court, New York County. The complaint asserts purported claims for fraud, aiding and abetting fraud, negligent misrepresentation and violation of a duty of good faith and fair dealing and seeks compensatory damages of approximately $7.25 million, punitive damages, interest, costs, expenses and attorneys' fees. Plaintiffs assert that MSIL induced them to enter into margin loans for the purpose of investing in another sub fund of the Fund at a time when MSIL knew that MSBL was not complying with its purported duty to monitor the Fund and the Fund's manager was fraudulently inflating the value of certain of its assets, which resulted in the investors' reliance on false net asset values in making and continuing their investments in the Fund. The action was removed to the U.S. District Court for the Southern District of New York but thereafter remanded to state court. On July 2, 1998, MSIL filed a motion to dismiss the action. IV. In re Merrill Lynch, et al. Securities Litigation. On January 19, 1995, a putative class action was filed in the U.S. District Court for the District of New Jersey on behalf of all persons who placed market orders to purchase or sell securities listed on the National Association of Securities Dealers Automated Quotation System ("NASDAQ") with DWR between November 4, 1992 and November 4, 1994. The complaint, consolidated with another action against other brokerage firms, seeks unspecified damages and alleges that DWR failed to provide best execution of customer market orders for NASDAQ securities. The complaint asserts claims for violations of Section 10(b) of the Securities Exchange Act of 1934 (the "Exchange Act"), Rule 10b-5 promulgated thereunder and state law claims for breach of fiduciary duty and unjust enrichment. On December 15, 1995, the court granted summary judgment in favor of DWR and, on June 19, 1997, a three judge panel of the Third Circuit Court of Appeals affirmed. On January 30, 1998, the full Court of Appeals, sitting en banc, reversed and remanded the action to district court for further proceedings. On April 30, 1998, a petition for certiorari in the U.S. Supreme Court was filed by the defendants. On June 12, 1998, the plaintiffs filed a motion for leave to file an amended complaint to extend the end date for the class period from November 4, 1994 to August 28, 1996 and to name new class representatives. On July 21, 1998, the Magistrate granted the plaintiffs' motion to file an amended complaint. Defendants have appealed that ruling to the district court judge. On October 5, 1998, the U.S. Supreme Court denied the petition for certiorari. V. Penalty Bid Litigation. On or about August 21, 1998, a purported class action complaint, Friedman, et al. v. Salomon Smith Barney, et al., was filed in the U.S. District Court for the Southern District of New York against the Company and nine other underwriters of securities. An amended complaint dated February 15, 1999, was filed against the Company and 16 other underwriters of securities. The amended plaintiff class purports to consist of all retail brokerage customers who purchased securities in public offerings from defendants and their alleged co-conspirators at artificially inflated prices. The amended complaint alleges that defendants and their co-conspirators engaged in anti-competitive activity with respect to the distribution of securities in public offerings by agreeing (i) to discourage retail customers from "flipping" or selling shares purchased in public 19 offerings prior to the expiration of a purported "Retail Restricted Period" (a period alleged to have been arbitrarily set by the syndicate manager during which restraints on retail accounts are imposed), and/or (ii) to penalize retail customers who "flipped", and/or (iii) otherwise to prevent retail customers from "flipping". The amended complaint also alleges that similar restraints were not imposed on institutional purchasers of shares in public offerings. The amended complaint alleges violations of Section 1 of the Sherman Act and breach of fiduciary duty, and seeks compensatory, treble and punitive damages in unspecified amounts, injunctive relief, costs and expenses, including attorneys', accountants' and experts' fees. Another purported class action, captioned Myers v. Merrill Lynch & Co., Inc. et al., was filed on or about August 17, 1998 in California Superior Court, San Francisco County, against Merrill Lynch & Co., Inc., Paine Webber Group Incorporated, the Company, Travelers Group Inc., Legg Mason Inc., H.J. Meyers & Co., Inc. and The Bear Stearns Companies Inc. The complaint alleges that defendants sold the stock of public companies to investors in public offerings without disclosing the existence of restrictions on "flipping" and serious conflicts of interest with investors resulting from financial and other penalties imposed on brokers and clients for "flipping." The complaint also alleges that similar restrictions were not imposed on larger institutional purchasers of stock in those offerings. The complaint asserts claims for unfair competition and false advertising under various sections of the California Business and Professions Code, negligent misrepresentations under the Civil Code and unfair, fraudulent and unlawful business practices under the Business Code. The complaint seeks injunctive relief and an award of costs and expenses, including attorneys' and experts' fees. On September 15, 1998, the action was removed to the U.S. District Court for the Northern District of California. On October 30, 1998, defendants filed a motion to dismiss the complaint. VI. IPO Fee Litigation. On or about November 3, 1998, a purported class action complaint, Gillet v. Goldman, Sachs & Co., et al., was filed in the U.S. District Court for the Southern District of New York against the Company and 26 other underwriters of initial public offering ("IPO") securities. The complaint alleges that defendants conspired to fix the "fee" paid by purported class members to buy and sell IPO securities of U.S. companies by invariably setting the underwriters' spread at 7% in issuances of $20 to $80 million in violation of the federal antitrust laws, particularly Sections 4 and 16 of the Clayton Act and Section 1 of the Sherman Act. The complaint seeks treble damages and injunctive relief, as well as reasonable attorneys' fees and costs. On November 23, 1998 and December 2, 1998, two other substantially similar class action complaints, captioned Prager v. Goldman, Sachs & Co. et al. and Holzman v. Goldman, Sachs & Co. et al. were filed in the U.S. District Court for the Southern District of New York against the same underwriter defendants. VII. Nenni, et al. v. Dean Witter Reynolds Inc. In December 1998, a putative class action complaint was filed in the U.S. District Court for the District of Massachusetts against DWR, Morgan Stanley Dean Witter Distributors Inc. and the Company. The complaint, filed on behalf of all purchasers of certain of the Company's mutual funds subject to a contingent deferred sales charge (the "Mutual Funds"), alleges violations of Sections 11, 12 and 15 of the Securities Act of 1933 and Sections 10(b) and 20 of the Exchange Act and Rule 10b-5 promulgated thereunder, in that the Mutual Funds' prospectuses and registration statements allegedly omitted certain disclosures concerning the transferability of the Mutual Funds to brokerage accounts outside of DWR. The complaint seeks unspecified compensatory and punitive damages, declaratory and injunctive relief, attorneys' fees, interest and costs. VIII. Other. In addition to the matters described above, the Company, including MS&Co. and DWR, has been named from time to time as a defendant in various legal actions, including arbitrations, arising in connection with its activities as a global diversified financial services institution, certain of which include large claims for punitive damages. The Company, including MS&Co. and DWR, is also involved, from time to time, in investigations and proceedings by governmental and self-regulatory agencies. In view of the inherent difficulty of predicting the outcome of such matters, particularly in cases such as some of those described above in which substantial damages are sought, the Company cannot state what the eventual outcome of pending matters will be. The Company is contesting the allegations made in each pending matter and believes, based on current knowledge and after consultation with counsel, that the outcome of such 20 matters will not have a material adverse effect on the consolidated financial condition of the Company, but may be material to the Company's operating results for any particular period, depending on the level of the Company's income for such period. (b) The following matter was terminated subsequent to November 30, 1998: In re: Certain Market-Making Activities on the NASDAQ. On January 11, 1999, the SEC brought an action against 28 NASDAQ market makers, including DWR and MS&Co., and 51 individuals, including one current and one former trader employed by MS&Co., for certain conduct during 1994. The core of the charges against DWR and MS&Co. concerns improper or undisclosed coordination of price quotes with other broker-dealers and related reporting, record-keeping and supervisory deficiencies in violation of Sections 15(b)(4)(E), 15(c)(1) and (2) and 17(a) of the Exchange Act and Rules 15c1-2, 15c2-7 and 17a-3 promulgated thereunder. Without admitting or denying the charges, DWR consented to the entry of a cease and desist order and to the payment of a civil penalty of $185,000 and disgorgement of $2,311, and MS&Co. consented to the entry of a cease and desist order and to the payment of a civil penalty of $350,000, disgorgement of $4,170 and to submit certain of its procedures to an independent consultant for review. In addition, one current and one former trader employed by MS&Co. accepted suspensions of less than two months each and were fined $25,000 and $30,000, respectively. EXECUTIVE OFFICERS OF THE REGISTRANT The following table sets forth certain information concerning executive officers of the Company as of February 23, 1999.
Name and Age Present Title and Principal Occupation ------------ -------------------------------------- Philip J. Purcell, 55..... Chairman of the Board of Directors and Chief Executive Officer of the Company since the Merger. Mr. Purcell was the Chairman of the Board of Directors and Chief Executive Officer of Dean Witter Discover from 1986 until the Merger. He is a trustee or director of approximately 90 registered investment companies for which MSDW Advisors serves as investment manager or investment adviser. John J. Mack, 54.......... President, Chief Operating Officer and Director of the Company since the Merger. Mr. Mack was the President of Morgan Stanley from June 1993 until the Merger. From March 1992 until the Merger, he was also Chairman of Morgan Stanley's Operating Committee. Mr. Mack was a Director and a Managing Director of Morgan Stanley from December 1987 until the Merger. Christine A. Edwards, 46.. Executive Vice President, Chief Legal Officer and Secretary of the Company since the Merger. Mrs. Edwards was Executive Vice President, General Counsel and Secretary of Dean Witter Discover from January 1991 until the Merger. She served as a Director of Dean Witter Discover until February 1993. John H. Schaefer, 47...... Executive Vice President and Chief Strategic and Administrative Officer of the Company since June 1998. Mr. Schaefer was head of Corporate and Strategic Planning for the Company from the Merger until May 1998. Mr. Schaefer was Executive Vice President and Director of Corporate Finance for Dean Witter Discover from 1991 until the Merger. Robert G. Scott, 53....... Executive Vice President and Chief Financial Officer of the Company since the Merger. Mr. Scott has been a Managing Director of MS&Co. since 1979. He was the head of Investment Banking for MS&Co. from 1994 to 1996. Mr. Scott was the head of Worldwide Corporate Finance for MS&Co. from 1992 to 1994 and was the head of Worldwide Capital Market Services for MS&Co. from 1985 until 1992.
21 Item 4. Submission of Matters to a Vote of Security Holders There were no matters submitted to a vote of security holders during the fiscal quarter ended November 30, 1998. PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters Information relating to the principal market in which the Registrant's Common Stock is traded, the high and low sales prices per share for each full quarterly period within the two most recent fiscal periods, the approximate number of holders of record of Common Stock and the frequency and amount of any cash dividends declared for the two most recent fiscal periods is set forth under the caption "Quarterly Results" on page 88 of the Registrant's 1998 Annual Report to Shareholders and such information is incorporated by reference herein. Item 6. Selected Financial Data Selected Financial Data for the Registrant and its subsidiaries for each of the last five fiscal years is set forth under the same caption on page 6 of the 1998 Annual Report to Shareholders. Such information is incorporated by reference herein and should be read in conjunction with the Consolidated Financial Statements and the Notes thereto contained on pages 54 to 88 of such Annual Report. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations Management's Discussion and Analysis of Financial Condition and Results of Operations is set forth under the same caption on pages 23 to 47 of the 1998 Annual Report to Shareholders. Such information is incorporated by reference herein and should be read in conjunction with the Consolidated Financial Statements and the Notes thereto contained on pages 54 to 88 of such Annual Report. Item 7A. Quantitative and Qualitative Disclosures About Market Risk The information required by this item is contained on pages 47 through 52 of the 1998 Annual Report to Shareholders under the caption "Risk Management" and is incorporated by reference herein. Item 8. Financial Statements and Supplementary Data The Consolidated Financial Statements of the Registrant and its subsidiaries, together with the Notes thereto and Independent Auditors' Report thereon, are contained in the 1998 Annual Report to Shareholders on pages 53 to 88, and such information is incorporated by reference herein, including the information appearing under the caption "Quarterly Results" on page 88 of such Annual Report. The Combined Financial Statements for the years ended December 31, 1998 and 1997 of the Morgan Stanley U.K. Group Profit Sharing Scheme and Plan, together with the Notes thereon and the Report of Independent Chartered Accountants, appear as Exhibit 99.1. The report of Ernst & Young LLP, independent auditors, on the consolidated statement of financial condition of Morgan Stanley as of November 30, 1996 and the related consolidated statements of income, cash flows and changes in shareholders' equity for the fiscal years ended November 30, 1996 and 1995, appears as Exhibit 99.2. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure None. 22 PART III Item 10. Directors and Executive Officers of the Registrant Information relating to Directors and Nominees of the Registrant is set forth under the caption "Election of Directors" on pages 4 to 6 of the Proxy Statement of the Registrant for its 1999 Annual Meeting of Stockholders and is incorporated by reference herein. Also incorporated by reference herein is the information under the heading "Section 16(a) Beneficial Ownership Reporting Compliance" that appears on page 21 of the Proxy Statement. Item 11. Executive Compensation Information relating to executive compensation is set forth under the captions "Director Compensation" on page 7 and "Compensation of Executive Officers" (excluding the information under the subheadings "Report of the Compensation Committees on Executive Compensation" and "Stock Performance Graph") on pages 10 to 22 of the Proxy Statement of the Registrant for its 1999 Annual Meeting of Stockholders and such information is incorporated by reference herein. Item 12. Security Ownership of Certain Beneficial Owners and Management Information relating to security ownership of management and certain beneficial owners is set forth under the captions "Stock Ownership of Management" and "Principal Stockholders" on pages 8 and 9, respectively, of the Proxy Statement of the Registrant for its 1999 Annual Meeting of Stockholders and such information is incorporated by reference herein. Item 13. Certain Relationships and Related Transactions Information regarding certain relationships and related transactions is set forth under the caption "Interest of Management in Certain Transactions" on pages 21 and 22 of the Proxy Statement of the Registrant for its 1999 Annual Meeting of Stockholders and such information is incorporated by reference herein. PART IV Item 14. Exhibits, Financial Statement Schedules And Reports On Form 8-K (a) Documents filed as part of this Report: 1.Financial Statements The financial statements required to be filed hereunder are listed on page S-1 hereof. 2.Financial Statement Schedules The financial statement schedules required to be filed hereunder are listed on page S-1 hereof. 3.Exhibits An exhibit index has been filed as part of this report on page E-1 hereto and is incorporated herein by reference. (b) A Current Report on Form 8-K, dated September 1, 1998, was filed with the Securities and Exchange Commission in connection with the impact of market conditions on the Company's consolidated net income for the third fiscal quarter. A Current Report on Form 8-K, dated September 24, 1998, was filed with the Securities and Exchange Commission in connection with the announcement of the Company's third fiscal quarter financial results. 23 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on February 23, 1999. Morgan Stanley Dean Witter & Co. (Registrant) By /s/ Philip J. Purcell _____________________________________ Philip J. Purcell Chairman of the Board and Chief Executive Officer POWER OF ATTORNEY We, the undersigned directors and executive officers of Morgan Stanley Dean Witter & Co., hereby severally constitute Christine A. Edwards, Robert G. Scott and Ronald T. Carman, and each of them singly, our true and lawful attorneys with full power to them and each of them to sign for us, and in our names in the capacities indicated below, any and all amendments to the Annual Report on Form 10-K filed with the Securities and Exchange Commission, hereby ratifying and confirming our signatures as they may be signed by our said attorneys to any and all amendments to said Annual Report on Form 10-K. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated on the 23rd day of February, 1999.
Signature Title --------- ----- /s/ Philip J. Purcell Chairman of the Board and Chief Executive ___________________________________________ Officer (Philip J. Purcell) /s/ John J. Mack President, Chief Operating Officer and ___________________________________________ Director (John J. Mack) /s/ Thomas C. Schneider Executive Vice President and Director ___________________________________________ (Thomas C. Schneider) /s/ Richard B. Fisher Chairman of the Executive Committee of ___________________________________________ Board of Directors and Director (Richard B. Fisher) /s/ Robert G. Scott Executive Vice President and Chief ___________________________________________ Financial Officer (Principal Financial (Robert G. Scott) Officer) /s/ Eileen K. Murray Controller (Principal Accounting Officer) ___________________________________________ (Eileen K. Murray)
24
Signature Title --------- ----- /s/ Robert P. Bauman Director ___________________________________________ (Robert P. Bauman) /s/ Edward A. Brennan Director ___________________________________________ (Edward A. Brennan) /s/ Diana D. Brooks Director ___________________________________________ (Diana D. Brooks) /s/ Daniel B. Burke Director ___________________________________________ (Daniel B. Burke) /s/ C. Robert Kidder Director ___________________________________________ (C. Robert Kidder) /s/ Charles F. Knight Director ___________________________________________ (Charles F. Knight) /s/ Miles L. Marsh Director ___________________________________________ (Miles L. Marsh) /s/ Michael A. Miles Director ___________________________________________ (Michael A. Miles) /s/ Allen E. Murray Director ___________________________________________ (Allen E. Murray) /s/ Clarence B. Rogers, Jr. Director ___________________________________________ (Clarence B. Rogers, Jr.) /s/ Laura D'Andrea Tyson Director ___________________________________________ (Laura D'Andrea Tyson)
25 Morgan Stanley Dean Witter & Co. Index to Financial Statements and Financial Statement Schedules Items (14)(a)(1) and (14)(a)(2)
Page ----------------------- Form 10-K Annual Report --------- ------------- Financial Statements - -------------------- Independent Auditors' Report........................... 53 Consolidated Statements of Financial Condition at November 30, 1998 and November 30, 1997............... 54 Consolidated Statements of Income for Fiscal 1998, 1997 and 1996.............................................. 56 Consolidated Statements of Cash Flows for Fiscal 1998, 1997 and 1996......................................... 57 Consolidated Statements of Changes in Shareholders' Equity for Fiscal 1998, 1997 and 1996................. 58 Notes to Consolidated Financial Statements............. 60 Financial Statement Schedules - ----------------------------- Schedule I--Condensed Financial Information of Morgan Stanley Dean Witter & Co. (Parent Company Only)--at November 30, 1998 and November 30, 1997 and for each of the Three Fiscal Years in the Period Ended November 30, 1998.............................................. S-2--S-5
S-1 SCHEDULE I MORGAN STANLEY DEAN WITTER & CO. (Parent Company Only) Condensed Statements of Financial Condition (dollars in millions, except share data)
November 30, November 30, 1998 1997 ------------ ------------ Assets: Cash and cash equivalents.......................... $ 5,652 $ 145 Financial instruments owned........................ 451 632 Advances to subsidiaries........................... 43,686 44,047 Investment in subsidiaries, at equity.............. 14,484 12,650 Other assets....................................... 2,202 1,383 ------- ------- Total assets..................................... $66,475 $58,857 ======= ======= Liabilities and Shareholders' Equity: Short-term borrowings.............................. $21,359 $16,745 Payables to subsidiaries........................... 6,341 4,433 Other liabilities and accrued expenses............. 579 853 Long-term borrowings............................... 24,077 22,870 ------- ------- 52,356 44,901 ------- ------- Commitments and contingencies Shareholders' equity: Preferred stock.................................... 674 876 Common stock ($0.01 par value; 1,750,000,000 shares authorized, 605,842,952 and 602,829,994 shares issued, 565,670,808 and 594,708,971 shares outstanding at November 30, 1998 and November 30, 1997)............................................. 6 6 Paid-in capital.................................... 3,746 3,727 Retained earnings.................................. 12,080 9,330 Employee stock trust............................... 1,913 1,681 Cumulative translation adjustments................. (12) (9) ------- ------- Subtotal......................................... 18,407 15,611 Note receivable related to sale of preferred stock to ESOP........................................... (60) (68) Common stock held in treasury, at cost ($0.01 par value, 40,172,144 and 8,121,023 shares at November 30, 1998 and November 30, 1997)................... (2,702) (250) Common stock issued to employee trust.............. (1,526) (1,337) ------- ------- Total shareholders' equity....................... 14,119 13,956 ------- ------- Total liabilities and shareholders' equity......... $66,475 $58,857 ======= =======
See Notes to Condensed Financial Statements. S-2 SCHEDULE I MORGAN STANLEY DEAN WITTER & CO. (Parent Company Only) Condensed Statements of Income (dollars in millions)
Fiscal 1998 Fiscal 1997 Fiscal 1996 ----------- ----------- ----------- Revenues: Interest and dividends................... $3,098 $4,531 $3,751 Principal transactions................... 60 6 (64) Fiduciary fees........................... 16 23 21 Other.................................... (1) 1 5 ------ ------ ------ Total revenues......................... 3,173 4,561 3,713 ------ ------ ------ Expenses: Interest expense......................... 2,976 4,403 3,624 Non-interest expenses.................... 9 70 5 ------ ------ ------ Total expenses......................... 2,985 4,473 3,629 ------ ------ ------ Income before provision for income taxes and equity in earnings of subsidiaries.. 188 88 84 Provision for income taxes............... 70 44 24 ------ ------ ------ Income before equity in earnings of sub- sidiaries............................... 118 44 60 Equity in earnings of subsidiaries, net of tax.................................. 3,158 2,542 1,920 ------ ------ ------ Net income............................... $3,276 $2,586 $1,980 ====== ====== ====== Preferred stock dividend requirements.... $ 55 $ 66 $ 66 ====== ====== ====== Earnings applicable to common shares..... $3,221 $2,520 $1,914 ====== ====== ======
See Notes to Condensed Financial Statements. S-3 SCHEDULE I MORGAN STANLEY DEAN WITTER & CO. (Parent Company Only) CONDENSED STATEMENTS OF CASH FLOWS (dollars in millions)
Fiscal 1998 Fiscal 1997 Fiscal 1996 ----------- ----------- ----------- Cash flows from operating activities: Net income............................... $ 3,276 $ 2,586 $ 1,980 Adjustments to reconcile net income to net cash provided by operating activities: Non-cash charges (credits) included in net income: Compensation payable in common or preferred stock..................... 334 374 513 Equity in subsidiaries' earnings, net of dividends........................ (1,300) (1,504) (864) Change in assets and liabilities: Financial instruments owned.......... (37) 69 (157) Other assets......................... (589) (724) (335) Other liabilities and accrued expenses............................ (161) 336 113 ------- ------- -------- Net cash provided by operating activities.............................. 1,523 1,137 1,250 ------- ------- -------- Cash flows from investing activities: Investments in and advances to subsidiaries, at equity................. 1,605 1,402 (11,526) Purchase of Miller Anderson & Sherrerd, LLP, net of cash acquired............... -- -- (200) Purchase of Van Kampen American Capital, Inc., net of cash acquired.............. -- -- (986) ------- ------- -------- Net cash provided by (used for) investing activities................................ 1,605 1,402 (12,712) ------- ------- -------- Cash flows from financing activities: Net proceeds from (payments for) short- term borrowings......................... 4,614 (3,779) 6,369 Net proceeds from: Issuance of common stock............... 186 194 156 Issuance of cumulative preferred stock................................. -- -- 540 Issuance of long-term borrowings....... 8,167 6,115 8,561 Payments for: Repurchases of common stock............ (2,925) (124) (1,133) Repayments of long-term borrowings..... (6,944) (3,912) (2,629) Redemption of cumulative preferred stock................................. (200) (345) (138) Cash dividends......................... (519) (416) (313) ------- ------- -------- Net cash provided by (used for) financing activities.............................. 2,379 (2,267) 11,413 ------- ------- -------- Dean Witter, Discover & Co.'s (Parent Company Only) net cash activity for the month of December 1996.................. -- (139) -- ------- ------- -------- Net increase (decrease) in cash and cash equivalents............................. 5,507 133 (49) Cash and cash equivalents, at beginning of period............................... 145 12 61 ------- ------- -------- Cash and cash equivalents, at end of period.................................. $ 5,652 $ 145 $ 12 ======= ======= ========
See Notes to Condensed Financial Statements. S-4 MORGAN STANLEY DEAN WITTER & CO. (Parent Company Only) NOTES TO CONDENSED FINANCIAL STATEMENTS 1. Introduction and Basis of Presentation The Merger On May 31, 1997, Morgan Stanley Group Inc. ("Morgan Stanley") was merged with and into Dean Witter, Discover & Co. ("Dean Witter Discover") (the "Merger"). At that time, Dean Witter Discover changed its corporate name to Morgan Stanley, Dean Witter, Discover & Co. ("MSDWD"). In conjunction with the Merger, MSDWD issued 260,861,078 shares of its common stock, as each share of Morgan Stanley common stock then outstanding was converted into 1.65 shares of MSDWD's common stock. In addition, each share of Morgan Stanley preferred stock was converted into one share of a corresponding series of preferred stock of MSDWD. The Merger was treated as a tax-free exchange. On March 24, 1998, MSDWD changed its corporate name to Morgan Stanley Dean Witter & Co. (the "Company"). Basis of Financial Information The accompanying condensed financial statements (the "Parent Company Financial Statements") give retroactive effect to the Merger, which was accounted for as a pooling of interests. The pooling of interests method of accounting requires the restatement of all periods presented as if Dean Witter Discover and Morgan Stanley had always been combined. The Parent Company Financial Statements, including the notes thereto, should be read in conjunction with the consolidated financial statements of the Company and the notes thereto found on pages 54 to 88 of the Company's Annual Report to Shareholders which is incorporated by reference in this Form 10-K. Prior to the consummation of the Merger, Dean Witter Discover's year ended on December 31 and Morgan Stanley's fiscal year ended on November 30. Subsequent to the Merger, the Company adopted a fiscal year-end of November 30. In recording the pooling of interests combination, Dean Witter Discover's financial statements for the year ended December 31, 1996 were combined with Morgan Stanley's financial statements for the fiscal year ended November 30, 1996 (on a combined basis, "fiscal 1996"). The Company's results for the twelve months ended November 30, 1998 ("fiscal 1998") and November 30, 1997 ("fiscal 1997") reflect the change in fiscal year-end. Fiscal 1997 includes the results of Dean Witter Discover that were restated to conform with the new fiscal year-end date. The Company's results of operations for fiscal 1997 and fiscal 1996 include the month of December 1996 for Dean Witter Discover. 2. Transactions with Subsidiaries The Company has transactions with its subsidiaries determined on an agreed- upon basis and has guaranteed certain unsecured lines of credit and contractual obligations of certain of its subsidiaries. The Company received cash dividends from its consolidated subsidiaries totaling $1,858 million, $1,088 million and $1,056 million in fiscal 1998, 1997 and 1996, respectively. S-5 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Shareholders of Morgan Stanley Dean Witter & Co.: We have audited the consolidated financial statements of Morgan Stanley Dean Witter & Co. and subsidiaries as of fiscal years ended November 30, 1998 and 1997, and for each of the three fiscal years in the period ended November 30, 1998, and have issued our report thereon dated January 22, 1999; such consolidated financial statements and report are included in your 1998 Annual Report to Shareholders and are incorporated herein by reference. Our audits also included Schedule I listed in the Index to Financial Statements and Financial Statement Schedules. These financial statement schedules are the responsibility of the Company's management. Our responsibility is to express an opinion based on our audits. The consolidated financial statements give retroactive effect to the merger of Morgan Stanley Group Inc. and Dean Witter, Discover & Co., which has been accounted for as a pooling of interests as described in Note 1 to the consolidated financial statements. We did not audit the condensed financial statement schedules of Morgan Stanley Group Inc. (Parent Company Only) for the fiscal year ended November 30, 1996, which statements reflect total revenues of $2,997 million for the fiscal year then ended. Those financial statement schedules were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for Morgan Stanley Group Inc. (Parent Company Only) for such period, is based solely on the report of such other auditors. In our opinion, based on our audits and the report of the other auditors, the condensed financial statement schedules for Morgan Stanley Dean Witter & Co. (Parent Company Only), when considered in relation to the basic consolidated financial statements taken as a whole, present fairly in all material respects the information set forth herein. /s/ DELOITTE & TOUCHE LLP New York, New York January 22, 1999 S-6 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 EXHIBITS TO FORM 10-K For the fiscal year ended November 30, 1998 Commission File No. 1-11758 Morgan Stanley Dean Witter & Co. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- EXHIBIT INDEX Certain of the following exhibits, as indicated parenthetically, were previously filed as exhibits to registration statements filed by the Registrant or its predecessor companies under the Securities Act of 1933, as amended, or to reports or registration statements filed by the Registrant or its predecessor companies under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), respectively, and are hereby incorporated by reference to such statements or reports. The Exchange Act file number of the Company is 1-11758. Prior to the Merger, the Exchange Act file number of Morgan Stanley Group Inc. ("Morgan Stanley") was 1-9085.
Sequentially Exhibit Numbered No. Description Pages ------- ----------- ------------ 3.1* Amended and Restated Certificate of Incorporation of the Company, as amended to date. 3.2* By-Laws of the Company, as amended to date. 4.1 Rights Agreement dated as of April 25, 1995 between the Company and Chemical Bank, as rights agent, which includes as Exhibit B thereto the Form of Rights Certificate (Exhibit 1 to the Company's Registration Statement on Form 8-A dated April 25, 1995). 4.2 Amendment dated as of February 4, 1997 to the Rights Agreement between the Company and The Chase Manhattan Bank (as successor to Chemical Bank), as rights agent (Exhibit 4.1 to the Company's Current Report on Form 8- K dated February 4, 1997). 4.3 Stockholders' Agreement dated February 14, 1986, as amended (Exhibit 4.2 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 4.4 Form of Consent and Amendment dated as of January 31, 1996 between the Company and certain signatories to the Stockholders' Agreement referred to in Exhibit 4.3 (Exhibit 4.3 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended November 30, 1995). 4.5 Indenture dated as of February 24, 1993 between the Company and The First National Bank of Chicago, as trustee (Exhibit 4 to the Company's Registration Statement on Form S-3 (No. 33-57202)). 4.6 Senior Indenture dated as of April 15, 1989 between the Company and The Chase Manhattan Bank (as successor to Chemical Bank), as trustee (Exhibit 4.12 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 4.7 First Supplemental Senior Indenture dated as of May 15, 1991 between the Company and The Chase Manhattan Bank (as successor to Chemical Bank), as trustee (Exhibit 4.13 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 4.8 Second Supplemental Senior Indenture dated as of April 15, 1996 between the Company and The Chase Manhattan Bank (as successor to Chemical Bank), as trustee (Exhibit 4-b to Morgan Stanley's Current Report on Form 8-K dated May 6, 1996). 4.9 Third Supplemental Senior Indenture dated as of June 1, 1997 between the Company and The Chase Manhattan Bank, as trustee (Exhibit 4-h to the Company's Registration Statement on Form S-3 (No. 333-27919)). 4.10 Fourth Supplemental Senior Indenture dated as of March 1, 1998 between the Company and The Chase Manhattan Bank (as successor to Chemical Bank), as trustee (Exhibit 4-i to the Company's Registration Statement on Form S-3 (No. 333-46935)). 4.11 Subordinated Indenture dated as of April 15, 1989 between the Company and The First National Bank of Chicago, as trustee (Exhibit 4.10 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 4.12 First Supplemental Subordinated Indenture dated as of May 15, 1991 between the Company and The First National Bank of Chicago, as trustee (Exhibit 4.11 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993).
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Sequentially Exhibit Numbered No. Description Pages ------- ----------- ------------ 4.13 Second Supplemental Subordinated Indenture dated as of April 15, 1996 between the Company and The First National Bank of Chicago, as trustee (Exhibit 4-c to Morgan Stanley's Current Report on Form 8-K dated May 6, 1996). 4.14 Third Supplemental Subordinated Indenture dated as of June 1, 1997 between the Company and The First National Bank of Chicago, as trustee (Exhibit 4-l to the Company's Registration Statement on Form S-3 (No. 333- 27919)). 4.15 Fourth Supplemental Subordinated Indenture dated as of March 1, 1998 between the Company and The First National Bank of Chicago, as trustee (Exhibit 4-n to the Company's Registration Statement on Form S-3 (No. 333-46935)). 4.16 Subordinated Indenture dated as of November 15, 1993 among Morgan Stanley Finance plc, the Company, as guarantor, and The Chase Manhattan Bank (as successor to Chemical Bank), as trustee (Exhibit 4.1 to Morgan Stanley's Current Report on Form 8-K dated November 19, 1993). 4.17 First Supplemental Subordinated Indenture dated as of June 1, 1997 among Morgan Stanley Finance plc, the Company, as guarantor, and The Chase Manhattan Bank, as trustee (Exhibit 4-f to the Company's Registration Statement on Form S-3 (No. 333-27881)). 4.18 Voting Agreement dated March 5, 1991 among the Company, State Street Bank and Trust Company and Other Persons Signing Similar Voting Agreements (Exhibit 4.14 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 4.19 Instruments defining the Rights of Security Holders, Including Indentures--Except as set forth in Exhibits 4.1 through 4.18 above, the instruments defining the rights of holders of long-term debt securities of the Company and its subsidiaries are omitted pursuant to Section (b)(4)(iii) of Item 601 of regulation S-K. The Company hereby agrees to furnish copies of these instruments to the Securities and Exchange Commission upon request. 10.1 Amended Agreement for Systems Operations Services dated as of January 1, 1996 by and between the Company and Advantis, a New York general partnership (Exhibit 10.4 to the Company's Annual Report on Form 10-K for the year ended December 31, 1996; confidential treatment has been granted for portions of this exhibit). 10.2 Form of Pooling and Servicing Agreement used in connection with the Discover Card Trust 1993B (Exhibit 4.2 to the Company's Registration Statement on Form S-1 (No. 33-57302)). 10.3 Pooling and Servicing Agreement dated as of October 1, 1993 between Greenwood Trust Company as master servicer, servicer and seller and U.S. Bank National Association (formerly First Bank National Association, successor trustee to Bank of America Illinois, formerly, Continental Bank, National Association), as trustee (Exhibit 4.1 to the Discover Card Master Trust I Registration Statement on Form S-1 (No. 33-71502)). 10.4 First Amendment to Pooling and Servicing Agreement dated as of August 15, 1994 between Greenwood Trust Company, as master servicer, servicer and seller and U.S. Bank National Association (formerly First Bank National Association, successor trustee to Bank of America Illinois, formerly, Continental Bank, National Association), as trustee (Exhibit 4.4 to the Discover Card Master Trust I Current Report on Form 8-K dated August 1, 1995).
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Sequentially Exhibit Numbered No. Description Pages ------- ----------- ------------ 10.5 Second Amendment to Pooling and Servicing Agreement dated as of February 29, 1996 between Greenwood Trust Company, as master servicer, servicer and seller and U.S. Bank National Association (formerly First Bank National Association, successor trustee to Bank of America Illinois, formerly, Continental Bank, National Association), as trustee (Exhibit 4.4 to the Discover Card Master Trust I Current Report on Form 8-K dated April 30, 1996). 10.6 Third Amendment to Pooling and Servicing Agreement dated as of March 30, 1998 between Greenwood Trust Company, as master servicer, servicer and seller and U.S. Bank National Association (formerly First Bank National Association, successor trustee to Bank of America Illinois, formerly, Continental Bank, National Association), as trustee (Exhibit 4.1(d) to the Discover Card Master Trust I Registration Statement on Form 8-A dated April 9, 1998). 10.7 Fourth Amendment to Pooling and Servicing Agreement dated as of November 30, 1998 between Greenwood Trust Company, as master servicer, servicer and seller and U.S. Bank National Association (formerly First Bank National Association, successor trustee to Bank of America Illinois, formerly, Continental Bank, National Association), as trustee (Exhibit 4.1 to the Discover Card Master Trust I Current Report on Form 8-K dated November 30, 1998). 10.8 Trust Agreement dated March 5, 1991 between the Company and State Street Bank and Trust Company (Exhibit 10.15 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 10.9 First Amendment to Trust Agreement dated April 3, 1996 between the Company and State Street Bank and Trust Company (Exhibit 10.14 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended November 30, 1996). 10.10 Amended and Restated Trust Agreement of MSDWD Capital Trust I dated as of March 12, 1998 among the Company, as depositor, The Bank of New York, as property trustee, The Bank of New York (Delaware) as Delaware trustee, and the administrators named thereon (Exhibit 4.3 to the Company's Quarterly Report on Form 10-Q for the quarter ended February 28, 1998). 10.11+ Dean Witter Reynolds Inc. Supplemental Pension Plan (formerly known as the Dean Witter Reynolds Financial Services Inc. Supplemental Pension Plan for Executives) (amended and restated as of December 14, 1993) (Exhibit 10.32 to the Company's Annual Report on Form 10-K for the year ended December 31, 1993). 10.12+ Omnibus Equity Incentive Plan (Exhibit 4.1 to the Company's Registration Statement on Form S-8 (No. 33- 63024)). 10.13+ Employees Replacement Stock Plan (Exhibit 4.2 to the Company's Registration Statement on Form S-8 (No. 33- 63024)). 10.14+ Amendment to the Employees Replacement Stock Plan (adopted June 18, 1993) (Exhibit 10.1 to the Company's Current Report on Form 8-K dated November 18, 1993). 10.15+ Dean Witter START Plan (Saving Today Affords Retirement Tomorrow) (amended and restated) (Exhibit 10.9 to the Company's Annual Report on Form 10-K for the year ended December 31, 1996). 10.16+ Amendment to Dean Witter START Plan (Saving Today Affords Retirement Tomorrow) (Exhibit 10.11 to the Company's Annual Report on Form 10-K for the year ended November 30, 1997).
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Sequentially Exhibit Numbered No. Description Pages ------- ----------- ------------ 10.17+ Amendment to Dean Witter START Plan (Saving Today Affords Retirement Tomorrow) (Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the quarter ended May 31, 1998). 10.18+ Amendment to Dean Witter START Plan (Saving Today Affords Retirement Tomorrow) (Exhibit 10.3 to the Company's Quarterly Report on Form 10-Q for the quarter ended May 31, 1998). 10.19*+ Amendment to Dean Witter START Plan (Saving Today Affords Retirement Tomorrow) (adopted November 3, 1998). 10.20+ 1993 Stock Plan for Non-Employee Directors (Exhibit 4.3 to the Company's Registration Statement on Form S-8 (No. 33-63024)). 10.21+ Amendment to the 1993 Stock Plan for Non-Employee Directors (Exhibit 10.37 to the Company's Annual Report on Form 10-K for the year ended December 31, 1993). 10.22+ Transferred Executives Pension Supplement (amended and restated) (Exhibit 10 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1995). 10.23+ 1994 Omnibus Equity Plan (Exhibit 10.52 to the Company's Annual Report on Form 10-K for the year ended December 31, 1993). 10.24+ Tax Deferred Equity Participation Plan (amended and restated as of June 26, 1998) (Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended May 31, 1998). 10.25+ Key Executive Employment Plan, as amended April 19, 1996 (Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1996). 10.26+ Directors' Equity Capital Accumulation Plan (Exhibit 10.19 to the Company's Annual Report on Form 10-K for the year ended November 30, 1997). 10.27+ Employees Equity Accumulation Plan (Exhibit 10.34 to the Company's Annual Report on Form 10-K for the year ended December 31, 1996). 10.28*+ Employee Stock Purchase Plan, as amended to date. 10.29+ Form of Agreement under the Morgan Stanley & Co. Incorporated Owners' and Select Earners' Plan (Exhibit 10.1 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 10.30+ Form of Agreement under the Officers' and Select Earners' Plan (Exhibit 10.2 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 10.31*+ Morgan Stanley & Co. Incorporated Excess Benefit Plan, as amended. 10.32*+ Supplemental Executive Retirement Plan, as amended. 10.33+ Performance Unit Plan (amended and restated) (Exhibit 10.8 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 10.34+ 1988 Equity Incentive Compensation Plan, as amended (Exhibit 10.12 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 10.35+ 1995 Equity Incentive Compensation Plan (Annex A to Morgan Stanley's Proxy Statement for its 1996 Annual Meeting of Stockholders). 10.36+ 1988 Capital Accumulation Plan, as amended (Exhibit 10.13 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993).
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Sequentially Exhibit Numbered No. Description Pages ------- ----------- ------------ 10.37+ Form of Deferred Compensation Agreement under the Pre- Tax Incentive Program (Exhibit 10.12 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1994). 10.38+ Form of Deferred Compensation Agreement under the Pre- Tax Incentive Program 2 (Exhibit 10.12 to Morgan Stanley's Annual Report for the fiscal year ended November 30, 1996). 10.39+ Trust Deed and Rules of the Morgan Stanley International Profit Sharing Scheme dated November 12, 1987 of the Company, Morgan Stanley International and Noble Lowndes Settlement Trustees Limited (Exhibit 10.11 to Morgan Stanley's Annual Report on Form 10-K for the fiscal year ended January 31, 1993). 10.40*+ Trust Deed and Rules of the Morgan Stanley UK Group Profit Sharing Plan dated November 3, 1997 of the Company, Morgan Stanley UK Group, Morgan Stanley International Incorporated and Noble Lowndes Settlement Trustees Limited. 10.41*+ Amendment to Trust Deed and Rules of Morgan Stanley UK Group Profit Sharing Plan (adopted September 25, 1998). 10.42*+ Amendments to the Rules of the Morgan Stanley UK Group Profit Sharing Plan (adopted October 30, 1998). 10.43 Amended and Restated Agreement and Plan of Merger dated as of April 10, 1997 (Annex I to the Joint Proxy Statement/Prospectus included as part of the Company's Registration Statement on Form S-4 (No. 333-25003)). 11* Statement Re: Computation of Earnings Per Common Share. 12* Statement Re: Computation of Ratio of Earnings to Fixed Charges and Computation of Earnings to Fixed Charges and Preferred Stock Dividends. 13* The following portions of the Company's 1998 Annual Report to Shareholders, which are incorporated by reference in this Annual Report on Form 10-K, are filed as an Exhibit: 13.1 "Quarterly Results" (page 88). 13.2 "Selected Financial Data" (page 6). 13.3 "Management's Discussion and Analysis of Financial Condition and Results of Operations" (pages 23 to 47). 13.4 "Risk Management" (pages 47 to 52). 13.5 Consolidated Financial Statements of the Company and its subsidiaries, together with the Notes thereto and the Independent Auditor's Report thereon (pages 53 to 88). 21* Subsidiaries of the Company. 23.1* Consent of Deloitte & Touche LLP. 23.2* Consent of Ernst & Young LLP. 23.3* Consent of Deloitte & Touche LLP with respect to the Combined Financial Statements for the fiscal year ended December 31, 1998 for the Morgan Stanley U.K. Group Profit Sharing Scheme and Plan. 24 Powers of Attorney (included on signature page).
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Sequentially Exhibit Numbered No. Description Pages ------- ----------- ------------ 27* Financial Data Schedule. 99.1* Combined Financial Statements for the years ended December 31, 1998 and 1997 for the Morgan Stanley U.K. Group Profit Sharing Scheme and Plan. 99.2* Report of Ernst & Young LLP.
- -------- * Filed herewith. + Management contract or compensatory plan or arrangement required to be filed as an exhibit to this Form 10-K pursuant to Item 14(c). E-6 [LOGO] Printed on Recycled Paper EX-3.1 2 AMENDED CERTIFICATE OF INCORPORATION EXHIBIT 3.1 AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF MORGAN STANLEY, DEAN WITTER, DISCOVER & CO. MAY 31, 1997 ARTICLE I NAME ---- The name of the corporation (which is hereinafter referred to as the "Corporation") is: Morgan Stanley, Dean Witter, Discover & Co. ARTICLE II ADDRESS ------- The address of the Corporation's registered office in the State of Delaware is The Corporation Trust Center, 1209 Orange Street in the City of Wilmington, County of New Castle. The name of the Corporation's registered agent at such address is The Corporation Trust Company. ARTICLE III PURPOSE ------- The purpose of the Corporation shall be to engage in any lawful act or activity for which corporations may be organized and incorporated under the General Corporation Law of the State of Delaware. ARTICLE IV CAPITALIZATION -------------- The total number of shares of stock which the Corporation shall have authority to issue is one billion seven hundred eighty million (1,780,000,000), consisting of thirty million (30,000,000) shares of Preferred Stock, par value $0.01 per share (hereinafter referred to as "Preferred Stock"), and one billion seven hundred fifty million (1,750,000,000) shares of Common Stock, par value $0.01 per share (hereinafter referred to as "Common Stock"). The Preferred Stock may be issued from time to time in one or more series. The Board of Directors is hereby authorized to provide for the issuance of shares of Preferred Stock in series and, by filing a certificate pursuant to the applicable law of the State of Delaware (hereinafter referred to as a "Preferred Stock Designation"), to establish from time to time the number of shares to be included in each such series, and to fix the designation, powers, preferences and rights of the shares of each such series and the qualifications, limitations and restrictions thereof. The authority of the Board of Directors with respect to each series shall include, but not be limited to, determination of the following: (1) The designation of the series, which may be by distinguishing number, letter or title. (2) The number of shares of the series, which number the Board of Directors may thereafter (except where otherwise provided in the Preferred Stock Designation) increase or decrease (but not below the number of shares thereof then outstanding). (3) The amounts payable on, and the preferences, if any, of shares of the series in respect of dividends, and whether such dividends, if any, shall be cumulative or noncumulative. (4) Dates at which dividends, if any, shall be payable. (5) The redemption rights and price or prices, if any, for shares of the series. (6) The terms and amount of any sinking fund provided for the purchase or redemption of shares of the series. (7) The amounts payable on, and the preferences, if any, of shares of the series in the event of any voluntary or involuntary liquidation, dissolution or winding up of the affairs of the Corporation. (8) Whether the shares of the series shall be convertible into or exchangeable for shares of any other class or series, or any other security, of the Corporation or any other corporation, and, if so, the specification of such other class or series of such other security, the conversion or exchange price or prices or rate or rates, any adjustments thereof, the date or dates at which such shares shall be convertible or exchangeable and all other terms and conditions upon which such conversion or exchange may be made. (9) Restrictions on the issuance of shares of the same series or of any other class or series. (10) The voting rights, if any, of the holders of shares of the series. The Common Stock shall be subject to the express terms of the Preferred Stock and any series thereof. Except as may be provided in this Certificate of Incorporation or in a Preferred Stock Designation or by applicable law, the holders of shares of Common Stock shall be entitled to one vote for each such share upon all questions presented to the stockholders, the Common Stock shall have the exclusive right to vote for the election of directors and for all other purposes, and holders of Preferred Stock shall not be entitled to receive notice of any meeting of stockholders at which they are not entitled to vote. The holders of the shares of Common Stock shall at all times, except as otherwise provided in this Certificate of Incorporation or as required by law, vote as one class, together with the holders of any other class or series of stock of the Corporation accorded such general voting rights. The Corporation shall be entitled to treat the person in whose name any share of its stock is registered as the owner thereof for all purposes and shall not be bound to recognize any 2 equitable or other claim to, or interest in, such share on the part of any other person, whether or not the Corporation shall have notice thereof, except as expressly provided by applicable law. ARTICLE V BY-LAWS ------- In furtherance of, and not in limitation of, the powers conferred by law, the Board of Directors is expressly authorized and empowered: (1) to adopt, amend or repeal the Bylaws of the Corporation; provided, however, that the Bylaws adopted by the Board of Directors under the powers hereby conferred may be amended or repealed by the Board of Directors or by the stockholders having voting power with respect thereto, provided further that, in the case of amendments by stockholders, the affirmative vote of the holders of at least 80 percent of the voting power of the then outstanding Voting Stock, voting together as a single class, shall be required in order for the stockholders to alter, amend or repeal any provision of the Bylaws or to adopt any additional Bylaw; and (2) from time to time to determine whether and to what extent, and at what times and places, and under what conditions and regulations, the accounts and books of the Corporation, or any of them, shall be open to inspection of stockholders; and, except as so determined or as expressly provided in this Certificate of Incorporation or in any Preferred Stock Designation, no stockholder shall have any right to inspect any account, book or document of the Corporation other than such rights as may be conferred by applicable law. The Corporation may in its Bylaws confer powers upon the Board of Directors in addition to the foregoing and in addition to the powers and authorities expressly conferred upon the Board of Directors by applicable law. ARTICLE VI ACTION OF STOCKHOLDERS ---------------------- Subject to the rights of the holders of any series of Preferred Stock or any other series or class of stock as set forth in this Certificate of Incorporation, any action required or permitted to be taken by the stockholders of the Corporation must be effected at a duly called annual or special meeting of stockholders of the Corporation and may not be effected by any consent in writing in lieu of a meeting of such stockholders. ARTICLE VII BOARD OF DIRECTORS ------------------ Subject to the rights of the holders of any series of Preferred Stock, or any other series or class of stock as set forth in this Certificate of Incorporation, to elect additional directors under specified circumstances, the number of directors of the Corporation shall be fixed in 3 such manner as prescribed by the Bylaws of the Corporation and may be increased or decreased from time to time in such manner as prescribed by the Bylaws. Unless and except to the extent that the Bylaws of the Corporation shall so require, the election of directors of the Corporation need not be by written ballot. The directors, other than those who may be elected by the holders of any series of Preferred Stock or any other series or class of stock as set forth in this Certificate of Incorporation, shall be divided into three classes, initially consisting of 6, 4 and 4 directors. One class of directors initially consisting of 4 directors shall be initially elected for a term expiring at the annual meeting of stockholders to be held in 1998, another class initially consisting of 4 directors shall be initially elected for a term expiring at the annual meeting of stockholders to be held in 1999, and another class initially consisting of 6 directors shall be initially elected for a term expiring at the annual meeting of stockholders to be held in 2000. Members of each class shall hold office until their successors are elected and qualified. At each annual meeting of the stockholders of the Corporation commencing with the 1998 annual meeting, directors elected to succeed those directors whose terms then expire shall be elected by a plurality vote of all votes cast at such meeting to hold office for a term expiring at the third succeeding annual meeting of stockholders after their election, with each director to hold office until his or her successor shall have been duly elected and qualified. Subject to the rights of the holders of any series of Preferred Stock, or any other series or class of stock as set forth in this Certificate of Incorporation, to elect additional directors under specified circumstances, vacancies resulting from death, resignation, retirement, disqualification, removal from office or other cause, and newly created directorships resulting from any increase in the authorized number of directors, may be filled only by the affirmative vote of a majority of the remaining directors, though less than a quorum of the Board of Directors, and directors so chosen shall hold office for a term expiring at the annual meeting of stockholders at which the term of office of the class to which they have been elected expires and until such director's successor shall have been duly elected and qualified. No decrease in the number of authorized directors constituting the Board of Directors shall shorten the term of any incumbent director. Subject to the rights of the holders of any series of Preferred Stock, or any other series or class of stock as set forth in this Certificate of Incorporation, to elect additional directors under specified circumstances, any director may be removed from office at any time, but only for cause and by the affirmative vote of the holders of at least 80 percent of the voting power of the then outstanding Voting Stock, voting together as a single class. ARTICLE VIII INDEMNIFICATION --------------- Each person who is or was a director or officer of the Corporation shall be indemnified by the Corporation to the fullest extent permitted from time to time by the General Corporation Law of the State of Delaware as the same exists or may hereafter be amended (but, if permitted by applicable law, in the case of any such amendment, only to the extent that such amendment permits the Corporation to provide broader indemnification rights than said law permitted the Corporation to provide prior to such amendment) or any other applicable laws as presently or hereafter in effect. The Corporation may, by action of the 4 Board of Directors, provide indemnification to employees and agents (other than a director or officer) of the Corporation, to directors, officers, employees or agents of a subsidiary, and to each person serving as a director, officer, partner, member, employee or agent of another corporation, partnership, limited liability company, joint venture, trust or other enterprise, at the request of the Corporation, with the same scope and effect as the foregoing indemnification of directors and officers of the Corporation. The Corporation shall be required to indemnify any person seeking indemnification in connection with a proceeding (or part thereof) initiated by such person only if such proceeding (or part thereof) was authorized by the Board of Directors or is a proceeding to enforce such person's claim to indemnification pursuant to the rights granted by this Certificate of Incorporation or otherwise by the Corporation. Without limiting the generality or the effect of the foregoing, the Corporation may enter into one or more agreements with any person which provide for indemnification greater or different than that provided in this Article VIII. Any amendment or repeal of this Article VIII shall not adversely affect any right or protection existing hereunder in respect of any act or omission occurring prior to such amendment or repeal. ARTICLE IX DIRECTORS' LIABILITY -------------------- A director of the Corporation shall not be personally liable to the Corporation or its stockholders for monetary damages for breach of fiduciary duty as a director, except for liability (1) for any breach of the director's duty of loyalty to the Corporation or its stockholders, (2) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law, (3) under Section 174 of the General Corporation Law of the State of Delaware, or (4) for any transaction from which the director derived an improper personal benefit. Any amendment or repeal of this Article IX shall not adversely affect any right or protection of a director of the Corporation existing hereunder in respect of any act or omission occurring prior to such amendment or repeal. If the General Corporation Law of the State of Delaware shall be amended, to authorize corporate action further eliminating or limiting the liability of directors, then a director of the Corporation, in addition to the circumstances in which he is not liable immediately prior to such amendment, shall be free of liability to the fullest extent permitted by the General Corporation Law of the State of Delaware, as so amended. ARTICLE X AMENDMENTS ---------- Except as may be expressly provided in this Certificate of Incorporation, the Corporation reserves the right at any time and from time to time to amend, alter, change or repeal any provision contained in this Certificate of Incorporation or a Preferred Stock Designation, and any other provisions authorized by the laws of the State of Delaware at the time in force may be added or inserted, in the manner now or hereafter prescribed herein or by applicable law, and all rights, preferences and privileges of whatsoever nature conferred upon stockholders, directors or any other persons whomsoever by and pursuant to this Certificate of Incorporation in its present form or as hereafter amended are granted subject to the right reserved in this Article X; provided, however, that any amendment or repeal of Article VIII or Article IX of this Certificate of Incorporation shall not adversely affect any right or 5 protection existing thereunder in respect of any act or omission occurring prior to such amendment or repeal, and provided further that no Preferred Stock Designation shall be amended after the issuance of any shares of the series of Preferred Stock created thereby, except in accordance with the terms of such Preferred Stock Designation and the requirements of applicable law. Notwithstanding anything contained in this Certificate of Incorporation to the contrary, and in addition to approval by the Board of Directors, the affirmative vote of the holders of at least 80 percent of the voting power of the then outstanding Voting Stock, voting together as a single class, shall be required to amend, repeal or adopt any provision inconsistent with paragraph (1) of Article V, Article VI, Article VII or this second paragraph of this Article X. For the purposes of this Certificate of Incorporation, "Voting Stock" shall mean the outstanding shares of capital stock of the Corporation entitled to vote generally in the election of directors. 6 CERTIFICATE OF DESIGNATION OF PREFERENCES AND RIGHTS OF THE ESOP CONVERTIBLE PREFERRED STOCK OF DEAN WITTER, DISCOVER & CO. ------------------------------ Pursuant to Section 151 of the General Corporation Law of the State of Delaware ------------------------------ The undersigned DOES HEREBY CERTIFY: A. The following resolution was duly adopted by the Board of Directors (the "Board") of Dean Witter, Discover & Co., a Delaware corporation (hereinafter called the "Corporation"), by unanimous vote thereof at a meeting on May 28, 1997: RESOLVED that, pursuant to authority expressly granted to and vested in the Board by provisions of the Amended and Restated Certificate of Incorporation of the Corporation (the "Certificate of Incorporation"), the issuance of a series of Preferred Stock, par value $0.01 per share (the "Preferred Stock"), which shall consist of 3,902,438 of the shares of Preferred Stock which the Corporation has authority to issue, is authorized, and the Board hereby fixes the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, of the shares of such series (in addition to the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, set forth in the Certificate of Incorporation which may be applicable to the Preferred Stock) as follows: 1. Designation and Issuance. ------------------------- (A) The shares of such series shall be designated ESOP CONVERTIBLE PREFERRED STOCK (hereinafter referred to as the "ESOP Preferred Stock") and such series shall consist of 7 3,902,438 shares. Such number of shares may be increased or decreased from time to time by resolution of the Committee (as hereinafter defined), but no such increase shall result in such series consisting of more than 4,000,000 shares, and no decrease shall reduce the number of shares of ESOP Preferred Stock to a number less than that of shares of ESOP Preferred Stock then outstanding plus the number of shares issuable upon exercise of any rights, options or warrants or upon conversion of outstanding securities issued by the Corporation relating to such shares. Notwithstanding the preceding sentence, the Board may increase the number of shares of ESOP Preferred Stock to a number greater than 4,000,000 shares, or may decrease the number of such shares, subject only to any limitations imposed by applicable law or the Certificate of Incorporation. Any shares of ESOP Preferred Stock redeemed or purchased by the Corporation shall remain issued and outstanding for all purposes (except that as long as such shares are held by the Corporation or its nominee, no dividends shall be paid on such shares and they shall neither be entitled to vote nor counted for quorum purposes) and may thereafter be transferred by the Corporation from time to time to a trustee or trustees referred to in paragraph (B) of this Section 1 (whereupon the voting and dividend rights of such shares shall be restored); provided that the Corporation may provide at the time of or at any time after such redemption or purchase that any such shares then held by the Corporation or its nominee shall be retired, and such shares shall then be restored to the status of authorized but unissued shares of Preferred Stock of the Corporation. For the purposes of this Certificate of Designation, the "Committee" shall mean any committee of the Board to whom the Board, pursuant to Section 141(c) of the General Corporation Law of the State of Delaware, delegates authority to perform the functions of the Board set forth in this Certificate of Designation. (B) Shares of ESOP Preferred Stock shall be issued only to a trustee or trustees acting on behalf of an employee stock ownership trust or plan or other employee benefit plan (a "Plan") of the Corporation. In the event of any sale, transfer or other disposition (hereinafter a "transfer") of shares of ESOP Preferred Stock to any person (including, without limitation, any participant in the Plan) other than (x) any trustee or trustees of the Plan, (y) any pledgee of such shares acquiring such shares as security for any loan or loans made to the Plan or to any trustee or trustees acting on behalf of the Plan or (z) the Corporation, the shares of ESOP Preferred Stock so transferred, upon such transfer and without any further 8 action by the Corporation or the holder, shall be automatically converted into shares of Common Stock at the Conversion Price (as hereinafter defined) and on the terms otherwise provided for the conversion of shares of ESOP Preferred Stock into shares of Common Stock pursuant to Section 5 hereof and no such transferee shall have any of the voting powers, preferences and relative, participating, optional or special rights ascribed to shares of ESOP Preferred Stock hereunder, but, rather, only the powers and rights pertaining to the Common Stock into which such shares of ESOP Preferred Stock shall be so converted; provided, however, that in the event of a foreclosure or other realization upon shares of ESOP Preferred Stock pledged as security for any loan or loans made to the Plan or to the trustee or the trustees acting on behalf of the Plan, the pledged shares so foreclosed or otherwise realized upon shall be converted automatically into shares of Common Stock at the Conversion Price and on the terms otherwise provided for conversions of shares of ESOP Preferred Stock into shares of Common Stock pursuant to Section 5 hereof. In the event of such a conversion, such transferee shall be treated for all purposes as the record holder of the shares of Common Stock into which the ESOP Preferred Stock shall have been converted as of the date of such conversion. Certificates representing shares of ESOP Preferred Stock shall be legended to reflect such restrictions on transfer. Notwithstanding the foregoing Provisions of this Section 1, shares of ESOP Preferred Stock (i) may be converted into shares of Common Stock as provided by Section 5 hereof and the shares of Common Stock issued upon such conversion may be transferred by the holder thereof as permitted by law and (ii) be redeemable by the Corporation upon the terms and conditions provided by Sections 6, 7 and 8 hereof. 2. Dividends and Distributions. ---------------------------- (A) (1) Subject to the provisions for adjustment hereinafter set forth, the holders of shares of ESOP Preferred Stock (other than the Corporation or its nominee) shall be entitled to receive, when and as declared by the Board out of funds legally available therefor, cash dividends ("Preferred Dividends") payable in accordance with either of the following elections, as the Board shall elect from time to time in its absolute discretion: (i) in an amount per share initially equal to $2.78 per share per annum, and no more (such amount, as adjusted from time to time pursuant to the terms hereof, including during any period in which a 9 Semiannual Payment Election (as defined below) shall be in effect, the "Annual Dividend Rate"), payable annually in arrears on December 31 (or such later date not more than four business days thereafter as the Board may from time to time elect in its absolute discretion; such date, the "Annual Payment Date") of each year (such election, the "Annual Payment Election") beginning on the Annual Payment Date occurring immediately after the effective date of such Annual Payment Election; or (ii) in an amount per share initially equal to $2.78 per share per annum, and no more (such amount, as adjusted from time to time pursuant to the terms hereof, including during any period in which an Annual Payment Election is in effect, the "Semiannual Dividend Rate"; and the Semiannual Dividend Rate and the Annual Dividend Rate, as in effect at any time, are each hereinafter referred to as the "Preferred Dividend Rate"), semiannually in arrears, one-half on each June 30 and December 31 (or, in either case, such later date not more than four business days after either of such dates as the Board may from time to time elect in its absolute discretion; such dates, the "Semiannual Payment Dates") of each year (such election, the "Semiannual Payment Election"), beginning on the Semiannual Payment Date occurring immediately after the effective date of such Semiannual Payment Election; provided that any Semiannual Payment Election shall be made effective only during the period beginning on January 5 and ending on June 29 in each year. The Board shall give prompt notice to the holders of the ESOP Preferred Stock of any Semiannual Payment Election or Annual Payment Election and any election to alter any Dividend Payment Date pursuant to this Section 2(A)(1). Each Annual Payment Date or Semiannual Payment Date, as applicable, is hereinafter referred to as a "Dividend Payment Date", and each payment of a Preferred Dividend shall be made to holders of record at the opening of business on such Dividend Payment Date. (2) Preferred Dividends shall begin to accrue on outstanding shares of ESOP Preferred Stock from the date of issuance of such shares, except that with respect to any shares of ESOP Preferred Stock redeemed or purchased by the Corporation and then reissued, Preferred Dividends shall accrue on such shares from their date of reissuance. Preferred Dividends shall accrue on a daily basis, whether or not the Corporation shall then have earnings or surplus 10 (computed on the basis of a 360-day year of twelve 30-day months in case of any period less than one year) based on the Preferred Dividend Rate in effect on such date; provided however, that if a Semiannual Payment Election or an Annual Payment Election becomes effective on or after such date and before the immediately succeeding Dividend Payment Date, payments in respect of dividends on the ESOP Preferred Stock made on or after the effective date of such Semiannual Payment Election or Annual Payment Election and on or before such Dividend Payment Date shall be computed using the Preferred Dividend Rate in effect on the date of such payment; provided further, the dividends payable on the first Dividend Payment Date following the issuance of the ESOP Preferred Stock shall be in an amount equal to the Annual Dividend Rate for a full annum or the Semiannual Dividend Rate for a full semiannum, as applicable. Accrued but unpaid Preferred Dividends shall cumulate as of the Dividend Payment Date on which they first become payable, but no interest shall accrue on accumulated but unpaid Preferred Dividends. (B) So long as any shares of ESOP Preferred Stock shall be outstanding, no dividend shall be declared or paid or set apart for payment on any other series of stock ranking on a parity with the ESOP Preferred Stock as to dividends, unless there shall also be or have been declared and paid or set apart for payment on the ESOP Preferred Stock, like dividends for all dividend payment periods of the ESOP Preferred Stock ending on or before the dividend payment date of such parity stock, ratably in proportion to the respective amounts of dividends (1) accumulated and unpaid or payable on such parity stock, on the one hand, and (2) accumulated and unpaid through the dividend payment period or periods of the ESOP Preferred Stock next preceding such dividend payment date, on the other hand. If full cumulative dividends on the ESOP Preferred Stock have not been declared and paid or set apart for payment when due, the Corporation shall not declare or pay or set apart for payment any dividends or make any other distributions on, or make any payment on account of the purchase, redemption or other retirement of, any other class of stock or series thereof of the Corporation ranking, as to dividends or upon dissolution, junior to the ESOP Preferred Stock until full cumulative dividends on the ESOP Preferred Stock shall have been paid or declared and set apart; provided, however, that the foregoing shall not apply to (i) any dividend or distribution payable solely in any shares of, or options, warrants or rights to subscribe for or purchase shares of, any stock ranking, as to dividends and upon dissolution, 11 junior to the ESOP Preferred Stock or (ii) the acquisition of shares of any stock ranking, as to dividends and upon dissolution, junior to the ESOP Preferred Stock in exchange solely for or by conversion solely into shares of any other stock ranking junior to the ESOP Preferred Stock as to dividends and upon dissolution. (C) Any dividend payment made on shares of ESOP Preferred Stock shall first be credited against the earliest accumulated but unpaid dividend due with respect to such shares. 3. Liquidation Preference. ----------------------- (A) In the event of any dissolution or liquidation of the Corporation, whether voluntary or involuntary, before any payment or distribution of the assets of the Corporation (whether capital or surplus) shall be made to or set apart for the holders of any series or class or classes of stock of the Corporation ranking junior to ESOP Preferred Stock upon dissolution or liquidation, the holders of ESOP Preferred Stock (other than the Corporation or its nominee) shall be entitled to receive the Liquidation Price (as hereinafter defined) per share in effect at the time of dissolution or liquidation plus an amount equal to all dividends accrued (whether or not accumulated) and unpaid on the ESOP Preferred Stock to the date of final distribution to such holders; but such holders shall not be entitled to and shall not otherwise receive any further payments. The Liquidation Price per share that holders of ESOP Preferred Stock shall receive upon dissolution or liquidation shall be $35.875, subject to adjustment as hereinafter provided. If, upon any dissolution or liquidation of the Corporation, the assets of the Corporation, or proceeds thereof, distributable among the holders of ESOP Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid and liquidating payments on any other shares ranking, as to dissolution or liquidation, on a parity with ESOP Preferred Stock, then such assets, or the proceeds thereof, shall be distributed among the holders of ESOP Preferred Stock and any such other shares ratably in accordance with the respective amounts that would be payable on such shares of ESOP Preferred Stock and any such other shares if all amounts payable thereon were paid in full. For the purposes of this Section 3, neither a consolidation or merger of the Corporation with or into one or more corporations, nor the sale, transfer, lease or exchange (for cash, shares of equity stock, securities or other consideration) of all or substantially all of the 12 assets of the Corporation, nor the distribution to the stockholders of the Corporation of all or substantially all of the consideration for such sale, unless such consideration (apart from assumption of liabilities) or the net proceeds thereof consists substantially entirely of cash, shall be deemed to be a dissolution or liquidation, voluntary or involuntary. (B) Subject to the rights of the holders of shares of any series or class or classes of stock ranking on a parity with or senior to ESOP Preferred Stock upon dissolution or liquidation, upon any dissolution or liquidation of the Corporation, after payment shall have been made in full to the holders of ESOP Preferred Stock as provided in this Section 3, but not prior thereto, any other series or class or classes of stock ranking junior to ESOP Preferred Stock upon dissolution or liquidation shall, subject to the respective terms and provisions (if any) applying thereto, be entitled to receive any and all assets of the Corporation remaining to be paid or distributed, and the holders of ESOP Preferred Stock shall not be entitled to share therein. 4. Ranking and Voting of Shares. ----------------------------- (A) Each of (i) the Corporation's 7-3/8% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (ii) the Corporation's 7-3/4% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iii) the Corporation's Series A Fixed/Adjustable Rate Preferred Stock, with a liquidation value of $200.00 per share, (iv) if issued, the Corporation's 7.82% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (v) if issued, the Corporation's 7.80% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vi) if issued, the Corporation's 9.00% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vii) if issued, the Corporation's 8.40% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (viii) if issued, the Corporation's 8.20% Cumulative Preferred Stock, with a liquidation value of $200.00 per share and (ix) if issued, the Corporation's 8.03% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, shall rank on a parity with ESOP Preferred Stock as to dividends and as to distribution of assets upon dissolution or liquidation. Unless otherwise provided in the Certificate of Incorporation of the Corporation, as the same may be 13 amended, or in a Certificate of Designation of Rights and Preferences relating to any subsequent series of Preferred Stock, the ESOP Preferred Stock shall rank on a parity with all series of the Corporation's Preferred Stock, other than the Corporation's Series A Junior Participating Preferred Stock to which the ESOP Preferred Stock shall rank senior, as to dividends and as to the distribution of assets upon dissolution or liquidation. (B) The holders of shares of ESOP Preferred Stock (other than the Corporation or its nominee) shall have the following voting rights: (1) The holders of ESOP Preferred Stock shall be entitled to vote on all matters submitted to a vote of the stockholders of the Corporation, voting together with the holders of Common Stock as one class. The holder of each share of ESOP Preferred Stock shall be entitled to a number of votes equal to 1.35 times the number of shares of Common Stock into which such share of ESOP Preferred Stock could be converted on the record date for determining the stock holders entitled to vote; it being understood that whenever the "Conversion Price" (as defined in Section 5 hereof) is adjusted as provided in Section 9 hereof, the number of votes of the ESOP Preferred Stock shall also be corres pondingly adjusted. Notwithstanding the immediately preceding sentence, if the governing body of the New York Stock Exchange or any other securities listing service or exchange (each, an "Exchange") or any relevant governmental or regulatory entity (each such entity, and each governing body of an Exchange, a "Regulating Entity") shall have disapproved of such voting power or taken or threatened any action against the Corporation or in respect of any of its securities in accordance with Rule 19c-4 promulgated under the Securities Exchange Act of 1934 (the "Exchange Act"), or any other rule or listing standard of any Regulating Entity regarding the voting power of securities, or if the Board of Directors determines in its sole judgment that any Regulating Entity may so disapprove or take or threaten any such action, the holder of each share of ESOP Preferred Stock shall be entitled to a maximum number of votes permissible (consistent with continued listing of the Corporation's securities on any such Exchange) in accordance with the interpretations of any such rule or listing standard by such Regulating Entity, as determined by the Board. (2) Except as otherwise required by law or set forth herein, holders of ESOP Preferred Stock shall have no 14 special voting rights and their consent shall not be required (except to the extent they are entitled to vote with holders of Common Stock as set forth herein) for the taking of any corporate action, including the issuance of any Preferred Stock now or hereafter authorized; provided, however, that the vote of at least 66-2/3% of the outstanding shares of ESOP Preferred Stock, voting separately as a series, shall be necessary to approve any alteration, amendment or repeal of any provision of the Certificate of Incorporation or any alteration, amendment or repeal of any provision of the resolutions relating to the designation, preferences and rights of ESOP Preferred Stock (including any such alteration, amendment or repeal effected by any merger or consolidation in which the Corporation is the surviving or resulting corporation, but not including any alteration or amendment of rights expressly provided for in Section (B)(1) above or in Section 2(A)(1)), if such amendment, alteration or repeal would alter or change the powers, preferences, or special rights of the ESOP Preferred Stock so as to affect them adversely. 5. Conversion into Common Stock. ----------------------------- (A) A holder of shares of ESOP Preferred Stock shall be entitled, at any time prior to the close of business on the date fixed for redemption of such shares pursuant to Section 6, 7 or 8 hereof, to cause any or all of such shares to be converted into shares of Common Stock. The number of shares of Common Stock into which each share of the ESOP Preferred Stock may be converted shall be determined by dividing the Liquidation Price in effect at the time of conversion by the Conversion Price (as hereinafter defined) in effect at the time of conversion. The initial Conversion Price per share at which shares of Common Stock shall be issuable upon conversion of any shares of ESOP Preferred Stock shall be $10.871, subject to adjustment as hereinafter provided; that is, a conversion rate initially equivalent to three and three-tenths (3-3/10) shares of Common Stock for each share of ESOP Preferred Stock, which is subject to adjustment as hereinafter provided. (B) Any holder of shares of ESOP Preferred Stock desiring to convert such shares into shares of Common Stock shall surrender, if certificated, the certificate or certificates representing the shares of ESOP Preferred Stock being converted, duly assigned or endorsed for transfer to the Corporation (or accompanied by duly executed stock 15 powers relating thereto), or if uncertificated, a duly executed stock power relating thereto, at the principal executive office of the Corporation or the offices of the transfer agent for the ESOP Preferred Stock or such office or offices in the continental United States of an agent for conversion as may from time to time be designated by notice to the holders of the ESOP Preferred Stock by the Corporation or the transfer agent for the ESOP Preferred Stock, accompanied by written notice of conversion. Such notice of conversion shall specify (i) the number of shares of ESOP Preferred Stock to be converted and the name or names in which such holder wishes the Common Stock and any shares of ESOP Preferred Stock not to be so converted to be issued, and (ii) the address to which such holder wishes delivery to be made of a confirmation of such conversion, if uncertificated, or any new certificates which may be issued upon such conversion, if certificated. (C) Upon surrender, if certificated, of a certificate representing a share or shares of ESOP Preferred Stock for conversion, or if uncertificated, of a duly executed stock power relating thereto, the Corporation shall issue and send by hand delivery (with receipt to be acknowledged) or by first class mail, postage prepaid, to the holder thereof or to such holder's designee, at the address designated by such holder, if certificated, a certificate or certificates for, or if uncertificated, confirmation of, the number of shares of Common Stock to which such holder shall be entitled upon conversion. If there shall have been surrendered shares of ESOP Preferred Stock only part of which are to be converted, the Corporation shall issue and deliver to such holder or such holder's designee, if certificated, a new certificate or certificates representing the number of shares of ESOP Preferred Stock that shall not have been converted, or if uncertificated, confirmation of the number of shares of ESOP Preferred Stock that shall not have been converted. (D) The issuance by the Corporation of shares of Common Stock upon a conversion of shares of ESOP Preferred Stock into shares of Common Stock made at the option of the holder thereof shall be effective as of the earlier of (i) the delivery to such holder or such holder's designee of the certificates representing the shares of Common Stock issued upon conversion thereof, if certificated, or confirmation, if uncertificated, and (ii) the commencement of business on the second business day after the surrender of the certificate or certificates, if certificated, or a duly executed stock power, if uncertificated, for the shares of 16 ESOP Preferred Stock to be converted. On and after the effective date of conversion, the person or persons entitled to receive Common Stock issuable upon such conversion shall be treated for all purposes as the record holder or holders of such shares of Common Stock, and no allowance or adjust ment shall be made in respect of dividends payable to holders of Common Stock of record on any date prior to such effective date. The Corporation shall not be obligated to pay any dividend that may have accrued or have been declared but that is not payable to holders of shares of ESOP Preferred Stock if the Dividend Payment Date for such dividend is on or subsequent to the effective date of conversion of such shares. (E) The Corporation shall not be obligated to deliver to holders of ESOP Preferred Stock any fractional share or shares of Common Stock issuable upon any conversion of such shares of ESOP Preferred Stock, but in lieu thereof may make a cash payment in respect thereof in any manner permitted by law. (F) The Corporation shall at all times reserve and keep available out of its authorized and unissued Common Stock or treasury Common Stock, solely for issuance upon the conversion of shares of ESOP Preferred Stock as herein provided, such number of shares of Common Stock as shall from time to time be issuable upon the conversion of all the shares of ESOP Preferred Stock then outstanding. 6. Redemption at the Option of the Corporation. -------------------------------------------- (A) The ESOP Preferred Stock shall be redeemable, in whole or in part, at the option of the Corporation at any time after September 19, 2000, out of funds legally available therefor, at a redemption price per share equal to 100% of the Liquidation Price plus an amount equal to all accrued (whether or not accumulated) and unpaid dividends thereon to the date fixed for redemption. Payment of the redemption price shall be made by the Corporation in cash or shares of Common Stock, or a combination thereof, as permitted by paragraph (E) of this Section 6. From and after the date fixed for redemption, dividends on shares of ESOP Preferred Stock called for redemption will cease to accrue and all rights of the holder in respect of such shares shall cease, except the right to receive the redemption price. Upon payment of the redemption price, such shares shall be deemed to have been transferred to the Corporation, to be held as treasurer shares or to be retired, in either case as provided in Sec- tion 1(A). If less than all of the 17 outstanding shares of ESOP Preferred Stock are to be redeemed, the Corporation shall either redeem a portion of the shares of each holder determined pro rata based on the number of shares held by each holder or shall select the shares to be redeemed by lot, as may be determined by the Board. (B) Notice of redemption will be sent to the holders of ESOP Preferred Stock at the address on the books of the Corporation or any transfer agent for ESOP Preferred Stock by first class mail, postage prepaid, mailed not less than twenty (20) days nor more than sixty (60) days prior to the redemption date or in any other manner provided by law. Each notice shall state: (i) the redemption date; (ii) the total number of shares of ESOP Preferred Stock to be redeemed and, if fewer than all the shares held by such holder are to be redeemed, the number of such shares to be redeemed from such holder; (iii) the redemption price; (iv) the place or places where certificates, if certificated, for such shares are to be surrendered for payment of the redemption price; (v) that dividends on the shares to be redeemed will cease to accrue on such redemption date; (vi) whether such redemption price should be paid in cash or in shares of Common Stock; and (vii) the conversion rights of the shares to be redeemed, the period within which conversion rights may be exercised and the Conversion Price and number of shares of Common Stock issuable upon conversion of a share of ESOP Preferred Stock at the time. Upon surrender of the certificates, if certificated, for any shares so called for redemption, or upon the date fixed for redemption, if uncertificated, such shares, if not previously converted, shall be redeemed by the Corporation as of the close of business on the date fixed for redemption and at the redemption price set forth in this Section 6. (C) The Corporation may, in its sole discretion and notwithstanding anything to the contrary in paragraph (A) of this Section 6, at any time within one year after either of the following events: (i) there shall be a change in the federal tax law or regulations of the United States of America or of an interpretation or application of such law or regulations or of a determination by a court of competent jurisdiction that in any case has the effect of precluding the Corporation from claiming (other than for purposes of calculating any alternative minimum tax) any of the tax deductions for dividends paid on 18 the ESOP Preferred Stock when such dividends are used as provided under Section 404(k)(2) of the Internal Revenue Code of 1986, as amended (the "Code"), as in effect on December 31, 1995. (ii) the Corporation shall certify to the holders of the ESOP Preferred Stock that the Corporation has determined in good faith that the Plan either is not qualified as a "stock bonus plan" within the meaning of Section 401(a) of the Code or is not an "employee stock ownership plan" within the meaning of Section 4975(e)(7) of the Code, elect either to (a) redeem, out of funds legally available therefor, any or all of such ESOP Preferred Stock for cash or, if the Corporation so elects, in shares of Common Stock, or a combination of such shares of Common Stock and cash, as permitted by paragraph (E) of this Section 6, at a redemption price equal to (x) if the relevant event is as provided in clause (i) above, the Liquidation Price per share on the date fixed for redemption, plus an amount equal to accrued (whether or not accumulated) and unpaid dividends thereon to the date fixed for redemption or (y) if the relevant event is as provided in clause (ii) above, an amount calculated on the basis of the redemption prices provided in paragraph (D) of this Section 6 on the date fixed for redemption or (b) exchange any or all of such shares of ESOP Preferred Stock for securities of at least equal value (as determined by an independent appraiser) that constitute "qualifying employer securities" with respect to a holder of ESOP Preferred Stock within the meaning of Section 409(l) of the Code and Section 407(d)(5) of the Employment Retirement Income Security Act of 1974, as amended ("ERISA"), or any successor provisions of law. If the Corporation elects to redeem any or all of the ESOP Preferred Stock pursuant to clause (a) of the preceding sentence, notice of such redemption shall be given as required in paragraph (B) of this Section 6, and if the Corporation elects to exchange any or all of the ESOP Preferred Stock for securities of at least equal value pursuant to clause (b) of the preceding sentence, it will cause notice of such election to be sent to the holders of ESOP Preferred Stock at the address shown on the books of the Corporation or any transfer agent for ESOP Preferred Stock by first class mail, postage prepaid, mailed not less than twenty (20) days nor more than sixty (60) days prior to the date of exchange or in any other manner required by law. Each notice shall state: (i) the exchange date; (ii) the total number of shares of ESOP Preferred Stock to be 19 exchanged and, if fewer than all the shares held by such holder are to be exchanged, the number of shares held by such holder to be exchanged; (iii) the exchange rate; (iv) the place or places where certificates, if certificated, for such shares are to be surrendered for exchange; and (v) that dividends on the shares to be exchanged will cease to accrue an such exchange date. (D) Notwithstanding anything to the contrary in paragraph (A) of this Section 6, in the event that the Plan is, or contributions thereto are, terminated, the Corporation may, in its sole discretion, call for redemption any or all of the then outstanding ESOP Preferred Stock, upon notice as required in paragraph (B) of this Section 6, out of funds legally available therefor, at a redemption price per share equal to the following percentages of the Liquidation Price in effect on the date fixed for redemption:
During the Twelve- Month Period Percentage of Beginning September 19, Liquidation Price ------------------------- ----------------- 1996 103.10 1997 102.33 1998 101.55 1999 100.78 2000 100.00
and thereafter at 100%, plus, in each case, an amount equal to all accrued (whether or not accumulated) and unpaid dividends thereon to the date fixed for redemption. Payment of the redemption price shall be made by the Corporation in cash or shares of Common Stock, or a combination thereof, as permitted by paragraph (E) of this Section 6. From and after the date fixed for redemption, dividends on shares of ESOP Preferred Stock called for redemption will cease to accrue and all rights of the holder in respect of such shares shall cease, except the right to receive the redemption price. Upon payment of the redemption price, such shares shall be deemed to have been transferred to the Corporation, to be held as treasury shares or to be retired, in either case as provided in Section 1(A). (E) The Corporation, at its option, may make payment of the redemption price required upon redemption of shares of ESOP Preferred Stock in cash or in shares of Common Stock, or in a combination of such shares and cash, any such shares of Common Stock to be valued for such purpose at their Fair Market Value (as defined in paragraph 9(H)(2)); provided, however, that in calculating 20 their Fair Market Value the Adjustment Period (as defined in paragraph 9(H)(2)) shall be deemed to be the five (5) consecutive trading days preceding the date of redemption. 7. Redemption at the Option of the Holder. --------------------------------------- (A) Unless otherwise provided by law, shares of ESOP Preferred Stock shall be redeemed by the Corporation at the option of the holder, at any time and from time to time upon notice to the Corporation given not less than five business days prior to the date fixed by the holder in such notice, when and to the extent necessary for such holder to provide for distributions required to be made under, or to satisfy an investment election provided to participants in accordance with, the Plan or any successor plan or when the holder elects to redeem shares of ESOP Preferred Stock in connection with any Preferred Dividend (a "Dividend Redemption"), in shares of Common Stock legally available therefor, at a redemption price equal to the higher of (x) the Liquidation Price per share on the date fixed for redemption and (y) the Fair Market Value (as defined in paragraph 9(H)(2)) of the number of shares of Common Stock into which each share of ESOP Preferred Stock is convertible at the time the notice of such redemption is given, plus in either case an amount equal to accrued (whether or not accumulated) and unpaid dividends thereon to the date fixed for redemption (such higher price on any date, together with such accrued and unpaid dividends, the "Special Redemption Price"). At the election of the Corporation, such redemp- tion may instead be made out of funds legally available therefor in cash or a combination of Common Stock and cash. Any shares of Common Stock shall be valued for the purposes of redemption pursuant to this paragraph (A) as provided by paragraph (E) of Section 6. In the case of any Dividend Redemption, such holder shall give the notice specified above on the fifth business day after the related Dividend Payment Date and such redemption shall be effective as to such number of shares of ESOP Preferred Stock as shall equal (x) the aggregate amount of such Preferred Dividends paid with respect to shares of ESOP Preferred Stock allocated or credited to the accounts of participants in the Plan or any successor plan that are used to repay any loan associated with such allocated or credited shares divided by (y) the Special Redemption Price specified above in this paragraph (A). (B) Unless otherwise provided by law, shares of ESOP Preferred Stock shall be redeemed by the Corporation at the option of the holder, at any time and from time to 21 time upon notice to the Corporation given not less than five business days prior to the date fixed by the holder in such notice, upon certification by such holder to the Corporation of the following events: (i) when and to the extent necessary for such holder to make any payments of principal, interest or premium due and payable (whether voluntary, scheduled, upon acceleration or otherwise) upon any obligations of the trust established under the Plan in connection with the acquisition of ESOP Preferred Stock or any indebtedness, expenses or costs incurred by the holder for the benefit of the Plan; or (ii) when and if it shall be established to the satisfaction of the holder that the Plan has not initially been determined by the Internal Revenue Service to be qualified as a "stock bonus plan" and an "employee stock ownership plan" within the meaning of Section 401(a) or 4975(e)(7) of the Code, respectively, in shares of Common Stock legally available therefor, at a redemption price equal to the Liquidation Price plus an amount equal to accrued and unpaid dividends thereon to the date fixed for redemption. At the election of the Corporation, such redemption may instead be made out of funds legally available therefor in cash or a combination of Common Stock and cash. Any shares of Common Stock shall be valued for the purposes of redemption pursuant to this paragraph (B) as provided by paragraph (E) of Section 6. 8. Consolidation, Merger, etc. --------------------------- (A) If the Corporation shall consummate any consolidation or merger or similar transaction, however named, pursuant to which the outstanding shares of Common Stock are by operation of law exchanged solely for or changed, reclassified or converted solely into securities of any successor or resulting company (including the Corpora tion) that constitute "qualifying employer securities" with respect to a holder of ESOP Preferred Stock within the meanings of Section 409(l) of the Code and Section 407(d)(5) of ERISA, or any successor provision of law, and, if applicable, for a cash payment in lieu of fractional shares, if any, then, in such event, the terms of such consolidation or merger or similar transaction shall provide that the shares of ESOP Preferred Stock of such holder shall be converted into or exchanged for and shall become preferred securities of such successor or resulting company, having in respect of such company insofar as possible (taking into account, without limitation, any requirements relating to the listing of such preferred securities on any national securities exchange or the qualification of such preferred securities for trading in any over-the-counter market) the 22 same powers, preferences and relative, participating, optional or other special rights (including the redemption rights provided by Sections 6, 7 and 8 hereof), and the qualifications, limitations or restrictions thereon, that the ESOP Preferred Stock had immediately prior to such transaction; provided, however, that after such transaction each security into which the ESOP Preferred Stock is so converted or for which it is exchanged shall be convertible, pursuant to the terms and conditions provided by Section 5 hereof, into the number and kind of qualifying employer securities receivable by a holder equivalent to the number of shares of Common Stock into which such shares of ESOP Preferred Stock could have been converted pursuant to Section 5 hereof immediately prior to such transaction and provided further that if by virtue of the structure of such transaction, a holder of Common Stock is required to make an election with respect to the nature and kind of considera tion to be received in such transaction, which election cannot practicably be made by the holders of the ESOP Preferred Stock, then such election shall be deemed to be solely for "qualifying employer securities" (together, if applicable, with a cash payment in lieu of fractional shares) with the effect provided above on the basis of the number and kind of qualifying employer securities receivable by a holder of the number of shares of Common Stock into which the shares of ESOP Preferred Stock could have been converted pursuant to Section 5 hereof immediately prior to such transaction (it being understood that if the kind or amount of qualifying employer securities receivable in respect of each share of Common Stock upon such transaction is not the same for each such share, then the kind and amount of qualifying employer securities deemed to be receivable in respect of each share of Common Stock for purposes of this proviso shall be the kind and amount so receivable per share of Common Stock by a plurality of such shares). The rights of the ESOP Preferred Stock as preferred equity of such successor or resulting company shall successively be subject to adjustments pursuant to Section 9 hereof after any such transaction as nearly equivalent as practicable to the adjustments provided for by such Section prior to such transaction. The Corporation shall not consummate any such merger, consolidation or similar transaction unless all the terms of this paragraph (A) are complied with. (B) If the Corporation shall consummate any consolidation or merger or similar transaction, however named, pursuant to which the outstanding shares of Common Stock are by operation of law exchanged for or changed, 23 reclassified or converted into other shares or securities or cash or any other property, or any combination thereof, other than any such consideration which is constituted solely of qualifying employer securities that are common stock or common equity (as referred to in paragraph (A) of this Section 8) and cash payments, if applicable, in lieu of fractional shares or other interests, outstanding shares of ESOP Preferred Stock shall, without any action on the part of the Corporation or any holder thereof (but subject to paragraph (C) of this Section 8), be automatically converted immediately prior to the consummation of such merger, consolidation or similar transaction into shares of Common Stock at the Conversion Price then in effect. (C) If the Corporation shall enter into any agreement providing for any consolidation or merger or similar transaction described in paragraph (B) of this Section 8, then the Corporation shall as soon as practicable thereafter (and in any event at least ten (10) business days before consummation of such transaction) give notice of such agreement and the material terms thereof to each holder of ESOP Preferred Stock and each such holder shall have the right to elect, by written notice to the Corporation, to receive, upon consummation of such transaction (if and when such transaction is consummated), out of funds legally available therefor, from the Corporation or the successor of the Corporation, in redemption of such ESOP Preferred Stock, in lieu of any cash or other securities which such holder would otherwise be entitled to receive under paragraph (B) of this Section 8, a cash payment equal to the Liquidation Price per share on the date fixed for such transaction, plus an amount equal to accrued (whether or not accumulated) and unpaid dividends thereon to the date fixed for such transaction. No such notice of redemption shall be effective unless given to the Corporation prior to the close of business of the fifth business day prior to consummation of such transaction, unless the Corporation or the successor of the Corporation shall waive such prior notice, but any notice or redemption so given prior to such time may be withdrawn by notice of withdrawal given to the Corporation prior to the close of business on the fifth business day prior to consummation of such transaction. 9. Anti-dilution Adjustments. -------------------------- (A)(1) In the event the Corporation shall, at any time or from time to time while any of the shares of the ESOP Preferred Stock are outstanding, (i) pay a dividend or make a distribution in respect of the Common Stock in shares 24 of Common Stock or (ii) subdivide the outstanding shares of Common Stock into a greater number of shares, in each case whether by reclassification of shares, recapitalization of the Corporation (excluding a recapitalization or reclass- ification effected by a merger or consolidation to which Section 8 applies) or otherwise, then, in such event, the Conversion Price shall, subject to the provisions of paragraphs (E) and (F) of this Section 9, automatically be adjusted by dividing such Conversion Price by a fraction (the "Section 9(A) Fraction"), the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock outstanding immediately before such event. Such adjustment to the Conversion Price shall be effective, upon payment of such dividend or distribution in respect of the Common Stock, as of the record date for the determination of stockholders entitled to receive such dividend or distribution (on a retroactive basis), and in the case of a subdivision shall become effective immediately as of the effective date thereof. An adjustment to the Conversion Price pursuant to this Section 9(A)(1) shall have no effect on the Liquidation Price or the Preferred Dividend Rate of the ESOP Preferred Stock. (2) In the event the Corporation shall, at any time or from time to time while any of the shares of the ESOP Preferred Stock are outstanding, combine the outstanding shares of Common Stock into a lesser number of shares, whether by reclassification of shares, recapitalization of the Corporation (excluding a recapitalization or reclassification effected by a merger, consolidation or other transaction to which Section 8 applies) or otherwise, then, in such event, the Conversion Price shall, subject to the provisions of paragraph (F) of this Section 9, automatically be adjusted by dividing the Conversion Price in effect immediately before such event by the Section 9(A) Fraction. An adjustment to the Conversion Price made pursuant to this paragraph 9(A)(2) shall be given effect immediately as of the effective date of such combination and shall have no effect on the Liquidation Price or the Preferred Dividend Rate of the ESOP Preferred Stock. (B) In the event the Corporation shall, at any time or from time to time while any of the shares of ESOP Preferred Stock are outstanding, issue to holders of shares of Common Stock as a dividend or distribu tion, including by way of a reclassification of shares 25 or a recapitalization of the Corporation, any right or warrant to purchase shares of Common Stock (but not including as a right or warrant for this purpose any security convertible into or exchangeable for shares of Common Stock) for a consideration having a Fair Market Value (as hereinafter defined) per share less than the Fair Market Value of a share of Common Stock on the date of issuance of such right or warrant (other than pursuant to any employee or director incentive, compensation or benefit plan or arrangement of the Corporation or any subsidiary of the Corporation heretofore or hereafter adopted), then, in such event, the Conversion Price shall, subject to the provisions of paragraphs (E) and (F) of this Sec- tion 9, automatically be adjusted by dividing such Conversion Price by a fraction (the "Section 9(B) Fraction"), the numerator of which is the number of shares of Common Stock outstanding immediately before such issuance of rights or warrants plus the maximum number of shares of Common Stock that could be acquired upon exercise in full of all such rights and warrants and the denominator of which is the number of shares of Common Stock outstanding immediately before such issuance of warrants or rights plus the number of shares of Common Stock that could be purchased at the Fair Market Value of a share of Common Stock at the time of such issuance for the maximum aggregate consideration payable upon exercise in full of all such rights and warrants. Such adjustment to the Conversion Price shall be effective upon such issuance of rights or warrants. An adjustment to the Conversion Price pursuant to this Section 9(B) shall have no effect on the Liquidation Price or the Preferred Dividend Rate of the ESOP Preferred Stock. (C)(1) In the event the Corporation shall, at any time or from time to time while any of the shares of ESOP Preferred Stock are outstanding, issue, sell or exchange shares of Common Stock (other than pursuant to (x) any right or warrant to purchase or acquire shares of Common Stock (including as such a right or warrant for this purpose any security convertible into or exchangeable for shares of Common Stock) or (y) any employee or director incentive, compensation or benefit plan or arrangement of the Corporation or any subsidiary of the Corporation heretofore or hereafter adopted) at a purchase price per share less than the Fair Market Value of a share of Common Stock on the date of such issuance, sale or exchange, then, in such 26 event, the Conversion Price shall, subject to the provisions of paragraphs (E) and (F) of this Section 9, automatically be adjusted by dividing such Conversion Price by a fraction (the "Section 9(C)(1) Fraction"), the numerator of which is the number of shares of Common Stock outstanding immediately before such issuance, sale or exchange plus the number of shares of Common Stock so issued, sold or exchanged and the denominator of which is the number of shares of Common Stock outstanding immediately before such issuance, sale or exchange plus the number of shares of Common Stock that could be purchased at the Fair Market Value of a share of Common Stock at the time of such issuance, sale or exchange for the maximum aggregate consideration paid therefor. (2) In the event that the Corporation shall, at any time or from time to time while any ESOP Preferred Stock is outstanding, issue, sell or exchange any right or warrant to purchase or acquire shares of Common Stock (including as such a right or warrant for this purpose any security convertible into or exchangeable for shares of Common Stock other than pursuant to any employee or director incentive, compensation or benefit plan or arrangement of the Corporation or any subsidiary of the Corporation heretofore or hereafter adopted) for a consideration having a Fair Market Value, on the date of such issuance, sale or exchange, less than the Non- Dilutive Amount (as hereinafter defined), then, in such event, the Conversion Price shall, subject to the provisions of paragraphs (E) and (F) of this Section 9, automatically be adjusted by dividing such Conversion Price by a fraction (the "Section 9(C)(2) Fraction"), the numerator of which is the number of shares of Common Stock outstanding immediately before such issuance of rights or warrants plus the maximum number of shares of Common Stock that could be acquired upon exercise in full of all such rights and warrants and the denominator of which is the number of shares of Common Stock outstanding immediately before such issuance of rights or warrants plus the number of shares of Common Stock that could be purchased at the Fair Market Value of a share of Common Stock at the time of such issuance for the total of (x) the maximum aggregate consideration payable at the time of the issuance, sale or exchange of such right or warrant and (y) the maximum aggregate consideration payable upon exercise in full of all such rights or warrants. 27 (3) An adjustment to the Conversion Price pursuant to this Section 9(C) shall be effective upon the effective date of any issuance, sale or exchange described in paragraph (1) or (2) above. Any such adjustment shall have no effect on the Liquidation Price or the Preferred Dividend Rate of the ESOP Preferred Stock. (D) In the event the Corporation shall, at any time or from time to time while any of the shares of ESOP Preferred Stock are outstanding, make an Extraordinary Distribution (as hereinafter defined) in respect of the Common Stock, whether by dividend, distribution, reclassification of shares or recapitalization of the Corporation (including capitalization or reclassification effected by a merger or consolidation to which Section 8 does not apply) or effect a Pro Rata Repurchase (as hereinafter defined) of Common Stock, then, in such event, the Conversion Price shall, subject to the provisions of paragraphs (E) and (F) of this Section 9, automatically be adjusted by dividing such Conversion Price by a fraction (the "Section 9(D) Fraction"), the numerator of which is the product of (a) the number of shares of Common Stock outstanding immediately before such Extraordinary Distribution or Pro Rata Repurchase minus, in the case of a Pro Rata Repurchase, the number of shares of Common Stock repurchased by the Corporation multiplied by (b) the Fair Market Value of a share of Common Stock on the day before the ex-dividend date with respect to an Extra- ordinary Distribution that is paid in cash and on the distribution date with respect to an Extraordinary Distribution that is paid other than in cash, or on the applicable expiration date (including all extensions thereof) of any tender offer that is a Pro Rata Repurchase or on the date of purchase with respect to any Pro Rata Repurchase that is not a tender offer, as the case may be, and the denominator of which is (i) the product of (x) the number of shares of Common Stock outstanding immediately before such Extraordinary Distribution or Pro Rata Repurchase multiplied by (y) the Fair Market Value of a share of Common Stock on the day before the ex-dividend date with respect to an Extraordinary Distribution that is paid in cash and on the distribution date with respect to an Extraordinary Distribution that is paid other than in cash, or on the applicable expiration date (including all extensions thereof) of any tender offer that is a Pro Rata Repurchase, or on the date of purchase with respect to 28 any Pro Rata Repurchase that is not a tender offer, as the case may be, minus (ii) the Fair Market Value of the Extraordinary Distribution or the aggregate purchase price of the Pro Rata Repurchase, as the case may be. The Corporation shall send each holder of ESOP Preferred Stock (i) notice of its intent to make any Extraordinary Distribution and (ii) notice of any offer by the Corporation to make a Pro Rata Repurchase, in each case at the same time as, or as soon as practicable after, such offer is first communicated to holders of Common Stock or, in the case of an Extraordinary Distribution, the announcement of a record date in accordance with the rules of any stock exchange on which the Common Stock is listed or admitted to trading. Such notice shall indicate the intended record date and the amount and nature of such dividend or distribution, or the number of shares subject to such offer for a Pro Rata Repurchase and the purchase price payable by the Corporation pursuant to such offer, as well as the Conversion Price and the number of shares of Common Stock into which a share of ESOP Preferred Stock may be converted at such time. An adjustment to the Conversion Price pursuant to this Section 9(D) shall be effective (i) in the case of an Extraordinary Dividend as of the record date for the determination of holders entitled to receive such Extraordinary Dividend (on a retroactive basis) and (ii) in the case of a Pro Rata Repurchase upon the expiration date thereof (if such Pro Rata Repurchase is a tender offer) or the effective date thereof (if such Pro Rata Repurchase is not a tender offer). Any such adjustment shall have no effect on the Liquidation Price or the Preferred Dividend Rate of the ESOP Preferred Stock. (E) The Board shall have the authority to determine that any adjustment to the Conversion Price provided for in paragraph (A)(1), (B), (C) or (D) of this Section 9 shall not be made (or if already made, to determine that such adjustment shall be cancelled prospectively), and in lieu thereof to declare a dividend in respect of the ESOP Preferred Stock in shares of ESOP Preferred Stock (a "Special Dividend") in such a manner that a holder of ESOP Preferred Stock will become a holder of that number of shares of ESOP Preferred Stock equal to the product of the number of such shares held prior to such event times the Section 9(A), Section 9(B), Section 9(C)(1), Section 9(C)(2) or Section 9(D) Fraction, as appli- 29 cable. The declaration of such a Special Dividend shall be authorized, if at all, by the Board no later than 30 calendar days following the authorization by the Board (or by a committee duly authorized by the Board) of the transaction or other event described in any of the foregoing paragraphs (A)(1), (B), (C) or (D) that would otherwise result in an adjustment to the Conversion Price being made pursuant to any such paragraphs, and if the Board does not authorize the declaration of a Special Dividend by the end of such 30-day period, then no such Special Dividend shall be declared and the adjustment to the Conversion Price provided for in paragraph (A)(1), (B), (C) or (D) of this Section 9 shall become final and binding on the Corporation and all stockholders of the Corporation. Concurrently with the declaration of any Special Dividend pursuant to this paragraph (E), the Conversion Price, the Liquidation Price and the Preferred Dividend Rate of all shares of ESOP Preferred Stock shall be adjusted by dividing the Conversion Price, the Liquidation Price and the Preferred Dividend Rate, respectively, in effect immediately before such event by the Section 9(A), Section 9(B), Section 9(C)(1), Section 9(C)(2) or Section 9(D) Fraction, as appli cable. (F) Unless the Board determines otherwise, and notwithstanding any other provision of this Section 9, any adjustment to the Conversion Price provided for in any of paragraphs (A), (B), (C) or (D) of this Section 9 shall not be made unless such adjustment would require an increase or decrease of at least one percent (1%) in the Conversion Price and, similarly, the Board shall not declare any Special Dividend pursuant to paragraph (E) of this Section 9 unless such Special Dividend or adjustment would require an increase or decrease of at least one percent (1%) in the number of shares of ESOP Preferred Stock outstanding. Any lesser adjustment to the Conversion Price or Special Dividend shall be carried forward and shall be made no later than the time of, and together with, the next subsequent adjustment to the Conversion Price or Special Dividend which, together with any adjustment or adjustments or Special Dividend or Dividends so carried forward, shall amount to an increase or decrease of at least one percent (1%) of the Conversion Price or an increase or decrease of at least one percent (1%) in the number of shares of ESOP Preferred Stock outstanding, whichever the case be. 30 (G) If the Corporation shall make any dividend or distribution on the Common Stock or issue any Common Stock, other capital stock or other security of the Corporation or any rights or warrants to purchase or acquire any such security, which transaction does not result in an adjustment to the Conversion Price or to the number of shares of ESOP Preferred Stock out- standing pursuant to the foregoing provisions of this Section 9, the Board may, in its sole discretion, consider whether such action is of such a nature that some type of equitable adjustment should be made in respect of such transaction. If in such case the Board determines that some type of adjustment should be made, an adjustment shall be made effective as of such date as determined by the Board. The determination of the Board as to whether some type of adjustment should be made pursuant to the foregoing provisions of this Section 9(G), and, if so, as to what adjustment should be made and when, shall be final and binding on the Corporation and all stockholders of the Corporation. The Corporation shall be entitled, but not required, to make such additional adjustments, in addition to those required by the foregoing provisions of this Section 9, as shall be necessary in order that any dividend or distribution in shares of capital stock of the Corporation, subdivision, reclassification or combination of shares of the Corporation or any reclassification of the Corporation shall not be taxable to holders of the Common Stock. (H) For purposes hereof, the following definitions shall apply: (1) "Extraordinary Distribution" shall mean any dividend or other distribution to holders of Common Stock (effected while any of the shares of ESOP Preferred Stock are outstanding) of (i) cash or (ii) any shares of capital stock of the Corporation (other than shares of Common Stock), other securities of the Corporation (other than securities of the type referred to in paragraph (B) of this Section 9), evidences of indebtedness of the Corporation or any other person or any other property (including shares of any subsidiary of the Corporation), or any combination of the foregoing, where the aggregate amount of such cash dividend or other distribution together with the amount of all cash dividends and other distributions made during the preceding period of twelve months, when combined with the aggregate amount of all Pro Rata Repurchases (for this purpose, including only that portion of the aggregate 31 purchase price of such Pro Rata Repurchase that is in excess of the Fair Market Value of the Common Stock repurchased as determined on the applicable expiration date (including all extensions thereof) of any tender offer or exchange offer that is a Pro Rata Repurchase, or the date of purchase with respect to any other Pro Rata Repurchase that is not a tender offer or exchange offer) made during such period, exceeds twelve and one-half percent (12-1/2%) of the aggregate Fair Market Value of all shares of Common Stock outstanding on the day before the ex- dividend date with respect to such Extraordinary Distribution that is paid in cash and on the distribution date with respect to an Extraordinary Distribution that is paid other than in cash. The Fair Market Value of an Extraordinary Distribution for purposes of paragraph (D) of this Section 9 shall be the sum of the Fair Market Value of such Extraordinary Distribution plus the aggregate amount of any cash dividends or other distributions that are not Extraordinary Distributions made during such twelve-month period and not previously included in the calculation of an adjustment pursuant to paragraph (D) of this Sec- tion 9, but shall exclude the aggregate amount of regular quarterly dividends declared by the Board and paid by the Corporation in such twelve-month period. (2) "Fair Market Value" shall mean, as to shares of Common Stock or any other class of capital stock or securities of the Corporation or any other issuer that are publicly traded, the average of the Current Market Prices (as hereinafter defined) of such shares or securities for each day of the Adjustment Period (as hereinafter defined). "Current Market Price" of publicly traded shares of Common Stock or any other class of capital stock or other security of the Corporation or any other issuer for a day shall mean the last reported sales price, regular way, or, in case no sale takes place on such day, the average of the reported closing bid and asked prices, regular way, in either case as reported on the New York Stock Exchange Composite Tape or, if such security is not listed or admitted to trading on the New York Stock Exchange, on the principal national securities exchange on which such security is listed or admitted to trading or, if not listed or admitted to trading on any national securities exchange, on the National Association of Securities Dealers Automated Quotation System ("NASDAQ") National Market System or, if such security is not quoted on such National Market System, the average of the closing bid and asked prices on such day in the over-the-counter market as reported by NASDAQ or, if bid and asked prices for such security on such day shall not have been reported through NASDAQ, the average of the bid and 32 asked prices for such day as furnished by any New York Stock Exchange member firm regularly making a market in such security selected for such purpose by the Board. "Adjustment Period" shall mean the period of five consecutive trading days, selected by the Board during the twenty (20) trading days preceding, and including, the date as of which the Fair Market Value of a security is to be determined. The "Fair Market Value" of any security that is not publicly traded or of any other property shall mean the fair value thereof as determined by an independent investment banking or appraisal firm experienced in the valuation of such securities or property selected in good faith by the Board, or, if no such investment banking or appraisal firm is in the good faith judgment of the Board available to make such determination, as determined in good faith by the Board. (3) "Non-Dilutive Amount" in respect of an issuance, sale or exchange by the Corporation of any right or warrant to purchase, or acquire shares of Common Stock (including any security convertible into or exchangeable for shares of Common Stock) shall mean the difference between (i) the product of the Fair Market Value of a share of Common Stock on the day preceding the first public announcement of such issuance, sale or exchange multiplied by the maximum number of shares of Common Stock that could be acquired on such date upon the exercise in full of such rights or warrants (including upon the conversion or exchange of all such convertible or exchangeable securities), whether or not exercisable (or convertible or exchangeable) at such date, and (ii) the aggregate amount payable pursuant to such right or warrant to purchase or acquire such maximum number of shares of Common Stock; provided, however, that in no event shall the Non- Dilutive Amount be less than zero. For purposes of the foregoing sentence, in the case of a security convertible into or exchangeable for shares of Common Stock, the amount payable pursuant to a right or warrant to purchase or acquire shares of Common Stock shall be the Fair Market Value of such security on the date of the issuance, sale or exchange of such security by the Corporation. (4) "Pro Rata Repurchase" shall mean any purchase of shares or Common Stock by the Corporation or any subsidiary thereof, whether for cash, shares of capital stock of the Corporation, other securities of the Corporation, evidences of indebtedness of the Corporation or any other person or any other property (including shares of a subsidiary of the Corporation), or any combination thereof, 33 effected while any of the shares of ESOP Preferred Stock are outstanding, pursuant to any tender offer or exchange offer subject to Section 13(e) of the Exchange Act, or any successor provision of law, or pursuant to any other offer available to substantially all holders of Common Stock; provided, however, that no purchase of shares by the Corporation or any subsidiary thereof made in open market transactions shall be deemed a Pro Rata Repurchase. For purposes of this Section 9(H), shares shall be deemed to have been purchased by the Corporation or any subsidiary thereof "in open market transactions" if they have been purchased substantially in accordance with the requirements of Rule 10b-18 as in effect under the Exchange Act on the date shares of ESOP Preferred Stock are initially issued by the Corporation or on such other terms and conditions as the Board shall have determined are reasonably designed to prevent such purchases from having a material effect on the trading market for the Common Stock. (I) Whenever an adjustment to the Conversion Price of the ESOP Preferred Stock is required pursuant to this Section 9, the Corporation shall forthwith place on file with the transfer agent for the Common Stock and the ESOP Preferred Stock, if there be one, and with the Treasurer of the Corporation, a statement signed by the Treasurer or any Assistant Treasurer of the Corporation stating the adjusted Conversion Price determined as provided herein. In addition, whenever a Special Dividend is declared pursuant to paragraph (E) of this Section 9, (i) the maximum number of shares of ESOP Preferred Stock shall be adjusted by multiplying 3,902,438 (or such other number as shall be the maximum number of shares of ESOP Preferred Stock in effect prior to the authorization of such Special Dividend) by the Section 9(A), Section 9(B), Section 9(C)(1), Section 9(C)(2) or Section 9(D) Fraction, as the case may be, (ii) the Board shall take action as is necessary so that a sufficient number of shares of ESOP Preferred Stock are designated with respect to any increase in the number of shares of ESOP Preferred Stock to be outstanding as a result of such Special Dividend and (iii) the Corporation shall forthwith place on file with the transfer agent for the Common Stock and the ESOP Preferred Stock, if there be one, and with the Treasurer of the Corporation, a statement signed by the Treasurer or any Assistant Treasurer of the Corporation stating the adjusted maximum number of shares of ESOP Preferred Stock, Conversion Price, Liquidation Price and Preferred Dividend Rate determined as provided herein. The statement required by either of the two preceding sentences shall set forth in 34 reasonable detail such facts as shall be necessary to show the reason and the manner of computing such adjustments, including any determination of Fair Market Value involved in such computation. Promptly after each adjustment to the maximum number of shares of ESOP Preferred Stock, Conversion Price, the Liquidation Price, the Preferred Dividend Rate, or the number of shares of ESOP Preferred Stock outstanding, the Corporation shall mail a notice thereof and of the then prevailing maximum number of shares of ESOP Preferred Stock, Conversion Price, Liquidation Price, Preferred Dividend Rate and number of shares of ESOP Preferred Stock outstanding to each holder of shares of ESOP Preferred Stock. 10. Miscellaneous. -------------- (A) All notices referred to herein shall be in writing, and all notices hereunder shall be deemed to have given upon the earlier of receipt thereof of three (3) business days after the mailing thereof if sent by registered mail (unless first-class mail shall be specifically permitted for such notice under the terms hereof) with postage prepaid, addressed: (i) if to the Corporation, to its office at Two World Trade Center, New York, New York 10048 (Attention: Secretary) or to the transfer agent for the ESOP Preferred Stock, or other agent of the Corporation designated as permitted hereof or (ii) if to any holder of the ESOP Preferred Stock or Common Stock, as the case may be, to such holder at the address of such holder as listed in the stock record books of the Corporation (which may include the records of any transfer agent for Common Stock) or (iii) to such other address as the Corporation or any such holder, as the case may be, shall have designated by notice similarly given. (B) The term "Common Stock" as used herein means the Corporation's Common Stock, par value $0.01 per share, as the same exists at the date of filing of this Certificate of Designation pursuant to Section 151 of the General Corporation Law of the State of Delaware, or any other class of stock resulting from successive changes or reclassifications of such Common Stock consisting solely of changes in par value, or par value to without par value, or from without par value to par value. In the event that, at any time as a result of an adjustment made pursuant to Section 9 hereof, the holder of any shares of the ESOP Preferred Stock upon thereafter surrendering such shares for conversion shall become entitled to receive any shares or other securities of the Corporation other than shares of Common Stock, the anti-dilution provisions contained in Section 9 35 hereof shall apply in a manner and on terms as nearly equivalent as practicable to the provisions with respect to Common Stock, and the provisions of Sections 1 through 8 and 10 hereof respect to the Common Stock shall apply on like or similar terms to any such other shares or securities. (C) The Corporation shall pay any and all stock transfer and documentary stamp taxes that may be payable in respect of any issuance or delivery of shares of ESOP Preferred Stock or shares of Common Stock or other securities issued on account of ESOP Preferred Stock pursuant thereto or certificates representing such shares or securities. The Corporation shall not, however, be required to pay any such tax which may be payable in respect of any transfer involved in the issuance or delivery of shares of ESOP Preferred Stock or Common Stock or other securities in a name other than that in which the shares of ESOP Preferred Stock with respect to which such shares or other securities are issued or delivered were registered, or in respect of any payment to any person with respect to any shares or securities other than a payment to the registered holder thereof, and shall not be required to make any such issuance, delivery or payment unless and until the person otherwise entitled to such issuance, delivery or payment has paid to the Corporation the amount of any such tax or has established, to the satisfaction of the Corporation, that such tax has been paid or is not payable. (D) In the event that a holder of shares of ESOP Preferred Stock shall not by written notice designate the name in which shares of Common Stock to be issued upon conversion or exchange of such shares should be registered or to whom payment upon redemption of shares of ESOP Preferred Stock should be made or the address to which the certificate or certificates representing such shares, or such payment, should be sent, the Corporation shall be entitled to register such shares, and make such payment, in the name of the holder of such ESOP Preferred Stock as shown on the records of the Corporation and to send the certificate or certificates or other documentation repre senting such shares, or such payment, to the address of such other holder shown on the records of the Corporation. (E) The Corporation may appoint, and from time to time discharge and change, a transfer agent for the ESOP Preferred Stock. Upon any such appointment or discharge of a transfer agent, the Corporation, shall send notice thereof by first-class mail, postage prepaid, to each holder of record of ESOP Preferred Stock. 36 B. This Certificate of Designation shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, Dean Witter, Discover & Co. has caused this Certificate of Designation to be signed by Christine A. Edwards, its Executive Vice President, General Counsel and Secretary, this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By: /s/ Christine A. Edwards --------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 37 CERTIFICATE OF DESIGNATION OF PREFERENCES AND RIGHTS OF THE 7-3/8% CUMULATIVE PREFERRED STOCK ($200.00 Stated Value) OF DEAN WITTER, DISCOVER & CO. ______________________________ Pursuant to Section 151 of the General Corporation Law of the State of Delaware ______________________________ The undersigned DOES HEREBY CERTIFY: A. The following resolution was duly adopted by the Board of Directors (the "Board") of Dean Witter, Discover & Co., a Delaware corporation (hereinafter called the "Corporation"), by unanimous vote thereof at a meeting on May 28, 1997: RESOLVED that, pursuant to authority expressly granted to and vested in the Board by provisions of the Amended and Restated Certificate of Incorporation of the Corporation (the "Certificate of Incorporation"), the issuance of a series of Preferred Stock, par value $0.01 per share (the "Preferred Stock"), which shall consist of 1,000,000 of the shares of Preferred Stock which the Corporation has authority to issue, is authorized, and the Board hereby fixes the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, of the shares of such series (in addition to the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, set forth in the Certificate of Incorporation which may be applicable to the Preferred Stock) as follows: 1. Designation and Amount; Fractional Shares. The designation for such ------------------------------------------ series of the Preferred Stock authorized by this resolution shall be the 7-3/8% 38 Cumulative Preferred Stock, par value $0.01 per share, with a stated value of $200.00 per share (the "Cumulative Preferred Stock"). The stated value per share of Cumulative Preferred Stock shall not for any purpose be considered to be a determination by the Board with respect to the capital and surplus of the Corporation. The number of shares of Cumulative Preferred Stock shall be 1,000,000. The Cumulative Preferred Stock is issuable in whole shares only. 2. Dividends. Holders of shares of Cumulative Preferred Stock will be ---------- entitled to receive, when, as and if declared by the Board or the Committee (as hereinafter defined) out of assets of the Corporation legally available for payment, cash dividends payable quarterly at the rate of 7-3/8% per annum. Dividends on the Cumulative Preferred Stock, calculated as a percentage of the stated value, will be payable quarterly on February 28, May 30, August 30 and November 30 (each a "dividend payment date"). Dividends on shares of the Cumulative Preferred Stock will be cumulative from the date of initial issuance of such shares of Cumulative Preferred Stock. Dividends will be payable, in arrears, to holders of record as they appear on the stock books of the Corporation on such record dates, not more than 60 days nor less than 10 days preceding the payment dates thereof, as shall be fixed by the Board or the Committee. The amount of dividends payable for the initial dividend period or any period shorter than a full dividend period shall be calculated on the basis of a 360-day year of twelve 30-day months. No dividends may be declared or paid or set apart for payment on any Parity Preferred Stock (as defined in paragraph 9(b) below) with regard to the payment of dividends unless there shall also be or have been declared and paid or set apart for payment on the Cumulative Preferred Stock, like dividends for all dividend payment periods of the Cumulative Preferred Stock ending on or before the dividend payment date of such Parity Preferred Stock, ratably in proportion to the respective amounts of dividends (x) accumulated and unpaid or payable on such Parity Preferred Stock, on the one hand, and (y) accumulated and unpaid through the dividend payment period or periods of the Cumulative Preferred Stock next preceding such dividend payment date, on the other hand. For the purposes of this Certificate of Designation, the "Committee" shall mean any committee of the Board to whom the Board, pursuant to Section 141(c) of the General Corporation Law of the State of Delaware, delegates authority to 39 perform the functions of the Board set forth in this Certificate of Designation. Except as set forth in the preceding sentence, unless full cumulative dividends on the Cumulative Preferred Stock have been paid, no dividends (other than in Common Stock of the Corporation) may be paid or declared and set aside for payment or other distribution made upon the Common Stock or on any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends, nor may any Common Stock or any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends be redeemed, purchased or otherwise acquired for any consideration (or any payment be made to or available for a sinking fund for the redemption of any shares of such stock; provided, however, that any moneys theretofore deposited in any sinking fund with respect to any Preferred Stock of the Corporation in compliance with the provisions of such sinking fund may thereafter be applied to the purchase or redemption of such Preferred Stock in accordance with the terms of such sinking fund, regardless of whether at the time of such application full cumulative dividends upon shares of the Cumulative Preferred Stock outstanding to the last dividend payment date shall have been paid or declared and set apart for payment) by the Corporation; provided that any such junior or parity Preferred Stock or Common Stock may be converted into or exchanged for stock of the Corporation ranking junior to the Cumulative Preferred Stock as to dividends. 3. Liquidation Preference. The shares of Cumulative Preferred Stock shall ----------------------- rank, as to liquidation, dissolution or winding up of the Corporation, prior to the shares of Common Stock and any other class of stock of the Corporation ranking junior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up of the Corporation, so that in the event of any liquidation, dissolution or winding up of the Corporation, whether voluntary or involuntary, the holders of the Cumulative Preferred Stock shall be entitled to receive out of the assets of the Corporation available for distribution to its stockholders, whether from capital, surplus or earnings, before any distribution is made to holders of shares of Common Stock or any other such junior stock, an amount equal to $200.00 per share (the "Liquidation Preference" of a share of Cumulative Preferred Stock) 40 plus an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid on the shares of Cumulative Preferred Stock to the date of final distribution. The holders of the Cumulative Preferred Stock will not be entitled to receive the Liquidation Preference until the liquidation preference of any other class of stock of the Corporation ranking senior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up shall have been paid (or a sum set aside therefor sufficient to provide for payment) in full. After payment of the full amount of the Liquidation Preference and such dividends, the holders of shares of Cumulative Preferred Stock will not be entitled to any further participation in any distribution of assets by the Corporation. If, upon any liquidation, dissolution or winding up of the Corporation, the assets of the Corporation, or proceeds thereof, distributable among the holders of shares of Parity Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid, then such assets, or the proceeds thereof, shall be distributable among such holders ratably in accordance with the respective amounts which would be payable on such shares if all amounts payable thereon were paid in full. For the purposes hereof, neither a consolidation or merger of the Corporation with or into any other corporation, nor a merger of any other corporation with or into the Corporation, nor a sale or transfer of all or any part of the Corporation's assets for cash or securities shall be considered a liquidation, dissolution or winding up of the Corporation. 4. Conversion. The Cumulative Preferred Stock is not convertible into ----------- shares of any other class or series of stock of the Corporation. 5. Voting Rights. The holders of shares of Cumulative Preferred Stock -------------- shall have no voting rights whatsoever, except for any voting rights to which they may be entitled under the laws of the State of Delaware, and except as follows: (a) Whenever, at any time or times, dividends payable on the shares of Cumulative Preferred Stock or on any Parity Preferred Stock with respect to payment of dividends, shall be in arrears for an aggregate number of days equal to six calendar quarters or more, whether or not consecutive, the holders of the outstanding shares 41 of Cumulative Preferred Stock shall have the right, with holders of shares of any one or more other class or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class), to elect two of the authorized number of members of the Board at the Corporation's next annual meeting of stockholders and at each subsequent annual meeting of stockholders until such arrearages have been paid or set apart for payment, at which time such right shall terminate, except as herein or by law expressly provided, subject to revesting in the event of each and every subsequent default of the character above mentioned. Upon any termination of the right of the holders of shares of Cumulative Preferred Stock as a class to vote for directors as herein provided, the term of office of all directors then in office elected by the holders of shares of Cumulative Preferred Stock shall terminate immediately. Any director who shall have been so elected pursuant to this paragraph may be removed at any time, either with or without cause. Any vacancy thereby created may be filled only by the affirmative vote of the holders of shares of Cumulative Preferred Stock voting separately as a class (together with the holders of shares of any other class or series of stock upon which like voting rights have been conferred and are exercisable). If the office of any director elected by the holders of shares of Cumulative Preferred Stock voting as a class becomes vacant for any reason other than removal from office as aforesaid, the remaining director elected pursuant to this paragraph may choose a successor who shall hold office for the unexpired term in respect of which such vacancy occurred. At elections for such directors, each holder of shares of Cumulative Preferred Stock shall be entitled to one vote for each share held (the holders of shares of any other class or series of preferred stock having like voting rights being entitled to such number of votes, if any, for each share of such stock held as may be granted to them). (b) So long as any shares of Cumulative Preferred Stock remain outstanding, the consent of the holders of at least two-thirds of the shares of Cumulative Preferred Stock outstanding at the 42 time and all other classes or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class) given in person or by proxy, either in writing or at any meeting called for the purpose, shall be necessary to permit, effect or validate any one or more of the following: (i) the issuance or increase of the authorized amount of any class or series of shares ranking prior (as that term is defined in paragraph 9(a) hereof) to the shares of the Cumulative Preferred Stock; or (ii) the amendment, alteration or repeal, whether by merger, consolidation or otherwise, of any of the provisions of the Certificate of Incorporation (including this resolution or any provision hereof) that would materially and adversely affect any power, preference, or special right of the shares of Cumulative Preferred Stock or of the holders thereof; provided, however, that any increase in the amount of authorized Common Stock or authorized Preferred Stock or any increase or decrease in the number of shares of any series of Preferred Stock or the creation and issuance of other series of Common Stock or Preferred Stock, in each case ranking on a parity with or junior to the shares of Cumulative Preferred Stock with respect to the payment of dividends and the distribution of assets upon liquidation, dissolution or winding up, shall not be deemed to materially and adversely affect such powers, preferences or special rights. (c) The foregoing voting provisions shall not apply if, at or prior to the time when the act with respect to which such vote would otherwise be required shall be effected, all outstanding shares of Cumulative Preferred Stock shall have been redeemed or called for redemption and sufficient funds shall have been deposited in trust to effect such redemption. 6. Redemption. The shares of the Cumulative Preferred Stock may be ----------- redeemed at the option of the Corporation, as a whole, or from time to time in part, at any time, upon not less than 30 days' 43 prior notice mailed to the holders of the shares to be redeemed at their addresses as shown on the stock books of the Corporation; provided, however, that shares of the Cumulative Preferred Stock shall not be redeemable prior to August 30, 1998. Subject to the foregoing, on or after such date, shares of the Cumulative Preferred Stock are redeemable at $200.00 per share together with an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid to, but excluding, the date fixed for redemption. If full cumulative dividends on the Cumulative Preferred Stock have not been paid, the Cumulative Preferred Stock may not be redeemed in part and the Corporation may not purchase or acquire any shares of the Cumulative Preferred Stock otherwise than pursuant to a purchase or exchange offer made on the same terms to all holders of the Cumulative Preferred Stock. If fewer than all the outstanding shares of Cumulative Preferred Stock are to be redeemed, the Corporation will select those to be redeemed by lot or a substantially equivalent method. If a notice of redemption has been given pursuant to this paragraph 6 and if, on or before the date fixed for redemption, the funds necessary for such redemption shall have been set aside by the Corporation, separate and apart from its other funds, in trust for the pro rata benefit of the holders of the shares of Cumulative Preferred Stock so called for redemption, then, notwithstanding that any certificates for such shares have not been surrendered for cancelation, on the redemption date dividends shall cease to accrue on the shares to be redeemed, and at the close of business on the redemption date the holders of such shares shall cease to be stockholders with respect to such shares and shall have no interest in or claims against the Corporation by virtue thereof and shall have no voting or other rights with respect to such shares, except the right to receive the moneys payable upon surrender (and endorsement, if required by the Corporation) of their certificates, and the shares evidenced thereby shall no longer be outstanding. Subject to applicable escheat laws, any moneys so set aside 44 by the Corporation and unclaimed at the end of two years from the redemption date shall revert to the general funds of the Corporation, after which reversion the holders of such shares so called for redemption shall look only to the general funds of the Corporation for the payment of the amounts payable upon such redemption. Any interest accrued on funds so deposited shall be paid to the Corporation from time to time. 7. Authorization and Issuance of Other Securities. No consent of the ----------------------------------------------- holders of the Cumulative Preferred Stock shall be required for (a) the creation of any indebtedness of any kind of the Corporation, (b) the creation, or increase or decrease in the amount, of any class or series of stock of the Corporation not ranking prior as to dividends or upon liquidation, dissolution or winding up to the Cumulative Preferred Stock or (c) any increase or decrease in the amount of authorized Common Stock or any increase, decrease or change in the par value thereof or in any other terms thereof. 8. Amendment of Resolution. The Board and the Committee each reserves the ------------------------ right by subsequent amendment of this resolution from time to time to increase or decrease the number of shares that constitute the Cumulative Preferred Stock (but not below the number of shares thereof then outstanding) and in other respects to amend this resolution within the limitations provided by law, this resolution and the Certificate of Incorporation. 9. Rank. For the purposes of this resolution, any stock of any class or ----- classes of the Corporation shall be deemed to rank: (a) prior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of shares of the Cumulative Preferred Stock; 45 (b) on a parity with shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, whether or not the dividend rates, dividend payment dates, or redemption or liquidation prices per share thereof be different from those of the Cumulative Preferred Stock, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributed upon liquidation, dissolution or winding up, as the case may be, in proportion to their respective dividend rates or liquidation prices, without preference or priority of one over the other as between the holders of such stock and the holders of shares of Cumulative Preferred Stock (the term "Parity Preferred Stock" being used to refer to any stock on a parity with the shares of Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, as the context may require); and (c) junior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if such class shall be Common Stock or if the holders of the Cumulative Preferred Stock shall be entitled to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of stock of such class or classes. The Cumulative Preferred Stock shall rank prior, as to dividends and upon liquidation, dissolution or winding up, to the Common Stock and the Corporation's Series A Junior Participating Preferred Stock, and on a parity with (i) the Corporation's ESOP Convertible Preferred Stock, with a liquidation value of $35.88 per share, (ii) the Corporation's 7-3/4% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iii) the Corporation's Series A Fixed/Adjustable Rate Preferred Stock, with a liquidation value of $200.00 per share,(iv) if issued, the Corporation's 7.82% Cumulative Preferred Stock, with a liquidation value of 46 $200.00 per share, (v) if issued, the Corporation's 7.80% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vi) if issued, the Corporation's 9.00% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vii) if issued, the Corporation's 8.40% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (viii) if issued, the Corporation's 8.20% Cumulative Preferred Stock, with a liquidation value of $200.00 per share and (ix) if issued, the Corporation's 8.03% Cumulative Preferred Stock, with a liquidation value of $200.00 per share. 47 B. This Certificate of Designation shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, Dean Witter, Discover & Co. has caused this Certificate of Designation to be signed by Christine A. Edwards, its Executive Vice President, General Counsel and Secretary, this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By: /s/ Christine A. Edwards ---------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 48 CERTIFICATE OF DESIGNATION OF PREFERENCES AND RIGHTS OF THE 7.82% CUMULATIVE PREFERRED STOCK ($200.00 Stated Value) OF DEAN WITTER, DISCOVER & CO. ------------------------------ Pursuant to Section 151 of the General Corporation Law of the State of Delaware ------------------------------ The undersigned DOES HEREBY CERTIFY: A. The following resolution was duly adopted by the Board of Directors (the "Board") of Dean Witter, Discover & Co., a Delaware corporation (hereinafter called the "Corporation"), by unanimous vote thereof at a meeting on May 28, 1997: RESOLVED that, pursuant to authority expressly granted to and vested in the Board by provisions of the Amended and Restated Certificate of Incorporation of the Corporation (the "Certificate of Incorporation"), the issuance of a series of Preferred Stock, par value $0.01 per share (the "Preferred Stock"), which shall consist of 611,238 of the shares of Preferred Stock which the Corporation has authority to issue, is authorized, and the Board hereby fixes the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, of the shares of such series (in addition to the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, set forth in the Certificate of Incorporation which may be applicable to the Preferred Stock) as follows: 1. Designation and Amount; Fractional Shares. The designation for such ------------------------------------------ series of the Preferred Stock authorized by this resolution shall be the 7.82% Cumulative Preferred Stock, par value $0.01 per share, with a stated value of $200.00 per share (the 49 "Cumulative Preferred Stock"). The stated value per share of Cumulative Preferred Stock shall not for any purpose be considered to be a determination by the Board with respect to the capital and surplus of the Corporation. The maximum number of shares of Cumulative Preferred Stock shall be 611,238. The Cumulative Preferred Stock is issuable in whole shares only. 2. Dividends. Holders of shares of Cumulative Preferred Stock will be ---------- entitled to receive, when, as and if declared by the Board or the Committee (as hereinafter defined) out of assets of the Corporation legally available for payment, cash dividends payable quarterly at the rate of 7.82% per annum. Dividends on the Cumulative Preferred Stock will be payable quarterly on February 28, May 30, August 30 and November 30 (each a "dividend payment date"). Dividends on shares of the Cumulative Preferred Stock will be cumulative from the date of initial issuance of such shares of Cumulative Preferred Stock. Dividends will be payable, in arrears, to holders of record as they appear on the stock books of the Corporation on such record dates, not more than 60 days nor less than 10 days preceding the payment dates thereof, as shall be fixed by the Board or the Committee. The amount of dividends payable for the initial dividend period or any period shorter than a full dividend period shall be calculated on the basis of a 360-day year of twelve 30-day months. No dividends may be declared or paid or set apart for payment on any Parity Preferred Stock (as defined in paragraph 9(b) below) with regard to the payment of dividends unless there shall also be or have been declared and paid or set apart for payment on the Cumulative Preferred Stock, like dividends for all dividend payment periods of the Cumulative Preferred Stock ending on or before the dividend payment date of such Parity Preferred Stock, ratably in proportion to the respective amounts of dividends (x) accumulated and unpaid or payable on such Parity Preferred Stock, on the one hand, and (y) accumulated and unpaid through the dividend payment period or periods of the Cumulative Preferred Stock next preceding such dividend payment date, on the other hand. For the purposes of this Certificate of Designation, the "Committee" shall mean any committee of the Board to whom the Board, pursuant to Section 141(c) of the General Corporation Law of the State of Delaware, delegates authority to perform the functions of the Board set forth in this Certificate of Designation. 50 Except as set forth in the preceding sentence, unless full cumulative dividends on the Cumulative Preferred Stock have been paid, no dividends (other than in Common Stock of the Corporation) may be paid or declared and set aside for payment or other distribution made upon the Common Stock or on any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends, nor may any Common Stock or any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends be redeemed, purchased or otherwise acquired for any consideration (or any payment be made to or available for a sinking fund for the redemption of any shares of such stock; provided, however, that any moneys theretofore deposited in any sinking fund with respect to any Preferred Stock of the Corporation in compliance with the provisions of such sinking fund may thereafter be applied to the purchase or redemption of such Preferred Stock in accordance with the terms of such sinking fund, regardless of whether at the time of such application full cumulative dividends upon shares of the Cumulative Preferred Stock outstanding to the last dividend payment date shall have been paid or declared and set apart for payment) by the Corporation; provided, that any such junior or parity Preferred Stock or Common Stock may be converted into or exchanged for stock of the Corporation ranking junior to the Cumulative Preferred Stock as to dividends. 3. Liquidation Preference. The shares of Cumulative Preferred Stock shall ----------------------- rank, as to liquidation, dissolution or winding up of the Corporation, prior to the shares of Common Stock and any other class of stock of the Corporation ranking junior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up of the Corporation, so that in the event of any liquidation, dissolution or winding up of the Corporation, whether voluntary of involuntary, the holders of the Cumulative Preferred Stock shall be entitled to receive out of the assets of the Corporation available for distribution to its stockholders, whether from capital, surplus or earnings, before any distribution is made to holders of shares of Common Stock or any other such junior stock, an amount equal to $200.00 per share (the "Liquidation Preference" of a share of Cumulative Preferred Stock) plus an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid on the shares of Cumulative Preferred Stock to the date 51 of final distribution. The holders of the Cumulative Preferred Stock will not be entitled to receive the Liquidation Preference until the liquidation preference of any other class of stock of the Corporation ranking senior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up shall have been paid (or a sum set aside therefor sufficient to provide for payment) in full. After payment of the full amount of the Liquidation Preference and such dividends, the holders of shares of Cumulative Preferred Stock will not be entitled to any further participation in any distribution of assets by the Corporation. If, upon any liquidation, dissolution or winding up of the Corporation, the assets of the Corporation, or proceeds thereof, distributable among the holders of shares of Parity Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid, then such assets, or the proceeds thereof, shall be distributable among such holders ratably in accordance with the respective amounts which would be payable on such shares if all amounts payable thereon were paid in full. For the purposes hereof, neither a consolidation or merger of the Corporation with or into any other corporation, nor a merger of any other corporation with or into the Corporation, nor a sale or transfer of all or any part of the Corporation's assets for cash or securities shall be considered a liquidation, dissolution or winding up of the Corporation. 4. Conversion. The Cumulative Preferred Stock is not convertible into ----------- shares of any other class or series of stock of the Corporation. 5. Voting Rights. The holders of shares of Cumulative Preferred Stock -------------- shall have no voting rights whatsoever, except for any voting rights to which they may be entitled under the laws of the State of Delaware, and except as follows: (a) Whenever, at any time or times, dividends payable on the shares of Cumulative Preferred Stock or on any Parity Preferred Stock with respect to payment of dividends, shall be in arrears for an aggregate number of days equal to six calendar quarters or more, whether or not consecutive, the holders of the outstanding shares of Cumulative Preferred Stock shall have the right, with holders of shares of any one or more other class or series of stock upon which like 52 voting rights have been conferred and are exercisable (voting together as a class), to elect two of the authorized number of members of the Board at the Corporation's next annual meeting of stockholders and at each subsequent annual meeting of stockholders until such arrearages have been paid or set apart for payment, at which time such right shall terminate, except as herein or by law expressly provided, subject to revesting in the event of each and every subsequent default of the character above mentioned. Upon any termination of the right of the holders of shares of Cumulative Preferred Stock as a class to vote for directors as herein provided, the term of office of all directors then in office elected by the holders of shares of Cumulative Preferred Stock shall terminate immediately. Any director who shall have been so elected pursuant to this paragraph may be removed at any time, either with or without cause. Any vacancy thereby created may be filled only by the affirmative vote of the holders of shares of Cumulative Preferred Stock voting separately as a class (together with the holders of shares of any other class or series of stock upon which like voting rights have been conferred and are exercisable). If the office of any director elected by the holders of shares of Cumulative Preferred Stock voting as a class becomes vacant for any reason other than removal from office as aforesaid, the remaining director elected pursuant to this paragraph may choose a successor who shall hold office for the unexpired term in respect of which such vacancy occurred. At elections for such directors, each holder of shares of Cumulative Preferred Stock shall be entitled to one vote for each share held (the holders of shares of any other class or series of preferred stock having like voting rights being entitled to such number of votes, if any, for each share of such stock held as may be granted to them). (b) So long as any shares of Cumulative Preferred Stock remain outstanding, the consent of the holders of at least two-thirds of the shares of Cumulative Preferred Stock outstanding at the time and all other classes or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class) given 53 in person or by proxy, either in writing or at any meeting called for the purpose, shall be necessary to permit, effect or validate any one or more of the following: (i) the issuance or increase of the authorized amount of any class or series of shares ranking prior (as that term is defined in paragraph 9(a) hereof) to the shares of the Cumulative Preferred Stock; or (ii) the amendment, alteration or repeal, whether by merger, consolidation or otherwise, of any of the provisions of the Certificate of Incorporation (including this resolution or any provision hereof) that would materially and adversely affect any power, preference, or special right of the shares of Cumulative Preferred Stock or of the holders thereof; provided, however, that any increase in the amount of authorized Common Stock or authorized Preferred Stock or any increase or decrease in the number of shares of any series of Preferred Stock or the creation and issuance of other series of Common Stock or Preferred Stock, in each case ranking on a parity with or junior to the shares of Cumulative Preferred Stock with respect to the payment of dividends and the distribution of assets upon liquidation, dissolution or winding up, shall not be deemed to materially and adversely affect such powers, preferences or special rights. (c) The foregoing voting provisions shall not apply if, at or prior to the time when the act with respect to which such vote would otherwise be required shall be effected, all outstanding shares of Cumulative Preferred Stock shall have been redeemed or called for redemption and sufficient funds shall have been deposited in trust to effect such redemption. 6. Redemption. The shares of the Cumulative Preferred Stock may be ----------- redeemed at the option of the Corporation, as a whole, or from time to time in part, at any time, upon not less than 30 days' prior notice mailed to the holders of the shares to be redeemed at their addresses as shown on the stock books of the Corporation; provided, however, that shares of the 54 Cumulative Preferred Stock shall not be redeemable prior to November 30, 1998. Subject to the foregoing, on or after such date, shares of the Cumulative Preferred Stock are redeemable at $200.00 per share together with an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid to, but excluding, the date fixed for redemption. If full cumulative dividends on the Cumulative Preferred Stock have not been paid, the Cumulative Preferred Stock may not redeemed in part and the Corporation may not purchase or acquire any shares of the Cumulative Preferred Stock otherwise than pursuant to a purchase or exchange offer made on the same terms to all holders of the Cumulative Preferred Stock. If fewer than all the outstanding shares of Cumulative Preferred Stock are to be redeemed, the Corporation will select those to be redeemed by lot or a substantially equivalent method. If a notice of redemption has been given pursuant to this paragraph 6 and if, on or before the date fixed for redemption, the funds necessary for such redemption shall have been set aside by the Corporation, separate and apart from its other funds, in trust for the pro rata benefit of the holders of the shares of Cumulative Preferred Stock so called for redemption, then, notwithstanding that any certificates for such shares have not been surrendered for cancelation, on the redemption date dividends shall cease to accrue on the shares to be redeemed, and at the close of business on the redemption date the holders of such shares shall cease to be stockholders with respect to such shares and shall have no interest in or claims against the Corporation by virtue thereof and shall have no voting or other rights with respect to such shares, except the right to receive the moneys payable upon surrender (and endorsement, if required by the Corporation) of their certificates, and the shares evidenced thereby shall no longer be outstanding. Subject to applicable escheat laws, any moneys so set aside by the Corporation and unclaimed at the end of two years from the redemption date shall revert to the general funds of the Corporation, after which reversion the holders of such shares so called for redemption shall look only to the general funds of the Corporation for the payment of the amounts payable upon such redemption. Any interest accrued on funds so deposited shall be paid to the Corporation from time to time. 55 7. Authorization and Issuance of Other Securities. No consent of the ----------------------------------------------- holders of the Cumulative Preferred Stock shall be required for (a) the creation of any indebtedness of any kind of the Corporation, (b) the creation, or increase or decrease in the amount, of any class or series of stock of the Corporation not ranking prior as to dividends or upon liquidation, dissolution or winding up to the Cumulative Preferred Stock or (c) any increase or decrease in the amount of authorized Common Stock or any increase, decrease or change in the par value thereof or in any other terms thereof. 8. Amendment of Resolution. The Board and the Committee each reserves the ------------------------ right by subsequent amendment of this resolution from time to time to increase or decrease the number of shares that constitute the Cumulative Preferred Stock (but not below the number of shares thereof then outstanding) and in other respects to amend this resolution within the limitations provided by law, this resolution and the Certificate of Incorporation. 9. Rank. For the purposes of this resolution, any stock of any class or ----- classes of the Corporation shall be deemed to rank: (a) prior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of shares of the Cumulative Preferred Stock; (b) on a parity with shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, whether or not the dividend rates, dividend payment dates, or redemption or liquidation prices per share thereof be different from those of the Cumulative Preferred Stock, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributed upon liquidation, dissolution or winding up, as the case may be, in proportion to their respective dividend rates or 56 liquidation prices, without preference or priority of one over the other as between the holders of such stock and the holders of shares of Cumulative Preferred Stock (the term "Parity Preferred Stock" being used to refer to any stock on a parity with the shares of Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, as the context may require); and (c) junior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if such class shall be Common Stock or if the holders of the Cumulative Preferred Stock shall be entitled to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of stock of such class or classes. The Cumulative Preferred Stock shall rank prior, as to dividends and upon liquidation, dissolution or winding up, to the Common Stock and the Corporation's Series A Junior Participating Preferred Stock, and on a parity with (i) the Corporation's ESOP Convertible Preferred Stock, with a liquidation value of $35.88 per share, (ii) the Corporation's 7-3/8% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iii) the Corporation's 7-3/4% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iv) the Corporation's Series A Fixed/Adjustable Rate Preferred Stock, with a liquidation value of $200.00 per share, (v) if issued, the Corporation's 7.80% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vi) if issued, the Corporation's 9.00% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vii) if issued, the Corporation's 8.40% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (viii) if issued, the Corporation's 8.20% Cumulative Preferred Stock, with a liquidation value of $200.00 per share and (ix) if issued, the Corporation's 8.03% Cumulative Preferred Stock, with a liquidation value of $200.00 per share. 57 B. This Certificate of Designation shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, Dean Witter, Discover & Co. has caused this Certificate of Designation to be signed by Christine A. Edwards, its Executive Vice President, General Counsel and Secretary, this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By:/s/ Christine A. Edwards ---------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 58 CERTIFICATE OF DESIGNATION OF PREFERENCES AND RIGHTS OF THE 7.80% CUMULATIVE PREFERRED STOCK ($200.00 Stated Value) OF DEAN WITTER, DISCOVER & CO. --------------------------- Pursuant to Section 151 of the General Corporation Law of the State of Delaware --------------------------- The undersigned DOES HEREBY CERTIFY: A. The following resolution was duly adopted by the Board of Directors (the "Board") of Dean Witter, Discover & Co., a Delaware corporation (hereinafter called the "Corporation"), by unanimous vote thereof at a meeting on May 28, 1997: RESOLVED that, pursuant to authority expressly granted to and vested in the Board by provisions of the Amended and Restated Certificate of Incorporation (the "Certificate of Incorporation"), the issuance of a series of Preferred Stock, par value $0.01 per share (the "Preferred Stock"), which shall consist of 1,150,000 of the shares of Preferred Stock which the Corporation has authority to issue, is authorized, and the Board hereby fixes the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, of the shares of such series (in addition to the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, set forth in the Certificate of Incorporation which may be applicable to the Preferred Stock) as follows: 1. Designation and Amount; Fractional Shares. The designation for such ------------------------------------------ series of the Preferred Stock authorized by this resolution shall be the 7.80% Cumulative Preferred Stock, par value $0.01 per share, with a stated value of $200.00 per share (the "Cumulative Preferred Stock"). The stated value per 59 share of Cumulative Preferred Stock shall not for any purpose be considered to be a determination by the Board with respect to the capital and surplus of the Corporation. The maximum number of shares of Cumulative Preferred Stock shall be 1,150,000. The Cumulative Preferred Stock is issuable in whole shares only. 2. Dividends. Holders of shares of Cumulative Preferred Stock will be ---------- entitled to receive, when, as and if declared by the Board or the Committee (as hereinafter defined) out of assets of the Corporation legally available for payment, cash dividends payable quarterly at the rate of 7.80% per annum. Dividends on the Cumulative Preferred Stock will be payable quarterly on February 28, May 30, August 30 and November 30 (each a "dividend payment date"). Dividends on shares of the Cumulative Preferred Stock will be cumulative from the date of initial issuance of such shares of Cumulative Preferred Stock. Dividends will be payable, in arrears, to holders of record as they appear on the stock books of the Corporation on such record dates, not more than 60 days nor less than 10 days preceding the payment dates thereof, as shall be fixed by the Board or the Committee. The amount of dividends payable for the initial dividend period or any period shorter than a full dividend period shall be calculated on the basis of a 360-day year of twelve 30-day months. No dividends may be declared or paid or set apart for payment on any Parity Preferred Stock (as defined in paragraph 9(b) below) with regard to the payment of dividends unless there shall also be or have been declared and paid or set apart for payment on the Cumulative Preferred Stock, like dividends for all dividend payment periods of the Cumulative Preferred Stock ending on or before the dividend payment date of such Parity Preferred Stock, ratably in proportion to the respective amounts of dividends (x) accumulated and unpaid or payable on such Parity Preferred Stock, on the one hand, and (y) accumulated and unpaid through the dividend payment period or periods of the Cumulative Preferred Stock next preceding such dividend payment date, on the other hand. For the purposes of this Certificate of Designation, the "Committee" shall mean any committee of the Board to whom the Board, pursuant to Section 141(c) of the General Corporation Law of the State of Delaware, delegates authority to perform the functions of the Board forth in this Certificate of Designation. 60 Except as set forth in the preceding sentence, unless full cumulative dividends on the Cumulative Preferred Stock have been paid, no dividends (other than in Common Stock of the Corporation) may be paid or declared and set aside for payment or other distribution made upon the Common Stock or on any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends, nor may any Common Stock or any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends be redeemed, purchased or otherwise acquired for any consideration (or any payment be made to or available for a sinking fund for the redemption of any shares of such stock; provided, however, that any moneys theretofore deposited in any sinking fund with respect to any Preferred Stock of the Corporation in compliance with the provisions of such sinking fund may thereafter be applied to the purchase or redemption of such Preferred Stock in accordance with the terms of such sinking fund, regardless of whether at the time of such application full cumulative dividends upon shares of the Cumulative Preferred Stock outstanding to the last dividend payment date shall have been paid or declared and set apart for payment) by the Corporation; provided that any such junior or parity Preferred Stock or Common Stock may be converted into or exchanged for stock of the Corporation ranking junior to the Cumulative Preferred Stock as to dividends. 3. Liquidation Preference. The shares of Cumulative Preferred Stock ----------------------- shall rank, as to liquidation, dissolution or winding up of the Corporation, prior to the shares of Common Stock and any other class of stock of the Corporation ranking junior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up of the Corporation, so that in the event of any liquidation, dissolution or winding up of the Corporation, whether voluntary or involuntary, the holders of the Cumulative Preferred Stock shall be entitled to receive out of the assets of the Corporation available for distribution to its stockholders, whether from capital, surplus or earnings, before any distribution is made to holders of shares of Common Stock or any other such junior stock, an amount equal to $200.00 per share (the "Liquidation Preference" of a share of Cumulative Preferred Stock) plus an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid on the shares of Cumulative Preferred Stock to the date 61 of final distribution. The holders of the Cumulative Preferred Stock will not be entitled to receive the Liquidation Preference until the liquidation preference of any other class of stock of the Corporation ranking senior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up shall have been paid (or a sum set aside therefor sufficient to provide for payment) in full. After payment of the full amount of the Liquidation Preference and such dividends, the holders of shares of Cumulative Preferred Stock will not be entitled to any further participation in any distribution of assets by the Corporation. If, upon any liquidation, dissolution or winding up of the Corporation, the assets of the Corporation, or proceeds thereof, distributable among the holders of shares of Parity Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid, then such assets, or the proceeds thereof, shall be distributable among such holders ratably in accordance with the respective amounts which would be payable on such shares if all amounts payable thereon were paid in full. For the purposes hereof, neither a consolidation or merger of the Corporation with or into any other corporation, nor a merger of any other corporation with or into the Corporation, nor a sale or transfer of all or any part of the Corporation's assets for cash or securities shall be considered a liquidation, dissolution or winding up of the Corporation. 4. Conversion. The Cumulative Preferred Stock is not convertible into ----------- shares of any other class or series of stock of the Corporation. 5. Voting Rights. The holders of shares of Cumulative Preferred Stock -------------- shall have no voting rights whatsoever, except for any voting rights to which they may be entitled under the laws of the State of Delaware, and except as follows: (a) Whenever, at any time or times, dividends payable on the shares of Cumulative Preferred Stock or on any Parity Preferred Stock with respect to payment of dividends, shall be in arrears for an aggregate number of days equal to six calendar quarters or more, whether or not consecutive, the holders of the outstanding shares of Cumulative Preferred Stock shall have the right, with holders of shares of any one or more other class or series of stock upon which like 62 voting rights have been conferred and are exercisable (voting together as a class), to elect two of the authorized number of members of the Board at the Corporation's next annual meeting of stockholders and at each subsequent annual meeting of stockholders until such arrearages have been paid or set apart for payment, at which time such right shall terminate, except as herein or by law expressly provided, subject to revesting in the event of each and every subsequent default of the character above mentioned. Upon any termination of the right of the holders of shares of Cumulative Preferred Stock as a class to vote for directors as herein provided, the term of office of all directors then in office elected by the holders of shares of Cumulative Preferred Stock shall terminate immediately. Any director who shall have been so elected pursuant to this paragraph may be removed at any time, either with or without cause. Any vacancy thereby created may be filled only by the affirmative vote of the holders of shares of Cumulative Preferred Stock voting separately as a class (together with the holders of shares of any other class or series of stock upon which like voting rights have been conferred and are exercisable). If the office of any director elected by the holders of shares of Cumulative Preferred Stock voting as a class becomes vacant for any reason other than removal from office as aforesaid, the remaining director elected pursuant to this paragraph may choose a successor who shall hold office for the unexpired term in respect of which such vacancy occurred. At elections for such directors, each holder of shares of Cumulative Preferred Stock shall be entitled to one vote for each share held (the holders of shares of any other class or series of preferred stock having like voting rights being entitled to such number of votes, if any, for each share of such stock held as may be granted to them). (b) So long as any shares of Cumulative Preferred Stock remain outstanding, the consent of the holders of at least two-thirds of the shares of the Cumulative Preferred Stock outstanding at the time and all other classes or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class) 63 given in person or by proxy, either in writing or at any meeting called for the purpose, shall be necessary to permit, effect or validate any one or more of the following: (i) the issuance or increase of the authorized amount of any class or series of shares ranking prior (as that term is defined in paragraph 9(a) hereof) to the shares of the Cumulative Preferred Stock; or (ii) the amendment, alteration or repeal, whether by merger, consolidation or otherwise, of any of the provisions of the Certificate of Incorporation (including this resolution or any provision hereof) that would materially and adversely affect any power, preference, or special right of the shares of Cumulative Preferred Stock or of the holders thereof; provided, however, that any increase in the amount of authorized Common Stock or authorized Preferred Stock or any increase or decrease in the number of shares of any series of Preferred Stock or the creation and issuance of other series of Common Stock or Preferred Stock, in each case ranking on a parity with or junior to the shares of Cumulative Preferred Stock with respect to the payment of dividends and the distribution of assets upon liquidation, dissolution or winding up, shall not be deemed to materially and adversely affect such powers, preferences or special rights. (c) The foregoing voting provisions shall not apply if, at or prior to the time when the act with respect to which such vote would otherwise be required shall be effected, all outstanding shares of Cumulative Preferred Stock shall have been redeemed or called for redemption and sufficient funds shall have been deposited in trust to effect such redemption. 6. Redemption. The shares of the Cumulative Preferred Stock may be ----------- redeemed at the option of the Corporation, as a whole, or from time to time in part, at any time, upon not less than 30 days' prior notice mailed to the holders of the shares to be redeemed at their addresses as shown on the stocks books of the Corporation; provided, however, that shares of the 64 Cumulative Preferred Stock shall not be redeemable prior to February 28, 1999. Subject to the foregoing, on or after such date, shares of the Cumulative Preferred Stock are redeemable at $200.00 per share together with an amount equal to all dividends (whether or not earned or declined) accrued and accumulated and unpaid to, but excluding, the date fixed for redemption. If full cumulative dividends on the Cumulative Preferred Stock have not been paid, the Cumulative Preferred Stock may not be redeemed in part and the Corporation may not purchase or acquire any shares of the Cumulative Preferred Stock otherwise than pursuant to a purchase or exchange offer made on the same terms to all holders of the Cumulative Preferred Stock. If fewer than all the outstanding shares of Cumulative Preferred Stock are to be redeemed, the Corporation will select those to be redeemed by lot or a substantially equivalent method. If a notice of redemption has been given pursuant to this paragraph 6 and if, on or before the date fixed for redemption, the funds necessary for such redemption shall have been set aside by the Corporation, separate and apart from its other funds, in trust for the pro rata benefit of the holders of the shares of Cumulative Preferred Stock so called for redemption, then, notwithstanding that any certificates for such shares have not been surrendered for cancelation, on the redemption date dividends shall cease to accrue on the shares to be redeemed, and at the close of business on the redemption date the holders of such shares shall cease to be stockholders with respect to such shares and shall have no interest in or claims against the Corporation by virtue thereof and shall have no voting or other rights with respect to such shares, except the right to receive the moneys payable upon surrender (and endorsement, if required by the Corporation) of their certificates, and the shares evidenced thereby shall no longer be outstanding. Subject to applicable escheat laws, any moneys so set aside by the Corporation and unclaimed at the end of two years from the redemption date shall revert to the general funds of the Corporation, after which reversion the holders of such shares so called for redemption shall look only to the general funds of the Corporation for the payment of the amounts payable upon such redemption. Any interest accrued on funds so deposited shall be paid to the Corporation from time to time. 65 7. Authorization and Issuance of Other Securities. No consent of the ----------------------------------------------- holders of the Cumulative Preferred Stock shall be required for (a) the creation of any indebtedness of any kind of the Corporation, (b) the creation, or increase or decrease in the amount, of any class or series of stock of the Corporation not ranking prior as to dividends or upon liquidation, dissolution or winding up to the Cumulative Preferred Stock or (c) any increase or decrease in the amount of authorized Common Stock or any increase or decrease or change in the par value thereof or in any other terms thereof. 8. Amendment of Resolution. The Board and the Committee each reserves the ------------------------ right by subsequent amendment of this resolution from time to time to increase or decrease the number of shares that constitute the Cumulative Preferred Stock (but not below the number of shares thereof then outstanding) and in other respects to amend this resolution within the limitations provided by law, this resolution and the Certificate of Incorporation. 9. Rank. For the purposes of this resolution, any stock of any class or ----- classes of the Corporation shall be deemed to rank: (a) prior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of shares of the Cumulative Preferred Stock; (b) on a parity with shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, whether or not the dividend rates, dividend payment dates, or redemption or liquidation prices per share thereof be different from those of the Cumulative Preferred Stock, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributed upon liquidation, dissolution or winding up, as the case may be, in proportion to their respective dividend rates or 66 liquidation prices, without preference or priority of one over the other as between the holders of such stock and the holders of shares of Cumulative Preferred Stock (the term "Parity Preferred Stock" being used to refer to any stock on a parity with the shares of Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, as the context may require); and (c) junior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if such class shall be Common Stock or if the holders of the Cumulative Preferred Stock shall be entitled to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of stock in such class or classes. The Cumulative Preferred Stock shall rank prior, as to dividends and upon liquidation, dissolution or winding up, to the Common Stock and the Corporation's Series A Junior Participating Preferred Stock, and on a parity with (i) the Corporation's ESOP Convertible Preferred Stock, with a liquidation value of $35.88 per share, (ii) the Corporation's 7-3/8% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iii) the Corporation's 7-3/4% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iv) the Corporation's Series A Fixed/Adjustable Rate Preferred Stock, with a liquidation value of $200.00 per share, (v) if issued, the Corporation's 7.82% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vi) if issued, the Corporation's 9.00% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vii) if issued, the Corporation's 8.40% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (viii) if issued, the Corporation's 8.20% Cumulative Preferred Stock, with a liquidation value of $200.00 per share and (ix) if issued, the Corporation's 8.03% Cumulative Preferred Stock, with a liquidation value of $200.00 per share. 67 B. This Certificate of Designation shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, Dean Witter, Discover & Co. has caused this Certificate of Designation to be signed by Christine A. Edwards, its Executive Vice President, General Counsel and Secretary, this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By: /s/ Christine A. Edwards ---------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 68 CERTIFICATE OF DESIGNATION OF PREFERENCES AND RIGHTS OF THE 9.00% CUMULATIVE PREFERRED STOCK ($200.00 Stated Value) OF DEAN WITTER, DISCOVER & CO. __________________________ Pursuant to Section 151 of the General Corporation Law of the State of Delaware __________________________ The undersigned DOES HEREBY CERTIFY: A. The following resolution was duly adopted by the Board of Directors (the "Board") of Dean Witter, Discover & Co., a Delaware corporation (hereinafter called the "Corporation"), by unanimous vote thereof at a meeting on May 28, 1997: RESOLVED that, pursuant to authority expressly granted to and vested in the Board by provisions of the Amended and Restated Certificate of Incorporation of the Corporation (the "Certificate of Incorporation"), the issuance of a series of Preferred Stock, par value $0.01 per share (the "Preferred Stock"), which shall consist of 720,900 of the shares of Preferred Stock which the Corporation has authority to issue, is authorized, and the Board hereby fixes the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, of the shares of such series (in addition to the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, set forth in the Certificate of Incorporation which may be applicable to the Preferred Stock) as follows: 1. Designation and Amount; Fractional Shares. The designation for such ------------------------------------------ series of the Preferred Stock authorized by this resolution shall be the 9.00% Cumulative Preferred Stock, par value $0.01 per share, with a stated value of $200.00 per share (the "Cumulative Preferred Stock"). The stated value per share of Cumulative Preferred Stock shall not for any 69 purpose be considered to be a determination by the Board with respect to the capital and surplus of the Corporation. The maximum number of shares of Cumulative Preferred Stock shall be 720,900. The Cumulative Preferred Stock is issuable in whole shares only. 2. Dividends. Holders of shares of Cumulative Preferred Stock will be ---------- entitled to receive, when, as and if declared by the Board or the Committee (as hereinafter defined) out of assets of the Corporation legally available for payment, cash dividends payable quarterly at the rate of 9.00% per annum. Dividends on the Cumulative Preferred Stock will be payable quarterly on February 28, May 30, August 30 and November 30 (each a "dividend payment date"). Dividends on shares of the Cumulative Preferred Stock will be cumulative from the date of initial issuance of such shares of Cumulative Preferred Stock. Dividends will be payable, in arrears, to holders of record as they appear on the stock books of the Corporation on such record dates, not more than 60 days nor less than 10 days preceding the payment dates thereof, as shall be fixed by the Board or the Committee. The amount of dividends payable for the initial dividend period or any period shorter than a full dividend period shall be calculated on the basis of a 360-day year of twelve 30-day months. No dividends may be declared or paid or set apart for payment on any Parity Preferred Stock (as defined in paragraph 9(b) below) with regard to the payment of dividends unless there shall also be or have been declared and paid or set apart for payment on the Cumulative Preferred Stock, like dividends for all dividend payment periods of the Cumulative Preferred Stock ending on or before the dividend payment date of such Parity Preferred Stock, ratably in proportion to the respective amounts of dividends (x) accumulated and unpaid or payable on such Parity Preferred Stock, on the one hand, and (y) accumulated and unpaid through the dividend payment period or periods of the Cumulative Preferred Stock next preceding such dividend payment date, on the other hand. For the purposes of this Certificate of Designation, the "Committee" shall mean any committee of the Board to whom the Board, pursuant to Section 141(c) of the General Corporation Law of the State of Delaware, delegates authority to perform the functions of the Board set forth in this Certificate of Designation. 70 Except as set forth in the preceding sentence, unless full cumulative dividends on the Cumulative Preferred Stock have been paid, no dividends (other than in Common Stock of the Corporation) may be paid or declared and set aside for payment or other distribution made upon the Common Stock or on any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends, nor may any Common Stock or any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends be redeemed, purchased or otherwise acquired for any consideration (or any payment be made to or available for a sinking fund for the redemption of any shares of such stock; provided, however, that any moneys theretofore deposited in any sinking fund with respect to any Preferred Stock of the Corporation in compliance with the provisions of such sinking fund may thereafter be applied to the purchase or redemption of such Preferred Stock in accordance with the terms of such sinking fund, regardless of whether at the time of such application full cumulative dividends upon shares of the Cumulative Preferred Stock outstanding to the last dividend payment date shall have been paid or declared and set apart for payment) by the Corporation; provided that any such junior or parity Preferred Stock or Common Stock may be converted into or exchanged for stock of the Corporation ranking junior to the Cumulative Preferred Stock as to dividends. 3. Liquidation Preference. The Shares of Cumulative Preferred Stock shall ----------------------- rank, as to liquidation, dissolution or winding up of the Corporation, prior to the shares of Common Stock and any other class of stock of the Corporation ranking junior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up of the Corporation, so that in the event of any liquidation, dissolution or winding up of the Corporation, whether voluntary or involuntary, the holders of the Cumulative Preferred Stock shall be entitled to receive out of the assets of the Corporation available for distribution to its stockholders, whether from capital, surplus or earnings, before any distribution is made to holders of shares of Common Stock or any other such junior stock, an amount equal to $200.00 per share (the "Liquidation Preference" of a share of Cumulative Preferred Stock) plus an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid on the shares of Cumulative Preferred Stock to the date 71 of final distribution. The holders of the Cumulative Preferred Stock will not be entitled to receive the Liquidation Preference until the liquidation preference of any other class of stock of the Corporation ranking senior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up shall have been paid (or a sum set aside therefor sufficient to provide for payment) in full. After payment of the full amount of the Liquidation Preference and such dividends, the holders of shares of Cumulative Preferred Stock will not be entitled to any further participation in any distribution of assets by the Corporation. If, upon any liquidation, dissolution or winding up of the Corporation, the assets of the Corporation, or proceeds thereof, distributable among the holders of shares of Parity Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid, then such assets, or the proceeds thereof, shall be distributable among such holders ratably in accordance with the respective amounts which would be payable on such shares if all amounts payable thereon were paid in full. For the purposes hereof, neither a consolidation or merger of the Corporation with or into any other corporation, nor a merger of any other corporation with or into the Corporation, nor a sale or transfer of all or any part of the Corporation's assets for cash or securities shall be considered a liquidation, dissolution or winding up of the Corporation. 4. Conversion. The Cumulative Preferred Stock is not convertible into ----------- shares of any other class or series of stock of the Corporation. 5. Voting Rights. The holders of shares of Cumulative Preferred Stock -------------- shall have no voting rights whatsoever, except for any voting rights to which they may be entitled under the laws of the State of Delaware, and except as follows: (a) Whenever, at any time or times, dividends payable on the shares of Cumulative Preferred Stock or on any Parity Preferred Stock with respect to payment of dividends, shall be in arrears for an aggregate number of days equal to six calendar quarters or more, whether or not consecutive, the holders of the outstanding shares of Cumulative Preferred Stock shall have the right, with holders of shares of any one or more other class or series of stock upon which like 72 voting rights have been conferred and are exercisable (voting together as a class), to elect two of the authorized number of members of the Board at the Corporation's next annual meeting of stockholders and at each subsequent annual meeting of stockholders until such arrearages have been paid or set apart for payment, at which time such right shall terminate, except as herein or by law expressly provided, subject to revesting in the event of each and every subsequent default of the character above mentioned. Upon any termination of the right of the holders of shares of Cumulative Preferred Stock as a class to vote for directors as herein provided, the term of office of all directors then in office elected by the holders of shares of Cumulative Preferred Stock shall terminate immediately. Any director who shall have been so elected pursuant to this paragraph may be removed at any time, either with or without cause. Any vacancy thereby created may be filled only by the affirmative vote of the holders of shares of Cumulative Preferred Stock voting separately as a class (together with the holders of shares of any other class or series of stock upon which like voting rights have been conferred and are exercisable). If the office of any director elected by the holders of shares of Cumulative Preferred Stock voting as a class becomes vacant for any reason other than removal from office as aforesaid, the remaining director elected pursuant to this paragraph may choose a successor who shall hold office for the unexpired term in respect of which such vacancy occurred. At elections for such directors, each holder of shares of Cumulative Preferred Stock shall be entitled to one vote for each share held (the holders of shares of any other class or series of preferred stock having like voting rights being entitled to such number of votes, if any, for each share of such stock held as may be granted to them). (b) So long as any shares of Cumulative Preferred Stock remain outstanding, the consent of the holders of at least two-thirds of the shares of Cumulative Preferred Stock outstanding at the time and all other classes or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class) given 73 in person or by proxy, either in writing or at any meeting called for the purpose, shall be necessary to permit, effect or validate any one or more of the following: (i) the issuance or increase of the authorized amount of any class or series of shares ranking prior (as that term is defined in paragraph 9(a) hereof) to the shares of the Cumulative Preferred Stock; or (ii) the amendment, alteration or repeal, whether by merger, consolidation or otherwise, of any of the provisions of the Certificate of Incorporation (including this resolution or any provision hereof) that would materially and adversely affect any power, preference, or special right of the shares of Cumulative Preferred Stock or of the holders thereof; provided, however, that any increase in the amount of authorized Common Stock or authorized Preferred Stock or any increase or decrease in the number of shares of any series of Preferred Stock or the creation and issuance of other series of Common Stock or Preferred Stock, in each case ranking on a parity with or junior to the shares of Cumulative Preferred Stock with respect to the payment of dividends and the distribution of assets upon liquidation, dissolution or winding up, shall not be deemed to materially and adversely affect such powers, preferences or special rights. (c) The foregoing voting provisions shall not apply if, at or prior to the time when the act with respect to which such vote would otherwise be required shall be effected, all outstanding shares of Cumulative Preferred Stock shall have been redeemed or called for redemption and sufficient funds shall have been deposited in trust to effect such redemption. 6. Redemption. The shares of the Cumulative Preferred Stock may be ----------- redeemed at the option of the Corporation, as a whole, or from time to time, in part, at any time, upon not less than 30 days' prior notice mailed to the holders of the shares to be redeemed at their addresses as shown on the stock books of the Corporation; provided, however, that shares of the 74 Cumulative Preferred Stock shall not be redeemable prior to February 28, 2000. Subject to the foregoing, on or after such date, shares of the Cumulative Preferred Stock are redeemable at $200.00 per share together with an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid to, but excluding, the date fixed for redemption. If full cumulative dividends on the Cumulative Preferred Stock have not been paid, the Cumulative Preferred Stock may not be redeemed in part and the Corporation may not purchase or acquire any shares of the Cumulative Preferred Stock otherwise than pursuant to a purchase or exchange offer made on the same terms to all holders of the Cumulative Preferred Stock. If fewer than all the outstanding shares of Cumulative Preferred Stock are to be redeemed, the Corporation will select those to be redeemed by lot or a substantially equivalent method. If a notice of redemption has been given pursuant to this paragraph 6 and if, on or before the date fixed for redemption, the funds necessary for such redemption shall have been set aside by the Corporation, separate and apart from its other funds, in trust for the pro rata benefit of the holders of the shares of Cumulative Preferred Stock so called for redemption, then, notwithstanding that any certificates for such shares have not been surrendered for cancelation, on the redemption date dividends shall cease to accrue on the shares to be redeemed, and at the close of business on the redemption date the holders of such shares shall cease to be stockholders with respect to such shares and shall have no interest in or claims against the Corporation by virtue thereof and shall have no voting or other rights with respect to such shares, except the right to receive the moneys payable upon surrender (and endorsement, if required by the Corporation) of their certificates, and the shares evidenced thereby shall no longer be outstanding. Subject to applicable escheat laws, any moneys so set aside by the Corporation and unclaimed at the end of two years from the redemption date shall revert to the general funds of the Corporation, after which reversion the holders of such shares so called for redemption shall look only to the general funds of the Corporation for the payment of the amounts payable upon such redemption. Any interest accrued on funds so deposited shall be paid to the Corporation from time to time. 75 7. Authorization and Issuance of Other Securities. No consent of the ----------------------------------------------- holders of the Cumulative Preferred Stock shall be required for (a) the creation of any indebtedness of any kind of the Corporation, (b) the creation, or increase or decrease in the amount, of any class or series of stock of the Corporation not ranking prior as to dividends or upon liquidation, dissolution or winding up to the Cumulative Preferred Stock or (c) any increase or decrease in the amount of authorized Common Stock or any increase, decrease or change in the par value thereof or in any other terms thereof. 8. Amendment of Resolution. The Board and the Committee each reserves the ------------------------ right by subsequent amendment of this resolution from time to time to increase or decrease the number of shares that constitute the Cumulative Preferred Stock (but not below the number of shares thereof then outstanding) and in other respects to amend this resolution within the limitation provided by law, this resolution and the Certificate of Incorporation. 9. Rank. For the purposes of this resolution, any stock of any class or ----- classes of the Corporation shall be deemed to rank: (a) prior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of shares of the Cumulative Preferred Stock; (b) on a parity with shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, whether or not the dividend rates, dividend payment dates, or redemption or liquidation prices per share thereof be different from those of the Cumulative Preferred Stock, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributed upon liquidation, dissolution or winding up, as the case may be, in proportion to their respective dividend rates or 76 liquidation prices, without preference or priority of one over the other as between the holders of such stock and the holders of shares of Cumulative Preferred Stock (the term "Parity Preferred Stock" being used to refer to any stock on a parity with the shares of Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, as the context may require); and (c) junior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if such class shall be Common Stock or if the holders of the Cumulative Preferred Stock shall be entitled to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of stock of such class or classes. The Cumulative Preferred Stock shall rank prior, as to dividends and upon liquidation, dissolution or winding up, to the Common Stock and the Corporation's Series A Junior Participating Preferred Stock, and on a parity with (i) the Corporation's ESOP Convertible Preferred Stock, with a liquidation value of $35.88 per share, (ii) the Corporation's 7-3/8% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iii) the Corporation's 7-3/4% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iv) the Corporation's Series A Fixed/ Adjustable Rate Preferred Stock, with a liquidation value of $200.00 per share, (v) if issued, the Corporation's 7.82% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vi) if issued, the Corporation's 7.80% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vii) if issued, the Corporation's 8.40% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (viii) if issued, the Corporation's 8.20% Cumulative Preferred Stock, with a liquidation value of $200.00 per share and (ix) if issued, the Corporation's 8.03% Cumulative Preferred Stock, with a liquidation value of $200.00 per share. 77 B. This Certificate of Designation shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, Dean Witter, Discover & Co. has caused this Certificate of Designation to be signed by Christine A. Edwards, its Executive Vice President, General Counsel and Secretary, this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By: /s/ Christine A. Edwards ---------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 78 CERTIFICATE OF DESIGNATION OF PREFERENCES AND RIGHTS OF THE 8.40% CUMULATIVE PREFERRED STOCK ($200.00 Stated Value) OF DEAN WITTER, DISCOVER & CO. ________________________ Pursuant to Section 151 of the General Corporation Law of the State of Delaware ________________________ The undersigned DOES HEREBY CERTIFY: A. The following resolution was duly adopted by the Board of Directors (the "Board") of Dean Witter, Discover & Co., a Delaware corporation (hereinafter called the "Corporation"), by unanimous vote thereof at a meeting on May 28, 1997: RESOLVED that, pursuant to authority expressly granted to and vested in the Board by provisions of the Amended and Restated Certificate of Incorporation of the Corporation (the "Certificate of Incorporation"), the issuance of a series of Preferred Stock, par value $0.01 per share (the "Preferred Stock"), which shall consist of 996,776 of the shares of Preferred Stock which the Corporation has authority to issue, is authorized, and the Board hereby fixes the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, of the shares of such series (in addition to the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, set forth in the Certificate of Incorporation which may be applicable to the Preferred Stock) as follows: 1. Designation and Amount; Fractional Shares. The designation for such ------------------------------------------ series of the Preferred Stock authorized by this resolution shall be the 8.40% Cumulative Preferred Stock, par value $0.01 per share, with a stated value of $200.00 per share (the "Cumulative Preferred Stock"). The stated value per share of Cumulative Preferred Stock shall not for any purpose be considered to be a determination by the 79 Board with respect to the capital and surplus of the Corporation. The total number of shares of Cumulative Preferred Stock shall be 996,776. The Cumulative Preferred Stock is issuable in whole shares only. 2. Dividends. Holders of shares of Cumulative Preferred Stock will be ---------- entitled to receive, when, as and if declared by the Board or the Committee (as hereinafter defined) out of assets of the Corporation legally available for payment, cash dividends payable quarterly at the rate of 8.40% per annum. Dividends on the Cumulative Preferred Stock will be payable quarterly on February 28, May 30, August 30 and November 30 (each a "dividend payment date"). Dividends on shares of the Cumulative Preferred Stock will be cumulative from the date of initial issuance of such shares of Cumulative Preferred Stock. Dividends will be payable, in arrears, to holders of record as they appear on the stock books of the Corporation on such record dates, not more than 60 days nor less than 10 days preceding the payment dates thereof, as shall be fixed by the Board or the Committee. The amount of dividends payable for the initial dividend period or any period shorter than a full dividend period shall be calculated on the basis of a 360-day year of twelve 30-day months. No dividends may be declared or paid or set apart for payment on any Parity Preferred Stock (as defined in paragraph 9(b) below) with regard to the payment of dividends unless there shall also be or have been declared and paid or set apart for payment on the Cumulative Preferred Stock, like dividends for all dividend payment periods of the Cumulative Preferred Stock ending on or before the dividend payment date of such Parity Preferred Stock, ratably in proportion to the respective amounts of dividends (x) accumulated and unpaid or payable on such Parity Preferred Stock, on the one hand, and (y) accumulated and unpaid through the dividend payment period or periods of the Cumulative Preferred Stock next preceding such dividend payment date, on the other hand. For the purposes of this Certificate of Designation, the "Committee" shall mean any committee of the Board to whom the Board, pursuant to Section 141(c) of the General Corporation Law of the State of Delaware, delegates authority to perform the functions of the Board set forth in this Certificate of Designation. Except as set forth in the preceding sentence, unless full cumulative dividends on the Cumulative Preferred Stock have been paid, no dividends (other than in Common Stock of the Corporation) may be paid or 80 declared and set aside for payment or other distribution made upon the Common Stock or on any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends, nor may any Common Stock or any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends be redeemed, purchased or otherwise acquired for any consideration (or any payment be made to or available for a sinking fund for the redemption of any shares of such stock; provided, however, that any moneys theretofore deposited in any sinking fund with respect to any Preferred Stock of the Corporation in compliance with the provisions of such sinking fund may thereafter be applied to the purchase or redemption of such Preferred Stock in accordance with the terms of such sinking fund, regardless of whether at the time of such application full cumulative dividends upon shares of the Cumulative Preferred Stock outstanding to the last dividend payment date shall have been paid or declared and set apart for payment) by the Corporation; provided that any such junior or parity Preferred Stock or Common Stock may be converted into or exchanged for stock of the Corporation ranking junior to the Cumulative Preferred Stock as to dividends. 3. Liquidation Preference. The shares of Cumulative Preferred Stock shall ----------------------- rank, as to liquidation, dissolution or winding up of the Corporation, prior to the shares of Common Stock and any other class of stock of the Corporation ranking junior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up of the Corporation, so that in the event of any liquidation, dissolution or winding up of the Corporation, whether voluntary or involuntary, the holders of the Cumulative Preferred Stock shall be entitled to receive out of the assets of the Corporation available for distribution to its stockholders, whether from capital, surplus or earnings, before any distribution is made to holders of shares of Common Stock or any other such junior stock, an amount equal to $200.00 per share (the "Liquidation Preference" of a share of Cumulative Preferred Stock) plus an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid on the shares of Cumulative Preferred Stock to the date of final distribution. The holders of the Cumulative Preferred Stock will not be entitled to receive the Liquidation Preference until the liquidation preference of any other class of stock of the Corporation ranking senior to the Cumulative Preferred Stock as to rights 81 upon liquidation, dissolution or winding up shall have been paid (or a sum set aside therefor sufficient to provide for payment) in full. After payment of the full amount of the Liquidation Preference and such dividends, the holders of shares of Cumulative Preferred Stock will not be entitled to any further participation in any distribution of assets by the Corporation. If, upon any liquidation, dissolution or winding up of the Corporation, the assets of the Corporation, or proceeds thereof, distributable among the holders of shares of Parity Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid, then such assets, or the proceeds thereof, shall be distributable among such holders ratably in accordance with the respective amounts which would be payable on such shares if all amounts payable thereon were paid in full. For the purposes hereof, neither a consolidation or merger of the Corporation with or into any other corporation, nor a merger of any other corporation with or into the Corporation, nor a sale or transfer of all or any part of the Corporation's assets for cash or securities shall be considered a liquidation, dissolution or winding up of the Corporation. 4. Conversion. The Cumulative Preferred Stock is not convertible into ----------- shares of any other class or series of stock of the Corporation. 5. Voting Rights. The holders of shares of Cumulative Preferred Stock -------------- shall have no voting rights whatsoever, except for any voting rights to which they may be entitled under the laws of the State of Delaware, and except as follows: (a) Whenever, at any time or times, dividends payable on the shares of Cumulative Preferred Stock or on any Parity Preferred Stock with respect to payment of dividends, shall be in arrears for an aggregate number of days equal to six calendar quarters or more, whether or not consecutive, the holders of the outstanding shares of Cumulative Preferred Stock shall have the right, with holders of shares of any one or more other class or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class), to elect two of the authorized number of members of the Board at the Corporation's next annual meeting of stockholders and at each subsequent annual meeting of stockholders until such arrearages have been 82 paid or set apart for payment, at which time such right shall terminate, except as herein or by law expressly provided, subject to revesting in the event of each and every subsequent default of the character above mentioned. Upon any termination of the right of the holders of shares of Cumulative Preferred Stock as a class to vote for directors as herein provided, the term of office of all directors then in office elected by the holders of shares of Cumulative Preferred Stock shall terminate immediately. Any director who shall have been so elected pursuant to this paragraph may be removed at any time, either with or without cause. Any vacancy thereby created may be filled only by the affirmative vote of the holders of shares of Cumulative Preferred Stock voting separately as a class (together with the holders of shares of any other class or series of stock upon which like voting rights have been conferred and are exercisable). If the office of any director elected by the holders of shares of Cumulative Preferred Stock voting as a class becomes vacant for any reason other than removal from office as aforesaid, the remaining director elected pursuant to this paragraph may choose a successor who shall hold office for the unexpired term in respect of which such vacancy occurred. At elections for such directors, each holder of shares of Cumulative Preferred Stock shall be entitled to one vote for each share held (the holders of shares of any other class or series of preferred stock having like voting rights being entitled to such number of votes, if any, for each share of such stock held as may be granted to them). (b) So long as any shares of Cumulative Preferred Stock remain outstanding, the consent of the holders of at least two-thirds of the shares of Cumulative Preferred Stock outstanding at the time and all other classes or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class) given in person or by proxy, either in writing or at any meeting called for the purpose, shall be necessary to permit, effect or validate any one or more of the following: (i) the issuance or increase of the authorized amount of any class or series of 83 shares ranking prior (as that term is defined in paragraph 9(a) hereof) to the shares of the Cumulative Preferred Stock; or (ii) the amendment, alteration or repeal, whether by merger, consolidation or otherwise, of any of the provisions of the Certificate of Incorporation (including this resolution or any provision hereof) that would materially and adversely affect any power, preference, or special right of the shares of Cumulative Preferred Stock or of the holders thereof; provided, however, that any increase in the amount of authorized Common Stock or authorized Preferred Stock or any increase or decrease in the number of shares of any series of Preferred Stock or the creation and issuance of other series of Common Stock or Preferred Stock, in each case ranking on a parity with or junior to the shares of Cumulative Preferred Stock with respect to the payment of dividends and the distribution of assets upon liquidation, dissolution or winding up, shall not be deemed to materially and adversely affect such powers, preferences or special rights. (c) The foregoing voting provisions shall not apply if, at or prior to the time when the act with respect to which such vote would otherwise be required shall be effected, all outstanding shares of Cumulative Preferred Stock shall have been redeemed or called for redemption and sufficient funds shall have been deposited in trust to effect such redemption. 6. Redemption. The shares of the Cumulative Preferred Stock may be ----------- redeemed at the option of the Corporation, as a whole, or from time to time in part, at any time, upon not less than 30 days' prior notice mailed to the holders of the shares to be redeemed at their addresses as shown on the stock books of the Corporation; provided, however, that shares of the Cumulative Preferred Stock shall not be redeemable prior to August 30, 2000. Subject to the foregoing, on or after such date, shares of the Cumulative Preferred Stock are redeemable at $200.00 per share together with an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid to, but excluding, the date fixed for redemption. 84 If full cumulative dividends on the Cumulative Preferred Stock have not been paid, the Cumulative Preferred Stock may not be redeemed in part and the Corporation may not purchase or acquire any shares of the Cumulative Preferred Stock otherwise than pursuant to a purchase or exchange offer made on the same terms to all holders of the Cumulative Preferred Stock. If fewer than all the outstanding shares of Cumulative Preferred Stock are to be redeemed, the Corporation will select those to be redeemed by lot or a substantially equivalent method. If a notice of redemption has been given pursuant to this paragraph 6 and if, on or before the date fixed for redemption, the funds necessary for such redemption shall have been set aside by the Corporation, separate and apart from its other funds, in trust for the pro rata benefit of the holders of the shares of Cumulative Preferred Stock so called for redemption, then, notwithstanding that any certificates for such shares have not been surrendered for cancelation, on the redemption date dividends shall cease to accrue on the shares to be redeemed, and at the close of business on the redemption date the holders of such shares shall cease to be stockholders with respect to such shares and shall have no interest in or claims against the Corporation by virtue thereof and shall have no voting or other rights with respect to such shares, except the right to receive the moneys payable upon surrender (and endorsement, if required by the Corporation) of their certificates, and the shares evidenced thereby shall no longer be outstanding. Subject to applicable escheat laws, any moneys so set aside by the Corporation and unclaimed at the end of two years from the redemption date shall revert to the general funds of the Corporation, after which reversion the holders of such shares so called for redemption shall look only to the general funds of the Corporation for the payment of the amounts payable upon such redemption. Any interest accrued on funds so deposited shall be paid to the Corporation from time to time. 7. Authorization and Issuance of Other Securities. No consent of the ----------------------------------------------- holders of the Cumulative Preferred Stock shall be required for (a) the creation of any indebtedness of any kind of the Corporation, (b) the creation, or increase or decrease in the amount, of any class or series of stock of the Corporation not ranking prior as to dividends or upon liquidation, dissolution or winding up to the Cumulative Preferred Stock or (c) any increase or 85 decrease in the amount of authorized Common Stock or any increase, decrease or change in the par value thereof or in any other terms thereof. 8. Amendment of Resolution. The Board and the Committee each reserves the ------------------------ right by subsequent amendment of this resolution from time to time to increase or decrease the number of shares that constitute the Cumulative Preferred Stock (but not below the number of shares thereof then outstanding) and in other respects to amend this resolution within the limitations provided by law, this resolution and the Certificate of Incorporation. 9. Rank. For the purposes of this resolution, any stock of any class or ----- classes of the Corporation shall be deemed to rank: (a) prior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of shares of the Cumulative Preferred Stock; (b) on a parity with shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, whether or not the dividend rates, dividend payment dates, or redemption or liquidation prices per share thereof be different from those of the Cumulative Preferred Stock, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributed upon liquidation, dissolution or winding up, as the case may be, in proportion to their respective dividend rates or liquidation prices, without preference or priority of one over the other as between the holders of such stock and the holders of shares of Cumulative Preferred Stock (the term "Parity Preferred Stock" being used to refer to any stock on a parity with the shares of Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, as the context may require); and 86 (c) junior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if such class shall be Common Stock or if the holders of the Cumulative Preferred Stock shall be entitled to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of stock of such class or classes. The Cumulative Preferred Stock shall rank prior, as to dividends and upon liquidation, dissolution or winding up, to the Common Stock and the Corporation's Series A Junior Participating Preferred Stock, and on a parity with (i) the Corporation's ESOP Convertible Preferred Stock, with a liquidation value of $35.88 per share, (ii) the Corporation's 7-3/8% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iii) the Corporation's 7-3/4% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iv) the Corporation's Series A Fixed/ Adjustable Rate Preferred Stock, with a liquidation value of $200.00 per share, (v) if issued, the Corporation's 7.82% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vi) if issued, the Corporation's 7.80% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vii) if issued, the Corporation's 9.00% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (viii) if issued, the Corporation's 8.20% Cumulative Preferred Stock, with a liquidation value of $200.00 per share and (ix) if issued, the Corporation's 8.03% Cumulative Preferred Stock, with a liquidation value of $200.00 per share. 87 B. This Certificate of Designation shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, Dean Witter, Discover & Co. has caused this Certificate of Designation to be signed by Christine A. Edwards, its Executive Vice President, General Counsel and Secretary, this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By:/s/ Christine A. Edwards ---------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 88 CERTIFICATE OF DESIGNATION OF PREFERENCES AND RIGHTS OF THE 8.20% CUMULATIVE PREFERRED STOCK ($200.00 Stated Value) OF DEAN WITTER, DISCOVER & CO. ______________________________ Pursuant to Section 151 of the General Corporation Law of the State of Delaware ______________________________ The undersigned DOES HEREBY CERTIFY: A. The following resolution was duly adopted by the Board of Directors (the "Board") of Dean Witter, Discover & Co., a Delaware corporation (hereinafter called the "Corporation"), by unanimous vote thereof at a meeting on May 28, 1997: RESOLVED that, pursuant to authority expressly granted to and vested in the Board by provisions of the Amended and Restated Certificate of Incorporation of the Corporation (the "Certificate of Incorporation"), the issuance of a series of Preferred Stock, par value $0.01 per share (the "Preferred Stock"), which shall consist of 847,500 of the shares of Preferred Stock which the Corporation has authority to issue, is authorized, and the Board hereby fixes the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, of the shares of such series (in addition to the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, set forth in the Certificate of Incorporation which may be applicable to the Preferred Stock) as follows: 1. Designation and Amount; Fractional Shares. The designation for such ------------------------------------------ series of the Preferred Stock authorized by this resolution shall be the 8.20% Cumulative Preferred Stock, par value $0.01 per share, 89 with a stated value of $200.00 per share (the "Cumulative Preferred Stock"). The stated value per share of Cumulative Preferred Stock shall not for any purpose be considered to be a determination by the Board with respect to the capital and surplus of the Corporation. The total number of shares of Cumulative Preferred Stock shall be 847,500. The Cumulative Preferred Stock is issuable in whole shares only. 2. Dividends. Holders of shares of Cumulative Preferred Stock will be ---------- entitled to receive, when, as and if declared by the Board or the Committee (as hereinafter defined) out of assets of the Corporation legally available for payment, cash dividends payable quarterly at the rate of 8.20% per annum. Dividends on the Cumulative Preferred Stock will be payable quarterly on February 28, May 30, August 30 and November 30 (each a "dividend payment date"). Dividends on shares of the Cumulative Preferred Stock will be cumulative from the date of initial issuance of such shares of Cumulative Preferred Stock. Dividends will be payable, in arrears, to holders of record as they appear on the stock books of the Corporation on such record dates, not more than 60 days nor less than 10 days preceding the payment dates thereof, as shall be fixed by the Board or the Committee. The amount of dividends payable for the initial dividend period or any period shorter than a full dividend period shall be calculated on the basis of a 360-day year of twelve 30-day months. No dividends may be declared or paid or set apart for payment on any Parity Preferred Stock (as defined in paragraph 9(b) below) with regard to the payment of dividends unless there shall also be or have been declared and paid or set apart for payment on the Cumulative Preferred Stock, like dividends for all dividend payment periods of the Cumulative Preferred Stock ending on or before the dividend payment date of such Parity Preferred Stock, ratably in proportion to the respective amounts of dividends (x) accumulated and unpaid or payable on such Parity Preferred Stock, on the one hand, and (y) accumulated and unpaid through the dividend payment period or periods of the Cumulative Preferred Stock next preceding such dividend payment date, on the other hand. For the purposes of this Certificate of Designation, the "Committee" shall mean any committee of the Board to whom the Board, pursuant to Section 141(c) of the General Corporation Law of the State of Delaware, delegates authority to perform the functions of the Board set forth in this Certificate of Designation. 90 Except as set forth in the preceding sentence, unless full cumulative dividends on the Cumulative Preferred stock have been paid, no dividends (other than in Common Stock of the Corporation) may be paid or declared and set aside for payment or other distribution made upon the Common Stock or on any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends, nor may any Common Stock or any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends be redeemed, purchased or otherwise acquired for any consideration (or any payment be made to or available for a sinking fund for the redemption of any shares of such stock; provided, however, that any moneys theretofore deposited in any sinking fund with respect to any Preferred Stock of the Corporation in compliance with the provisions of such sinking fund may thereafter be applied to the purchase or redemption of such Preferred Stock in accordance with the terms of such sinking fund, regardless of whether at the time of such application full cumulative dividends upon shares of the Cumulative Preferred Stock outstanding to the last dividend payment date shall have been paid or declared and set apart for payment) by the Corporation; provided that any such junior or parity Preferred Stock or Common Stock may be converted into or exchanged for stock of the Corporation ranking junior to the Cumulative Preferred Stock as to dividends. 3. Liquidation Preference. The shares of Cumulative Preferred Stock shall ----------------------- rank, as to liquidation, dissolution or winding up of the Corporation, prior to the shares of Common Stock and any other class of stock of the Corporation ranking junior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up of the Corporation, so that in the event of any liquidation, dissolution or winding up of the Corporation, whether voluntary or involuntary, the holders of the Cumulative Preferred Stock shall be entitled to receive out of the assets of the Corporation available for distribution to its stockholders, whether from capital, surplus or earnings, before any distribution is made to holders of shares of Common Stock or any other such junior stock, an amount equal to $200.00 per share (the "Liquidation Preference" of a share of Cumulative Preferred Stock) plus an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid on the shares of Cumulative Preferred Stock to the date 91 of final distribution. The holders of the Cumulative Preferred Stock will not be entitled to receive the Liquidation Preference until the liquidation preference of any other class of stock of the Corporation ranking senior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up shall have been paid (or a sum set aside therefor sufficient to provide for payment) in full. After payment of the full amount of the Liquidation Preference and such dividends, the holders of shares of Cumulative Preferred Stock will not be entitled to any further participation in any distribution of assets by the Corporation. If, upon any liquidation, dissolution or winding up of the Corporation, the assets of the Corporation, or proceeds thereof, distributable among the holders of shares of Parity Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid, then such assets, or the proceeds thereof, shall be distributable among such holders ratably in accordance with the respective amounts which would be payable on such shares if all amounts payable thereon were paid in full. For the purposes hereof, neither a consolidation or merger of the Corporation with or into any other corporation, nor a merger of any other corporation with or into the Corporation, nor a sale or transfer of all or any part of the Corporation's assets for cash or securities shall be considered a liquidation, dissolution or winding up of the Corporation. 4. Conversion. The Cumulative Preferred Stock is not convertible into ----------- shares of any other class or series of stock of the Corporation. 5. Voting Rights. The holders of shares of Cumulative Preferred Stock -------------- shall have no voting rights whatsoever, except for any voting rights to which they may be entitled under the laws of the State of Delaware, and except as follows: (a) Whenever, at any time or times, dividends payable on the shares of Cumulative Preferred Stock or on any Parity Preferred Stock with respect to payment of dividends, shall be in arrears for an aggregate number of days equal to six calendar quarters or more, whether or not consecutive, the holders of the outstanding shares of Cumulative Preferred Stock shall have the right, with holders of shares of any one or more other class or series of stock upon which like 92 voting rights have been conferred and are exercisable (voting together as a class), to elect two of the authorized number of members of the Board at the Corporation's next annual meeting of stockholders and at each subsequent annual meeting of stockholders until such arrearages have been paid or set apart for payment, at which time such right shall terminate, except as herein or by law expressly provided, subject to revesting in the event of each and every subsequent default of the character above mentioned. Upon any termination of the right of the holders of shares of Cumulative Preferred Stock as a class to vote for directors as herein provided, the term of office of all directors then in office elected by the holders of shares of Cumulative Preferred Stock shall terminate immediately. Any director who shall have been so elected pursuant to this paragraph may be removed at any time, either with or without cause. Any vacancy thereby created may be filled only by the affirmative vote of the holders of shares of Cumulative Preferred Stock voting separately as a class (together with the holders of shares of any other class or series of stock upon which like voting rights have been conferred and are exercisable). If the office of any director elected by the holders of shares of Cumulative Preferred Stock voting as a class becomes vacant for any reason other than removal from office as aforesaid, the remaining director elected pursuant to this paragraph may choose a successor who shall hold office for the unexpired term in respect of which such vacancy occurred. At elections for such directors, each holder of shares of Cumulative Preferred Stock shall be entitled to one vote for each share held (the holders of shares of any other class or series of preferred stock having like voting rights being entitled to such number of votes, if any, for each share of such stock held as may be granted to them). (b) So long as any shares of Cumulative Preferred Stock remain outstanding, the consent of the holders of at least two-thirds of the shares of Cumulative Preferred Stock outstanding at the time and all other classes or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class) given 93 in person or by proxy, either in writing or at any meeting called for the purpose, shall be necessary to permit, effect or validate any one or more of the following: (i) the issuance or increase of the authorized amount of any class or series of shares ranking prior (as that term is defined in paragraph 9(a) hereof) to the shares of the Cumulative Preferred Stock; or (ii) the amendment, alteration or repeal, whether by merger, consolidation or otherwise, of any of the provisions of the Certificate of Incorporation (including this resolution or any provision hereof) that would materially and adversely affect any power, preference, or special right of the shares of Cumulative Preferred Stock or of the holders thereof; provided, however, that any increase in the amount of authorized Common Stock or authorized Preferred Stock or any increase or decrease in the number of shares of any series of Preferred Stock or the creation and issuance of other series of Common Stock or Preferred Stock, in each case ranking on a parity with or junior to the shares of Cumulative Preferred Stock with respect to the payment of dividends and the distribution of assets upon liquidation, dissolution or winding up, shall not be deemed to materially and adversely affect such powers, preferences or special rights. (c) The foregoing voting provisions shall not apply if, at or prior to the time when the act with respect to which such vote would otherwise be required shall be effected, all outstanding shares of Cumulative Preferred Stock shall have been redeemed or called for redemption and sufficient funds shall have been deposited in trust to effect such redemption. 6. Redemption. The shares of the Cumulative Preferred Stock may be ----------- redeemed at the option of the Corporation, as a whole, or from time to time in part, at any time, upon not less than 30 days' prior notice mailed to the holders of the shares to be redeemed at their addresses as shown on the stock books of the Corporation; provided, however, that shares of the 94 Cumulative Preferred Stock shall not be redeemable prior to November 30, 2000. Subject to the foregoing, on or after such date, shares of the Cumulative Preferred Stock are redeemable at $200.00 per share together with an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid to, but excluding, the date fixed for redemption. If full cumulative dividends on the Cumulative Preferred Stock have not been paid, the Cumulative Preferred Stock may not be redeemed in part and the Corporation may not purchase or acquire any shares of the Cumulative Preferred Stock otherwise than pursuant to a purchase or exchange offer made on the same terms to all holders of the Cumulative Preferred Stock. If fewer than all the outstanding shares of Cumulative Preferred Stock are to be redeemed, the Corporation will select those to be redeemed by lot or a substantially equivalent method. If a notice of redemption has been given pursuant to this paragraph 6 and if, on or before the date fixed for redemption, the funds necessary for such redemption shall have been set aside by the Corporation, separate and apart from its other funds, in trust for the pro rata benefit of the holders of the shares of Cumulative Preferred Stock so called for redemption, then, notwithstanding that any certificates for such shares have not been surrendered for cancelation, on the redemption date dividends shall cease to accrue on the shares to be redeemed, and at the close of business on the redemption date the holders of such shares shall cease to be stockholders with respect to such shares and shall have no interest in or claims against the Corporation by virtue thereof and shall have no voting or other rights with respect to such shares, except the right to receive the moneys payable upon surrender (and endorsement, if required by the Corporation) of their certificates, and the shares evidenced thereby shall no longer be outstanding. Subject to applicable escheat laws, any moneys so set aside by the Corporation and unclaimed at the end of two years from the redemption date shall revert to the general funds of the Corporation, after which reversion the holders of such shares so called for redemption shall look only to the general funds of the Corporation for the payment of the amounts payable upon such redemption. Any interest accrued on funds so deposited shall be paid to the Corporation from time to time. 95 7. Authorization and Issuance of Other Securities. No consent of the ----------------------------------------------- holders of the Cumulative Preferred Stock shall be required for (a) the creation of any indebtedness of any kind of the Corporation, (b) the creation, or increase or decrease in the amount, of any class or series of stock of the Corporation not ranking prior as to dividends or upon liquidation, dissolution or winding up to the Cumulative Preferred Stock or (c) any increase or decrease in the amount of authorized Common Stock or any increase, decrease or change in the par value thereof or in any other terms thereof. 8. Amendment of Resolution. The Board and the Committee each reserves the ------------------------ right by subsequent amendment of this resolution from time to time to increase or decrease the number of shares that constitute the Cumulative Preferred Stock (but not below the number of shares thereof then outstanding) and in other respects to amend this resolution within the limitations provided by law, this resolution and the Certificate of Incorporation. 9. Rank. For the purposes of this resolution, any stock of any class or ----- classes of the Corporation shall be deemed to rank: (a) prior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of shares of the Cumulative Preferred Stock; (b) on a parity with shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both whether or not the dividend rates, dividend payment dates, or redemption or liquidation prices per share thereof be different from those of the Cumulative Preferred Stock, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributed upon liquidation, dissolution or winding up, as the case may be, in proportion to their respective dividend rates or 96 liquidation prices, without preference or priority of one over the other as between the holders of such stock and the holders of shares of Cumulative Preferred Stock (the term "Parity Preferred Stock" being used to refer to any stock on a parity with the shares of Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, as the context may require); and (c) junior to shares of the Cumulative Preferred stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if such class shall be Common Stock or if the holders of the Cumulative Preferred Stock shall be entitled to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of stock of such class or classes. The Cumulative Preferred Stock shall rank prior, as to dividends and upon liquidation, dissolution or winding up, to the Common Stock and the Corporation's Series A Junior Participating Preferred Stock, and on a parity with (i) the Corporation's ESOP Convertible Preferred Stock, with a liquidation value of $35.88 per share, (ii) the Corporation's 7-3/8% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iii) the Corporation's 7-3/4% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iv) the Corporation's Series A Fixed/Adjustable Rate Preferred Stock, with a liquidation value of $200.00 per share, (v) if issued, the Corporation's 7.82% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vi) if issued, the Corporation's 7.80% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vii) if issued, the Corporation's 9.00% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (viii) if issued, the Corporation's 8.40% Cumulative Preferred Stock, with a liquidation value of $200.00 per share and (ix) if issued, the Corporation's 8.03% Cumulative Preferred Stock, with a liquidation value of $200.00 per share. 97 B. This Certificate of Designation shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, Dean Witter, Discover & Co. has caused this Certificate of Designation to be signed by Christine A. Edwards, its Executive Vice President, General Counsel and Secretary, this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By: /s/ Christine A. Edwards ---------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 98 CERTIFICATE OF DESIGNATION OF PREFERENCES AND RIGHTS OF THE 7-3/4% CUMULATIVE PREFERRED STOCK ($200.00 Stated Value) OF DEAN WITTER, DISCOVER & CO. --------------------------- Pursuant to Section 151 of the General Corporation Law of the State of Delaware --------------------------- The undersigned DOES HEREBY CERTIFY: A. The following resolution was duly adopted by the Board of Directors (the "Board") of Dean Witter, Discover & Co., a Delaware corporation (hereinafter called the "Corporation"), by unanimous vote thereof at a meeting on May 28, 1997: RESOLVED that, pursuant to authority expressly granted to and vested in the Board by provisions of the Amended and Restated Certificate of Incorporation of the Corporation (the "Certificate of Incorporation"), the issuance of a series of Preferred Stock, par value $0.01 per share (the "Preferred Stock"), which shall consist of 1,000,000 of the shares of Preferred Stock which the Corporation has authority to issue, is authorized, and the Board hereby fixes the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, of the shares of such series (in addition to the powers, designations, preferences and relative participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, set forth in the Certificate of Incorporation which may be applicable to the Preferred Stock) as follows: 1. Designation and Amount; Fractional Shares. The designation for such ----------------------------------------- series of the Preferred Stock authorized by this resolution shall be the 7-3/4% Cumulative Preferred Stock, par value $0.01 per share, with a stated value of $200.00 per share (the 99 "Cumulative Preferred Stock"). The stated value per share of Cumulative Preferred Stock shall not for any purpose be considered to be a determination by the Board with respect to the capital and surplus of the Corporation. The number of shares of Cumulative Preferred Stock shall be 1,000,000. The Cumulative Preferred Stock is issuable in whole shares only. 2. Dividends. (a) Holders of shares of Cumulative Preferred Stock will --------- be entitled to receive, when, as and if declared by the Board or the Committee (as hereinafter defined) out of assets of the Corporation legally available for payment, cash dividends payable quarterly at the rate of 7-3/4% per annum. Dividends on the Cumulative Preferred Stock, calculated as a percentage of the stated value, will be payable quarterly on February 28, May 30, August 30 and November 30 (each a "dividend payment date"). Dividends on shares of the Cumulative Preferred Stock will be cumulative from the date of initial issuance of such shares of Cumulative Preferred Stock. Dividends will be payable, in arrears, to holders of record as they appear on the stock books of the Corporation on such record dates, not more than 60 days nor less than 10 days preceding the payment dates thereof, as shall be fixed by the Board or the Committee. The amount of dividends payable for the initial dividend period or any period shorter than a full dividend period shall be calculated on the basis of a 360-day year of twelve 30-day months. No dividends may be declared or paid or set apart for payment on any Parity Preferred Stock (as such term is defined in paragraph 9(b) below) with regard to the payment of dividends unless there shall also be or have been declared and paid or set apart for payment on the Cumulative Preferred Stock, like dividends for all dividend payment periods of the Cumulative Preferred Stock ending on or before the dividend payment date of such Parity Preferred Stock, ratably in proportion to the respective amounts of dividends (x) accumulated and unpaid or payable on such Parity Preferred Stock, on the one hand, and (y) accumulated and unpaid through the dividend payment period or periods of the Cumulative Preferred Stock next preceding such dividend payment date, on the other hand. For the purposes of this Certificate of Designation, the "Committee" shall mean any committee of the Board to whom the Board, pursuant to Section 141(c) of the General Corporation Law of the State of Delaware, delegates authority to perform the 100 functions of the Board set forth in this Certificate of Designation. Except as set forth in the preceding sentence, unless full cumulative dividends on the Cumulative Preferred Stock have been paid, no dividends (other than in Common Stock of the Corporation) may be paid or declared and set aside for payment or other distribution made upon the Common Stock or on any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends, nor may any Common Stock or any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends be redeemed, purchased or otherwise acquired for any consideration (or any payment be made to or available for a sinking fund for the redemption of any shares of such stock; provided, however, that any moneys theretofore deposited in any sinking fund with respect to any Preferred Stock of the Corporation in compliance with the provisions of such sinking fund may thereafter be applied to the purchase or redemption of such Preferred Stock in accordance with the terms of such sinking fund, regardless of whether at the time of such application full cumulative dividends upon shares of the Cumulative Preferred Stock outstanding to the last dividend payment date shall have been paid or declared and set apart for payment) by the Corporation; provided that any such junior or parity Preferred Stock or Common Stock may be converted into or exchanged for stock of the Corporation ranking junior to the Cumulative Preferred Stock as to dividends. (b) If one or more amendments to the Internal Revenue Code of 1986, as amended (the "Code"), are enacted that reduce the percentage of the dividends received deduction as specified in Section 243(a)(1) of the Code or any successor provision (the "Dividends Received Percentage") to below 70%, the amount of each dividend payable per share of the Cumulative Preferred Stock for dividend payments made on or after the date of enactment of such change will be adjusted by multiplying the amount of the dividend payable determined as described above (before adjustment) by a factor, which will be the number determined in accordance with the following formula (the "DRD Formula"), and rounding the result to the nearest cent: 1 - (.35(1 - .70)) ------------------ 1 - (.35(1 - DRP)) 101 For the purposes of the DRD Formula, "DRP" means the Dividends Received Percentage applicable to the dividend in question. No amendment to the Code, other than a change in the percentage of the dividends received deduction set forth in Section 243(a)(1) of the Code or any successor provision, will give rise to an adjustment. Notwithstanding the foregoing provisions, in the event that, with respect to any such amendment, the Corporation will receive either an unqualified opinion of nationally recognized independent tax counsel selected by the Corporation or a private letter ruling or similar form of authorization from the Internal Revenue Service to the effect that such an amendment would not apply to dividends payable on the Cumulative Preferred Stock, then any such amendment will not result in the adjustment provided for pursuant to the DRD Formula. The opinion referenced in the previous sentence will be based upon a specific exception in the legislation amending the DRP or upon a published pronouncement of the Internal Revenue Service addressing such legislation. Unless the context otherwise requires, references to dividends in this Certificate of Designation will mean dividends as adjusted by the DRD Formula. The Corporation's calculation of the dividends payable, as so adjusted and as certified accurate as to calculation and reasonable as to method by the independent certified public accountants then regularly engaged by the Corporation, will be final and not subject to review absent manifest error. If any amendment to the Code which reduces the Dividends Received Percentage to below 70% is enacted after a dividend payable on a dividend payment date has been declared, the amount of dividend payable on such dividend payment date will not be increased. Instead, an amount, equal to the excess of (x) the product of the dividends paid by the Corporation on such dividend payment date and the DRD Formula (where the DRP used in the DRD Formula would be equal to the reduced Dividends Received Percentage) over (y) the dividends paid by the Corporation on such dividend payment date, will be payable to holders of record on the next succeeding dividend payment date in addition to any other amounts payable on such date. In the event that the amount of dividends payable per share of the Cumulative Preferred Stock will be adjusted pursuant to the DRD Formula, the Corporation will cause notice of each such adjustment to be sent to 102 the holders of record as they appear on the stock books of the Corporation on such record dates, not more than 60 days nor less than 10 days preceding the payment dates thereof as shall be fixed by the Board or the Committee. In the event that the Dividends Received Percentage is reduced to 40% or less, the Corporation may, at its option, redeem the Cumulative Preferred Stock, in whole but not in part, as described in paragraph 6 hereof. 3. Liquidation Preference. The shares of Cumulative Preferred Stock shall ---------------------- rank, as to liquidation, dissolution or winding up of the Corporation, prior to the shares of Common Stock and any other class of stock of the Corporation ranking junior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up of the Corporation, so that in the event of any liquidation, dissolution or winding up of the Corporation, whether voluntary or involuntary, the holders of the Cumulative Preferred Stock shall be entitled to receive out of the assets of the Corporation available for distribution to its stockholders, whether from capital, surplus or earnings, before any distribution is made to holders of shares of Common Stock or any other such junior stock, an amount equal to $200.00 per share (the "Liquidation Preference" of a share of Cumulative Preferred Stock) plus an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid on the shares of Cumulative Preferred Stock to the date of final distribution. The holders of the Cumulative Preferred Stock will not be entitled to receive the Liquidation Preference until the liquidation preference of any other class of stock of the Corporation ranking senior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up shall have been paid (or a sum set aside therefor sufficient to provide for payment) in full. After payment of the full amount of the Liquidation Preference and such dividends, the holders of shares of Cumulative Preferred Stock will not be entitled to any further participation in any distribution of assets by the Corporation. If, upon any liquidation, dissolution or winding up of the Corporation, the assets of the Corporation, or proceeds thereof, distributable among the holders of shares of Parity Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid, then such assets, or the proceeds thereof, 103 shall be distributable among such holders ratably in accordance with the respective amounts which would be payable on such shares if all amounts payable thereon were paid in full. For the purposes hereof, neither a consolidation or merger of the Corporation with or into any other corporation, nor a merger of any other corporation with or into the Corporation, nor a sale or transfer of all or any part of the Corporation's assets for cash or securities shall be considered a liquidation, dissolution or winding up of the Corporation. 4. Conversion. The Cumulative Preferred Stock is not convertible into ---------- shares of any other class or series of stock of the Corporation. 5. Voting Rights. The holders of Shares of Cumulative Preferred Stock ------------- shall have no voting rights whatsoever, except for any voting rights to which they may be entitled under the laws of the State of Delaware, and except as follows: (a) Whenever, at any time or times, dividends payable on the shares of Cumulative Preferred Stock or on any Parity Preferred Stock with respect to payment of dividends, shall be in arrears for an aggregate number of days equal to six calendar quarters or more, whether or not consecutive, the holders of the outstanding shares of Cumulative Preferred Stock shall have the right, with holders of shares of any one or more other class or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class), to elect two of the authorized number of members of the Board at the Corporation's next annual meeting of stockholders and at each subsequent annual meeting of stockholders until such arrearages have been paid or set apart for payment, at which time such right shall terminate, except as herein or by law expressly provided, subject to revesting in the event of each and every subsequent default of the character above mentioned. Upon any termination of the right of the holders of shares of Cumulative Preferred Stock as a class to vote for directors as herein provided, the term of office of all directors then in office elected by the holders of shares of Cumulative Preferred Stock shall terminate immediately. 104 Any director who shall have been so elected pursuant to this paragraph may be removed at any time, either with or without cause. Any vacancy thereby created may be filled only by the affirmative vote of the holders of shares of Cumulative Preferred Stock voting separately as a class (together with the holders of shares of any other class or series of stock upon which like voting rights have been conferred and are exercisable). If the office of any director elected by the holders of shares of Cumulative Preferred Stock voting as a class becomes vacant for any reason other than removal from office as aforesaid, the remaining director elected pursuant to this paragraph may choose a successor who shall hold office for the unexpired term in respect of which such vacancy occurred. At elections for such directors, each holder of shares of Cumulative Preferred Stock shall be entitled to one vote for each share held (the holders of shares of any other class or series of preferred stock having like voting rights being entitled to such number of votes, if any, for each share of such stock held as may be granted to them). (b) So long as any shares of Cumulative Preferred Stock remain outstanding, the consent of the holders of at least two-thirds of the shares of Cumulative Preferred Stock outstanding at the time and all other classes or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class) given in person or by proxy, either in writing or at any meeting called for the purpose, shall be necessary to permit, effect or validate any one or more of the following: (i) the issuance or increase of the authorized amount of any class or series of shares ranking prior (as that term is defined in paragraph 9(a) hereof) to the shares of the Cumulative Preferred Stock; or (ii) the amendment, alteration or repeal, whether by merger, consolidation or otherwise of any of the provisions of the Certificate of Incorporation (including this resolution or any provision hereof) that would materially and adversely affect any power, preference, or special right of the shares of 105 Cumulative Preferred Stock or of the holders thereof; provided, however, that any increase in the amount of authorized Common Stock or authorized Preferred Stock or any increase or decrease in the number of shares of any series of Preferred Stock or the creation and issuance of other series of Common Stock or Preferred Stock, in each case ranking on a parity with or junior to the shares of Cumulative Preferred Stock with respect to the payment of dividends and the distribution of assets upon liquidation, dissolution or winding up, shall not be deemed to materially and adversely affect such powers, preferences or special rights. (c) The foregoing voting provisions shall not apply if, at or prior to the time when the act with respect to which such vote would otherwise be required shall be effected, all outstanding shares of Cumulative Preferred Stock shall have been redeemed or called for redemption and sufficient funds shall have been deposited in trust to effect such redemption. 6. Redemption. The shares of the Cumulative Preferred Stock may be ---------- redeemed at the option of the Corporation, as a whole, or from time to time in part, at any time, upon not less than 30 days' prior notice mailed to the holders of the shares to be redeemed at their addresses as shown on the stock books of the Corporation; provided, however, that shares of the Cumulative Preferred Stock shall not be redeemable prior to August 30, 2001, except as stated below. Subject to the foregoing, on or after such date, shares of the Cumulative Preferred Stock are redeemable at $200.00 per share together with an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid to, but excluding, the date fixed for redemption. If full cumulative dividends on the Cumulative Preferred Stock have not been paid, the Cumulative Preferred Stock may not be redeemed in part and the Corporation may not purchase or acquire any shares of the Cumulative Preferred Stock otherwise than pursuant to a purchase or exchange offer made on the same terms to all holders of the Cumulative Preferred Stock. If fewer than all the outstanding shares of Cumulative Preferred Stock are to be redeemed, the Corporation 106 will select those to be redeemed by lot or a substantially equivalent method. If a notice of redemption has been given pursuant to this paragraph 6 and if, on or before the date fixed for redemption, the funds necessary for such redemption shall have been set aside by the Corporation, separate and apart from its other funds, in trust for the pro rata benefit of the holders of the shares of Cumulative Preferred Stock so called for redemption, then, notwithstanding that any certificates for such shares have not been surrendered for cancellation, on the redemption date dividends shall cease to accrue on the shares to be redeemed, and at the close of business on the redemption date the holders of such shares shall cease to be stockholders with respect to such shares and shall have no interest in or claims against the Corporation by virtue thereof and shall have no voting or other rights with respect to such shares, except the right to receive the moneys payable upon surrender (and endorsement, if required by the Corporation) of their certificates, and the shares evidenced thereby shall no longer be outstanding. Subject to applicable escheat laws, any moneys so set aside by the Corporation and unclaimed at the end of two years from the redemption date shall revert to the general funds of the Corporation, after which reversion the holders of such shares so called for redemption shall look only to the general funds of the Corporation for the payment of the amounts payable upon such redemption. Any interest accrued on funds so deposited shall be paid to the Corporation from time to time. Notwithstanding the foregoing provisions, if the Dividends Received Percentage is equal to or less than 40% and, as a result, the amount of dividends on the Cumulative Preferred Stock payable on any dividend payment date will be or is adjusted upwards as described in paragraph 2(b) hereof, the Corporation, at its option, may redeem all, but not less than all, of the outstanding shares of the Cumulative Preferred Stock (and the Depositary Shares) (a "Dividends Received Deduction Redemption"); provided that within sixty days of the date on which an amendment to the Code is enacted which reduces the Dividends Received Percentage to 40% or less, the Corporation sends notice to holders of the Cumulative Preferred Stock relating to any Dividends Received Deduction Redemption of such redemption. A redemption of the Cumulative Preferred Stock will take place on the date specified in the 107 notice, which shall be not less than thirty nor more than sixty days from the date such notice is sent to holders of the Cumulative Preferred Stock. A Dividends Received Deduction Redemption shall be at the applicable redemption price set forth in the following table, in each case plus accrued and unpaid dividends (whether or not declared) thereon to but excluding the date fixed for redemption, including any changes in dividends payable due to changes in the Dividends Received Percentage, if any: Redemption Price ---------------- Per Depositary Redemption Period Per Share Share - ------------------ --------- --------- May 31, 1997 to August 29, 1997..... $210.00 $52.50 August 30, 1997 to August 29, 1998.. 208.00 52.00 August 30, 1998 to August 29, 1999.. 206.00 51.50 August 30, 1999 to August 29, 2000.. 204.00 51.00 August 30, 2000 to August 29, 2001.. 202.00 50.50 On or after August 30, 2001......... 200.00 50.00 7. Authorization and Issuance of Other Securities. No consent of the ---------------------------------------------- holders of the Cumulative Preferred Stock shall be required for (a) the creation of any indebtedness of any kind of the Corporation, (b) the creation, or increase or decrease in the amount, of any class or series of stock of the Corporation not ranking prior as to dividends or upon liquidation, dissolution or winding up to the Cumulative Preferred Stock or (c) any increase or decrease in the amount of authorized Common Stock or any increase, decrease or change in the par value thereof or in any other terms thereof. 8. Amendment of Resolution. The Board and the Committee each reserves the ----------------------- right by subsequent amendment of this resolution from time to time to increase or decrease the number of shares that constitute the Cumulative Preferred Stock (but not below the number of shares thereof then outstanding) and in other respects to amend this resolution within the limitations provided by law, this resolution and the Certificate of Incorporation. 9. Rank. For the purposes of this resolution, any stock of any class or ---- classes of the Corporation shall be deemed to rank: (a) prior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, 108 if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of shares of the Cumulative Preferred Stock; (b) on a parity with shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, whether or not the dividend rates, dividend payment dates, or redemption or liquidation prices per share thereof be different from those of the Cumulative Preferred Stock, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributed upon liquidation, dissolution or winding up, as the case may be, in proportion to their respective dividend rates or liquidation prices, without preference or priority of one over the other as between the holders of such stock and the holders of shares of Cumulative Preferred Stock (the term "Parity Preferred Stock" being used to refer to any stock on a parity with the shares of Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, as the context may require); and (c) junior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if such class shall be Common Stock or if the holders of the Cumulative Preferred Stock shall be entitled to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of stock of such class or classes. The Cumulative Preferred Stock shall rank prior, as to dividends and upon liquidation, dissolution or winding up, to the Common Stock and the Corporation's Series A Junior Participating Preferred Stock, and on a parity with (i) the Corporation's ESOP Convertible Preferred Stock, with a liquidation value of $35.88 per share, (ii) the Corporation's 7-3/8% Cumulative Preferred Stock, with a liquidation value of $200.00 per 109 share, (iii) the Corporation's Series A Fixed/Adjustable Rate Preferred Stock, with a liquidation value of $200.00 per share, (iv) if issued, the Corporation's 7.82% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (v) if issued, the Corporation's 7.80% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vi) if issued, the Corporation's 9.00% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vii) if issued, the Corporation's 8.40% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (viii) if issued, the Corporation's 8.20% Cumulative Preferred Stock, with a liquidation value of $200.00 per share and (ix) if issued, the Corporation's 8.03% Cumulative Preferred Stock, with a liquidation value of $200.00 per share. 110 B. This Certificate of Designation shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, Dean Witter, Discover & Co. has caused this Certificate of Designation to be signed by Christine A. Edwards, its Executive Vice President, General Counsel and Secretary, this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By: /s/ Christine A. Edwards -------------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 111 CERTIFICATE OF DESIGNATION OF PREFERENCES AND RIGHTS OF THE SERIES A FIXED/ADJUSTABLE RATE PREFERRED STOCK ($200.00 Stated Value) OF DEAN WITTER, DISCOVER & CO. --------------------------- Pursuant to Section 151 of the General Corporation Law of the State of Delaware --------------------------- The undersigned DOES HEREBY CERTIFY: A. The following resolution was duly adopted by the Board of Directors (the "Board") of Dean Witter, Discover & Co., a Delaware corporation (hereinafter called the "Corporation"), by unanimous vote thereof at a meeting on May 28, 1997: RESOLVED that, pursuant to authority expressly granted to and vested in the Board by provisions of the Amended and Restated Certificate of Incorporation of the Corporation (the "Certificate of Incorporation"), the issuance of a series of Preferred Stock, par value $0.01 per share (the "Preferred Stock"), which shall consist of 1,725,000 of the shares of Preferred Stock which the Corporation has authority to issue, is authorized, and the Board hereby fixes the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, of the shares of such series (in addition to the powers, designations, preferences and relative participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, set forth in the Certificate of Incorporation which may be applicable to the Preferred Stock) as follows: 1. Designation and Amount; Fractional Shares. The designation for such ------------------------------------------ series of the Preferred Stock authorized by this resolution 112 shall be the Series A Fixed/Adjustable Rate Cumulative Preferred Stock, par value $0.01 per share, with a stated value of $200.00 per share (the "Series A Fixed/Adjustable Rate Preferred Stock"). The stated value per share of Series A Fixed/Adjustable Rate Preferred Stock shall not for any purpose be considered to be a determination by the Board with respect to the capital and surplus of the Corporation. The number of shares of Series A Fixed/Adjustable Rate Preferred Stock shall be 1,725,000. The Series A Fixed/Adjustable Rate Preferred Stock is issuable in whole shares only. 2. Dividends. (a) Holders of shares of Series A Fixed/Adjustable Rate ---------- Preferred Stock will be entitled to receive cash dividends, when, as and if declared by the Board or the Committee (as hereinafter defined) out of assets of the Corporation legally available for payment. Dividends on the Series A Fixed/Adjustable Rate Preferred Stock, calculated as a percentage of the stated value, will be payable quarterly on February 28, May 30, August 30 and November 30 (each a "dividend payment date"). From the date of issuance of the Series A Fixed/Adjustable Rate Preferred Stock and continuing through November 30, 2001, the rate of such dividend will be 5.91% per annum. For the purposes of this Certificate of Designation, the "Committee" shall mean any committee of the Board to whom the Board, pursuant to Section 141(c) of the General Corporation Law of the State of Delaware, delegates authority to perform the functions of the Board set forth in this Certificate of Designation. After November 30, 2001, dividends on the Series A Fixed/Adjustable Rate Preferred Stock will be payable quarterly on each dividend payment date at the Applicable Rate (as defined in paragraph 3) from time to time in effect. The Applicable Rate per annum for any dividend period beginning on or after November 30, 2001 will be equal to .37% plus the highest of the Treasury Bill Rate, the Ten-Year Constant Maturity Rate and the Thirty-Year 113 Constant Maturity Rate (each as defined in paragraph 3), as determined in advance of such dividend period. The Applicable Rate per annum for any dividend period beginning on or after November 30, 2001, will not be less then 6.41% nor greater then 12.41% (without taking into account any adjustments set forth in paragraph 2(b)). Dividends on shares of the Series A Fixed/Adjustable Rate Preferred Stock will be cumulative from the date of initial issuance of such shares of Series A Fixed/Adjustable Rate Preferred Stock. Dividends will be payable, in arrears, to holders of record as they appear on the stock books of the Corporation on such record dates, not more than 60 days nor less than 10 days preceding the payment dates thereof, as shall be fixed by the Board or the Committee. The amount of dividends payable for the initial dividend period or any period shorter than a full dividend period shall be calculated on the basis of a 360- day year of twelve 30-day months. No dividends may be declared or paid or set apart for payment on any Parity Preferred Stock (as defined in paragraph 10(b)) with regard to the payment of dividends unless there shall also be or have been declared and paid or set apart for payment on the Series A Fixed/Adjustable Rate Preferred Stock, like dividends for all dividend payment periods of the Series A Fixed/Adjustable Rate Preferred Stock ending on or before the dividend payment date of such Parity Preferred Stock ratably in proportion to the respective amounts of dividends (x) accumulated and unpaid or payable on such Parity Preferred Stock, on the one hand, and (y) accumulated and unpaid through the dividend payment period or periods of the Series A Fixed/Adjustable Rate Preferred Stock next preceding such dividend payment date, on the other hand. Except as set forth in the preceding sentence, unless full cumulative dividends on the Series A Fixed/Adjustable Rate Preferred Stock have been paid, no dividends (other than in Common Stock of the Corporation) may be paid or declared 114 and set aside for payment or other distribution made upon the Common Stock or on any other stock of the Corporation ranking junior to or on a parity with the Series A Fixed/Adjustable Rate Preferred Stock as to dividends, nor may any Common Stock or any other stock of the Corporation ranking junior to or on a parity with the Series A Fixed/Adjustable Rate Preferred Stock as to dividends be redeemed, purchased or otherwise acquired for any consideration (or any payment be made to or available for a sinking fund for the redemption of any shares of such stock; provided, however, that any moneys theretofore deposited in any sinking fund with respect to any preferred stock of the Corporation in compliance with the provisions of such sinking fund may thereafter be applied to the purchase or redemption of such preferred stock in accordance with the terms of such sinking fund, regardless of whether at the time of such application full cumulative dividends upon shares of the Series A Fixed/Adjustable Rate Preferred Stock outstanding to the last dividend payment date shall have been paid or declared and set apart for payment) by the Corporation; provided that any such junior or parity Preferred Stock or Common Stock may be converted into or exchanged for stock of the Corporation ranking junior to the Series A Fixed/Adjustable Rate Preferred Stock as to dividends. (b) If one or more amendments to the Internal Revenue Code of 1986, as amended (the "Code"), are enacted that reduce the percentage of the dividends received deduction as specified in Section 243(a)(1) of the Code or any successor provision (the "Dividends Received Percentage") to below 70%, the amount of each dividend payable per share of the Series A Fixed/Adjustable Rate Preferred Stock for dividend payments made on or after the date of enactment of such change will be adjusted by multiplying the amount of the dividend payable determined as described above (before adjustment) by a factor, which will be the number determined in accordance with the following 115 formula (the "DRD Formula"), and rounding the result to the nearest cent: 1 - (.35 (1 - .70)) ------------------- 1 - (.35 (1 - DRP)) For the purposes of the DRD Formula, "DRP" means the Dividends Received Percentage applicable to the dividend in question. No amendment to the Code, other than a change in the percentage of the dividends received deduction set forth in Section 243(a)(1) of the Code or any successor provision, will give rise to an adjustment. Notwithstanding the foregoing provisions, in the event that, with respect to any such amendment, the Corporation will receive either an unqualified opinion of nationally recognized independent tax counsel selected by the Corporation or a private letter ruling or similar form of authorization from the Internal Revenue Service to the effect that such an amendment would not apply to dividends payable on the Series A Fixed/Adjustable Rate Preferred Stock, then any such amendment will not result in the adjustment provided for pursuant to the DRD Formula. The opinion referenced in the previous sentence will be based upon a specific exception in the legislation amending the DRP or upon a published pronouncement of the Internal Revenue Service addressing such legislation. Unless the context otherwise requires, references to dividends in this Certificate of Designation will mean dividends as adjusted by the DRD Formula. The Corporation's calculation of the dividends payable, as so adjusted and as certified accurate as to calculation and reasonable as to method by the independent certified public accountants then regularly engaged by the Corporation, will be final and not subject to review absent manifest error. If any amendment to the Code which reduces the Dividends Received Percentage to below 70% is enacted after a dividend payable on a dividend payment date has been declared, the amount of dividend payable on such dividend payment date 116 will not be increased. Instead, an amount, equal to the excess of (x) the product of the dividends paid by the Corporation on such dividend payment date and the DRD Formula (where the DRP used in the DRD Formula would be equal to the reduced Dividends Received Percentage) over (y) the dividends paid by the Corporation on such dividend payment date, will be payable on the next succeeding dividend payment date to holders of record in addition to any other amounts payable on such date. In addition, if prior to May 31, 1997, an amendment to the Code is enacted that reduces the Dividends Received Percentage to below 70% and such reduction retroactively applies to a dividend payment date of the Series A Fixed/Adjustable Rate Cumulative Preferred Stock, no par value, with a stated value of $200.00 per share ("Morgan Stanley Series A Fixed/Adjustable Rate Preferred Stock") of Morgan Stanley Group Inc. ("Morgan Stanley") as to which Morgan Stanley previously paid dividends on the Morgan Stanley Series A Fixed/Adjustable Rate Preferred Stock (each an "Affected Dividend Payment Date"), holders of the Series A Fixed/Adjustable Rate Preferred Stock shall be entitled to receive when, as and if declared by the Board out of assets of the corporation legally available for payment, additional dividends (the "Additional Dividends") on the next succeeding dividend payment date (or if such amendment is enacted after the dividend payable on such dividend payment date has been declared and on or before such dividend is paid, on the second succeeding dividend payment date following the date of enactment) payable on such succeeding dividend payment date to holders of record in an amount equal to the excess of (x) the product of the dividends paid by Morgan Stanley on each Affected Dividend Payment Date and the DRD Formula (where the DRP used in the DRD Formula would be equal to the reduced Dividends Received Percentage applied to each Affected Dividend Payment Date) over (y) the dividends paid by Morgan Stanley on each Affected Dividend Payment Date. 117 Additional Dividends will not be paid in respect of the enactment of any amendment to the Code on or after May 31, 1997 which retroactively reduces the Dividends Received Percentage to below 70%, or if prior to May 31, 1997, such amendment would not result in an adjustment due to the Corporation having received either an opinion of counsel or tax ruling referred to in the third preceding paragraph. The Corporation will only make one payment of Additional Dividends. In the event that the amount of dividends payable per share of the Series A Fixed/Adjustable Rate Preferred Stock will be adjusted pursuant to the DRD Formula and/or Additional Dividends are to be paid, the Corporation will cause notice of each such adjustment and, if applicable, any Additional Dividends, to be sent to the holders of record as they appear on the stock books of the Corporation on such record date, not more than 60 days nor less than 10 days preceding the payment date thereof as shall be fixed by the Board or the Committee. In the event that the Dividends Received Percentage is reduced to 50% or less, the Corporation may, at its option, redeem the Series A Fixed/Adjustable Rate Preferred Stock, in whole but not in part, as described in paragraph 7 hereof. 3. Applicable Rate. Except as provided above in paragraph 2, the ---------------- "Applicable Rate" per annum for any dividend period beginning on or after November 30, 2001 will be equal to .37% plus the Effective Rate (as defined herein), but not less than 6.41% nor greater than 12.41% (without taking into account any adjustments as described in paragraph 2(b)). The "Effective Rate" for any dividend period beginning on or after November 30, 2001 will be equal to the highest of the Treasury Bill Rate, the Ten-Year Constant Maturity Rate and the Thirty-Year Constant Maturity Rate (each as defined herein) for such dividend period. If the Corporation determines in good faith that for any reason: (i) any one of the Treasury Bill Rate, the 118 Ten-Year Constant Maturity Rate or the Thirty-Year Constant Maturity Rate cannot be determined for any dividend period beginning on or after November 30, 2001, then the Effective Rate for such dividend period will be equal to the higher of whichever two of such rates can be so determined; (ii) only one of the Treasury Bill Rate, the Ten-Year Constant Maturity Rate or the Thirty-Year Constant Maturity Rate can be determined for any dividend period beginning on or after November 30, 2001, then the Effective Rate for such dividend period will be equal to whichever such rate can be so determined; or (iii) none of the Treasury Bill Rate, the Ten-Year Constant Maturity Rate or the Thirty-Year Constant Maturity Rate can be determined for any dividend period beginning on or after November 30, 2001, then the Effective Rate for the preceding dividend period will be continued for such dividend period. The "Treasury Bill Rate" for each dividend period will be the arithmetic average of the two most recent weekly per annum market discount rates (or the one weekly per annum market discount rate, if only one such rate is published during the relevant Calendar Period (as defined herein) for three-month U.S. Treasury bills, as published weekly by the Federal Reserve Board (as defined herein) during the Calendar Period immediately preceding the tenth calendar day preceding the dividend period for which the dividend rate on the Series A Fixed/Adjustable Rate Preferred Stock is being determined. The "Ten-Year Constant Maturity Rate" for each dividend period will be the arithmetic average of the two most recent weekly per annum Ten-Year Average Yields (as defined herein) (or the one weekly per annum Ten-Year Average Yield, if only one such yield is published during the relevant Calendar Period), as published weekly by the Federal Reserve Board during the Calendar Period immediately preceding the tenth calendar day preceding the dividend period for which the dividend rate on the Series A Fixed/Adjustable Rate Preferred Stock is being determined. 119 The "Thirty-Year Constant Maturity Rate" for each dividend period will be the arithmetic average of the two most recent weekly per annum Thirty-Year Average Yields (as defined herein) the one weekly per annum Thirty-Year Average Yield, if only one such yield is published during the relevant Calendar Period), as published weekly by the Federal Reserve Board during the Calendar Period immediately preceding the tenth calendar day preceding the dividend period for which the dividend rate on the Series A Fixed/Adjustable Rate Preferred Stock is being determined. If the Federal Reserve Board does not publish a weekly per annum market discount rate, Ten-Year Average Yield or Thirty-Year Average Yield during any applicable Calendar Period, then the Treasury Bill Rate, Ten-Year Constant Maturity Rate or Thirty-Year Constant Maturity Rate, as the case may be, for such dividend period will be the arithmetic average of the two most recent weekly per annum market discount rates for three-month U.S. Treasury bills, Ten- Year Average Yields or Thirty-Year Average Yields, as the case may be (or the one weekly per annum rate, if only one such rate is published during the relevant Calendar Period), as published weekly during such Calendar Period by any Federal Reserve Bank or by any U.S. Government department or agency selected by the Corporation. If any such rate is not published by the Federal Reserve Board or by any Federal Reserve Bank or by any U.S. Government department or agency during such Calendar Period, then the Treasury Bill Rate, Ten-Year Constant Maturity Rate or Thirty-Year Constant Maturity Rate for such dividend period will be the arithmetic average of the two most recent weekly per annum (i) in the case of the Treasury Bill Rate, market discount rates (or the one weekly per annum market discount rate, if only one such rate is published during the relevant Calendar Period) for all of the U.S. Treasury bills then having remaining maturities of not less than 80 nor more than 100 days, and (ii) in the case of the Ten-Year Constant Maturity Rate, average yields to maturity (or the one weekly per annum average yield to 120 maturity, if only one such yield is published during the relevant Calendar Period) for all of the actively traded marketable U.S. Treasury fixed interest rate securities (other then Special Securities (as defined herein)) then having remaining maturities of not less than eight nor more than twelve years, and (iii) in the case of the Thirty-Year Constant Maturity Rate, average yields to maturity (or the one weekly per annum average yield to maturity, if only one such yield is published during the relevant Calendar Period) for all of the actively traded marketable U.S. Treasury fixed interest rate securities (other than Special Securities) then having remaining maturities of not less than twenty-eight nor more than thirty years, in each case as published during such Calendar Period by the Federal Reserve Board or, if the Federal Reserve Board does not publish such rates, by any Federal Reserve Bank or by any U.S. Government department or agency selected by the Corporation. If the Corporation determines in good faith that for any reason (i) no such U.S. Treasury bill rates are published as provided above during such Calendar Period or (ii) the Corporation cannot determine the Treasury Bill Rate for any dividend period; then the Treasury Bill Rate for such dividend period will be the arithmetic average of the per annum market discount rates based upon the closing bids during such Calendar Period for each of the issues of marketable non-interest- bearing U.S. Treasury securities with a remaining maturity of not less than 80 nor more than 100 days from the date of each such quotation, as chosen and quoted daily for each business day in New York City (or less frequently if daily quotations are not generally available) to the Corporation by at least three recognized dealers in U.S. Government securities selected by the Corporation. If the Corporation determines in good faith that for any reason the Corporation cannot determine the Ten-Year Constant Maturity Rate or Thirty-Year Constant Maturity Rate for any dividend period as provided above, then the applicable rate for such dividend period will be the arithmetic average of the per annum average yields to maturity based upon the closing 121 bids during such Calendar Period for each of the issues of actively traded marketable U.S. Treasury fixed interest rate securities (other then Special Securities) with a final maturity date (i) in the case of the Ten-Year Constant Maturity Rate, not less than eight nor more then twelve years from the date of each such quotation, and (ii) in the case of the Thirty-Year Constant Maturity Rate, no less than twenty-eight nor more than thirty years from the date of each such quotation, in each case as chosen and quoted daily for each business day in New York City (or less frequently if daily quotations are not generally available) to the Corporation by at least three recognized dealers in the United States. The Treasury Bill Rate, the Ten-Year Constant Maturity Rate and the Thirty- Year Constant Maturity Rate will each be rounded to the nearest five hundredths of a percent, with .025% being rounded upward. The Applicable Rate with respect to each dividend period beginning on or after November 30, 2001 will be calculated as promptly as practicable by the Corporation according to the appropriate method described above. The Corporation will cause notice of each Applicable Rate to be given to the holders of Series A Fixed/Adjustable Rate Preferred Stock when payment is made of the dividend for the immediately preceding dividend period. As used in this paragraph 3, the term "Calendar Period" means a period of fourteen calendar days; the term "Federal Reserve Board" means the Board of Governors of the Federal Reserve System; the term "Special Securities" means securities which can, at the option of the holder, be surrendered at face value in payment of any Federal estate tax or which provide tax benefits to the holder and are priced to reflect such tax benefits or which were originally issued at a deep or substantial discount; the term "Ten-Year Average Yield" means the average yield to maturity for actively traded marketable U.S. 122 Treasury fixed interest rate securities (adjusted to constant maturities of ten years); and the term "Thirty-Year Average Yield" means the average yield to maturity for actively traded marketable U.S. Treasury fixed interest rate securities (adjusted to constant maturities of thirty years). 4. Liquidation Preference. The shares of Series A Fixed/Adjustable Rate ----------------------- Preferred Stock shall rank, as to liquidation, dissolution or winding up of the Corporation, prior to the shares of Common Stock and any other class of stock of the Corporation ranking junior to the Series A Fixed/Adjustable Rate Preferred Stock as to rights upon liquidation, dissolution or winding up of the Corporation, so that in the event of any liquidation, dissolution or winding up of the Corporation, whether voluntary or involuntary, the holders of the Series A Fixed/Adjustable Rate Preferred Stock shall be entitled to receive out of the assets of the Corporation available for distribution to its stockholders, whether from capital, surplus or earnings, before any distribution is made to holders of shares of Common Stock or any other such junior stock, an amount equal to $200.00 per share (the "Liquidation Preference" of a share of Series A Fixed/Adjustable Rate Preferred Stock) plus an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid on the shares of Series A Fixed/Adjustable Rate Preferred Stock to the date of final distribution. The holders of the Series A Fixed/Adjustable Rate Preferred Stock will not be entitled to receive the Liquidation Preference until the liquidation preference of any other class of stock of the Corporation ranking senior to the Series A Fixed/Adjustable Rate Preferred Stock as to rights upon liquidation, dissolution or winding up shall have been paid (or a sum set aside therefor sufficient to provide for payment) in full. After payment of the full amount of the Liquidation Preference and such dividends, the holders of shares of Series A Fixed/Adjustable Rate Preferred Stock will not be entitled to any further participation in any distribution of 123 assets by the Corporation. If, upon any liquidation, dissolution or winding up of the Corporation, the assets of the Corporation, or proceeds thereof, distributable among the holders of shares of Parity Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid, then such assets, or the proceeds thereof, shall be distributable among such holders ratably in accordance with the respective amounts which would be payable on such shares if all amounts payable thereon were paid in full. For the purposes hereof, neither a consolidation or merger of the Corporation with or into any other corporation, nor a merger of any other corporation with or into the Corporation, nor a sale or transfer of all or any part of the Corporation's assets for cash or securities shall be considered a liquidation, dissolution or winding up of the Corporation. 5. Conversion. The Series A Fixed/Adjustable Rate Preferred Stock is not ----------- convertible into shares of any other class or series of stock of the Corporation. 6. Voting Rights. The holders of shares of Series A Fixed/Adjustable Rate -------------- Preferred Stock shall have no voting rights whatsoever, except for any voting rights to which they may be entitled under the laws of the State of Delaware, and except as follows: (a) Whenever, at any time or times, dividends payable on the shares of Series A Fixed/Adjustable Rate Preferred Stock or on any Parity Preferred Stock with respect to payment of dividends, shall be in arrears for an aggregate number of days equal to six calendar quarters or more, whether or not consecutive, the holders of the outstanding shares of Series A Fixed/Adjustable Rate Preferred Stock shall have the right, with holders of shares of any one or more other class or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class), to 124 elect two of the authorized number of members of the Board at the Corporation's next annual meeting of stockholders and at each subsequent annual meeting of stockholders until such arrearages have been paid or set apart for payment, at which time such right shall terminate, except as herein or by law expressly provided, subject to revesting in the event of each and every subsequent default of the character above mentioned. Upon any termination of the right of the holders of shares of Series A Fixed/Adjustable Rate Preferred Stock as a class to vote for directors as herein provided, the term of office of all directors then in office elected by the holders of shares of Series A Fixed/Adjustable Rate Preferred Stock shall terminate immediately. Any director who shall have been so elected pursuant to this paragraph may be removed at any time, either with or without cause. Any vacancy thereby created may be filled only by the affirmative vote of the holders of shares of Series A Fixed/Adjustable Rate Preferred Stock voting separately as a class (together with the holders of shares of any other class or series of stock upon which like voting rights have been conferred and are exercisable). If the office of any director elected by the holders of shares of Series A Fixed/Adjustable Rate Preferred Stock voting as a class becomes vacant for any reason other than removal from office as aforesaid, the remaining director elected pursuant to this paragraph may choose a successor who shall hold office for the unexpired term in respect of which such vacancy occurred. At elections for such directors, each holder of shares of Series A Fixed/Adjustable Rate Preferred Stock shall be entitled to one vote for each share held (the holders of shares of any other class or series of Preferred Stock having like voting rights being entitled to such number of votes, if any, for each share 125 of such stock held as may be granted to them). (b) So long as any shares of Series A Fixed/Adjustable Rate Preferred Stock remain outstanding, the consent of the holders of at least two-thirds of the shares of Series A Fixed/Adjustable Rate Preferred Stock outstanding at the time and all other classes or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class) given in person or by proxy, either in writing or at any meeting called for the purpose, shall be necessary to permit, effect or validate any one or more of the following: (i) the issuance or increase of the authorized amount of any class or series of shares ranking prior (as that term is defined in paragraph 10(a) hereof) to the shares of the Series A Fixed/Adjustable Rate Preferred Stock; or (ii) the amendment, alteration or repeal, whether by merger, consolidation or otherwise, of any of the provisions of the Certificate of Incorporation (including this resolution or any provision hereof) that would materially and adversely affect any power, preference, or special right of the shares of Series A Fixed/Adjustable Rate Preferred Stock or of the holders thereof; provided, however, that any increase in the amount of authorized Common Stock or authorized Preferred Stock or any increase or decrease in the number of shares of any series of Preferred Stock or the creation and issuance of other series of Common Stock or Preferred Stock, in each case ranking on a parity with or junior to the shares of Series A Fixed/Adjustable Rate Preferred Stock with respect to the 126 payment of dividends and the distribution of assets upon liquidation, dissolution or winding up, shall not be deemed to materially and adversely affect such powers, preferences or special rights. (c) The foregoing voting provisions shall not apply if, at or prior to the time when the act with respect to which such vote would otherwise be required shall be effected, all outstanding shares of Series A Fixed/Adjustable Rate Preferred Stock shall have been redeemed or called for redemption and sufficient funds shall have been deposited in trust to effect such redemption. 7. Redemption. The shares of the Series A Fixed/Adjustable Rate Preferred ----------- Stock may be redeemed at the option of the Corporation, as a whole, or from time to time in part, at any time, upon not less than 30 days' prior notice mailed to the holders of the shares to be redeemed at their addresses as shown on the stock books of the Corporation; provided, however, that shares of the Series A Fixed/Adjustable Rate Preferred Stock shall not be redeemable prior to November 30, 2001, except as stated below. Subject to the foregoing, on or after such date, shares of the Series A Fixed/Adjustable Rate Preferred Stock are redeemable at $200.00 per share together with an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid to, but excluding, the date fixed for redemption. If full cumulative dividends on the Series A Fixed/Adjustable Rate Preferred Stock have not been paid, the Series A Fixed/Adjustable Rate Preferred Stock may not be redeemed in part and the Corporation may not purchase or acquire any shares of the Series A Fixed/Adjustable Rate Preferred Stock otherwise than pursuant to a purchase or exchange offer made on the same terms to all holders of the Series A Fixed/Adjustable Rate Preferred Stock. If fewer than all the 127 outstanding shares of Series A Fixed/Adjustable Rate Preferred Stock are to be redeemed, the Corporation will select those to be redeemed by lot or a substantially equivalent method. If a notice of redemption has been given pursuant to this paragraph 7 and if, on or before the date fixed for redemption, the funds necessary for such redemption shall have been set aside by the Corporation, separate and apart from its other funds, in trust for the pro rata benefit of the holders of the shares of Series A Fixed/Adjustable Rate Preferred Stock so called for redemption, then, notwithstanding that any certificates for such shares have not been surrendered for cancellation, on the redemption date dividends shall cease to accrue on the shares to be redeemed, and at the close of business on the redemption date the holders of such shares shall cease to be stockholders with respect to such shares and shall have no interest in or claims against the Corporation by virtue thereof and shall have no voting or other rights with respect to such shares, except the right to receive the moneys payable upon surrender (and endorsement, if required by the Corporation) of their certificates, and the shares evidenced thereby shall no longer be outstanding. Subject to applicable escheat laws, any moneys so set aside by the Corporation and unclaimed at the end of two years from the redemption date shall revert to the general funds of the Corporation, after which reversion the holders of such shares so called for redemption shall look only to the general funds of the Corporation for the payment of the amounts payable upon such redemption. Any interest accrued on funds so deposited shall be paid to the Corporation from time to time. Notwithstanding the foregoing provisions, if the Dividends Received Percentage is equal to or less than 50% and, as a result, the amount of dividends on the Series A Fixed/Adjustable Rate Preferred Stock payable on any dividend payment date will be or is adjusted upwards as described in paragraph 2(b) hereof, the Corporation, at its 128 option, may redeem all, but not less than all, of the outstanding shares of the Series A Fixed/Adjustable Rate Preferred Stock (the Depositary Shares) (a "Dividends Received Deduction Redemption") provided that within sixty days of the date on which an amendment to the Code is enacted which reduces the Dividends Received Percentage to 50% or less, the Corporation sends notice to holders of the Series A Fixed/Adjustable Rate Preferred Stock of such redemption. A Dividends Received Deduction Redemption, in accordance with this paragraph, will take place on the date specified in the notice, which shall be not less than thirty nor more then sixty days from the date such notice is sent to holders of the Series A Fixed/Adjustable Rate Preferred Stock. A Dividends Received Deduction Redemption shall be at the applicable redemption price set forth in the following table, in each case plus accrued and unpaid dividends (whether or not declared) thereon to but excluding the date fixed for redemption, including any changes in dividends payable due to changes in the Dividends Received Percentage and Additional Dividends, if any:
Redeemable Price ---------------------- Per Depositary Redemption Period Per Share Share - ----------------- --------- ----------- May 31, 1997 to November 29, 1997....... $210.00 $52.50 November 30, 1997 to November 29, 1998.. 208.00 52.00 November 30, 1998 to November 29, 1999.. 206.00 51.50 November 30, 1999 to November 29, 2000.. 204.00 51.00 November 30, 2000 to November 29, 2001.. 202.00 50.50 On or after November 30, 2001........... 200.00 50.00
8. Authorization and Issuance of Other Securities. No consent of the holders ----------------------------------------------- of the Series A Fixed/Adjustable Rate Preferred Stock shall be required for (a) the creation of any indebtedness of any kind of the Corporation, 129 (b) the creation, or increase or decrease in the amount, of any class or series of stock of the Corporation not ranking prior as to dividends or upon liquidation, dissolution or winding up to the Series A Fixed/Adjustable Rate Preferred Stock or (c) any increase or decrease in the amount of authorized Common Stock or any increase, decrease or change in the par value thereof or in any other terms thereof. 9. Amendment of Resolution. The Board and the Committee each reserves the ------------------------ right by subsequent amendment of this resolution from time to time to increase or decrease the number of shares that constitute the Series A Fixed/Adjustable Rate Preferred Stock (but not below the number of shares thereof then outstanding) and in other respects to amend this resolution within the limitations provided by law, this resolution and the Certificate of Incorporation. 10. Rank. For the purposes of this resolution, any stock of any class or ----- classes of the Corporation shall be deemed to rank: (a) prior to shares of the Series A Fixed/Adjustable Rate Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of shares of the Series A Fixed/Adjustable Rate Preferred Stock; (b) on a parity with shares of the Series A Fixed/Adjustable Rate Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, whether or not the dividend rates, dividend payment dates, or redemption or liquidation prices per share thereof be 130 different from those of the Series A Fixed/Adjustable Rate Preferred Stock, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributed upon liquidation, dissolution or winding up, as the case may be, in proportion to their respective dividend rates or liquidation prices, without preference or priority of one over the other as between the holders of such stock and the holders of shares of Series A Fixed/Adjustable Rate Preferred Stock (the term "Parity Preferred Stock" being used to refer to any stock on a parity with the shares of Series A Fixed/Adjustable Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, as the context may require); and (c) junior to shares of the Series A Fixed/Adjustable Rate Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if such class shall be Common Stock or if the holders of the Series A Fixed/Adjustable Rate Preferred Stock shall be entitled to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of stock of such class or classes. The Series A Fixed/Adjustable Rate Preferred Stock shall rank prior, as to dividends and upon liquidation, dissolution or winding up, to the Common Stock and the Corporation's Series A Junior Participating Preferred Stock, and on a parity with (i) the Corporation's ESOP Convertible Preferred Stock, with a liquidation value of $35.88 per share, (ii) the Corporation's 7-3/8% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iii) the Corporation's 7-3/4% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iv) if issued, the Corporation's 7.82% Cumulative 131 Preferred Stock, with a liquidation value of $200.00 per share, (v) if issued, the Corporation's 7.80% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vi) if issued, the Corporation's 9.00% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vii) if issued, the Corporation's 8.40% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (viii) if issued, the Corporation's 8.20% Cumulative Preferred Stock, with a liquidation value of $200.00 per share and (ix) if issued, the Corporation's 8.03% Cumulative Preferred Stock, with a liquidation value of $200.00 per share. 132 B. This Certificate of Designation shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, Dean Witter, Discover & Co. has caused this Certificate of Designation to be signed by Christine A. Edwards, its Executive Vice President, General Counsel and Secretary, this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By: /s/ Christine A. Edwards ---------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 133 CERTIFICATE OF DESIGNATION OF PREFERENCES AND RIGHTS OF THE 8.03% CUMULATIVE PREFERRED STOCK ($200.00 Stated Value) OF DEAN WITTER, DISCOVER & CO. ___________________________________ Pursuant to Section 151 of the General Corporation Law of the State of Delaware ___________________________________ The undersigned DOES HEREBY CERTIFY: A. The following resolution was duly adopted by the Board of Directors (the "Board") of Dean Witter, Discover & Co., a Delaware corporation (hereinafter called the "Corporation"), by unanimous vote thereof at a meeting on May 28, 1997: RESOLVED that, pursuant to authority expressly granted to and vested in the Board by provisions of the Amended and Restated Certificate of Incorporation of the Corporation (the "Certificate of Incorporation"), the issuance of a series of Preferred Stock, par value $0.01 per share (the "Preferred Stock"), which shall consist of 670,000 of the shares of Preferred Stock which the Corporation has authority to issue, is authorized, and the Board hereby fixes the powers, designations, preferences and relative, participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, of the shares of such series (in addition to the powers, designations, preferences and relative participating, optional or other special rights, and the qualifications, limitations or restrictions thereof, set forth in the Certificate of Incorporation which may be applicable to the Preferred Stock) as follows: 1. Designation and Amount; Fractional Shares. The designation for such ----------------------------------------- series of the Preferred Stock authorized by this resolution shall be the 8.03% 134 Cumulative Preferred Stock, par value $0.01 per share, with a stated value of $200.00 per share (the "Cumulative Preferred Stock"). The stated value per share of the Cumulative Preferred Stock shall not for any purpose be considered to be a determination by the Board with respect to the capital and surplus of the Corporation. The number of shares of the Cumulative Preferred Stock shall be 670,000. The Cumulative Preferred Stock is issuable in whole shares only. 2. Dividends. (a) Holders of shares of the Cumulative Preferred Stock --------- will be entitled to receive, when, as and if declared by the Board or the Committee (as hereinafter defined) out of assets of the Corporation legally available for payment cash dividends at the rate of 8.03% per annum. Dividends on the Cumulative Preferred Stock will be payable quarterly on February 28, May 30, August 30 and November 30 of each year (each a "dividend payment date"). Dividends on shares of the Cumulative Preferred Stock will be cumulative from the date of initial issuance of such shares of the Cumulative Preferred Stock. Dividends will be payable, in arrears, to holders of record as they appear on the stock books of the Corporation on such record dates, not more than 60 days nor less than 10 days preceding the payment dates thereof, as shall be fixed by the Board or the Committee. The amount of dividends payable for the initial dividend period or any period shorter than a full dividend period shall be calculated on the basis of a 360-day year of twelve 30-day months. No dividends may be declared or paid or set apart for payment on any Parity Preferred Stock (as defined in paragraph 9(b) below) with regard to the payment of dividends unless there shall also be or have been declared and paid or set apart for payment on the Cumulative Preferred Stock, like dividends for all dividend payment periods of the Cumulative Preferred Stock ending on or before the dividend payment date of such Parity Preferred Stock ratably in proportion to the respective amounts of dividends (x) accumulated and unpaid or payable on such Parity Preferred Stock, on the one hand, and (y) accumulated and unpaid through the dividend payment period or periods of the Cumulative Preferred Stock next preceding such dividend payment date, on the other hand. For the purposes of this Certificate of Designation, the "Committee" shall mean any committee of the Board to whom the Board, pursuant to Section 141(c) of the General Corporation Law of the State of Delaware, delegates authority to 135 perform the functions of the Board set forth in this Certificate of Designation. Except as set forth in the preceding sentence, unless full cumulative dividends on the Cumulative Preferred Stock have been paid, no dividends (other than in Common Stock of the Corporation) may be paid or declared and set aside for payment or other distribution made upon the Common Stock or on any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends, nor may any Common Stock or any other stock of the Corporation ranking junior to or on a parity with the Cumulative Preferred Stock as to dividends be redeemed, purchased or otherwise acquired for any consideration (or any payment be made to or available for a sinking fund for the redemption of any shares of such stock; provided, however, that any moneys theretofore deposited in any sinking fund with respect to any Preferred Stock of the Corporation in compliance with the provisions of such sinking fund may thereafter be applied to the purchase or redemption of such Preferred Stock in accordance with the terms of such sinking fund, regardless of whether at the time of such application full cumulative dividends upon shares of the Cumulative Preferred Stock outstanding to the last dividend payment date shall have been paid or declared and set apart for payment) by the Corporation; provided that any such junior or parity Preferred Stock or Common Stock may be converted into or exchanged for stock of the Corporation ranking junior to the Cumulative Preferred Stock as to dividends. (b) If one or more amendments to the Internal Revenue Code of 1986, as amended (the "Code"), are enacted that reduce the percentage of the dividends received deduction as specified in Section 243(a)(1) of the Code or any successor provision (the "Dividends Received Percentage") to below 70%, the amount of each dividend payable per share of the Cumulative Preferred Stock for dividend payments made on or after the date of enactment of such change, and so long as the Dividends Received Percentage remains below 70%, will be adjusted by multiplying the amount of the dividend payable determined as described above (before adjustment) by a factor, which will be the number determined in accordance with the following formula 136 (the "DRD Formula"), and rounding the result to the nearest cent: 1 - (.35 (1 - .70)) ------------------- 1- (.35 (1 - DRP)) For the purposes of the DRD Formula, "DRP" means the Dividends Received Percentage applicable to the dividend in question. No amendment to the Code, other than a change in the percentage of the dividends received deduction set forth in Section 243(a)(1) of the Code or any successor provision, will give rise to an adjustment. Notwithstanding the foregoing provisions, in the event that, with respect to any such amendment, the Corporation will receive either an unqualified opinion of nationally recognized independent tax counsel selected by the Corporation or a private letter ruling or similar form of authorization from the Internal Revenue Service to the effect that such an amendment would not apply to dividends payable on the Cumulative Preferred Stock, then any such amendment will not result in the adjustment provided for pursuant to the DRD Formula. The opinion referenced in the previous sentence will be based upon a specific exception in the legislation amending the DRP or upon a published pronouncement of the Internal Revenue Service addressing such legislation. Unless the context otherwise requires, references to dividends in this Certificate of Designation will mean dividends as adjusted by the DRD Formula. The Corporation's calculation of the dividends payable, as so adjusted and as certified accurate as to calculation and reasonable as to method by the independent certified public accountants then regularly engaged by the Corporation, will be final and not subject to review absent manifest error. If any amendment to the Code which reduces the Dividends Received Percentage to below 70% is enacted after a dividend payable on a dividend payment date has been declared and on or before such dividend is paid, the amount of dividend payable on such dividend payment date will not be increased. Instead, an amount, equal to the excess of (x) the product of the dividends paid by the Corporation on such dividend payment date and the DRD Formula (where the DRP used in the DRD Formula would be equal to the reduced Dividends Received Percentage) over (y) the dividends paid by the Corporation on such dividend payment date, will be payable on the next succeeding dividend payment date to 137 holders of record on the record date for such next succeeding dividend payment in addition to any other amounts payable on such date. In the event that the amount of dividends payable per share of the Cumulative Preferred Stock will be adjusted pursuant to the DRD Formula, the Corporation will cause notice of each such adjustment to be sent to the holders of record as they appear on the stock books of the Corporation on such record date, not more than 60 days nor less than 10 days preceding the payment date thereof as shall be fixed by the Board or the Committee. In the event that the Dividends Received Percentage is reduced to 50% or less, the Corporation may, at its option, redeem the Cumulative Preferred Stock, in whole but not in part, as described in paragraph 6 hereof. 3. Liquidation Preference. The shares of the Cumulative Preferred Stock ---------------------- shall rank, as to liquidation, dissolution or winding up of the Corporation, prior to the shares of Common Stock and any other class of stock of the Corporation ranking junior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up of the Corporation, so that in the event of any liquidation, dissolution or winding up of the Corporation, whether voluntary or involuntary, the holders of the Cumulative Preferred Stock shall be entitled to receive out of the assets of the Corporation available for distribution to its stockholders, whether from capital, surplus or earnings, before any distribution is made to holders of shares of Common Stock or any other such junior stock, an amount equal to $200.00 per share (the "Liquidation Preference" of a share of the Cumulative Preferred Stock) plus an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid on the shares of the Cumulative Preferred Stock to the date of final distribution. The holders of the Cumulative Preferred Stock will not be entitled to receive the Liquidation Preference until the liquidation preference of any other class of stock of the Corporation ranking senior to the Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding up shall have been paid (or a sum set aside therefor sufficient to provide for payment) in full. After payment of the full amount of the Liquidation Preference and such dividends, the 138 holders of shares of the Cumulative Preferred Stock will not be entitled to any further participation in any distribution of assets by the Corporation. If, upon any liquidation, dissolution or winding up of the Corporation, the assets of the Corporation, or proceeds thereof, distributable among the holders of shares of Parity Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid, then such assets, or the proceeds thereof, shall be distributable among such holders ratably in accordance with the respective amounts which would be payable on such shares if all amounts payable thereon were paid in full. For the purposes hereof, neither a consolidation or merger of the Corporation with or into any other corporation, nor a merger of any other corporation with or into the Corporation, nor a sale or transfer of all or any part of the Corporation's assets for cash or securities shall be considered a liquidation, dissolution or winding up of the Corporation. 4. Conversion. The Cumulative Preferred Stock is not convertible into ---------- shares of any other class or series of stock of the Corporation. 5. Voting Rights. The holders of shares of the Cumulative Preferred Stock ------------- shall have no voting rights whatsoever, except for any voting rights to which they may be entitled under the laws of the State of Delaware, and except as follows: (a) Whenever, at any time or times, dividends payable on the shares of Cumulative Preferred Stock or on any Parity Preferred Stock with respect to payment of dividends, shall be in arrears for an aggregate number of days equal to six calendar quarters or more, whether or not consecutive, the holders of the outstanding shares of the Cumulative Preferred Stock shall have the right, with holders of shares of any one or more other class or series of stock upon which like voting rights have been conferred and are exercisable (voting together a class), to elect two of the authorized number of members of the Board at the Corporation's next annual meeting of stockholders and at each subsequent annual meeting of stockholders until such arrearages have been paid or set apart for payment, at which time such right shall terminate, except as herein or by law expressly provided, subject to revesting in the 139 event of each and every subsequent default of the character above mentioned. Upon any termination of the right of the holders of shares of the Cumulative Preferred Stock as a class to vote for directors as herein provided, the term of office of all directors then in office elected by the holders of shares of the Cumulative Preferred Stock shall terminate immediately. Any director who shall have been so elected pursuant to this paragraph may be removed at any time, either with or without cause. Any vacancy thereby created may be filled only by the affirmative vote of the holders of shares of the Cumulative Preferred Stock voting separately as a class (together with the holders of shares of any other class or series of stock upon which like voting rights have been conferred and are exercisable). If the office of any director elected by the holders of shares of the Cumulative Preferred Stock voting as a class becomes vacant for any reason other than removal from office as aforesaid, the remaining director elected pursuant to this paragraph may choose a successor who shall hold office for the unexpired term in respect of which such vacancy occurred. At elections for such directors, each holder of shares of the Cumulative Preferred Stock shall be entitled to one vote for each share held (the holders of shares of any other class or series of preferred stock having like voting rights being entitled to such number of votes, if any, for each share of such stock held as may be granted to them). (b) So long as any shares of the Cumulative Preferred Stock remain outstanding, the consent of the holders of at least two-thirds of the shares of the Cumulative Preferred Stock outstanding at the time and all other classes or series of stock upon which like voting rights have been conferred and are exercisable (voting together as a class) given in person or by proxy, either in writing or at any meeting called for the purpose, shall be necessary to permit, effect or validate any one or more of the following: (i) the issuance or increase of the authorized amount of any class or series of shares ranking prior (as that term is defined 140 in paragraph 9(a) hereof) to the shares of the Cumulative Preferred Stock; or (ii) the amendment, alteration or repeal, whether by merger, consolidation or otherwise, of any of the provisions of the Certificate of Incorporation (including this resolution or any provision hereof) that would materially and adversely affect any power, preference, or special right of the shares of the Cumulative Preferred Stock or of the holders thereof; provided, however, that any increase in the amount of authorized Common Stock or authorized Preferred Stock or any increase or decrease in the number of shares of any series of Preferred Stock or the creation and issuance of other series of Common Stock or Preferred Stock, in each case ranking on a parity with or junior to the shares of the Cumulative Preferred Stock with respect to the payment of dividends and the distribution of assets upon liquidation, dissolution or winding up, shall not be deemed to materially and adversely affect such powers, preferences or special rights. (c) The foregoing voting provisions shall not apply if, at or prior to the time when the act with respect to which such vote would otherwise be required shall be effected, all outstanding shares of the Cumulative Preferred Stock shall have been redeemed or called for redemption and sufficient funds shall have been deposited in trust to effect such redemption. 6. Redemption. The shares of the Cumulative Preferred Stock may be ---------- redeemed at the option of the Corporation, as a whole, or from time to time in part, at any time, upon not less than 30 days' prior notice mailed to the holders of the shares to be redeemed at their addresses as shown on the stock books of the Corporation; provided, however, that shares of the Cumulative Preferred Stock shall not be redeemable prior to February 28, 2007, except as stated below. Subject to the foregoing, on or after such date, shares of the Cumulative Preferred Stock are redeemable at the option of the Corporation, in whole or in part, upon not less than 30 days' notice at the redemption prices set forth below, plus accrued and accumulated but unpaid dividends to but excluding the date fixed for 141 redemption, if redeemed during the twelve-month period beginning on February 28 of the years indicated below:
Year Redemption Price Per Share - ---- -------------------------- 2007................... $205.354 2008................... 204.282 2009................... 203.212 2010................... 202.142 2011................... 201.070 On or after 2012....... 200.000
If full cumulative dividends on the Cumulative Preferred Stock have not been paid, the Cumulative Preferred Stock may not be redeemed in part and the Corporation may not purchase or acquire any share of the Cumulative Preferred Stock otherwise than pursuant to a purchase or exchange offer made on the same terms to all holders of the Cumulative Preferred Stock. If fewer than all the outstanding shares of the Cumulative Preferred Stock are to be redeemed, the Corporation will select those to be redeemed by lot or a substantially equivalent method. Notwithstanding the foregoing provisions, if the Dividends Received Percentage is equal to or less than 50% and, as a result, the amount of dividends on the Cumulative Preferred Stock payable on any dividend payment date will be or is adjusted upwards as described in paragraph 2(b) hereof, the Corporation, at its option, may redeem all, but not less than all, of the outstanding shares of the Cumulative Preferred Stock (a "Dividends Received Deduction Redemption"); provided that within sixty days of the date of the date on which an amendment to the Code is enacted which reduces the Dividends Received Percentage to 50% or less and the date on which notice of issuance of the Cumulative Preferred Stock is given, the Corporation sends notice to holders of the Cumulative Preferred Stock of such redemption. A Dividends Received Deduction Redemption, in accordance with this paragraph, will take place on the date specified in the notice, which shall be not less than thirty nor more than sixty days from the date such notice is sent to holders of the Cumulative Preferred Stock. A Dividends Received Deduction Redemption shall be at the applicable redemption price set forth in the following table, in each case plus accrued and accumulated but unpaid dividends thereon to but excluding the date fixed for redemption, including any changes in 142 dividends payable due to changes in the Dividends Received Percentage and Additional Dividends, if any:
Redemption period Redemption price per share - ----------------- -------------------------- February 28, 1998 to February 27, 1999 $210.000 February 28, 1999 to February 27, 2000 208.889 February 28, 2000 to February 27, 2001 207.778 February 28, 2001 to February 27, 2002 206.667 February 28, 2002 to February 27, 2003 205.556 February 28, 2003 to February 27, 2004 204.444 February 28, 2004 to February 27, 2005 203.333 February 28, 2005 to February 27, 2006 202.222 February 28, 2006 to February 27, 2007 201.111
If a Dividends Received Deduction Redemption occurs on or after February 28, 2007, the redemption prices shall be as set forth in the first paragraph of this paragraph 6. If a notice of redemption has been given pursuant to this paragraph 6 and if, on or before the date fixed for redemption, the funds necessary for such redemption shall have been set aside by the Corporation, separate and apart from its other funds, in trust for the pro rata benefit of the holders of the shares of the Cumulative Preferred Stock so called for redemption, then, notwithstanding that any certificates for such shares have not been surrendered for cancellation, on the redemption date dividends shall cease to accrue on the shares to be redeemed, and at the close of business on the redemption date the holders of such shares shall cease to be stockholders with respect to such shares and shall have no interest in or claims against the Corporation by virtue thereof and shall have no voting or other rights with respect to such shares, except the right to receive the moneys payable upon surrender (and endorsement, if required by the Corporation) of their certificates, and the shares evidenced thereby shall no longer be outstanding. Subject to applicable escheat laws, any moneys so set aside by the Corporation and unclaimed at the end of two years from the redemption date shall revert to the general funds of the Corporation, after which reversion the holders of such shares so called for redemption shall look only to the general funds of the Corporation for the payment of the amounts payable upon such redemption. Any interest accrued on funds so deposited shall be paid to the Corporation from time to time. 143 7. Authorization and Issuance of Other Securities. No consent of the ---------------------------------------------- holders of the Cumulative Preferred Stock shall be required for (a) the creation of any indebtedness of any kind of the Corporation, (b) the creation, or increase or decrease in the amount, of any class or series of stock of the Corporation not ranking prior as to dividends or upon liquidation, dissolution or winding up to the Cumulative Preferred Stock or (c) any increase or decrease in the amount of authorized Common Stock or any increase, decrease or change in the par value thereof or in any other terms thereof. 8. Amendment of Resolution. The Board and the Committee each reserves ----------------------- the right by subsequent amendment of this resolution from time to time to increase or decrease the number of shares that constitute the Cumulative Preferred Stock (but not below the number of shares thereof then outstanding) and in other respects to amend this resolution within the limitations provided by law, this resolution and the Certificate of Incorporation. 9. Rank. For the purposes of this resolution, any stock of any class or ---- classes of the Corporation shall be deemed to rank: (a) prior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of shares of the Cumulative Preferred Stock; (b) on a parity with shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, whether or not the dividend rates, dividend payment dates, or redemption or liquidation prices per share thereof be different from those of the Cumulative Preferred Stock, if the holders of stock of such class or classes shall be entitled by the terms thereof to the receipt of dividends or of amounts distributed upon liquidation, dissolution or winding up, as the case may be, in proportion to their respective dividend rates or 144 liquidation prices, without preference or priority of one over the other as between the holders of such stock and the holders of shares of the Cumulative Preferred Stock (the term "Parity Preferred Stock" being used to refer to any stock on a parity with the shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, as the context may require); and (c) junior to shares of the Cumulative Preferred Stock, either as to dividends or upon liquidation, dissolution or winding up, or both, if such class shall be Common Stock or if the holders of the Cumulative Preferred Stock shall be entitled to the receipt of dividends or of amounts distributable upon liquidation, dissolution or winding up, as the case may be, in preference or priority to the holders of stock of such class or classes. The Cumulative Preferred Stock shall rank prior, as to dividends and upon liquidation, dissolution or winding up, to the Common Stock and the Corporation's Series A Junior Participating Preferred Stock, and on a parity with (i) the Corporation's ESOP Convertible Preferred Stock, with a liquidation value of $35.88 per share, (ii) the Corporation's 7-3/8% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iii) the Corporation's 7-3/4% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (iv) the Corporation's Series A Fixed/Adjustable Rate Preferred Stock, with a liquidation value of $200.00 per share, (v) if issued, the Corporation's 7.82% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vi) if issued, the Corporation's 7.80% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (vii) if issued, the Corporation's 9.00% Cumulative Preferred Stock, with a liquidation value of $200.00 per share, (viii) if issued, the Corporation's 8.40% Cumulative Preferred Stock, with a liquidation value of $200.00 per share and (ix) if issued, the Corporation's 8.20% Cumulative Preferred Stock, with a liquidation value of $200.00 per share. 145 B. This Certificate of Designation shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, Dean Witter, Discover & Co. has caused this Certificate of Designation to be signed by Christine A. Edwards, its Executive Vice President, General Counsel and Secretary, this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By: /s/ Christine A. Edwards ---------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 146 CERTIFICATE OF DESIGNATION, PREFERENCES AND RIGHTS OF SERIES A JUNIOR PARTICIPATING PREFERRED STOCK of DEAN WITTER, DISCOVER & CO. Pursuant to Section 151 of the General Corporation Law of the State of Delaware The undersigned officer of Dean Witter, Discover & Co., a corporation organized and existing under the General Corporation Law of the State of Delaware, in accordance with the provisions of Section 103 thereof, DOES HEREBY CERTIFY: That pursuant to the authority conferred upon the Board of Directors by the Amended and Restated Certificate of Incorporation of the said Corporation, the said Board of Directors on April 21, 1995 adopted the following resolution creating a series of 220,000 shares of Preferred Stock designated as Series A Junior Participating Preferred Stock: RESOLVED, that pursuant to the authority vested in the Board of Directors of this Corporation in accordance with the provisions of its Amended and Restated Certificate of Incorporation, a series of Preferred Stock of the Corporation be and it hereby is created, and that the designation and amount thereof and the voting powers, preferences and relative, participating, optional and other special rights of the shares of such series, and the qualifications, limitations or restrictions thereof are as follows: Section 1. Designation and Amount. The shares of such series shall be ---------------------- designated as "SERIES A JUNIOR PARTICIPATING PREFERRED STOCK" and the number of shares constituting such series shall be 220,000. Section 2. Dividends and Distributions. --------------------------- (A) The holders of shares of Series A Junior Participating Preferred Stock shall be entitled to receive, when, as and if declared by the Board of 147 Directors out of funds legally available for the purposes, quarterly dividends payable in cash on the last day of March, June, September and December in each year (each such date being referred to herein as a "QUARTERLY DIVIDEND PAYMENT DATE"), commencing on the first Quarterly Dividend Payment Date after the first issuance of a share or fraction of a share of Series A Junior Participating Preferred Stock, in an amount per share (rounded to the nearest cent) equal to the greater of (a) $1.00 or (b) subject to the provision for adjustment hereinafter set forth, 1,000 times the aggregate per share amount of all cash dividends, and 1,000 times the aggregate per share amount (payable in kind) of all non-cash dividends or other distributions other than a dividend payable in shares of Common Stock or a subdivision of the outstanding shares of Common Stock (by reclassification or otherwise), declared on the Common Stock, par value $0.01 per share, of the Corporation (the "COMMON STOCK") since the immediately preceding Quarterly Dividend Payment Date, or, with respect to the first Quarterly Dividend Payment Date, since the first issuance of any share or fraction of a share of Series A Junior Participating Preferred Stock. In the event the Corporation shall at any time after April 21, 1995 (the "RIGHTS DECLARATION DATE") (i) declare any dividend on Common Stock payable in shares of Common Stock, (ii subdivide the outstanding Common Stock, or (ii combine the outstanding Common Stock into a smaller number of shares, then in each such case the amount to which holders of shares of Series A Junior Participating Preferred Stock were entitled immediately prior to such event under clause (b) of the preceding sentence shall be adjusted by multiplying such amount by a fraction the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event. (B) The Corporation shall declare a dividend or distribution on the Series A Junior Participating Preferred Stock as provided in Paragraph (A) above immediately after it declares a dividend or distribution on the Common Stock (other than a dividend payable in shares of Common Stock); provided that, in the event no dividend or distribution shall have been declared on the Common Stock during the period between any Quarterly Dividend Payment Date and the next subsequent Quarterly Dividend Payment Date, a dividend of $0.01 per share on the Series A Junior Participating Preferred Stock shall nevertheless be payable on such subsequent Quarterly Dividend Payment Date. (C) Dividends shall begin to accrue and be cumulative on outstanding shares of Series A Junior Participating Preferred Stock from the Quarterly Dividend Payment Date next preceding the date of issue of such shares of Series A Junior Participating Preferred Stock, unless the date of issue of such shares is prior to the record date for the first Quarterly Dividend Payment Date, in which case dividends on such shares shall begin to accrue form the date of issue of such 148 shares, or unless the date of issue is a Quarterly Dividend Payment Date or is a date after the record date for the determination of holders of shares of Series A Junior Participating Preferred Stock entitled to receive a quarterly dividend and before such Quarterly Dividend Payment Date, in either of which events such dividends shall begin to accrue and be cumulative from such Quarterly Dividend Payment Date. Accrued but unpaid dividends shall not bear interest. Dividends paid on the shares of Series A Junior Participating Preferred Stock in an amount less than the total amount of such dividends at the time accrued and payable on such shares shall be allocated pro rata on a share-by-share basis among all such shares at the time outstanding. The Board of Directors may fix a record date for the determination of holders of shares of Series A Junior Participating Preferred Stock entitled to receive payment of a dividend or distribution declared thereon, which record date shall be no more than 30 days prior to the date fixed for the payment thereof. Section 3. Voting Rights. The holders of shares of Series A Junior ------------- Participating Preferred Stock shall have the following voting rights: (A) Subject to the provision for adjustment hereinafter set forth, each share of Series A Junior Participating Preferred Stock shall entitle the holder thereof to 1,000 votes on all matters submitted to a vote of the stockholders of the Corporation. In the event the Corporation shall at any time after the Rights Declaration Date (i) declare any dividend on Common Stock payable in shares of Common Stock, (ii) subdivide the outstanding Common Stock, or (iii) combine the outstanding Common Stock into a smaller number of shares, then in each such case the number of votes per share to which holders of shares of Series A Junior Participating Preferred Stock were entitled immediately prior to such event shall be adjusted by multiplying such number by a fraction the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event. (B) Except as otherwise provided herein or by law, the holders of shares of Series A Junior Participating Preferred Stock and the holders of shares of Common Stock shall vote together as one class on all matters submitted to a vote of stockholders of the Corporation. (C) (i) If at any time dividends on any Series A Junior Participating Preferred Stock shall be in arrears in an amount equal to six (6) quarterly dividends thereon, the occurrence of such contingency shall mark the beginning of a period (herein called a "DEFAULT PERIOD") which shall extend until such time when all accrued and unpaid dividends for all previous quarterly dividend periods and for the current quarterly dividend period on all shares of Series A Junior Participating 149 Preferred Stock then outstanding shall have been declared and paid or set apart for payment. During each default period, all holders of Preferred Stock (including holders of the Series A Junior participating Preferred Stock) with dividends in arrears in an amount equal to six (6) quarterly dividends thereon, voting as a class, irrespective of series, shall have the right to elect two (2) directors. (ii) During any default period, such voting right of the holders of Series A Junior Participating Preferred Stock may be exercised initially at a special meeting called pursuant to subparagraph (iii) of this Section 3(C) or at any annual meeting of stockholders, and thereafter at annual meetings of stockholders, provided that such voting right shall not be exercised unless the holders of ten percent (10%) in number of shares of Preferred Stock outstanding shall be present in person or by proxy. The absence of a quorum of the holders of Common Stock shall not affect the exercise by the holders of Preferred Stock of such voting right. At any meeting at which the holders of Preferred Stock shall exercise such voting right initially during an existing default period, they shall have the right, voting as a class, to elect directors to fill such vacancies, if any, in the Board of Directors as may then exist up to two (2) directors or, if such right is exercised at an annual meeting, to elect two (2) directors. If the number which may be so elected at any special meeting does not amount to the required number, the holders of the Preferred Stock shall have the right to make such increase in the number of directors as shall be necessary to permit the election by them of the required number. After the holders of the Preferred Stock shall have exercised their right to elect directors in any default period and during the continuance of such period, the number of directors shall not be increased or decreased except by vote of the holders of Preferred Stock as herein provided or pursuant to the rights of any equity securities ranking senior to or pari passu with the Series A Junior ---- ----- Participating Preferred Stock. (iii) Unless the holders of Preferred Stock shall, during an existing default period, have previously exercised their right to elect directors, the Board of Directors may order, or any stockholder or stockholders owning in the aggregate not less than ten percent (10%) of the total number of shares of Preferred Stock outstanding, irrespective of series, may request, the calling of special meeting of the holders of Preferred Stock, which meeting shall thereupon be called by the President, a Vice-President or the Secretary of the Corporation. Notice of such meeting and of any annual meeting at which holders of Preferred Stock are entitled to vote pursuant to this Paragraph (C)(iii) shall be given to each holder of record of Preferred Stock by mailing a copy of such notice to him or her at his or her last address as the same appears on the books of the Corporation. Such 150 meeting shall be called for a time not earlier than 20 days and not later than 60 days after such order or request or in default of the calling of such meeting within 60 days after such order or request, such meeting may be called on similar notice by any stockholder or stockholders owning in the aggregate not less than ten percent (10%) of the total number of shares of Preferred Stock outstanding. Notwithstanding the provisions of this Paragraph (C)(iii), no such special meeting shall be called during the period within 60 days immediately preceding the date fixed for the next annual meeting of the stockholders. (iv) In any default period, the holders of Common Stock, and other classes of stock of the Corporation if applicable, shall continue to be entitled to elect the whole number of directors until the holders of Preferred Stock shall have exercised their right to elect two (2) directors voting as a class, after the exercise of which right (x) the directors so elected by the holders of Preferred Stock shall continue in office until their successors shall have been elected by such holders or until the expiration of the default period, and (y) any vacancy in the Board of Directors may (except as provided in Paragraph (C)(ii) of this Section 3) be filled by vote of a majority of the remaining directors theretofore elected by the holders of the class of stock which elected the director whose office shall have become vacant. References in this Paragraph (C) to directors elected by the holders of a particular class of stock shall include directors elected by such directors to fill vacancies as provided in clause (y) of the foregoing sentence. (v) Immediately upon the expiration of a default period, (x) the right of the holders of Preferred Stock as a class to elect directors shall cease, (y) the term of any directors elected by the holders of Preferred Stock as a class shall terminate, and (z) the number of directors shall be such number as may be provided for in the certificate of incorporation or by-laws irrespective of any increase made pursuant to the provisions of Paragraph (C)(ii) of this Section 3 (such number being subject, however, to change thereafter in any manner provided by law or in the certificate of incorporation or by-laws). Any vacancies in the Board of Directors effected by the provisions of clauses (y) and (z) in the preceding sentence may be filled by a majority of the remaining directors. (D) Except as set forth herein, holders of Series A Junior Participating Preferred Stock shall have no special voting rights and their consent shall not be required (except to the extent they are entitled to vote with holders of Common Stock as set forth herein) for taking any corporate action. 151 Section 4. Certain Restrictions. (A) Whenever quarterly dividends or other dividends or distributions payable on the Series A Junior Participating Preferred Stock as provided in Section 2 are in arrears, thereafter and until all accrued and unpaid dividends and distributions, whether or not declared, on shares of Series A Junior Participating Preferred Stock outstanding shall have been paid in full, the Corporation shall not (i) declare or pay dividends on, make any other distributions on, or redeem or purchase or otherwise acquire for consideration any shares of stock ranking junior (either as to dividends or upon liquidation, dissolution or winding up) to the Series A Junior Participating Preferred Stock; (ii) declare or pay dividends on or make any other distributions on any shares of stock ranking on a parity (either as to dividends or upon liquidation, dissolution or winding up) with the Series A Junior Participating Preferred Stock, except dividends paid ratably on the Series A Junior Participating Preferred Stock and all such parity stock on which dividends are payable or in arrears in proportion to the total amounts to which the holders of all such shares are then entitled; (iii) redeem or purchase or otherwise acquire for consideration shares of any stock ranking on a parity (either as to dividends or upon liquidation, dissolution or winding up) with the Series A Junior Participating Preferred Stock, provided that the Corporation may at any time redeem, purchase or otherwise acquire shares of any such parity stock in exchange for shares of any stock of the Corporation ranking junior (either as to dividends or upon dissolution, liquidation or winding up) to the Series a Junior Participating Preferred Stock; or (iv) purchase or otherwise acquire for consideration any shares of Series A Junior Participating Preferred Stock, or any shares of stock ranking on a parity with the Series A Junior Participating Preferred Stock, except in accordance with a purchase offer made in writing or by publication (as determined by the Board of Directors) to all holders of such shares upon such terms as the Board of Directors, after consideration of the respective annual dividend rates and other relative rights and preferences of the respective series and classes, shall determine in good faith will result in fair and equitable treatment among the respective series or classes. (B) The Corporation shall not permit any subsidiary of the Corporation to purchase or otherwise acquire for consideration any shares of stock of the 152 Corporation unless the Corporation could, under Paragraph (A) of this Section 4, purchase or otherwise acquire such shares at such time and in such manner. Section 5. Reacquired Shares. Any shares of Series A Junior Participating ----------------- Preferred Stock purchased or otherwise acquired by the Corporation in any manner whatsoever shall be retired and cancelled promptly after the acquisition thereof. All such shares shall upon their cancellation become authorized but unissued shares of Preferred Stock and may be reissued as part of a new series of Preferred Stock to be created by resolution or resolutions of the Board of Directors, subject to the conditions and restrictions on issuance set forth herein. Section 6. Liquidation, Dissolution or Winding up. (A) Upon any -------------------------------------- liquidation (voluntary or otherwise), dissolution or winding up of the Corporation, no distribution shall be made to the holders of shares of stock ranking junior (either as to dividends or upon liquidation, dissolution or winding up) to the Series A Junior Participating Preferred Stock unless, prior thereto, the holders of shares of Series A Junior Participating Preferred Stock shall have received an amount equal to 1,000 times the Exercise Price, plus an amount equal to accrued and unpaid dividends and distributions thereon, whether or not declared, to the date of such payment (the "Series A Liquidation Preference"). Following the payment of the full amount of he Series A Liquidation Preference, no additional distributions shall be made to the holders of shares of Series A Junior Participating Preferred Stock unless, prior thereto, the holders of shares of Common Stock shall have received an amount per share (the "Common Adjustment") equal to the quotient obtained by dividing (i) the Series A Liquidation Preference by (ii) 1,000 (as appropriately adjusted as set forth in subparagraph (C) below to reflect such events as stock splits, stock dividends and recapitalizations with respect to the Common Stock) (such number in clause (ii), the "Adjustment Number"). following the payment of the full amount of the Series A Liquidation Preference and the Common Adjustment in respect of all outstanding shares of Series A Junior Participating Preferred Stock and Common Stock, respectively, holders of Series A Junior Participating Preferred Stock and holders of shares of Common Stock shall receive their ratable and proportionate share of the remaining assets to be distributed in the ratio of the Adjustment Number to 1 with respect to such Preferred Stock and Common Stock, on a per share basis, respectively. (B) In the event, however, that there are not sufficient assets available to permit payment in full of the Series A Liquidation Preference and the liquidation preferences of all other series of preferred stock, if any, which rank on a parity with the Series A Junior Participating Preferred Stock, then such remaining assets shall be distributed ratably to the holders of such parity shares in proportion to their respective liquidation preferences. In the event, however, that there are not 153 sufficient assets available to permit payment in full of the Common Adjustment, then such remaining assets shall be distributed ratably to the holders of Common Stock. (C) In the event the Corporation shall at any time after the rights Declaration Date (i) declare any dividend on Common Stock payable in shares of Common Stock, (ii) subdivide the outstanding Common Stock, or (iii) combine the outstanding Common Stock into a smaller number of shares, then in each such case the Adjustment Number in effect immediately prior to such event shall be adjusted by multiplying such Adjustment Number by a fraction the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event. Section 7. Consolidation, Merger, Etc. In case the Corporation shall -------------------------- enter into any consolidation, merger, combination or other transaction in which the shares of Common Stock are exchanged for or changed into other stock or securities, cash and/or any other property, then in any such case the shares of Series A Junior Participating Preferred Stock shall at the same time be similarly exchanged or changed in an amount per share (subject to the provision for adjustment hereinafter set forth) equal to 1,000 times the aggregate amount of stock, securities, cash and/or any other property (payable in kind), as the case may be, into which or for which each share of Common Stock is changed or exchanged. In the event the Corporation shall at any time after the Rights Declaration Date (i) declare any dividend on Common Stock payable in shares of Common Stock, (ii) subdivide the outstanding Common Stock, or (iii) combine the outstanding Common Stock into a smaller number of shares then in each such case the amount set forth in the preceding sentence with respect to the exchange or change of shares of Series A Junior Participating Preferred Stock shall be adjusted by multiplying such amount by a fraction the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event. Section 8. No Redemption. The shares of Series A Junior Participating ------------- Preferred Stock shall not be redeemable. Section 9. Amendment. The Amended and Restated Certificate of --------- Incorporation of the Corporation shall not be further amended in any manner which would materially alter or change the powers, preferences or special rights of the Series A Junior Participating Preferred Stock so as to affect them adversely without the affirmative vote of the holders of a majority or more of the outstanding 154 shares of Series A Junior Participating Preferred Stock, voting separately as a class. Section 10. Fractional Shares. Series A Junior Participating Preferred ----------------- Stock may be issued in fractions of a share which shall entitle the holder, in proportion to such holders fractional shares, to exercise voting rights, receive dividends, participate in distributions and to have the benefit of all other rights of holders of Series A Junior Participating Preferred Stock. IN WITNESS WHEREOF, we have executed and subscribed this Certificate and do affirm the foregoing as true under the penalties of perjury this 25th day of April, 1995. DEAN WITTER, DISCOVER & CO. /s/ Ronald T. Carman ------------------------------------------------ Name: Ronald T. Carman Title: Senior vice President and Associate General Counsel 155 CERTIFICATE OF INCREASE OF SERIES A JUNIOR PARTICIPATING PREFERRED STOCK OF DEAN WITTER, DISCOVER & CO. Pursuant to Section 151 of the General Corporation Law of the State of Delaware Dean Witter, Discover & Co. (the "Corporation"), a corporation organized and existing under the General Corporation Law of the State of Delaware, in accordance with Section 103 thereof, does hereby certify: 1. Pursuant to a Certificate of Designation, Preferences and Rights of Series A Junior Participating Preferred Stock filed in the office of the Secretary of State of Delaware on April 26, 1995, the Board of Directors of the Corporation created a series of 220,000 shares of Series A Junior Participating Preferred Stock, and as of the date hereof no shares of such series have been issued. 2. The Board of Directors, on April 18, 1997, adopted the following resolution authorizing an increase in the authorized number of shares of Series A Junior Participating Preferred Stock from 220,000 to 450,000: RESOLVED, that the number of shares constituting the series of the Corporation's Series A Junior Participating Preferred Stock be increased to 450,000. 156 3. This Certificate of Increase and the increase in the authorized number of shares of Series A Junior Participating Preferred Stock provided for herein shall not become effective until, and shall become effective at, 12:01 a.m. on May 31, 1997. IN WITNESS WHEREOF, the undersigned has executed and subscribed this Certificate of Increase this 30th day of May, 1997. DEAN WITTER, DISCOVER & CO. By: /s/ Christine A. Edwards --------------------------------- Name: Christine A. Edwards Title: Executive Vice President, General Counsel & Secretary 157 STATE OF DELAWARE SECRETARY OF STATE DIVISION OF CORPORATIONS FILED 03:00 PM 03/24/1998 981113145 - 0923632 CERTIFICATE OF AMENDMENT TO AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF MORGAN STANLEY, DEAN WITTER, DISCOVER & CO. Pursuant to Section 242 of the General Corporation Law of the State of Delaware Morgan Stanley, Dean Witter, Discover & Co. (the "Corporation"), a corporation organized and existing under and by virtue of the General Corporation Law of the State of Delaware, does hereby certify that: FIRST: The Board of Directors of the Corporation, by unanimous written consent pursuant to Section 141 of the General Corporation Law of the State of Delaware, duly adopted resolutions setting forth a proposed amendment to the Amended and Restated Certificate of Incorporation of the Corporation, declaring said amendment to be advisable and authorizing the officers of the Corporation to submit such amendment to the stockholders of the Corporation for approval at the Corporation's 1998 annual meeting of stockholders. The resolution setting forth the proposed amendment is as follows: RESOLVED, that the Board of Directors declares it advisable that Article I of the Corporation's Amended and Restated Certificate of Incorporation be amended to read in its entirety as follows: ARTICLE I NAME ---- The name of the corporation (which is hereinafter referred to as the "Corporation") is: Morgan Stanley Dean Witter & Co. SECOND: Thereafter, pursuant to resolution of its Board of Directors, the 1998 annual meeting of stockholders of the Corporation was duly called and held, upon notice in accordance with Section 222 of the General Corporation Law of the State of Delaware, at which meeting the necessary number of shares as required by the Corporation's Amended and Restated Certificate of Incorporation were voted in favor of the amendment. THIRD: Said amendment was duly adopted in accordance with the provisions of Section 242 of the General Corporation Law of the State of Delaware. FOURTH: This Certificate of Amendment shall not become effective until, and shall become effective at, 5:00 p.m. on March 24, 1998. IN WITNESS WHEREOF, the Corporation has caused this Certificate to be signed by Ronald T. Carman, its Assistant Secretary, this 24th day of March, 1998. MORGAN STANLEY, DEAN WITTER, DISCOVER & CO. BY: /s/ Ronald T. Carman --------------------------------------- Ronald T. Carman, Assistant Secretary CERTIFICATE OF ELIMINATION OF PREFERRED STOCK OF MORGAN STANLEY DEAN WITTER & CO. (Pursuant to Section 151(g) of the General Corporation Law of the State of Delaware) Morgan Stanley Dean Witter & Co., a corporation duly organized and existing under the General Corporation Law of the State of Delaware (the "Corporation"), certifies as follows: FIRST: The Corporation's Amended and Restated Certificate of Incorporation authorizes the issuance of 1,000,000 shares of a series of Preferred Stock designated 7-3/8% Cumulative Preferred Stock, par value $0.01 per share, with a stated value of $200.00 per share (the "7-3/8% Preferred Stock"). SECOND: The Preferred Stock Financing Committee of the Board of Directors of the Corporation (the "Preferred Stock Financing Committee") redeemed and retired all issued and outstanding shares of the 7-3/8% Preferred Stock, which constituted all authorized shares of the 7-3/8% Preferred Stock. THIRD: Pursuant to the provisions of Section 151(g) of the General Corporation Law of the State of Delaware (the "GCL"), the Preferred Stock Financing Committee adopted the following resolutions: RESOLVED FURTHER, that upon redemption of the 7-3/8% Preferred Stock and corresponding Depositary Shares, all of the shares of 7-3/8% Preferred Stock so redeemed shall be retired; and RESOLVED FURTHER, that upon redemption and retirement of the 7-3/8% Preferred Stock in accordance with the foregoing resolutions, none of the authorized shares of such series of Preferred Stock will be outstanding and no shares of such series thereafter will be issued; and RESOLVED FURTHER, that any officer of the Corporation is authorized and directed to execute a Certificate of Elimination as provided by Section 151(g) of the GCL in accordance with Section 103 of the GCL, substantially in the form attached as Exhibit A, with such changes therein as the officer executing the same may approve and as are permitted by the GCL to be made by such officer, such approval to be conclusively evidenced by such officer's execution of such Certificate of Elimination, and to file the same forthwith in the Office of the Secretary of State of the State of Delaware, and when such Certificate of Elimination becomes effective, all references to the 7-3/8% Preferred Stock in the Amended and Restated Certificate of Incorporation of the Corporation shall be eliminated and the shares of 7-3/8% Preferred Stock so redeemed and retired shall resume the status of authorized and unissued shares of Preferred Stock of the Corporation, without designation as to series. FOURTH: Pursuant to the provisions of Section 151(g) of the GCL, all references to 7-3/8% Preferred Stock in the Amended and Restated Certificate of Incorporation of the Corporation hereby are eliminated, and the shares that were designated to such series hereby are returned to the status of authorized but unissued shares of the Preferred Stock of the Corporation, without designation as to series. IN WITNESS WHEREOF, the Corporation has caused this certificate to be signed by Martin M. Cohen, its Assistant Secretary, this 21 day of October, 1998. MORGAN STANLEY DEAN WITTER & CO. By: /s/ Martin M. Cohen ---------------------------- Title: Assistant Secretary 2 EX-3.2 3 BY-LAWS OF THE COMPANY, AS AMENDED EXHIBIT 3.2 As amended December 18, 1998 AMENDED AND RESTATED BYLAWS OF MORGAN STANLEY DEAN WITTER & CO. (hereinafter called the "Corporation") ARTICLE 1 OFFICES AND RECORDS SECTION 1.01. Delaware Office. The principal office of the Corporation in the State of Delaware shall be located in the City of Wilmington, County of New Castle. SECTION 1.02. Other Offices. The Corporation may have such other offices, either within or without the State of Delaware, as the Board of Directors may designate or as the business of the Corporation may from time to time require. ARTICLE 2 STOCKHOLDERS SECTION 2.01. Annual Meeting. The annual meeting of the stockholders of the Corporation shall be held at such date, place and time as may be fixed by resolution of the Board of Directors. SECTION 2.02. Special Meeting. Subject to the rights of the holders of any series of preferred stock of the Corporation (the "Preferred Stock") or any other series or class of stock as set forth in the Amended and Restated Certificate of Incorporation, special meetings of the stockholders may be called at any time only by the Secretary at the direction of the Board of Directors pursuant to a resolution adopted by the Board of Directors. SECTION 2.03. Place of Meeting. The Board of Directors may designate the place of meeting for any meeting of the stockholders. If no designation is made by the Board of Directors, the place of meeting shall be the principal office of the Corporation, which will be 1585 Broadway, New York, New York. SECTION 2.04. Notice of Meeting. Written or printed notice, stating the place, day and hour of the meeting and, in the case of special meetings, the purpose or purposes for which such special meeting is called, shall be prepared and delivered by the Corporation not less than ten days nor more than sixty days before the date of the meeting, either personally, or by mail, to each stockholder of record entitled to vote at such meeting. Such further notice shall be given as may be required by law. Only such business shall be conducted at a special meeting of stockholders as shall have been brought before the meeting pursuant to the Corporation's notice of meeting. Any previously scheduled meeting of the stockholders may be postponed, and (unless the Amended and Restated Certificate of Incorporation otherwise provides) any special meeting of the stockholders may be canceled, by resolution of the Board of Directors upon public notice given prior to the time previously scheduled for such meeting of stockholders. SECTION 2.05. Quorum and Adjournment. Except as otherwise provided by law or by the Amended and Restated Certificate of Incorporation, the holders of a majority of the voting power of the outstanding shares of the Corporation entitled to vote generally in the election of directors (the "Voting Stock"), represented in person or by proxy, shall constitute a quorum at a meeting of stockholders, except that when specified business is to be voted on by a class or series voting as a class, the holders of a majority of the voting power of the shares of such class or series shall constitute a quorum for the transaction of such business. The Chairman of the Board or the holders of a majority of the voting power of the shares of Voting Stock so represented may adjourn the meeting from time to time, whether or not there is such a quorum (or, in the case of specified business to be voted on by a class or series, the Chairman of the Board or the holders of a majority of the voting power of the shares of such class or series so represented may adjourn the meeting with respect to such specified business). No notice of the time and place of adjourned meetings need be given except as required by law. The stockholders present at a duly organized meeting may continue to transact business until adjournment, notwithstanding the withdrawal of enough stockholders to leave less than a quorum. SECTION 2.06. Proxies. At all meetings of stockholders, a stockholder may vote by proxy as may be permitted by law; provided, that no proxy shall be voted after three years from its date, unless the proxy provides for a longer period. Any proxy to be used at a meeting of stockholders must be filed with the Secretary of the Corporation or his representative at or before the time of the meeting. SECTION 2.07. Notice of Stockholder Business and Nominations. (a) Annual Meetings of Stockholders. (i) Nominations of persons for election to the Board of Directors of the Corporation and the proposal of business to be considered by the stockholders may be made at an annual meeting of stockholders (A) pursuant to the Corporation's notice of meeting delivered pursuant to Section 2.04 of these Amended and Restated Bylaws, (B) by or at the direction of the Board of Directors or (C) by any stockholder of the Corporation who is entitled to vote at the meeting, who complied with the notice procedures set forth in clauses (ii) and (iii) of this Section 2.07(a) and who was a stockholder of record at the time such notice is delivered to the Secretary of the Corporation. 2 (ii) For nominations or other business to be properly brought before an annual meeting by a stockholder pursuant to clause (C) of paragraph (a) (i) of this Bylaw, the stockholder must have given timely notice thereof in writing to the Secretary of the Corporation and, in the case of business other than nominations, such other business must otherwise be a proper matter for stockholder action. To be timely, a stockholder's notice shall be delivered to the Secretary at the principal executive offices of the Corporation not less than ninety days nor more than one hundred and twenty days prior to the first anniversary of the preceding year's annual meeting; provided however, that with respect to the annual meeting to be held in 1998, the anniversary date shall be deemed to be April 2, 1998; provided further, that in the event that the date of the annual meeting is advanced by more than thirty days, or delayed by more than ninety days, from such anniversary date, notice by the stockholder to be timely must be so delivered not earlier than the one hundred and twentieth day prior to such annual meeting and not later than the close of business on the later of the ninetieth day prior to such annual meeting or the tenth day following the day on which public announcement of the date of such meeting is first made. In no event shall the public announcement of an adjournment or postponement of an annual meeting commence a new time period for the giving of a stockholder's notice as described in this Section 2.07(a). Such stockholder's notice shall set forth (A) as to each person whom the stockholder proposes to nominate for election or reelection as a director all information relating to such person that is required to be disclosed in solicitations of proxies for election of directors in an election contest, or is other-wise required, in each case pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended (the "Exchange Act") and Rule 14a-11 thereunder, including such person's written consent to being named in the proxy statement as a nominee and to serving as a director if elected; (B) as to any other business that the stockholder proposes to bring before the meeting, a brief description of the business desired to be brought before the meeting, the reasons for conducting such business at the meeting and any material interest in such business of such stockholder and the beneficial owner, if any, on whose behalf the proposal is made; and (C) as to the stockholder giving the notice and the beneficial owner, if any, on whose behalf the nomination or proposal is made (1) the name and address of such stockholder, as they appear on the Corporation's books, and of such beneficial owner and (2) the class and number of shares of the Corporation which are owned beneficially and of record by such stockholder and such beneficial owner. (iii) Notwithstanding anything in the second sentence of clause (ii) of this Section 2.07(a) to the contrary, in the event that the number of directors to be elected to the Board of Directors of the Corporation is increased and there is no public announcement naming all of the nominees for director or specifying the size of the increased Board of Directors made by the Corporation at least one hundred days prior to the first anniversary of the preceding year's annual meeting, a stockholder's notice required by this Bylaw shall also be considered timely, but only with respect to nominees for any new positions created by such increase, if it shall be delivered to the Secretary at the principal executive offices of the Corporation not later than the close of business on the tenth day following the day on which such public announcement is first made by the Corporation. 3 (b) Special Meetings of Stockholders. Only such business shall be conducted at a special meeting of stockholders as shall have been brought before the meeting pursuant to the Corporation's notice of meeting pursuant to Section 2.04 of these Amended and Restated Bylaws. Nominations of persons for election to the Board of Directors may be made at a special meeting of stockholders at which directors are to be elected pursuant to the Corporation's notice of meeting (i) by or at the direction of the Board of Directors or (ii) by any stockholder of the Corporation who is entitled to vote at the meeting, who complies with the notice procedures set forth in this Bylaw and who is a stockholder of record at the time such notice is delivered to the Secretary of the Corporation. In the event the Corporation calls a special meeting of stockholders for the purpose of electing one or more directors to the Board of Directors, any such stockholder may nominate such number of persons for election to such position(s) as are specified in the Corporation's Notice of Meeting, if the stockholder's notice as required by clause (ii) of Section 2.07(a) of these Amended and Restated Bylaws shall be delivered to the Secretary at the principal executive offices of the Corporation not earlier than the one hundred and twentieth day prior to such special meeting and not later than the close of business on the later of the ninetieth day prior to such special meeting or the tenth day following the day on which public announcement is first made of the date of the special meeting and of the nominees proposed by the Board of Directors to be elected at such meeting. In no event shall the public announcement of an adjournment or postponement of a special meeting commence a new time period for the giving of a stockholder's notice as described above. (c) General (i) Only persons who are nominated in accordance with the procedures set forth in this Bylaw shall be eligible to be elected as directors at a meeting of stockholders and only such business shall be conducted at a meeting of stockholders as shall have been brought before the meeting in accordance with the procedures set forth in this Bylaw. Except as otherwise provided by law, the Amended and Restated Certificate of Incorporation or these Amended and Restated Bylaws, the Chairman of the Board shall have the power and duty to determine whether a nomination or any business proposed to be brought before the meeting was made in accordance with the procedures set forth in this Bylaw and, if any proposed nomination or business is not in compliance with this Bylaw, to declare that such defective proposal or nomination shall be disregarded. (ii) For purposes of this Bylaw, "public announcement" shall mean disclosure in a press release reported by the Dow Jones News Service, Associated Press or comparable national news service or in a document publicly filed by the Corporation with the Securities and Exchange Commission pursuant to Section 13, 14 or 15(d) of the Exchange Act. 4 (iii) Notwithstanding the foregoing provisions of this Bylaw, a stockholder shall also comply with all applicable requirements of the Exchange Act and the rules and regulations thereunder with respect to the matters set forth in this Bylaw. Nothing in this Bylaw shall be deemed to affect any rights of stockholders to request inclusion of proposals in the Corporation's proxy statement pursuant to Rule 14a-8 under the Exchange Act. SECTION 2.08. Procedure For Election of Directors; Voting. The election of directors submitted to stockholders at any meeting shall be decided by a plurality of the votes cast thereon, except as otherwise set forth in the Amended and Restated Certificate of Incorporation with respect to the right of the holders of any series of Preferred Stock or any other series or class of stock to elect additional directors under specified circumstances. Except as otherwise provided by law, the Amended and Restated Certificate of Incorporation or these Amended and Restated Bylaws, all matters other than the election of directors submitted to the stockholders at any meeting shall be decided by the affirmative vote of a majority of the voting power of the shares present in person or represented by proxy at the meeting and entitled to vote thereon, and where a separate vote by class is required, a majority of the voting power of the shares of that class present in person or represented by proxy at the meeting and entitled to vote thereon. The vote on any matter, including the election of directors, shall be by written ballot. Each ballot shall be signed by the stockholder voting, or by such stockholder's proxy, and shall state the number of shares voted. SECTION 2.09. Inspectors of Elections; Opening and Closing the Polls. (a) The Board of Directors by resolution shall appoint one or more inspectors, which inspector or inspectors may not be directors, officers or employees of the Corporation, to act at the meeting and make a written report thereof. One or more persons may be designated as alternate inspectors to replace any inspector who fails to act. If no inspector or alternate has been appointed to act, or if all inspectors or alternates who have been appointed are unable to act, at a meeting of stockholders, the Chairman of the Board shall appoint one or more inspectors to act at the meeting. Each inspector, before discharging his or her duties, shall take and sign an oath faithfully to execute the duties of inspector with strict impartiality and according to the best of his or her ability. The inspectors shall have the duties prescribed by the General Corporation Law of the State of Delaware. (b) The Chairman of the Board shall fix and announce at the meeting the date and time of the opening and the closing of the polls for each matter upon which the stockholders will vote at the meeting. 5 ARTICLE 3 BOARD OF DIRECTORS SECTION 3.01. General Powers. The business and affairs of the Corporation shall be managed by or under the direction of its Board of Directors. In addition to the powers and authorities by these Amended and Restated Bylaws expressly conferred upon them, the Board of Directors may exercise all such powers of the Corporation and do all such lawful acts and things as are not by law or by the Amended and Restated Certificate of Incorporation or by these Amended and Restated Bylaws required to be exercised or done by the stockholders. SECTION 3.02. Number, Tenure and Qualifications. Subject to Section 3.12 of these Amended and Restated Bylaws and to the rights of the holders of any series of Preferred Stock, or any other series or class of stock as set forth in the Amended and Restated Certificate of Incorporation, to elect directors under specified circumstances, the number of directors shall be fixed from time to time exclusively pursuant to a resolution adopted by the Board of Directors, but shall consist of not less than three nor more than fifteen directors. However, no decrease in the number of directors constituting the Board of Directors shall shorten the term of any incumbent director. The directors, other than those who may be elected by the holders of any series of Preferred Stock, or any other series or class of stock as set forth in the Amended and Restated Certificate of Incorporation, shall be divided into such classes and hold office for such terms as set forth in, and may be removed only in accordance with, the Amended and Restated Certificate of Incorporation. Each director shall be required to become a stockholder of the Corporation within 60 days after the date such director is first elected to the Board of Directors. SECTION 3.03. Regular Meetings. A regular meeting of the Board of Directors shall be held without other notice than this Bylaw immediately after, and at the same place as, each annual meeting of stockholders. The Board of Directors may, by resolution, provide the time and place for the holding of additional regular meetings without other notice than such resolution. Unless otherwise determined by the Board of Directors, the Secretary of the Corporation shall act as secretary at all regular meetings of the Board of Directors and in the Secretary's absence a temporary secretary shall be appointed by the chairman of the meeting. SECTION 3.04. Special Meetings. Special meetings of the Board of Directors shall be called at the request of the Chairman of the Board and the President, acting together, or a majority of the Board of Directors. The person or persons authorized to call special meetings of the Board of Directors may fix the place and time of the meetings. Unless otherwise determined by the Board of Directors, the Secretary of the Corporation shall act as secretary at all special meetings of the Board of Directors and in the Secretary's absence a temporary secretary shall be appointed by the chairman of the meeting. 6 SECTION 3.05. Notice. Notice of any special meeting shall be mailed to each director at his business or residence not later than three days before the day on which such meeting is to be held or shall be sent to either of such places by telegraph or facsimile or other electronic transmission, or be communicated to each director personally or by telephone, not later than the day before such day of meeting. Neither the business to be transacted at, nor the purpose of, any regular or special meeting of the Board of Directors need be specified in the notice of such meeting, except for amendments to these Amended and Restated Bylaws as provided pursuant to Section 8.01 hereof. A meeting may be held at any time without notice if all the directors are present (except as otherwise provided by law) or if those present waive notice of the meeting in accordance with Section 6.04 hereof, either before or after such meeting. SECTION 3.06. Action Without Meeting. Any action required or permitted to be taken at any meeting of the Board of Directors or any committee thereof may be taken without a meeting if a written consent thereto is signed by all members of the Board or of such committee, as the case may be, and such written consent is filed with the records of the proceedings of the Board or such committee. SECTION 3.07. Conference Telephone Meetings. Members of the Board of Directors, or any committee thereof, may participate in a meeting of the Board of Directors or such committee by means of conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other, and such participation in a meeting shall constitute presence in person at such meeting. SECTION 3.08. Quorum. At all meetings of the Board of Directors, a majority of the entire Board of Directors (as defined in Section 3.09(a)) shall constitute a quorum for the transaction of business. At all meetings of the committees of the Board of Directors, the presence of 50% or more of the total number of members (assuming no vacancies) shall constitute a quorum. The act of the directors or committee members present at any meeting at which there is a quorum shall be the act of the Board of Directors or such committee, as the case may be, except as otherwise provided in the Delaware General Corporation Law, the Amended and Restated Certificate of Incorporation or these Amended and Restated Bylaws. If a quorum shall not be present at any meeting of the Board of Directors or any committee, a majority of the directors or members, as the case may be, present thereat may adjourn the meeting from time to time without further notice other than announcement at the meeting. If permitted by applicable law, the directors or members, as the case may be, present at a duly authorized meeting may continue to transact business until adjournment, notwithstanding the withdrawal of enough directors to leave less than a quorum. SECTION 3.09. Committees. (a) The Corporation shall have four standing committees: the executive committee, the nominating and directors committee, the audit committee and the compensation committee. The executive committee shall have those 7 powers and authority as are delegated to it from time to time pursuant to a resolution passed by a three-quarters vote of the total number of directors specified in the resolution pursuant to Section 3.02 of these Amended and Restated Bylaws which the Corporation would have if there were no vacancies (the "entire Board of Directors"). (b) The nominating and directors committee shall have the following powers and authority: (i) evaluating and recommending director candidates to the Board of Directors, (ii) assessing Board of Directors performance not less frequently than every three years, (iii) recommending director compensation and benefits philosophy for the Corporation, (iv) reviewing individual director performance as issues arise, (v) periodically reviewing the Corporation's corporate governance profile, and (vi) such additional powers and authority as the Board of Directors may from time to time determine. None of the members of the nominating and directors committee shall be a member of the executive committee or an officer or full-time employee of the Corporation or of any subsidiary or affiliate of the Corporation. (c) The audit committee shall have the following powers and authority: (i) to recommend to the Board of Directors the appointment of independent public accountants to audit the financial statements of the Corporation and to perform such other duties from time to time as the audit committee may prescribe, (ii) to receive the reports and comments of the Corporation's internal auditors and of the independent public accountants, including reports on the adequacy of internal controls, and to take such action with respect thereto as may seem appropriate, (iii) to review the accounting principles employed in financial reporting and (iv) to exercise such additional powers and authority as the Board of Directors may from time to time determine. None of the members of the audit committee shall be a member of the executive committee or an officer or full- time employee of the Corporation or of any subsidiary or affiliate of the Corporation. (d) The compensation committee shall have the following powers and authority: (i) determining and fixing the compensation for all senior officers of the Corporation and those of its Subsidiaries (as defined in Section 6.07(f)) that the compensation committee shall from time to time consider appropriate, as well as all employees of the Corporation and its Subsidiaries compensated at a rate in excess of such amount per annum as may be fixed or determined from time to time by the Board of Directors, (ii) performing the duties of the committees of the Board of Directors provided for in any present or future stock option, incentive compensation or employee benefit plan of the Corporation or, if the compensation committee shall so determine, any such plan of any Subsidiary, (iii) reviewing the operations of and policies pertaining to any present or future stock option, incentive compensation or employee benefit plan of the Corporation or any Subsidiary that the compensation committee shall from time to time consider appropriate, (iv) authorizing the issuance or grant of stock, stock options, restricted stock, stock appreciation rights, stock units or any other award consisting of or relating to stock of the Corporation under or pursuant to any present or future stock option, incentive compensation, employee benefit or other plan of the Corporation or of any Subsidiary, and (v) such additional powers and authority as the Board of Directors may from time to 8 time determine. None of the members of the compensation committee shall be a member of the executive committee or an officer or full-time employee of the Corporation or of any subsidiary or affiliate of the Corporation. (e) In addition, the Board of Directors may, by resolution passed by a three-quarters vote of the entire Board of Directors, designate one or more additional committees, with each such committee consisting of one or more directors of the Corporation and having such powers and authority as the Board of Directors shall designate by such resolutions. (f) Any modification to the powers and authority of any committee shall require the adoption of a resolution by a three-quarters vote of the entire Board of Directors. (g) All acts done by any committee within the scope of its powers and authority pursuant to these Amended and Restated Bylaws and the resolutions adopted by the Board of Directors in accordance with the terms hereof shall be deemed to be, and may be certified as being, done or conferred under authority of the Board of Directors. The Secretary or any Assistant Secretary is empowered to certify that any resolution duly adopted by any such committee is binding upon the Corporation and to execute and deliver such certifications from time to time as may be necessary or proper to the conduct of the business of the Corporation. (h) Regular meetings of committees shall be held at such times as may be determined by resolution of the Board of Directors or the committee in question and no notice shall be required for any regular meeting other than such resolution. A special meeting of any committee shall be called by resolution of the Board of Directors, or by the Secretary or an Assistant Secretary upon the request of the chairman or a majority of the members of any committee. Notice of special meetings shall be given to each member of the committee in the same manner as that provided for in Section 3.05 of these Amended and Restated Bylaws. SECTION 3.10. Committee Members. (a) Each member of any committee of the Board of Directors shall hold office until such member's successor is elected and has qualified, unless such member sooner dies, resigns or is removed. The number of directors which shall constitute any committee shall be determined by resolution adopted by a three-quarters vote of the entire Board of Directors. (b) The Board of Directors may remove a director from a committee or change the chairmanship of a committee only by resolution adopted by a three- quarters vote of the entire Board of Directors. (c) The Board of Directors may designate one or more directors as alternate members of any committee to fill any vacancy on a committee and to fill a vacant chairmanship of a committee, occurring as a result of a member or chairman leaving the committee, whether through death, resignation, removal or otherwise; provided, that any 9 such designation may only be amended by a three-quarters vote of the entire Board of Directors. SECTION 3.11. Committee Secretary. The Board of Directors may elect a secretary of any such committee. If the Board of Directors does not elect such a secretary, the committee shall do so. The secretary of any committee need not be a member of the committee, but shall be selected from a member of the staff of the office of the Secretary of the Corporation, unless otherwise provided by the Board of Directors or the committee, as applicable. SECTION 3.12. Certain Modifications. Except as otherwise provided in the Amended and Restated Certificate of Incorporation, any action by the Board of Directors to change the number of directors comprising the Board or comprising any class of directors to other than an even number of directors shall require a three-quarters vote of the entire Board of Directors. SECTION 3.13. Compensation. The directors may be paid their expenses, if any, of attendance at each meeting of the Board of Directors and may be paid compensation as director or chairman of any committee and for attendance at each meeting of the Board of Directors. Members of special or standing committees may be allowed like compensation and payment of expenses for attending committee meetings. ARTICLE 4 OFFICERS SECTION 4.01. General. The officers of the Corporation shall be elected by the Board of Directors and shall consist of: a Chairman of the Board and Chief Executive Officer; a President and Chief Operating Officer; a Chief Financial Officer; a Chief Strategic and Administrative Officer; a Chief Legal Officer; one or more Senior Executive Vice Presidents; one or more Executive Vice Presidents; one or more Senior Vice Presidents; one or more First Vice Presidents; one or more Vice Presidents; a Secretary; one or more Assistant Secretaries; a Treasurer; one or more Assistant Treasurers; a Controller; and such other officers as in the judgment of the Board of Directors may be necessary or desirable. All officers chosen by the Board of Directors shall have such powers and duties as generally pertain to their respective offices, subject to the specific provisions of this Article 4. Such officers shall also have powers and duties as from time to time may be conferred by the Board of Directors or any committee thereof. Any number of offices may be held by the same person, unless otherwise prohibited by law, the Amended and Restated Certificate of Incorporation or these Amended and Restated Bylaws. The officers of the Corporation need not be stockholders or directors of the Corporation. SECTION 4.02. Election and Term of Office. Subject to Section 4.08 of these Amended and Restated Bylaws, the elected officers of the Corporation shall be elected 10 annually by the Board of Directors at the regular meeting of the Board of Directors held after each annual meeting of the stockholders. If the election of officers shall not be held at such meeting, such election shall be held as soon thereafter as convenient. Subject to Section 4.08 of these Amended and Restated Bylaws, each officer shall hold office until his successor shall have been duly elected and shall have qualified or until his death or until he shall resign or be removed. SECTION 4.03. Chairman of the Board and Chief Executive Officer. The Chairman of the Board shall be a member of the Board of Directors and shall be an officer of the Corporation. The Chairman of the Board shall be the Chief Executive Officer of the Corporation and shall supervise, coordinate and manage the Corporation's business and activities and supervise, coordinate and manage its operating expenses and capital allocation, shall have general authority to exercise all the powers necessary for the Chief Executive Officer of the Corporation and shall perform such other duties and have such other powers as may be prescribed by the Board of Directors or these Amended and Restated Bylaws, all in accordance with basic policies as established by and subject to the oversight of the Board of Directors. The Chairman of the Board, if present, shall preside at all meetings of the Board of Directors. SECTION 4.04. President and Chief Operating Officer. The President and Chief Operating Officer shall be a member of the Board of Directors and an officer of the Corporation. The President and Chief Operating Officer shall supervise, coordinate and manage the Corporation's business and activities and supervise, coordinate and manage its operating expenses and capital allocation, shall have general authority to exercise all the powers necessary for the President and Chief Operating Officer of the Corporation and shall perform such other duties and have such other powers as may be prescribed by the Board of Directors or these Amended and Restated Bylaws, all in accordance with basic policies as established by and subject to the oversight of the Board of Directors and the Chairman and Chief Executive Officer. In the absence or disability of the Chairman of the Board and Chief Executive Officer, the duties of the Chairman of the Board shall be performed and the Chairman of the Board's authority may be exercised by the President and Chief Operating Officer, and in the event the President and Chief Operating Officer is absent or disabled, such duties shall be performed and such authority may be exercised by a director designated for this purpose by the Board of Directors. SECTION 4.05. Chief Financial Officer. The Chief Financial Officer shall have responsibility for the financial affairs of the Corporation and shall exercise supervisory responsibility for the performance of the duties of the Treasurer and the Controller. The Chief Financial Officer shall perform such other duties and have such other powers as may be prescribed by the Board of Directors or these Amended and Restated Bylaws, all in accordance with basic policies as established by and subject to the oversight of the Board of Directors, the Chairman and Chief Executive Officer and the President and Chief Operating Officer. 11 SECTION 4.06. Chief Strategic and Administrative Officer. The Chief Strategic and Administrative Officer shall have the responsibility for the business strategy and strategic planning for the Corporation and shall have the responsibility for making recommendations regarding the capital allocation of the Corporation. The Chief Strategic and Administrative Officer shall perform such other duties and have such other powers as may be prescribed by the Board of Directors or these Amended and Restated Bylaws, all in accordance with basic policies as established by and subject to the oversight of the Board of Directors, the Chairman and Chief Executive Officer and the President and Chief Operating Officer. SECTION 4.07. Chief Legal Officer. The Chief Legal Officer shall have responsibility for the legal affairs of the Corporation and for the performance of the duties of the Secretary. The Chief Legal Officer shall perform such other duties and have such other powers as may be prescribed by the Board of Directors or these Amended and Restated Bylaws, all in accordance with basic policies as established by and subject to the oversight of the Board of Directors, the Chairman and Chief Executive Officer and the President and Chief Operating Officer. SECTION 4.08. Certain Actions. Notwithstanding anything to the contrary contained in these Amended and Restated Bylaws, the removal of the current Chairman and Chief Executive Officer or the current President and Chief Operating Officer as of May 31, 1997, or any modification to either of their respective roles, duties or authority shall require a three-quarters vote of the entire Board of Directors. SECTION 4.09. Vacancies. A newly created office and a vacancy in any office because of death, resignation, or removal may be filled by the Board of Directors for the unexpired portion of the terms at any meeting of the Board of Directors. ARTICLE 5 STOCK CERTIFICATES AND TRANSFERS SECTION 5.01. Stock Certificates and Transfers. (a) The interest of each stockholder of the Corporation shall be evidenced by certificates for shares of stock in such form as the appropriate officers of the Corporation may from time to time prescribe; provided that the Board of Directors may provide by resolution or resolutions that all or some of all classes or series of the stock of the Corporation shall be represented by uncertificated shares. Notwithstanding the adoption of such a resolution by the Board of Directors, every holder of stock represented by certificates and upon request every holder of uncertificated shares shall be entitled to have a certificate signed by, or in the name of the Corporation by the Chairman of the Board of Directors, or the President or any other authorized officer and by the Treasurer or an Assistant Treasurer, or the Secretary or an Assistant Secretary of the Corporation representing the number of shares registered in certificate form. Except as otherwise expressly provided by law, the rights and obligations of the holders of uncertificated stock and the rights and 12 obligations of the holders of certificates representing stock of the same class and series shall be identical. (b) The certificates of stock shall be signed, countersigned and registered in such manner as the Board of Directors may by resolution prescribe, which resolution may permit all or any of the signatures on such certificates to be in facsimile. In case any officer, transfer agent or registrar who has signed or whose facsimile signature has been placed upon a certificate has ceased to be such officer, transfer agent or registrar before such certificate is issued, it may be issued by the Corporation with the same effect as if he were such officer, transfer agent or registrar at the date of issue. (c) The shares of the stock of the Corporation represented by certificates shall be transferred on the books of the Corporation by the holder thereof in person or by his attorney, upon surrender for cancelation of certificates for the same number of shares, with an assignment and power of transfer endorsed thereon or attached thereto, duly executed, with such proof of the authenticity of the signature as the Corporation or its agents may reasonably require. Upon receipt of proper transfer instructions from the registered owner of uncertificated shares such uncertificated shares shall be canceled and issuance of new equivalent uncertificated shares or certificated shares shall be made to the person entitled thereto and the transaction shall be recorded upon the books of the Corporation. Within a reasonable time after the issuance or transfer of uncertificated stock, the Corporation shall send to the registered owner thereof a written notice containing the information required to be set forth or stated on certificates pursuant to the Delaware General Corporation Law or, unless otherwise provided by the Delaware General Corporation Law, a statement that the Corporation will furnish without charge to each stockholder who so requests the powers, designations, preferences and relative participating, optional or other special rights of each class of stock or series thereof and the qualifications, limitations or restrictions of such preferences and/or rights. SECTION 5.02. Lost, Stolen or Destroyed Certificates. No certificate for shares or uncertificated shares of stock in the Corporation shall be issued in place of any certificate alleged to have been lost, destroyed or stolen, except on production of such evidence of such loss, destruction or theft and on delivery to the Corporation of a bond of indemnity in such amount, upon such terms and secured by such surety, as the Board of Directors or its designee may in its or his discretion require. ARTICLE 6 MISCELLANEOUS PROVISIONS SECTION 6.01. Fiscal Year. The fiscal year of the Corporation shall be as specified by the Board of Directors. SECTION 6.02. Dividends. The Board of Directors may from time to time declare, and the Corporation may pay, dividends on its outstanding shares in the manner 13 and upon the terms and conditions provided by law and its Amended and Restated Certificate of Incorporation. SECTION 6.03. Seal. The corporate seal shall have thereon the name of the Corporation and shall be in such form as may be approved from time to time by the Board of Directors. SECTION 6.04. Waiver of Notice. Whenever any notice is required to be given to any stockholder or director of the Corporation under the provisions of the General Corporation Law of the State of Delaware, a waiver thereof in writing, signed by the person or persons entitled to such notice, whether before or after the time stated therein, shall be deemed equivalent to the giving of such notice. Neither the business to be transacted at, nor the purpose of, any annual or special meeting of the stockholders or any meeting of the Board of Directors or committee thereof need be specified in any waiver of notice of such meeting. SECTION 6.05. Audits. The accounts, books and records of the Corporation shall be audited upon the conclusion of each fiscal year by an independent certified public accountant selected by the audit committee, and it shall be the duty of the audit committee to cause such audit to be made annually. SECTION 6.06. Resignations. Any director or any officer, whether elected or appointed, may resign at any time upon notice of such resignation to the Corporation. SECTION 6.07. Indemnification and Insurance. (a) Each person who was or is made a party or is threatened to be made a party to or is involved in any manner in any threatened, pending or completed action, suit, or proceeding, whether civil, criminal, administrative or investigative (hereinafter a "proceeding"), by reason of the fact that he or she or a person of whom he or she is the legal representative is or was a director or officer of the Corporation or a director or elected officer of a Subsidiary, shall be indemnified and held harmless by the Corporation to the fullest extent permitted from time to time by the General Corporation Law of the State of Delaware as the same exists or may hereafter be amended (but, if permitted by applicable law, in the case of any such amendment, only to the extent that such amendment permits the Corporation to provide broader indemnification rights than said law permitted the Corporation to provide prior to such amendment) or any other applicable laws as presently or hereafter in effect, and such indemnification shall continue as to a person who has ceased to be a director or officer and shall inure to the benefit of his or her heirs, executors and administrators; provided however, that the Corporation shall indemnify any such person seeking indemnification in connection with a proceeding (or part thereof) initiated by such person only if such proceeding (or part thereof) was authorized by the Board of Directors or is a proceeding to enforce such person's claim to indemnification pursuant to the rights granted by this Bylaw. The Corporation shall pay the expenses incurred by such person in defending any such proceeding in advance of its 14 final disposition upon receipt (unless the Corporation upon authorization of the Board of Directors waives such requirement to the extent permitted by applicable law) of an undertaking by or on behalf of such person to repay such amount if it shall ultimately be determined that such person is not entitled to be indemnified by the Corporation as authorized in this Bylaw or otherwise. (b) The indemnification and the advancement of expenses incurred in defending a proceeding prior to its final disposition provided by, or granted pursuant to this Bylaw shall not be exclusive of any other right which any person may have or hereafter acquire under any statute, provision of the Amended and Restated Certificate of Incorporation, other provision of these Amended and Restated Bylaws, agreement, vote of stockholders or Disinterested Directors or otherwise. No repeal, modification or amendment of, or adoption of any provision inconsistent with, this Section 6.07, nor to the fullest extent permitted by applicable law, any modification of law, shall adversely affect any right or protection of any person granted pursuant hereto existing at, or with respect to any events that occurred prior to, the time of such repeal, amendment, adoption or modification. (c) The Corporation may maintain insurance, at its expense, to protect itself and any person who is or was a director, officer, partner, member, employee or agent of the Corporation or a Subsidiary or of another corporation, partnership, limited liability company, joint venture, trust or other enterprise against any expense, liability or loss, whether or not the Corporation would have the power to indemnify such person against such expense, liability or loss under the General Corporation Law of the State of Delaware. (d) The Corporation may, to the extent authorized from time to time by the Board of Directors, grant rights to indemnification, and rights to be paid by the Corporation the expenses incurred in defending any proceeding in advance of its final disposition, to any person who is or was an employee or agent (other than a director or officer) of the Corporation or a Subsidiary and to any person who is or was serving at the request of the Corporation or a Subsidiary as a director, officer, partner, member, employee or agent of another corporation, partnership, limited liability company, joint venture, trust or other enterprise, including service with respect to employee benefit plans maintained or sponsored by the Corporation or a Subsidiary, to the fullest extent of the provisions of this Bylaw with respect to the indemnification and advancement of expenses of directors and officers of the Corporation. (e) If any provision or provisions of this Bylaw shall be held to be invalid, illegal or unenforceable for any reason whatsoever: (1) the validity, the legality and enforceability of the remaining provisions of this Bylaw (including, without limitation, each portion of any paragraph or clause of this Bylaw containing any such provision held to be invalid, illegal or unenforceable, that is not itself held to be invalid, illegal or unenforceable) shall not in any way be affected or impaired thereby; and (2) to the fullest extent possible, the provisions of this Bylaw (including, without limitation, each such portion of any paragraph of this Bylaw containing any such provision held to be invalid, 15 illegal or unenforceable) shall be construed so as to give effect to the intent manifested by the provision held invalid, illegal or unenforceable. (f) For purposes of these Amended and Restated Bylaws: (1) "Disinterested Director" means a director of the Corporation who is not and was not a party to the proceeding or matter in respect of which indemnification is sought by the claimant. (2) "Subsidiary" means a corporation, a majority of the capital stock of which is owned directly or indirectly by the Corporation, other than directors' qualifying shares. (g) Any notice, request, or other communication required or permitted to be given to the Corporation under this Bylaw shall be in writing and either delivered in person or sent by telecopy, telex, telegram, overnight mail or courier service, or certified or registered mail, postage prepaid, return receipt requested, to the Secretary of the Corporation and shall be effective only upon receipt by the Secretary. ARTICLE 7 CONTRACTS, PROXIES, ETC. SECTION 7.01. Contracts. Except as otherwise required by law, the Amended and Restated Certificate of Incorporation or these Amended and Restated Bylaws, any contracts or other instruments may be executed and delivered in the name and on the behalf of the Corporation by such officer or officers of the Corporation as the Board of Directors may from time to time direct. Such authority may be general or confined to specific instances as the Board may determine. Subject to the control and direction of the Board of Directors, the Chairman of the Board, the President, the Chief Financial Officer, the Chief Strategic and Administrative Officer, the Chief Legal Officer and the Treasurer may enter into, execute, deliver and amend bonds, promissory notes, contracts, agreements, deeds, leases, guarantees, loans, commitments, obligations, liabilities and other instruments to be made or executed for or on behalf of the Corporation. Subject to any restrictions imposed by the Board of Directors, such officers of the Corporation may delegate such powers to others under his or her jurisdiction, it being understood, however, that any such delegation of power shall not relieve such officer of responsibility with respect to the exercise of such delegated power. SECTION 7.02. Proxies. Unless otherwise provided by resolution adopted by the Board of Directors, the Chairman of the Board or the President may from time to time appoint an attorney or attorneys or agent or agents of the Corporation, in the name and behalf of the Corporation, to cast the votes which the Corporation may be entitled to cast as the holder of stock or other securities in any other corporation or entity, any of whose stock or other securities may be held by the Corporation, at meetings of the holders of the stock or other securities of such other corporation or entity, or to consent in writing, in the 16 name of the Corporation as such holder, to any action by such other corporation or entity, and may instruct the person or persons so appointed as to the manner of casting such vote or giving such consent, and may execute or cause to be executed in the name and on behalf of the Corporation and under its corporate seal or otherwise, all such written proxies or other instruments as he may deem necessary or proper in the premises. ARTICLE 8 AMENDMENTS SECTION 8.01. Amendments. These Amended and Restated Bylaws may be altered, amended or repealed, in whole or in part, or new Amended and Restated Bylaws may be adopted by the stockholders or by the Board of Directors at any meeting thereof; provided however, that notice of such alteration, amendment, repeal or adoption of new Amended and Restated Bylaws is contained in the notice of such meeting of stockholders or in the notice of such meeting of the Board of Directors and, in the latter case, such notice is given not less than twenty- four hours prior to the meeting. Unless a higher percentage is required by the Amended and Restated Certificate of Incorporation as to any matter which is the subject of these Amended and Restated Bylaws, all such amendments must be approved by either the holders of eighty percent (80%) of the Voting Stock or by a majority of the Board of Directors; provided further, notwithstanding the foregoing, the Board of Directors may alter, amend or repeal, or adopt new Amended and Restated Bylaws in conflict with, (i) any provision of these Amended and Restated Bylaws which requires a three-quarters vote of the entire Board of Directors for action to be taken thereunder, (ii) subsection (c) of Section 3.10 of these Amended and Restated Bylaws and (iii) this proviso to this Section 8.01 of these Amended and Restated Bylaws only by a resolution adopted by a three- quarters vote of the entire board of Directors until December 31, 2000; provided further, that, notwithstanding the foregoing, the Board of Directors may alter, amend or repeal, or adopt new Amended and Restated Bylaws in conflict with, (i) Section 4.08 of these Amended and Restated Bylaws and (ii) this further proviso to this Section 8.01 of these Amended and Restated Bylaws only by a resolution adopted by a three-quarters vote of the entire Board of Directors. 17 EX-10.19 4 AMENDMENT TO THE DEAN WITTER START PLAN EXHIBIT 10.19 AMENDMENT TO THE DEAN WITTER START PLAN ---------------------- WHEREAS, Dean Witter Reynolds Inc. ("DWR"), a Delaware corporation, maintains the Dean Witter START Plan (the "START Plan"); WHEREAS, DWR desires that the START Plan be amended as set forth herein; NOW, THEREFORE, the START Plan is hereby amended as follows: 1. Effective January 1, 1998, Section 12(c) of the START Plan shall be amended to read as follows: "(c) Suspension of Contributions. If a Participant makes a withdrawal (other than a hardship withdrawal described in Section 12(g)) from the Participant's Basic Pre-Tax Account or Supplemental Pre-Tax Account, the Participant shall not be permitted to make any Employee Contributions for the three months beginning on the first day of the first payroll period following the date the withdrawal request is processed by the Plan Administrator. In addition, the Plan Administrator may from time to time prescribe written rules of uniform application by which Participants who make a hardship withdrawal as provided in Section 12(g) may not make elective or employee contributions to this or any other plan of an Employer for a period to be determined by the Plan Administrator." 2. Effective January 1, 1998, Section 20(a) of the START Plan is amended by adding the following to the end thereof: "Effective January 1, 1998, the Plan may pay benefits pursuant to a QDRO that provides for the payment of benefits to an "alternate payee" (as such term is defined in Code section 414(p) ) prior to the date a Participant has attained "earliest retirement age" (as such term is defined in Code section 414(p)). Unless otherwise specified in the QDRO, payment shall be made pro rata from each of the Participant's accounts and pro rata from the Investment Funds in which any account is invested." 3. Effective as of January 1, 1998, Section 4(a) of the START Plan is hereby amended by replacing the last sentence thereof with the following: "All Company Contributions shall be made in cash or, effective January 1, 1998, in cash or in shares of MWD Stock or in a combination of cash and shares of MWD Stock, all as the Company may in its discretion determine; provided, that shares of MWD Stock may be contributed to the Plan only if at the time of contribution they constitute "qualifying employer securities" within the meaning of section 407(d)(5) of ERISA. If and to the extent that Company Contributions are made in shares of MWD Stock, they shall be taken into account at their Fair Market Value on the date of contribution. For purposes of the preceding sentence, the "Fair Market Value" of a share of MWD Stock on a date shall be the closing price, regular way, of a share of MWD Stock as reported on the New York Stock Exchange on such date if shares of MWD Stock are then trading upon such exchange, or if not, then the closing price, regular way, of a share of MWD Stock as reported on such other exchange on which shares of MWD Stock are principally trading on such date." 4. Effective January 1, 1998, Section 1 of the START Plan is amended by adding a new paragraph to the end thereof reading as follows: "The Plan is an eligible individual account plan (within the meaning of section 407(d)(3) of ERISA) and shall be interpreted accordingly. The Plan provides for the acquisition and holding of "qualifying employer securities" as defined in section 407(d)(5) of ERISA. Up to 100% of the Plan's assets may be invested in qualifying employing securities." 5. Effective January 1, 1998, the definition in Section 21 of the START Plan of the term "Eligible Employee" shall be amended to add a new paragraph to the end thereof as follows: "Notwithstanding the foregoing, the terms "Eligible Employee" and "Immediately Eligible Employee" shall include only any person who receives regular and stated compensation from, and is treated as a common law employee for wage withholding purposes by, a member of the Affiliated Group, other than a pension, retainer or remuneration in the nature of a consulting fee, and shall not include any person who is (i) classified by a Participating Company as a Leased Employee of any Participating Company (including, without limitation a leased employee as defined in Code section 414(n)), an independent contractor or a consultant; or (ii) a provider of services to a Participating Company pursuant to a contractual arrangement, either with that person or with a third party, other than one specifically providing for an employment relationship with a Participating Company. If any person excluded as an Eligible Employee or Immediately Eligible Employee pursuant to the preceding sentence shall be determined by a court or a federal, state or local regulatory or administrative authority to have served as a common law employee of a Participating Company, such determination shall not alter this exclusion as an Eligible Employee or Immediately Eligible Employee for purposes of this Plan." 6. Effective January 1, 1998, Section 7(b) of the START Plan shall be amended by adding the phrase, "Except as otherwise provided in Section 6(d)," immediately before the phrase "All Company Contributions shall be invested." 7. Effective as of July 1, 1999, or such earlier date as the Plan Administrator shall designate in writing, Section 6(d) shall be redesignated as Section 6(e) and all cross references to Section 6(d) shall be redesignated as references to Section 6(e) and a new Section 6(d) shall be added to read as follows: "(d) Diversification of Company Contribution Account. In accordance with this Section 6(d), each 55/10 Participant and each 60/10 Participant (each as defined below) may make an election to direct the investment of a portion of his or her Company Contribution Account in Investment Funds other than the MWD Stock Fund. As of any date, such election to direct such investment shall be permitted with respect to up to 25% of the total number of shares of MWD Stock that have ever been allocated to a 55/10 Participant's Qualified Company Contribution Account and with respect to 50% of the total number of shares of MWD Stock that have ever been allocated to a 60/10 Participant's Qualified Company Contribution Account, in each case adjusted appropriately to reflect subdivision or combinations of such shares or similar transactions, less the number of shares directed to be alternatively invested pursuant to any prior election under this Section 6(d). There shall be no limit to the number of elections that a 55/10 Participant or a 60/10 Participant may make under this Section 6(d), provided that not more than one election can be made in any calendar month. Any shares that shall be invested in alternative Investment Funds in accordance with this Section 6(d) shall be invested as directed by the Participant among any Investment Funds then available for the investment of Employee Contributions; thereafter, the provisions of Section 6(c) shall apply to such investments. For purposes of this Section 6(d), a "55/10 Participant" is any Participant who has attained age 55 and has completed 10 years of participation in the Plan, and a "60/10 Participant" is any Participant who has attained age 60 and has completed 10 years of participation in the Plan. Notwithstanding anything in this Section to the contrary, the Plan Administrator may from time to time prescribe rules of uniform application to those Participants subject to Section 16 of the Securities Exchange Act of 1934, as amended, to ensure compliance with Section 16(b)(3) of such Act." 8. Effective January 1, 1999, Section 4(b)(3) of the START Plan shall be amended to change the words "Basic Pre-Tax Contributions" to "Basic and Supplemental Pre-Tax Contributions (up to 6% of Earnings)." IN WITNESS WHEREOF, the undersigned had hereunder set his hand as of the 5th day of January, 1999. DEAN WITTER REYNOLDS INC. By:___________________________ EX-10.28 5 EMPLOYEE STOCK PURCHASE PLAN EXHIBIT 10.28 MORGAN STANLEY DEAN WITTER & CO. EMPLOYEE STOCK PURCHASE PLAN Amended December 18, 1998, Effective January 1, 1999 SECTION 1 - PURPOSE - ------------------- The purpose of the Plan is to secure for the Company and its stockholders the benefits of the incentive inherent in the ownership of Common Stock by current and future Eligible Employees. The Plan is intended to comply with the provisions of Code Section 423 and shall be administered, interpreted and construed in accordance with such provisions. SECTION 2 - DEFINITIONS - ----------------------- When used herein, the following terms shall have the following meanings: 2.1 "Board of Directors" means the Board of Directors of the Company, or any ------------------ committee of such Board of Directors, as the Board of Directors may determine from time to time. 2.2 "Code" means the Internal Revenue Code of 1986, as amended from time to ---- time, or any successor statute thereto. 2.3 "Committee" means the committee appointed by the Board of Directors to --------- administer the Plan pursuant to Section 12. 2.4 "Common Stock" means common stock, par value $0.01 per share, of the ------------ Company. 2.5 "Common Stock Account" means the account established with, and maintained -------------------- by, the Custodian for the purpose of holding Common Stock purchased pursuant to this Plan. 2.6 "Company" means Morgan Stanley Dean Witter & Co., a Delaware corporation, ------- and its successors and assigns. 2.7 "Custodian" means the agent selected by the Company to hold Common Stock --------- purchased under the Plan. 2.8 "Disability" means disability as defined under any qualified, defined ---------- benefit plan sponsored by the Company or any Subsidiary in which an Eligible Employee is a participant on the date such Eligible Employee terminates employment with the Company or any Subsidiary. 2.9 "Eligible Compensation" means the sum of the types and amounts of --------------------- compensation determined from time to time by the Committee in its sole discretion to be eligible to be taken into account under the Plan, provided that no such determination shall include or exclude any type or amount of compensation contrary to the requirements of Section 423 of the Code and any regulations promulgated thereunder. 2.10 "Eligible Employee" means all employees of the Company and its ----------------- Subsidiaries that have been designated as eligible to participate in the Plan pursuant to and in accordance with rules prescribed by the Committee from time to time, which rules, however, shall neither permit nor deny participation in the Plan contrary to the requirements of the Code (including, but not limited to, Section 423(b)(3), (4), (5), and (8) thereof) and the regulations promulgated thereunder. 1 2.11 "Fair Market Value" means the average of the high and low sales prices of ----------------- a share of Common Stock as reported on the New York Stock Exchange Composite Tape on the date in question or, if the Common Stock shall not have been traded on such date, the average of the high and low sales prices on the first day prior thereto on which the Common Stock was so traded or, if the Common Stock was not so traded, such other amount as may be determined by the Committee in its sole discretion. 2.12 "Investment Date" means for each Eligible Employee, each date on which he --------------- receives his Eligible Compensation in each Plan Year, or such other dates as may be determined by the Committee in its sole discretion. 2.13 "Participant" means an Eligible Employee who has met the requirements of ----------- Section 3 and has elected to participate in the Plan pursuant to Section 4.1. 2.14 "Payroll Deduction Account" means the bookkeeping entry established by the ------------------------- Company for each Participant pursuant to Section 4.3. 2.15 "Plan" means the Morgan Stanley Dean Witter & Co. Employee Stock Purchase ---- Plan as set forth herein and as amended from time to time. 2.16 "Plan Year" means a calendar year. --------- 2.17 "Retirement" means retirement as defined by any qualified or non-qualified ---------- defined benefit plan sponsored by the Company or a Subsidiary in which an Eligible Employee is a participant on the date such Eligible Employee terminates employment with the Company or any Subsidiary. 2.18 "Subsidiary" means any corporation designated by the Committee which ---------- constitutes a "subsidiary" of the Company, within the meaning of Code Section 424(f). SECTION 3 - ELIGIBILITY - ----------------------- 3.1 General Rule. Subject to Section 3.3, each Eligible Employee shall be ------------ eligible to participate in the Plan beginning on the later of (i) the Eligible Employee's date of hire by the Company or any Subsidiary and (ii) the date such employee becomes an Eligible Employee. 3.2 Leave of Absence. Unless the Committee otherwise determines, a Participant ---------------- on a paid leave of absence shall continue to be a Participant in the Plan so long as such Participant is on such paid leave of absence. Unless otherwise determined by the Committee, a Participant on an unpaid leave of absence shall not be entitled to participate in any offering commencing after such unpaid leave has begun but shall not be deemed to have terminated employment for purposes of the Plan. A Participant who, upon failing to return to work following a leave of absence, is deemed not to be an employee, shall not be entitled to participate in any offering commencing after such termination of employment, and such Participant's Payroll Deduction Account shall be paid out in accordance with Section 6.1. 3.3 Common Stock Account. As a condition to participation in this Plan, each -------------------- Eligible Employee shall be required to hold shares purchased hereunder in a Common Stock Account and such employee's decision to participate in the Plan shall constitute the appointment of the Custodian as custodial agent for the purpose of holding such shares. Such Common Stock Account will be governed by, and subject to, the terms and conditions of a written agreement between the Company and the Custodian. 2 SECTION 4 - PARTICIPATION AND PAYROLL DEDUCTIONS - ------------------------------------------------ 4.1 Enrollment. Each Eligible Employee may elect to participate in the Plan ---------- for a Plan Year by completing a Company-specified enrollment process. Upon completing the enrollment process, an Eligible Employee shall commence participation in the Plan on the next practicable Investment Date. Each Eligible Employee shall be advised of the purchase price (expressed as a percentage of Fair Market Value) determined under Section 5.2(b) before enrolling in the Plan. 4.2 Amount of Deduction. When enrolling, the Eligible Employee shall specify a ------------------- payroll deduction amount of a percentage (in whole numbers) of Eligible Compensation which shall be withheld from such Eligible Employee's regular paychecks, including bonus paychecks, for the Plan Year, provided, however, ----------------- that the Committee may determine and specify, from time to time, (i) the range of permissible percentages of Eligible Compensation an Eligible Employee may specify to be withheld and (ii) the maximum amount, if any, of Eligible Compensation that may be deducted for an Eligible Employee in any Plan Year, and provided further, that no such determination shall be contrary to the requirements of Code Section 423 and the regulations promulgated thereunder.. The Committee, in its sole discretion, may authorize payment in respect of any option exercised hereunder by personal check. 4.3 Payroll Deduction Accounts. Each Participant's payroll deduction shall be -------------------------- credited, as soon as practicable following the relevant pay date, to a Payroll Deduction Account, pending the purchase of Common Stock in accordance with the provisions of the Plan. All such amounts shall be assets of the Company and may be used by the Company for any corporate purpose. No interest shall accrue or be paid on amounts credited to a Payroll Deduction Account. 4.4 Subsequent Plan Years. Unless otherwise specified prior to the beginning --------------------- of any Plan Year by completing a Company-specified process, a Participant shall be deemed to have elected to participate in each subsequent Plan Year for which the Participant is eligible to the same extent and in the same manner as at the end of the prior Plan Year. 4.5 Changes in Participation. ------------------------ (a) At any time during a Plan Year, a Participant may cease participation in the Plan by completing a Company-specified process. Such cessation will become effective as soon as practicable following completion of such process, whereupon no further payroll deductions will be made and the Company shall pay to such Participant an amount equal to the balance in the Participant's Payroll Deduction Account as soon as practicable thereafter. To the extent then an Eligible Employee, any Participant who ceased to participate may elect to participate again as of any subsequent Investment Date in any calendar quarter after the quarter in which such Participant ceased to participate. (b) At any time during a Plan Year (but not more than once in any calendar quarter), a Participant may increase or decrease the percentage of Eligible Compensation subject to payroll deduction within the limits approved by the Committee pursuant to Section 4.2 by completing a Company-specified process. Such increase or decrease shall become effective with the first pay period following the completion of such process to which it may be practically applied. Notwithstanding any increase in the percentage of Eligible Compensation subject to pay deduction pursuant to this Section 4.5(b), in no event may the amount of Eligible Compensation deducted for an Eligible Employee for any Plan Year exceed the maximum amount authorized to be deducted pursuant to Section 4.2. (c) Notwithstanding anything herein to the contrary, in the event the Committee determines under Section 5.2(b) to change the purchase price of a share of Common Stock, each Participant shall be advised in advance of the effective date of such change and afforded 3 the opportunity to make a change in participation under Section 4.5(a) or 4.5(b) before such change in the purchase price takes effect. SECTION 5 - OFFERINGS --------------------- 5.1 Maximum Number of Shares. The Plan will be implemented by making offerings ------------------------ of Common Stock on each Investment Date until the maximum number of shares of Common Stock available under the Plan have been issued pursuant to the exercise of options. 5.2 Grant and Exercise of Options ----------------------------- (a) Subject to Section 5.3, on each Investment Date, each Participant shall be deemed, subject to Section 5.4, to have been granted an option to purchase, and shall be deemed, without any further action, to have exercised such option and purchased the number of shares of Common Stock determined by dividing the amount credited to the Participant's Payroll Deduction Account on such date by the purchase price (as determined in paragraph (b) below). All such shares shall be credited to the Participant's Common Stock Account. (b) The purchase price for each share of Common Stock shall be expressed as a percentage of Fair Market Value on the Investment Date and shall be determined from time to time by the Committee, but in no event shall such purchase price be less than 85 percent of the Fair Market Value of such share on the Investment Date. 5.3 Oversubscription of Shares. If the total number of shares for which -------------------------- options are exercised on any Investment Date exceeds the maximum number of shares available for the applicable offering, the Company shall make an allocation of the shares available for delivery and distribution among the Participants in as nearly a uniform manner as shall be practicable, and the balance of all amounts credited to the Payroll Deduction Accounts shall be applied to the next offering. 5.4 Limitations on Grant and Exercise of Options -------------------------------------------- (a) No option granted under this Plan shall permit a Participant to purchase stock under all employee stock purchase plans (as defined by Code Section 423(b)) of the Company and any Subsidiary in an amount which, in the aggregate, would exceed $25,000 based on the Fair Market Value of such stock (determined at the time the option is granted) for each calendar year in which the option is outstanding at any time. (b) No employee who would own, immediately after the option is granted, stock possessing five percent (5%) or more of the total combined voting power or value of all classes of stock of the Company or any Subsidiary (a "5% Owner") shall be granted an option. For purposes of determining whether an employee is a 5% Owner, the rules of Code Section 424(d) shall apply in determining the stock ownership of an individual and stock which the employee may purchase under outstanding options shall be treated as stock owned by the employee. SECTION 6 - DISTRIBUTIONS OF COMMON STOCK ACCOUNT - ------------------------------------------------- 6.1 Termination of Employment. If a Participant's employment with the Company ------------------------- and its Subsidiaries terminates for any reason during a Plan Year, all shares credited to the Participant's Common Stock Account shall be distributed to the Participant, and any amount credited to the Participant's Payroll Deduction Account shall be refunded to the Participant or, in the event of the Participant's death, to the Participant's estate, as soon as practicable. 6.2 During Employment. Prior to the Participant's termination of employment ----------------- with the Company and its Subsidiaries, a Participant may withdraw some or all of the whole shares credited to the 4 Participant's Common Stock Account, subject to the provisions of Section 10.3, provided, however, that a Participant may not withdraw shares from ------------------ the Participant's Common Stock Account (other than shares acquired upon the automatic reinvestment of dividends pursuant to Section 7) for a period of 12 months immediately following the Investment Date on which they were purchased. SECTION 7 - DIVIDENDS ON SHARES - ------------------------------- All cash dividends paid with respect to shares of Common Stock held in a participant's Common Stock Account shall be invested automatically in shares of Common Stock purchased at 100 percent of Fair Market Value on the date such dividend is paid. All non-cash distributions paid on Common Stock held in a Participant's Common Stock Account shall be paid to the Participant as soon as practicable. SECTION 8 - RIGHTS AS A STOCKHOLDER - ----------------------------------- When a Participant purchases Common Stock pursuant to the Plan or when Common Stock is credited to a Participant's Common Stock Account, subject to the restrictions set forth in Sections 6.2 and 10.3, the Participant shall have all of the rights and privileges of a stockholder of the Company with respect to the shares so purchased or credited, whether or not certificates representing shares shall have been issued. SECTION 9 - OPTIONS NOT TRANSFERABLE - ------------------------------------ Neither a Participant's Payroll Deduction Account nor any options granted under the Plan to a Participant may be transferred, pledged or otherwise disposed of in any way (other than by will or the laws of descent and distribution) by a Participant and such options are exercisable during the Participant's lifetime only by the Participant. Any attempt at such assignment, transfer, pledge or other disposition shall be without effect. SECTION 10 - COMMON STOCK - ------------------------- 10.1 Reserved Shares. There shall be reserved for issuance and purchase under --------------- the Plan an aggregate of 1,048,416 shares of Common Stock (as of November 30, 1998), subject to adjustment as provided in Section 11. Shares subject to the Plan may be shares now or hereafter authorized but unissued, treasury shares, or both. 10.2 Restrictions on Exercise. In its sole discretion, the Board of Directors ------------------------ may require as conditions to the exercise of any option that shares of Common Stock reserved for issuance upon the exercise of an option shall have been duly listed on any recognized national securities exchange, and that either a registration statement under the Securities Act of 1933, as amended, with respect to said shares shall be effective, or the Participant shall have represented at the time of purchase, in form and substance satisfactory to the Company, that it is the Participant's intention to purchase the shares for investment only and not for resale or distribution. 10.3 Restriction on Sale. Shares of Common Stock purchased hereunder (other ------------------- than shares of Common Stock acquired upon the automatic investment of dividends pursuant to Section 7) shall not be transferable by a Participant for a period of 12 months immediately following the Investment Date on which such shares were purchased. In addition, upon the expiration of such 12-month period, shares of Common Stock purchased hereunder (other than shares of Common Stock acquired upon the automatic investment of dividends pursuant to Section 7) shall not be transferable by a Participant for an additional succeeding 12-month period, without prior notice to the Company in the manner approved by the Company. SECTION 11 - ADJUSTMENT UPON CHANGES IN CAPITALIZATION - ------------------------------------------------------ 5 In the event of a subdivision or consolidation of the outstanding shares of Common Stock, or the payment of a stock dividend thereon, the number of shares reserved or authorized to be reserved under this Plan shall be increased or decreased, as the case may be, proportionately, and such other adjustments shall be made as may be deemed necessary or equitable by the Board of Directors. In the event of any other change affecting the Common Stock, such adjustments shall be made as may be deemed equitable by the Board of Directors, in its sole discretion, to give proper effect to such event, subject to the limitations of Code Section 424. SECTION 12 - ADMINISTRATION - --------------------------- 12.1 Appointment. The Plan shall be administered by the Committee. The ----------- Committee shall consist of two or more members who shall serve at the pleasure of the Board of Directors. The Board of Directors may from time to time appoint members of the Committee in substitution for, or in addition to, members previously appointed and may fill vacancies, however caused, in the Committee. 12.2 Authority. Subject to the express provisions of the Plan, the Committee --------- shall have authority to interpret the Plan, to prescribe, amend and rescind rules and regulations relating to it, and to make all other determinations necessary or advisable in administering the Plan, all of which determinations shall be final and binding upon all persons. If and to the extent required by Securities and Exchange Commission Rule 16b-3 or any successor exemption under which the Committee believes it is appropriate for the Plan to qualify, the Committee may restrict a Participant's ability to participate in the Plan or sell any Common Stock received under the Plan for such period as the Committee deems appropriate or may impose such other conditions in connection with participation or distributions under the Plan as the Committee deems appropriate. 12.3 Duties of Committee. The Committee shall provide for the establishment ------------------- and maintenance of records of the Plan and of each Payroll Deduction Account and Common Stock Account established for any Participant hereunder. 12.4 Plan Expenses. The Company shall pay the fees and expenses of accounts ------------- and counsel to the Company or the Committee, agents and other personnel and all other costs of administration of the Plan. 12.5 Indemnification. To the maximum extent permitted by law, no member of the --------------- Committee shall be personally liable by reason of any contract or other instrument executed by such member or on such member's behalf in such member's capacity as a member of the Committee or for any mistake of judgment made in good faith, and the Company shall indemnify and hold harmless, directly from its own assets (including the proceeds of any insurance policy the premiums of which are paid from the Company's own assets), each member of the Committee and each other officer, employee or director of the Company to whom any duty or power relating to the administration or interpretation of the Plan or to the management or control of the assets of the Plan may be delegated or allocated, against any cost or expense (including fees, disbursements and other charges of legal counsel) or liability (including any sum paid in settlement of a claim with the approval of the Company) arising out of any act or omission to act in connection with the Plan unless arising out of such person's own fraud, willful misconduct or bad faith. The foregoing shall not be deemed to limit the Company's obligation to indemnify any member of the Committee under the Company's Certificate of Incorporation or By-laws, or any other agreement between the Company and such member. SECTION 13 - AMENDMENT AND TERMINATION - -------------------------------------- 13.1 Amendment. Subject to the provisions of Code Section 423, the Board of --------- Directors may amend the Plan in any respect; provided, however, that the ----------------- Plan may not be amended in any manner that will retroactively impair or otherwise adversely affect the rights of any person to benefits under the Plan which have accrued prior to the date of such action. 6 13.2 Termination. The Plan will terminate on the Investment Date that ----------- Participants become entitled to purchase a number of shares greater than the number of shares remaining available for purchase. In addition, the Plan may be terminated at any prior time, at the sole discretion of the Board of Directors. SECTION 14 - GOVERNMENTAL AND OTHER REGULATIONS - ----------------------------------------------- The Plan and the grant and exercise of options to purchase shares hereunder, and the Company's obligation to sell and deliver shares upon the exercise of options to purchase shares, shall be subject to all applicable Federal, state and foreign laws, rules and regulations, and to such approvals by any regulatory or governmental agency as, in the opinion of counsel to the Company, may be required. SECTION 15 - NO EMPLOYMENT RIGHTS - --------------------------------- The Plan does not create, directly or indirectly, any right for the benefit of any employee or class of employees to purchase any shares from the Company (other than as expressly provided in, and subject to the terms and conditions of, the Plan), or create in any employee or class of employees any right with respect to continuation of employment by the Company or any Subsidiary, and it shall not be deemed to interfere in any way with the Company's or any Subsidiary's right to terminate, or otherwise modify, an employee's employment at any time. SECTION 16 - WITHHOLDING - ------------------------ As a condition to receiving shares hereunder, the Company may require the Participant to make a cash payment to the Company of, or the Company may withhold from any shares distributable under the Plan, an amount necessary to satisfy all Federal, state, city or other taxes required to be withheld in respect of such payments pursuant to any law or governmental regulation or ruling. SECTION 17 - OFFSETS - -------------------- To the extent permitted by law, the Company shall have the absolute right to withhold any amounts payable to any Participant under the terms of the Plan to the extent of any amount owed for any reason by such Participant to the Company or any Subsidiary and to set off and apply the amounts so withheld to payment of any such amount owed to the Company or any Subsidiary, whether or not such amount shall then be immediately due and payable and in such order or priority as among such amounts owed as the Committee, in its sole discretion, shall determine. SECTION 18 - NOTICES, ETC. - -------------------------- All elections, designations, requests, notices, instructions and other communications from a Participant to the Committee or the Company required or permitted under the Plan shall be in Company-specified form, and if required to be in writing shall be mailed by first-class mail or delivered to such Company- specified location and shall be deemed to have been given and delivered only upon actual receipt thereof at such location. SECTION 19 - CAPTIONS, ETC. - --------------------------- The captions of the sections and paragraphs of this Plan have been inserted solely as a matter of convenience and in no way define or limit the scope or intent of any provision of the Plan. References to sections herein are to the specified sections of this Plan unless another reference is specifically stated. Wherever used herein, a singular number shall be deemed to include the plural unless a different meaning is required by the context. SECTION 20 - EFFECT OF PLAN - --------------------------- 7 The provisions of the Plan shall be binding upon, and inure to the benefit of, all successors of the Company and each Participant, including, without limitation, such Participant's estate and the executors, administrators or trustees thereof, heirs and legatees, and any receiver, trustee in bankruptcy or representative of creditors of such Participant. SECTION 21 - GOVERNING LAW - -------------------------- The internal laws of the State of New York shall govern all matters relating to this Plan except to the extent superseded by the laws of the United States. 8 EX-10.31 6 MORGAN STANLEY & CO. INCORP. EXCESS BENEFIT EXHIBIT 10.31 AMENDMENT AND RESTATEMENT OF MORGAN STANLEY & CO. INCORPORATED EXCESS BENEFIT PLAN ------------------- (With Amendments adopted through December 3, 1998) I. Purpose of Plan --------------- The Excess Benefit Plan (the "Plan") is an unfunded "excess benefit plan" within the meaning of Sections 3(36) and 4(b)(5) of the Employee Retirement Income Security Act of 1974, as amended, but is not a plan intended to be qualified under Section 401 of the Internal Revenue Code (the "Code"). As such, its purpose is to provide additional retirement benefits to those employees participating in the Pension Plan of Morgan Stanley & Co. Incorporated, as amended from time to time (the "Pension Plan"), such that the benefits payable to or on behalf of such employees under the Plan, together with such employees' funded benefits under the Pension Plan (including, but not limited to, any benefits payable by Aetna Life Insurance Company under Group Annuity Contract GA-325 or any similar annuity contract) are equal to the benefits which such employees or their beneficiaries would have received under the Pension Plan without regard to Sections 1.39 and 15.2 of the Pension Plan or Sections 401(a)(17) and 415 of the Code (or any comparable limitation on benefits set forth in the Pension Plan or the Code). 2 II. Definitions and Assumptions --------------------------- Capitalized terms used herein which are defined in the Pension Plan and are not otherwise defined herein shall have the meanings specified in the Pension Plan. III. Participation in the Plan ------------------------- All employees of the Corporation (or of its affiliates that are Employers) who are Members participating in the Pension Plan shall be eligible to participate in the Plan whenever (a) their benefits under the Pension Plan, computed without taking into consideration the limitations on benefits contained in Section 15.2 of the Pension Plan or Section 415 of the Code or any successor or comparable provisions, exceed the maximum annual benefits to which they are entitled under the Pension Plan, taking into account such limitations or (b) their salary from their Employer exceeds the limit on salaries contained in Section 1.39 of the Pension Plan or Section 401(a)(17) of the Code. Such employees shall be referred to hereinafter as "Participants". Notwithstanding any other provision of the Plan to the contrary, any person who is (i) classified by an Employer as a "leased employee" who provides services to any Employer (including, without limitation, a leased employee as defined in Code section 414(n)), an independent contractor or a consultant or (ii) a provider of services to an Employer pursuant to a contractual agreement, such as a "PAL", either with that person or with a third party, other than one specifically providing for an employment relationship with the Employer, shall not be eligible to become a Member until the later of the date, if any, on which he becomes an Employee who is not classified as a leased employee, independent contractor, consultant or a provider of services to any Employer and is employed in a job classification that is eligible for 3 membership under the Plan as determined by such Employer. If any person excluded as an Employee pursuant to the preceding clauses (i) and (ii) shall be determined by a court or a federal, state or local regulatory or administrative authority to have served as a common law employee of the Employer, such determination shall not alter this exclusion as an Employee for purposes of this Plan. IV. Excess Plan Benefits -------------------- The amount payable under this Plan to a Participant or the beneficiary of a Participant (hereinafter referred to as the "Excess Benefit") equals the excess of (i) the amount payable under the Pension Plan to such Participant (determined without regard to the limitations on salary and benefits described in Sections 1.39 and 15.2 of the Pension Plan or Sections 401(a)(17) and 415 of the Code or any successor or comparable provisions), over (ii) the maximum annual benefits to which such Participant is entitled under the Pension Plan, taking into account such limitations. Such Excess Benefit shall be payable in the manner and at the times at which such Participant's benefits are payable under the Pension Plan; provided, however, that a Participant who is receiving benefits in the form of a joint and survivor annuity under the Pension Plan may elect under this Plan at any time prior to his death that the benefit otherwise payable under the Plan to the Participant's spouse should the spouse survive the Participant will be payable to the Participant's estate for a period measured by the life of the spouse. 4 V. Administration of the Plan -------------------------- The Pension Plan Committee (the "Committee") designated in Section 11.1 (or any successor provision) of the Pension Plan shall administer the Plan. The Committee shall review all questions arising in connection with the Plan, including its interpretation, and may adopt procedural rules and employ and rely on such legal counsel, actuaries, accountants and agents as it may deem advisable to assist in the administration of the Plan. Interpretations of the Committee shall be conclusive and binding on all persons. VI. Funding of Benefits ------------------- No Participant shall have or accrue any property interest whatsoever in any specific assets of the Corporation or any Employer by virtue of the Plan or any Excess Benefit payable hereunder. Neither the Plan nor any Excess Benefit payable hereunder shall create or be construed to create a trust or separate fund of any kind or a fiduciary relationship between the Corporation (or any Employer) and a Participant or any other person. VII. Miscellaneous ------------- It is expected that the Plan will be continued indefinitely, but the Plan may be terminated at any time by the Board of Directors of the Corporation, in the event and as of the date the Pension Plan is terminated. This Plan also may be amended at any time by the Board of Directors of the Corporation with respect to any present or future Participants. VIII. Effective Date -------------- The effective date of this Plan is January 1, 1986. The effective date of this Amendment and Restatement of the Plan is January 1, 1989. 5 IX. Governing Law ------------- This Plan shall be construed in accordance with and governed by the laws of the State of New York. X. Inalienability of Rights and Interests -------------------------------------- No benefit payable under the Plan shall be subject in any manner to anticipation, alienation, sale, transfer, assignment, pledge, encumbrance, charge or security interest and any such attempted action shall be void. No such benefit or interest shall in any manner be liable for or subject to debts, contracts, liabilities, engagements or torts of any Employee, former Employee or beneficiary. If any Employee, former Employee or beneficiary shall become bankrupt or shall attempt to anticipate, alienate, sell, transfer, assign, pledge, encumber or charge, or create a security interest in, any benefit payable under the Plan or interest in any assets in relation to the Plan, then, to the extent permitted by law, the Committee in its discretion may hold or apply such benefit or interest or any part thereof to or for the benefit of such Employee, former Employee or beneficiary, his spouse, children, blood relatives or other dependents or any of them in such manner and in such proportion as the Committee may consider proper. EX-10.32 7 SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN EXHIBIT 10.32 MORGAN STANLEY DEAN WITTER & CO. SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN EFFECTIVE JANUARY 1, 1986 AS AMENDED AND RESTATED EFFECTIVE JANUARY 1, 1989 WITH AMENDMENTS ADOPTED THROUGH DECEMBER 3, 1998 I. Purpose of Plan --------------- The Supplemental Executive Retirement Plan (the "Plan") is an unfunded plan maintained by Morgan Stanley Dean Witter & Co. (the "Corporation") for the purpose of providing deferred compensation for Managing Directors and Principals of the Corporation, its subsidiaries and affiliates. (The Corporation, its subsidiaries and affiliates shall collectively be referred to as the "Firm"; provided, that effective May 31, 1997, the term "Firm" shall not include subsidiaries and affiliates of Dean Witter, Discover &Co., as in existence prior to its merger with the Corporation, and their subsidiaries and affiliates. The determination of whether an entity is considered a part of the "Firm" for purposes of the Plan shall be made by the Committee.) As such, its purpose is to provide a means of supplementing the retirement benefits of employees who are Managing Directors or Principals of the Firm or previously held the title of Managing Director or Principal. II. Definitions and Assumptions --------------------------- The following words and phrases as used herein shall have the following meanings unless a different meaning is plainly required by the context: A. "Accrued Benefit" under this Plan as of any specified date shall mean the amount computed in paragraph IV(A) and offset by benefits described in Paragraph IV(B) and limited, if applicable, as described in Paragraph IV(C), payable as of the Participant's attainment of age 65 and based on his Credited Service and Final Average Salary as of such specified date. B. "Actuarial Equivalent" shall mean the following: (i) for determinations made prior to July 1, 1996, (X) subject to clause (Y) of this Paragraph II B(i), a benefit of equivalent value which shall be determined based on (a) the Participant's (and, where applicable, the beneficiary's) age as of the Participant's Benefit Commencement Date; (b) a mortality table equal to the 1983 Group Annuity Mortality Table; and (c) an investment rate of six percent (6%) compounded annually; and (Y) in the case of a lump sum, an amount equivalent to the present value, as of the Participant's Benefit Commencement Date, of the Participant's benefit payable as of the Participant's Benefit Commencement Date in the form of a single life annuity based on (a) the age of the Participant as of his Benefit Commencement Date; (b) the mortality tables described in clause (X)(b) of this Paragraph II B(i), and (c) an investment rate equal to the Pension Benefit Guaranty Corporation single employer plan termination immediate annuity interest rate in effect as of the second calendar month prior to the Participant's Benefit Commencement Date; and (ii) For determinations made after June 30, 1996, using those assumptions as to rate of interest and the mortality tables which are in effect from time to time for purposes of determining actuarial equivalents under the Morgan Stanley & Co. Incorporated Pension Plan in substantially similar situations and for substantially similar purposes; provided, however, that in no event shall the Actuarial Equivalent for a given form of payment for any Participant's Accrued Benefit be less than the Actuarial Equivalent of such form of payment on June 30, 1996 for Participants terminated prior to July 1, 1996, based upon Actuarial Equivalent determined in accordance with Paragraph II B(i) above. C. "Authorized Absence" shall mean absence authorized by the Firm without loss of employment status, including absence on account of illness, business of the Firm, vacation and leave of absence, including leave of absence for military or governmental service, whether or not salary shall be paid during such absence. Any person who ceases to be an employee receiving compensation from the Firm but remains in the employment of the Firm shall be deemed for all purposes of the Plan to be on Authorized Absence without salary until such employment terminates or he again receives compensation from the Firm. D. "Benefit Commencement Date" means the date as of which a Participant's (or in the event of the Participant's death before receiving any benefits under the Plan, a beneficiary's) benefit under the Plan commences to be paid. E. (i) "Credited Service" shall mean the sum of all periods of employment by the Firm commencing from the first day of the month following the Participant's date of hire or rehire. "Credited Service" shall also include (a) any period during which the Participant was a partner in Morgan Stanley & Co., (b) any period during which the Participant is eligible for and receives disability benefits under a long term disability plan sponsored by the Firm or a governmental plan (including the waiting period required under any governmental plan), provided that the disability was incurred while he was employed by the Firm, and (c) any period of Authorized Absence. (ii) In computing Credited Service, a Participant's Credited Service shall be deemed to terminate on the earliest of: (a) the date on which the Participant quits, retires, is discharged or dies, (b) the first anniversary of the first date of a period in which the Participant remains absent from service (with or without pay) for any reason other than quit, retirement, discharge, disability, Authorized Absence or death, such as vacation, holiday, sickness, leave of absence, or layoff, or (c) the first anniversary of the first date of a period of disability with respect to which he is either ineligible for or does not receive disability benefits under the Social Security Act (excluding the required waiting period). F. "Final Average Salary" shall mean a Participant's average annual Salary during his 60 highest paid consecutive months (excluding months for which he received no Salary) during the final 120 months (or such lesser period as is equal to his Credited Service) of his Credited Service preceding such retirement, death or termination of Credited Service. G. "Salary" shall mean a Participant's regular fixed base compensation earned for any period, whether or not paid during such period. III. Participation in the Plan ------------------------- Each employee who holds or has previously held the title of Managing Director or Principal of the Firm shall become a participant in the Plan (a "Participant") upon the satisfaction of all of the following requirements while actively employed by the Firm: (1) completion of five years of Credited Service, which service need not have been rendered while a Managing Director or Principal of the Firm, (2) attainment of age 55, and (3) the sum of Credited Service and age expressed in years and fractions thereof (determined using the number of full months of age or Credited Service) at least equals 65 years. Notwithstanding, an employee will be excluded if upon meeting the eligibility requirements, he is included in a contractual agreement between himself and his employer which provides substantially the same benefits under the local plan. Notwithstanding any other provision of the Plan to the contrary, any person who is (i) classified by the Firm as a "leased employee" who provides services to any Firm (including, without limitation, a leased employee as defined in Code section 414(n)), an independent contractor or a consultant or (ii) a provider of services to the Firm pursuant to a contractual arrangement, such as a "PAL", either with that person or with a third party, other than one specifically providing for an employment relationship with the Firm, shall not be eligible to become a Participant until the later of the date, if any, on which he becomes an employee who is not classified as a leased employee, independent contractor, consultant or a provider of services to the Firm and is employed in a job classification that is eligible for membership under the Plan as determined by the Firm. If any person excluded as an employee pursuant to the preceding clauses (i) and (ii) shall be determined by a court or a federal, state or local regulatory or administrative authority to have served as a common law employee of the Firm, such determination shall not alter this exclusion as an employee for purposes of this Plan. IV. Benefits under the Plan ----------------------- A. Plan Formula ------------ A Participant whose rights to benefits had vested under the Supplemental Executive Retirement Plan in effect prior to January 1, 1986 (the "Prior Plan") is entitled to a single life annuity in an annual amount equal to the greater of the amounts described in subparagraphs (i) and (ii) below. A Participant whose rights to benefits had not vested under the Prior Plan or who was not entitled to participate in the Prior Plan shall be entitled to a single life annuity as computed under subparagraph (ii) below: (i) the amount which would have been payable under the Prior Plan if the Participant had retired on December 31, 1985, based on the Participant's Credited Service and Final Average Salary as of December 31, 1985, which amount shall be the sum of: . 40% of his or her Final Average Salary, plus . 2/12% of his or her Final Average Salary for each month of Credited Service in excess of 60 months (up to a cumulative total of 50% of Final Average Salary at 10 years of Credited Service), plus . 1/12% of his or her Final Average Salary for each month of Credited Service in excess of 300 months (up to a cumulative total of 60% of Final Average Salary at 35 years of Credited Service); (ii) an amount, based on the Participant's Final Average Salary and Credited Service as of such Participant's actual date of retirement, death or termination of employment with the Firm, determined as follows: . 20% of his or her Final Average Salary, plus . 2/12% of Final Average Salary for each completed month of Credited Service in excess of 60 months (up to a cumulative total of 50% of Final Average Salary at 20 years of Credited Service), plus . 1/12% of Final Average Salary for each completed month of Credited Service in excess of 300 months (up to a cumulative total of 60% of Final Average Salary at 35 years of Credited Service). B. Reduction of Benefits --------------------- The payments to which a Participant is entitled under Paragraph IV A shall be reduced by pension benefits which the Participant is entitled to receive under the terms of any other defined benefit pension plan or money purchase pension plan maintained by the Firm, and any other defined benefit or money purchase pension plan established by a former employer (or affiliate of a former employer) of the Participant, whether or not such employer or affiliate is affiliated with the Firm (any such plan being referred to herein as an "Offset Plan"). In the event that the commencement date and form of payment to a Participant under any Offset Plan are or will be the same as the commencement date and form of payment of the benefit to which a Participant is entitled under Paragraph IV A hereof, each such payment under this Plan will be reduced by the full amount of the corresponding payments under the Offset Plans. In the event that i) a Participant's benefit under the applicable Offset Plan has been, is being or will be received in a form of payment different from the form of payment elected under this Plan, or ii) payment of a Participant's benefit under the applicable Offset Plan commenced or will commence as of a different date than payment of the benefit to which a Participant is entitled under Paragraph IV A hereof, then the payment of such benefits under this Plan will be reduced by the Actuarial Equivalent of the benefit payable under the Offset Plan (determined as if such Actuarial Equivalent were to be paid under the Offset Plan commencing on the date and in the form of payment of benefits under this Plan). Benefits under this Plan shall not be reduced by benefits payable under any defined contribution plan (other than a money purchase plan), including any benefits to which the Participant is entitled under the Corporation's Deferred Profit Sharing Plan, the Shumagco Profit Sharing Plan or the Morgan Stanley International Profit Sharing Scheme. Benefits under this Plan also shall not be reduced by benefits under an Offset Plan to the extent attributable to the Participant's own contributions or discretionary supplemental contributions made by the Firm on the Participant's behalf. C. Maximum Benefits ---------------- (i) Notwithstanding any other provisions of this Paragraph IV to the contrary, the benefit to which a Participant whose date of retirement is later than December 31, 1985 is entitled under Paragraph IV A (ii) shall in no event exceed US$140,000 (or in the case of a Participant whose date of retirement is in 1988, US$137,813; in the case of a Participant whose date of retirement is in 1987, US$131,250; and in the case of a Participant whose date of retirement is in 1986, US$125,000). (ii) If the Participant's Benefit Commencement Date occurs after December 31, 1988 and before the Participant attains age 60, the dollar amounts described in Paragraph IV C (i) shall be reduced by 4/12% for each month that the Benefit Commencement Date precedes the Participant's attainment of age 60. (iii) The maximum benefit to which a Participant is entitled under Paragraph IV A (ii) as limited by Paragraph IV C (i) is determined as of such Participant's date of retirement and remains in effect thereafter, except as may be determined by subsequent Plan amendment. Such maximum benefit as adjusted for early distribution under Paragraph IV C (ii) is determined as of the Participant's Benefit Commencement Date and remains in effect thereafter, except as may be determined by subsequent Plan amendment. (iv) If the benefits computed under Paragraph IV A are determined in a currency other than United States dollars, the maximum benefit described under Paragraph IV C (iii) shall be converted annually as of January 1 to the currency of benefit determination using the Rolling Average Exchange Rate for the previous calendar year. For the purpose of this Plan, Rolling Average Exchange Rate shall be the average of the spot rates as of the first business day of the month for the previous twelve months. (v) The benefit payable under Paragraph IV A (i) shall not be limited by the provisions of this Paragraph IV C. D. Form of Payment --------------- The normal form of payment under this Plan shall be a single life annuity. However, a Participant may, with the consent of the Committee, elect to receive the Actuarial Equivalent of the Accrued Benefit otherwise payable under this Plan, payable in the manner and at the times at which such Participant's benefits are payable under any Offset Plan sponsored by the Firm in which the Participant participates; provided, however, that a Participant who is receiving benefits in the form of a joint and survivor annuity under such Offset Plan may elect under this Plan at any time prior to his death that the benefit otherwise payable to the Participant's spouse should the spouse survive the Participant will be payable to the Participant's estate for a period measured by the life of the spouse. E. Commencement of Benefits ------------------------ The payment of the Accrued Benefit to a Participant shall commence no earlier that the date on which benefit payments to such Participant commence under an Offset Plan sponsored by the Firm. If payment of an Accrued Benefit commences as a result of a Participant's retirement at or after age 60, such Accrued Benefit will not be reduced for early retirement. If payment of an Accrued Benefit commences as a result of a Participant's retirement at any time after the Participant's 55th birthday but before age 60, such Accrued Benefit will be reduced by 4/12% for each month that the Participant's Benefit Commencement Date precedes the date on which the Participant attains age 60. The Committee in its discretion may delay the Participant's Benefit Commencement Date to a later date, but no later than the date on which the Participant attains age 65. A Participant's Benefit Commencement Date may also be delayed (at the discretion of the Committee) in a case in which a Participant terminates his employment under circumstances, such as leaving for governmental service or for service in the Armed Forces of the United States, indicating that i) there is a substantial possibility that the Participant may return to employment with the Firm or ii) that it would be inappropriate for the Participant to receive payments of the Accrued Benefit. Furthermore, at the Committee's discretion, a Participant's Benefit Commencement Date may be delayed or payment of the Accrued Benefit may be suspended in the event that a Participant enters into competition with the Firm. In the event a Participant who is eligible for a pension under this Plan dies while employed by the Firm, the surviving spouse of the Participant shall be eligible for a benefit under this Plan equal to the Accrued Benefit which would have been paid to such spouse if the Participant had elected to receive the Accrued Benefit in the form of a joint and 50% survivor annuity (with the spouse as beneficiary) and the Participant's Benefit Commencement Date was the day before his death with payments under such joint and 50% survivor annuity to begin immediately. V. Administration of the Plan -------------------------- The Pension Plan Administration Committee (the "Committee") designated in Section 11.1 (or any successor provision) of the Pension Plan of Morgan Stanley & Co. Incorporated shall administer the Plan. The Committee shall review all questions arising in connection with the Plan, including its interpretation, and may adopt procedural rules and employ and rely on such legal counsel, actuaries, accountants and agents as it may deem advisable to assist in the administration of the Plan. Interpretations of the Committee shall be conclusive and binding on all persons. VI. Funding of Benefits ------------------- No Participant shall have or accrue any property interest whatsoever in any specific assets of the Firm by virtue of the Plan or any Accrued Benefit payable hereunder. Neither the Plan nor any Accrued Benefit payable hereunder shall create or be construed to create a trust or separate fund of any kind or a fiduciary relationship between the Firm (or any entity included in the Firm) and a Participant or any other person. VII. Miscellaneous ------------- It is expected that the Plan will be continued indefinitely, but the Plan may be terminated at any time by the Board of Directors of Morgan Stanley Dean Witter & Co. including in the event the Pension Plan of Morgan Stanley & Co. Incorporated is terminated. This Plan also may be amended at any time by the Board of Directors of Morgan Stanley Group Inc. with respect to any present or future Participants. VIII. Effective Date -------------- The effective date of this amendment and restatement is January 1, 1989. IX. Governing Law ------------- This Plan shall be construed in accordance with and governed by the laws of the State of New York and, when applicable, the laws of the United States of America. X. Inalienability of Rights and Interests. -------------------------------------- No benefit payable under the Plan shall be subject in any manner to anticipation, alienation, sale, transfer, assignment, pledge, encumbrance, charge or security interest and any such attempted action shall be void. No such benefit or interest shall in any manner be liable for or subject to debts, contracts, liabilities, engagements or torts of any Participant, former Participant or beneficiary. If any Participant, former Participant or beneficiary shall become bankrupt or shall attempt to anticipate, alienate, sell, transfer, assign, pledge, encumber, or charge, or create a security interest in, any benefit payable under the Plan or interest in any assets in relation to the Plan, then, to the extent permitted by law, the Committee in its discretion may hold or apply such benefit or interest or any part thereof to or for the benefit of such Participant, former Participant or beneficiary, his spouse, children, blood relatives or other dependents or any of them in such manner and such proportion as the Committee may consider proper. EX-10.40 8 TRUST DEED AND RULES - UK EXHIBIT 10.40 DATED 3rd November 1997 Morgan Stanley, Dean Witter, Discover & Co. and Morgan Stanley UK Group and Morgan Stanley International, Inc and Noble Lowndes Settlement Trustees Limited TRUST DEED and RULES OF THE MORGAN STANLEY UK GROUP PROFIT SHARING PLAN (approved under the Income and Corporation Taxes Act 1988 as amended) September 1997 (iv) THIS TRUST DEED is made the 3rd day of November 1997 BETWEEN: (1) Morgan Stanley, Dean Witter, Discover & Co. whose registered office is at 1209 Orange Street, Wilmington, Delaware, DE 19801 ("the Company"); and (2) The Companies whose respective names and registered offices are specified in Schedule 1 hereto (together with the Company "the Participating Companies"); and (3) Noble Lowndes Settlement Trustees Limited whose registered office is at PO Box 144, Norfolk House, Wellesley Road, Croydon CR9 3EB ("the Trustees") WHEREAS: (A) The Company wishes to establish a scheme approved in accordance with the provisions of Schedules 9 and 10 of the Income and Corporation Taxes Act 1988 (as amended) for the provision by the Participating Companies of funds for the acquisition by the Trustees of Shares in the Company to be known as the Morgan Stanley UK Group Profit Sharing Plan or "the Plan". (B) The Company has accordingly by resolution of the Directors resolved to establish the Plan aforesaid. (C) The Trustees have agreed to be the first trustees of the Plan. NOW THIS DEED WITNESSETH as follows: 1 Construction (a) Words or phrases defined in Schedule 2 shall apply throughout this deed. (b) Reference to any statutory provision shall be to that provision as modified or re-enacted. (c) The Interpretation Act 1978 shall apply to this deed mutatis mutandis as if it 2 were an Act of Parliament. (d) Headings in this deed (and the Rules) are intended for convenience only and shall in no way affect its construction. 2 Rules (a) Schedule 2 to this deed constitutes the Rules of the Plan and contains definitions of words and phrases for the purposes of the Plan; (b) Schedule 3 of this deed constitutes the documents for the creation of a contract between the Directors of the Company, the Trustees and the Participant; (c) Schedule 4 to this deed sets out the form of the supplemental trust deed referred to in clause 10 of this deed. 3 The Trusts of the Plan - General The Trustees hereby declare that all Plan Shares and Employee Shares held by them will be held UPON TRUST for the beneficiary respectively entitled thereto under the Plan subject to the provisions hereinafter set out and to the power of the Trustees to transfer or cause to be transferred to the person beneficially entitled thereto any Employee Shares. 4 The Trusts of the Plan Subject as hereinafter provided the Trustees hereby covenant to apply the monies received by them from the Participating Companies in the acquisition of Shares for the purpose of appropriation under the Plan or for the purposes of Clause 5(a) of this deed and to hold such Shares once appropriated and all other trust property deriving therefrom on trust for the Participants to whom such Shares have been appropriated and to apply and deal with the same in accordance with the Plan. Provided always that: (a) The Trustees shall not dispose of any of a Participant's Plan Shares during the Retention Period (whether by transfers to the Participant or otherwise) except as provided in the Rules of the Plan; (b) The Trustees shall not (subject to Rules 6 and 7 of the Plan) dispose of any of a Participant's Plan Shares after the end of the Retention Period applicable thereto except pursuant to a direction validly given by or on behalf of the Participant or any person in whom the beneficial interest in those Shares is for the time being vested and by a transaction which would not involve a breach of the Participant's obligations as expressed in the rules of the Plan; (c) The Trustees shall deal with any right conferred in respect of any of such Shares to be allotted other shares securities or rights of any description only pursuant to a written direction given by or on behalf of the Participant or any person in whom the beneficial interest in that Participant's Plan Shares is for the time being vested or his legal personal representatives. 5 Unused Funds 3 (a) Where pursuant to the Plan the Trustees hold any monies shares securities or other assets of whatever nature which represent or represent income derived from: (i) any monies or assets received by them from Participating Companies for the purposes of the Plan but which have not been applied in the acquisition and appropriation of Shares to a Participant; or (ii) any Capital Receipt of less than (Pounds)3 which would be distributable to a Participant save for the provisions concerning sums of that order contained in the Rules of the Plan; or (iii) any assets relating to the Plan (including any amounts specifically paid to the Trustees as a contribution to any costs charges and expenses incurred in connection with the establishment and operation thereof) which are not held for the benefit of (but subject to the Rules of the Plan) a Participant in consequence of an appropriation to him; then the Trustees shall apply such assets or the sale proceeds thereof in or towards any reasonable costs charges and expenses of the Plan and may during the Trust Period and subject to the law relating to accumulations accumulate any income thereon and hold the same for the general purposes of the Plan. The Trustees shall notify the Company on request of all amounts and assets held for such purposes. (b) If at any time the Plan is terminated the Trustees shall thereupon account to the Company and the Participating Companies for any monies then held by them on the trusts of Clause 5(a) of this deed and remaining so unused. Notwithstanding such termination the Trustees shall continue to administer the Plan in accordance with this deed and the Rules of the Plan. At the earlier of the expiry of the Trust Period and the third anniversary of such termination the Trustees shall convert into money any trust property held subject to the trusts of the Plan and not appropriated to Participants and shall pay such money to the Participating Companies as nearly as practicable in proportion to their respective payments of monies or if such payment shall prove impracticable to such person or persons for such charitable objects as the Trustees may determine. 6 Right to deal with reconstructions, etc (a) The Trustees may at any time or times on behalf of any Participant who has given such a direction to the Trustee as is permitted by Rule 7 of the Plan (but not otherwise) enter into any compromise or arrangement with respect to or may release or forbear to exercise all or any of its rights as shareholder whether in connection with a plan of reconstruction or amalgamation or otherwise and may accept in or towards satisfaction of all or any of such rights such consideration as such Participant shall direct whether in the form of cash or stock shares debentures debenture stock or obligations or securities without the Trustees being in any way liable or responsible for any loss resulting from complying with any such direction or any liability or increased liability of such Participant to tax or in respect of any inadequacy or alleged inadequacy 4 in the nature or amount of such consideration. (b) The Trustees shall not be liable or responsible for any loss or any liability or increased liability of a Participant to tax arising out of the failure of such Participant to give a direction to the Trustees or the failure of such Participant to give a direction to the Trustees within a particular time or if the Participant has directed the Trustees to use their discretion in any way arising out of the bona fide exercise by the Trustees of that discretion. 7 Accountability for PAYE and other deductions The Participating Companies or the Trustees shall account to the Inland Revenue or other authority concerned for any amounts deducted from payments made pursuant to the Plan in respect of income tax or any other deductions required by statute in accordance with paragraph 7 of Schedule 10 to the Act. 8 Maintenance of trust records (a) The Trustees shall make proper arrangements for the preparation and preservation of all necessary accounts (including the accounts of individual employees) records and other documents necessary to carry out their obligations in connection with the proper administration of the Plan and the Participating Companies hereby undertake to make available to the Trustees all facilities and information necessary to ensure that full compliance is made with the provisions of the Plan. (b) The Trustees shall submit to the Company such reports or other information as it may reasonably require for the purpose of ensuring that the Plan is properly administered and without prejudice to the generality of the foregoing the Trustees shall submit to the Company copies of all documents including the annual returns which have been supplied to the Inland Revenue within twenty-one days of their being so supplied. 9 Securities may be placed in custody (a) The Trustees may place the documents of title to any securities for the time being in their possession in connection with the trusts hereof in any bank or safe deposit and shall not be responsible for any losses incurred by so doing. (b) At any time when there is more than one Trustee, the Trustees shall be entitled to procure that any one or more of them may be registered as proprietor of any property held by them upon the trusts of this deed. 5 10 Extension of the Plan to other Subsidiaries (a) The Plan may with the consent of the Company be extended to any Subsidiary by the adherence of such Subsidiary to this deed by supplemental deed in the form set out in Schedule 4. (b) The Plan shall forthwith cease to extend to any Participating Company other than the Company when: (i) that company ceases to be a Subsidiary; or (ii) a notice is served by the Company upon the Trustees and the Participating Company that the Plan shall thereafter cease to apply to that Participating Company; or (iii) a Participating Company withdraws from the Plan on such conditions as may be agreed by the Company; but such cessation shall not affect the subsisting rights of beneficiaries under the Plan which may have arisen hereunder prior to such cessation and shall in no circumstances cause the Company to breach the provisions of paragraph 2(3)(b) of Schedule 9 to the Act. (c) The Company shall notify the Board of Inland Revenue of any changes in Participating Companies pursuant to Clause 10(a) or 10(b) as soon as is practicable thereafter. 11 Duties of Participating Companies (a) If and so long as any company is a Participating Company it shall: (i) contribute and pay to the Trustees in accordance with Rule 4 such sums as are required by the Trustees to acquire Shares to be appropriated as Plan Shares for Eligible Employees of that Participating Company together with that proportion of the sums required to meet the reasonable expenses of the Trustees in operating and administering the Plan in respect of the Eligible Employees of that Participating Company; and (ii) provide the Trustees with all information reasonably required from it for the purposes of the administration and operation of the Plan in such form as the Trustees may reasonably require. (b) Any company which ceases to be a Participating Company shall remain liable to meet its fair proportion of the expenses of the Trustees. 12 Indemnities (a) The Trustees shall not be liable to satisfy any monetary obligations under the Plan (including but without prejudice to the generality of the foregoing any monetary obligations to Participants) beyond the sums of money (including income) from time to time in their hands or under their control as Trustees of 6 the Plan and properly applicable for that purpose. (b) The Trustees shall comply with any directions given by the Company pursuant to the Rules of the Plan and shall not be under any liability in respect thereof to the Company or to any Participant. (c) The Trustees their officers and employees shall have the benefit of all indemnities conferred upon trustees generally by law and the Company shall indemnify and keep the Trustees their officers and employees indemnified against all claims losses demands actions charges expenses costs taxes duties and other liabilities arising out of or in connection with anything lawfully done or caused to be done by the Trustees their officers and employees in the exercise of the powers and discretions vested in the Trustees by this trust deed or otherwise arising howsoever out of or in connection with the proper administration and operation of the Plan other than when due to the Trustees' own negligence fraud or misfeasance or that of their servants or agents. 13 Additional powers given to Trustees (a) The Trustees shall have the following powers and discretions in addition to those conferred by the general law: (i) power and discretion to agree with the Company all matters relating to the operation and administration of the trusts of this deed and so that no person claiming an interest under this trust shall be entitled to question the legality or correctness of any arrangement or agreement made between the Company and the Trustees in relation to such operation and administration; (ii) the Trustees may from time to time in writing authorise such other person or persons whether or not a Trustee as the Trustees shall think fit to draw and endorse cheques and to give receipts and discharges for any monies or other property payable transferable or deliverable to the Trustees and every such receipt or discharge shall be as valid and effectual as if such receipt or discharge were given by the Trustees; (iii) the production of a written authority of the Trustees given pursuant to sub-paragraph (a)(ii) of this Clause shall be a sufficient protection to any person taking any such receipt or discharge as is mentioned in sub-paragraph (a)(ii) of this Clause and (unless that person shall have received express notice in writing of the revocation of the authority) he shall be entitled to assume and act upon the assumption that the authority remains unrevoked. (b) Monies not held for the benefit of any particular Participant may be invested or laid out in the purchase of or at interest upon the security of such stocks shares securities or other short-term investments as the Trustees shall in their absolute discretion think fit to the extent that (subject to the overriding obligation of the Trustees to fulfil their obligations under the Rules of the Plan) the Trustees shall have the same full and unrestricted powers of 7 investing and transposing investments and laying out monies in all respects as if they were absolutely entitled thereto beneficially and without regard to any requirement as to diversification and in the professed execution of this power the Trustees shall not be liable for any loss arising from any investment or purchase made in good faith. 14 Administration (a) So long as there is no sole corporate Trustee: (i) the Trustees may meet together for the despatch of business adjourn and otherwise regulate their meetings as they think fit. The quorum for any meeting of the Trustees shall be two and questions arising shall be decided by a majority of votes and in case of equality of votes the chairman or if there is no permanent chairman the chairman of the meeting (who shall be elected by the meeting) shall have a second or casting vote; (ii) a resolution in writing signed by all the Trustees for the time being shall be as valid and effectual as a resolution passed at a meeting of the Trustees. Such resolution may be contained in one document or in several documents in like form each signed by one or more of the Trustees for the time being; (iii) a meeting of the Trustees at which a quorum is present shall be competent to exercise all the powers and discretions exercisable by the Trustees generally; (iv) the Trustees may from time to time delegate any business to any one or more of their number. (b) A Trustee being a company may in its capacity as a Trustee hereof act by its officers and may by such officers have and exercise all powers trusts and discretions vested in it hereunder. (c) The Trustees shall cause proper minutes to be kept and entered in a book provided for the purpose of all their resolutions and proceedings and any such minutes of any meeting of the Trustees if purported to be signed by the chairman of such meeting or by the chairman of a subsequent meeting shall be admissible as prima facie evidence of the matters stated in such minutes. (d) The Trustees may employ and act on the advice or opinion of any solicitor broker actuary accountant or other professional or business person whether such advice was obtained by the Trustees or by the Company and shall not be responsible for any loss occasioned by their so acting. The Company shall meet the expenses of such advice or opinions to the extent that it, in its sole discretion, considers such expenses to be reasonable. (e) The Trustees may employ and fix the proper remuneration of any agent or agents to transact all or any business of whatsoever nature required to be done in the administration of the trusts powers and provisions hereof. 8 (f) The Trustees may execute or authorise the execution or delivery by any agent of theirs of any deeds documents or other instruments by the impression of the Trustees' signatures in writing printing lithograph photocopying and other modes of representing or reproducing words in a visible form. 15 Remuneration of Trustees (a) Any individual Trustee shall be entitled to receive and retain as remuneration for his services hereunder such sum or sums as the Company may from time to time resolve to pay to him. (b) Any Trustee being a solicitor broker actuary accountant or other person engaged in any profession or business shall be entitled to be paid all usual professional or proper charges for business transacted time expended and acts done by him or by any employee or partner of his firm in connection with the Plan including acts which a Trustee not being in any profession or business could have done personally. (c) Any Trustee being a company may charge and be paid such reasonable remuneration or charges as shall from time to time be agreed in writing between the Company and such company and any such company (being a bank) shall be entitled subject to the written consent of the Company, to act as banker and perform any services in relation to the Plan on the same terms as would be made with a customer in the ordinary course of its business as a banker, without accounting for any resultant profit including without prejudice to the generality of the foregoing clause retention of its customary share of brokerage commission. 16 Permitted dealings of Trustees A Trustee and any director or other officer of a company acting as a Trustee hereof shall not be precluded thereby from acquiring holding or dealing with any debentures debenture stock shares or securities whatsoever of the Company or any Participating Company or any other company in which the Trustees may be interested or from entering into any contract or other transaction with the Company or any Participating Company or any such transaction and shall not be in any way liable to account to any Participant or to the Trustees or the Company or any Participating Company for any profits made or benefits obtained in connection therewith. 17 Appointment Resignation and Removal of Trustees (a) The Company may at any time by supplemental deed: (i) remove without notice any Trustee being an individual from the office of trustee without assigning any reason therefor; (ii) remove without assigning any reason therefor any Trustee being a company from the office of trustee upon giving to such Trustee not less than three months' written notice or such shorter notice as such Trustee may accept. 9 (b) The minimum number of Trustees shall be three (unless a company shall be a trustee hereof in which case the minimum number shall be one) except in the case of the death incapacity or resignation of a Trustee in which case the minimum number shall be two until such time as a new Trustee be appointed. (c) The Company shall ensure that one Trustee or any sole corporate Trustee shall at all times be resident for tax purposes in the United Kingdom. (d) A Trustee may resign from the trusts hereby constituted at any time by giving to the Company written notice and the Company shall accept such written notice within the following three months and the retiring Trustee shall thereupon resign and shall not be responsible for any costs occasioned by such resignation or be under any liability whatsoever in relation to the trusts hereof or the Plan or any monies or other property subject thereto or any matter arising hereunder in relation to the trusts hereof or the Plan or any monies in relation hereto except in the case of fraud wilful wrongdoing or gross negligence on the part of the resigning Trustee. (e) The Trustees shall be entitled to rely without further enquiry on all information supplied to the Trustees by the Company or where relevant a Participating Company for the purposes of the Plan. 18 Delegation of administration by the Company and other matters (a) The Company may at any time with the consent of the Trustees delegate in writing to any other Participating Company or that Participating Company's duly authorised officers any of its powers and duties hereunder or any business including the exercise of any discretion or the formation of any opinion to any person or company provided always that the Company shall not delegate the duties imposed on it: (i) under Clause l0(a) of this deed; (ii) under Clause 12(c) of this deed; (iii) under Clause 17(a) of this deed; (iv) under Clause l9(a) of this deed; (v) under Clause 20(a) of this deed; (vi) under Rule 15. (b) Except as otherwise provided in this deed or in the Rules of the Plan the powers and discretions exercisable by any Participating Company in relation to the Plan shall be exercisable in the case of the Company by the Committee and otherwise by resolution of the directors of such Participating Company and a copy of any resolution signed or purporting to be signed by the secretary or any director of such company shall be sufficient authority to the Trustees to act thereunder. 10 (c) The Trustees shall be entitled to rely without further enquiry on all information supplied to the Trustees by the Company or where relevant a Participating Company for the purposes of the Plan. 19 Duration and Winding up of the Plan (a) The Plan shall terminate on the expiry of the Trust Period or on the expiry of thirty days' notice in writing to the Trustees following a resolution to that effect by the Company and references throughout this deed to a termination of the Plan shall be taken to be a termination as here provided. (b) On or after the termination of the Plan no further sums shall be paid to the Trustees by the Participating Companies save that all Participating Companies shall remain liable to pay their just proportion of the costs charges and expenses of the Plan. (c) Following any termination of the Plan the Trustees shall remain responsible for the completion of their obligations thereunder. (d) The perpetuity period applicable to this deed shall be the period of eighty years from the date hereof. 20 Modification of the Deed and Rules of the Plan (a) The Company with the consent of the Trustees may at any time and from time to time in the case of this deed by deed supplemental hereto and in the case of the Rules of the Plan by resolution of the Directors modify or extend the Plan in any respect (such modification or extension being referred to in this Clause as a "modification") provided that: (i) no modification shall alter to the disadvantage of any Participant his rights in respect of any Plan Shares appropriated before the date of such modification as the case may be; (ii) no modification shall impose onerous obligations on the Trustees or vary modify or alter to the disadvantage of the Trustees the provisions for their protection and indemnity contained herein or in the Rules without the written agreement of the Trustees; (iii) no modification shall be made which would or might infringe any rule against perpetuities; (iv) no modification to the Plan shall take effect unless the approval of the Board of Inland Revenue to the Plan as amended thereby shall have first been obtained. (b) The Company may subject to provisos (ii) and (iii) of sub-Clause (a) of this Clause but notwithstanding the remaining provisions of that sub-Clause and without otherwise obtaining the prior approval thereto of any other person amend the Plan in any way which may be necessary in order to secure the initial approval of the Plan by the Board of Inland Revenue under Part I of Schedule 9 to the Act. 11 (c) Any amendment made in accordance with the provisions of this Clause shall be binding upon all persons from time to time interested in the Plan including the Company and any Participating Company. 21 Supremacy of Trust Deed over Rules The Trustees' rights duties and powers are regulated by this deed and by the Rules and in the case of inconsistency or conflict between the provisions of the deed and of the Rules the provisions of this deed shall prevail. 22 Governing Law This deed is to be construed in accordance with the laws of England. IN WITNESS WHEREOF these presents have been entered into the day and year first above written. THE COMMON SEAL of Morgan Stanley, Dean Witter, Discover & Co. was hereunto affixed in the presence of: Director Secretary THE COMMON SEAL of Morgan Stanley UK Group was hereunto affixed in the presence of: Director Secretary THE COMMON SEAL of Morgan Stanley International, Inc. was hereunto affixed in the presence of: Director 12 Secretary THE COMMON SEAL of NOBLE LOWNDES SETTLEMENT TRUSTEES LIMITED was hereunto affixed in the presence of: Director Authorised Signatory 13 SCHEDULE 1 (List of Participating Companies) Name Registered Office Morgan Stanley UK Group 25 Cabot Square Canary Wharf London E14 4QA Morgan Stanley International, Inc 1013 Center Road Wilmington Delaware DE 19805 14 SCHEDULE 2 MORGAN STANLEY UK GROUP PROFIT SHARING PLAN RULES 1 Definitions In this Plan except where the context otherwise requires, the following expressions shall have the following meanings: "the Act" the Income and Corporation Taxes Act 1988; "to appropriate" to vest a beneficial interest in Shares (subject to the provisions of the deed and the Rules of this Plan) in an Eligible Employee and the expression "Appropriation" shall be construed accordingly; "Appropriate Percentage" the percentage of the Locked-in Value charged to income tax under Schedule E computed in accordance with the provisions of paragraph 3 of Schedule 10 to the Act; "Appropriation Date" such date on which Plan Shares are appropriated to a Participant pursuant to Rule 4(a)(iv); "the Auditors" the auditors of the Company for the time being or in the event of there being joint auditors such one of them as the directors shall select; "Base Salary" such part of an individual's annual remuneration as is expressed by his original offer letter (as amended or varied by the Company from time to time orally or in writing) to be his annual base pay excluding overtime night premium bonuses commissions quarterly compensation profit pools expense allowance and any other form of special compensation provided always that where an individual becomes an Eligible Employee during a Qualifying Period his Base Salary for the purposes of this Plan for that 15 Qualifying Period shall be that part of his annual base pay earned by him from the date he became an Eligible Employee to the end of that Qualifying Period; "the Brokers" the firm or company which is appointed for the time being by the Trustees to act as stockbrokers for the purposes of this Plan; "Capital Receipt" a receipt by the Trustees of money or money's worth in respect of Plan Shares as defined in section 186(3) of the Act; "the Company" Morgan Stanley, Dean Witter, Discover & Co. ; "the Committee" the United Kingdom Profit Sharing Committee comprising such persons as the Board of Directors of the Company may determine from time to time; "Continuous Service" continuous service within the meaning of the Employment Rights Act 1996; "Control" the meaning given by section 840 of the Act; "Eligible Employee" an individual (not being a person who is ineligible to participate in this Plan by virtue of paragraphs 8 or 35(1) or 35(2) of Schedule 9 to the Act) who: (a) is a director or employee of a Participating Company who (if a director) normally devotes to his duties 25 hours or more per week (excluding meal breaks); and (b) not less than one month before the Qualification Date had Qualifying Service; and (c) is chargeable to tax under Case I of Schedule E; or (d) is such other person as the Committee may in its absolute discretion determine substantially to have qualified within this definition but who strictly would not otherwise qualify because of a temporary 16 change of employer or for another reason) provided that no individual shall be determined to have qualified unless he is an employee or director of a Participating Company; "Employee Shares" all Shares which are not Plan Shares by reason only of the passing of the Release Date; "Initial Market Value" the Relevant Value as defined herein; "Letter of Acceptance" a letter in the form (or substantially in the form) of Schedule 3 Part B; "Letter of Offer" a letter in the form (or substantially in the form) of Schedule 3 Part A; "Locked-in Value" the locked-in value as defined in section 186(5) of the Act but so that references in that section to "initial market value" shall be taken as references to Initial Market Value as defined herein; "Participant" an Eligible Employee to whom shares have been appropriated pursuant to this Plan; "Participating Company" (a) the Company; (b) the company or companies listed in Schedule 1 hereof; and (c) any other Subsidiary of the Company to which this Plan is extended by deed supplemental hereto in accordance with Clause l0(a) of the deed; "Participation Level" in respect of Eligible Employees such percentage of their Base Salary as the Committee shall determine provided that the percentage so determined shall be the same for all Eligible Employees; "PAYE deduction" a deduction made pursuant to paragraph 7 of Schedule 10 to the Act; 17 "this Plan" Morgan Stanley UK Group Profit Sharing Plan; "Plan Shares" Shares appropriated to Eligible Employees in accordance with the provisions of this Plan provided always that such Shares shall cease to be Plan Shares at the later of the expiry of the Retention Period and the passing of the Release Date; "Qualification Date" 31 December in any year; "Qualifying Service" one year's Continuous Service as an employee or director of any one or more companies under the Control of the Company which for the purpose of this Plan shall be taken to have been so served on the first day of the month following the completion of twelve complete months' service aforesaid; "Qualifying Period" the period commencing 1 January in any year and ending on 31 December in the same year or such other accounting reference period of the Company or such part thereof as may be determined by the Committee; "Release Date" the date prescribed by section 187(2) of the Act; "Relevant Value" the value arrived at by dividing the aggregate consideration paid in Pounds Sterling (excluding the amount attributable to the expenses of acquisition) by the Trustees to acquire Shares by purchase through the New York Stock Exchange within the thirty days immediately prior to the Appropriation Date by the total number of Shares so acquired or such other value as may, from time to time, be agreed between the Board of Inland Revenue and the Trustees pursuant to paragraph 30(4)(b) of Schedule 9 to the Act; "Retention Period" in relation to any Share appropriated as a Plan Share the period commencing on the date such Plan Share is appropriated and ending on the occurrence of the earliest of the following events: (i) the second anniversary of the date such 18 Plan Shares were appropriated; (ii) the date the Participant ceases to be an employee of a Participating Company by virtue of the occurrence of any of the following: (a) death; (b) injury or disability; (c) redundancy (within the meaning of the Employment Rights Act 1996); (iii) the date the Participant reaches age 60; "Shares" Shares of Common Stock in the capital of the Company satisfying the provisions of paragraphs 10 to 12 and 14 of Schedule 9 to the Act; "Subsidiary" a company under the Control of the Company; "the Trustees" the trustees or such other persons who are the trustees from time to time; "Trust Period" the period of 79 years from the date hereof; "Working Day" any day other than Saturdays Sundays public holidays and any date on which the Company is closed for business; "Year of Assessment" a year starting on 6 April and ending on the following 5 April. 2 Annual implementation As soon as practicable and in any event no later than the end of each Qualifying Period the Committee shall: (a) determine whether the Plan is to operate in respect of that relevant Qualifying Period; and (b) determine the Participation Level for Eligible Employees. 3 Admission to the Plan Within the period of three months before the end of a Qualifying Period for which the 19 Plan is to operate Eligible Employees shall be issued by the Committee with: (a) a Letter of Offer; and (b) a Letter of Acceptance to be completed signed and returned to the Company or if the Company shall so determine to the Committee on behalf of the Company within such period as shall be specified by the Committee or such person as may be designated by the Committee for such purpose being not less than 10 days from such issue. An Eligible Employee must complete a new Letter of Acceptance on each occasion on which he wishes to receive an appropriation of Shares under the Plan. 4 Appropriations (a) So soon as is practicable prior to each Appropriation Date: (i) the Trustees shall be notified by the Committee of the names of those Eligible Employees who have properly executed and delivered a Letter of Acceptance and shall also notify their Base Salaries the Participation Level and such further information as the Trustees may reasonably require to comply with their duties under Rule 5; (ii) the Committee shall notify the Trustees of the total contributions to be made to the Trustees pursuant to this Rule by aggregating the amounts obtained by multiplying each Eligible Employee's Base Salary by the Participation Level and shall also notify each Participating Company of its share thereof in respect of each such Participating Company's Eligible Employees; (iii) the Committee shall procure that each Participating Company contributes its relative proportion of the amount required by the Trustees to purchase the number of Shares which are to be appropriated as Plan Shares to its Eligible Employees and each Participating Company shall pay its respective contribution to the first named Participating Company which shall pay all such contributions as agent of the other Participating Companies together with its own contribution to the Trustees; (iv) the Trustees shall acquire as promptly as practicable following the making of such contributions to them such whole number of Shares as may be acquired out of the contributions made to them in accordance with the following procedures: (aa) where the Trustees have howsoever been offered Shares they may or they may instruct the Brokers to purchase such Shares provided that such purchase shall be at arm's length at a fair market value which shall be deemed to be the average of the high and low prices of a Share on the New York Stock Exchange on the next preceding day on which transactions are made on that exchange; 20 (bb) where no such offer as is mentioned in Rule 4(a)(iv)(aa) has been received by the Trustees or they have not acquired through any purchase pursuant to Rule 4(a)(iv)(aa) sufficient Shares they shall instruct the Brokers to acquire as promptly as practicable at the best available price such whole number of Shares as may be acquired out of the contributions or any balance of the contributions remaining as the case may be; (v) immediately following the relevant Qualification Date the Committee shall if necessary notify the Trustees of any Eligible Employee who was not a director or employee of a Participating Company on that Qualification Date and no Shares shall be appropriated in respect of a Qualifying Period to any such Eligible Employee. (b) As an alternative to the procedures described in Rule 4(a), as soon as reasonably practicable prior to each Appropriation Date, the Committee shall advise the Trustees of the names and addresses of such Eligible Employees and the extent of their respective participation on the relevant Appropriation Date. As soon as reasonably practicable after the Committee has advised the Trustees of the Entitlements, the Trustees shall acquire the number of Shares necessary for appropriation to such Eligible Employees less the number of unappropriated Shares held. Within three working days of the acquisition of such Shares, the aggregate of the amounts due shall be paid to the Trustees by each Participating Company (or by the first named Participating Company acting as its agent) in respect of such Eligible Employees employed by it. The Shares shall be appropriated to each such Eligible Employee on the basis described in Rule 4(e). (c) Shares not appropriated within 18 months after the date of acquisition by the Trustees shall be sold for the best consideration in money that can reasonably be obtained and the net proceeds shall be applied in the discharge of the administrative expenses of this Plan. For this purpose Shares acquired at an earlier time shall be taken to be appropriated before Shares of the same class acquired at a later time. (d) Where the Trustees acquire Shares to be held as Plan Shares and some of those Shares carry rights not carried by every other Share such Shares shall so far as practicable be appropriated pro-rata to each Eligible Employee entitled to an Appropriation of Plan Shares on the relevant Appropriation Date. Plan Shares shall rank pari passu with all other shares of the same class. (e) On the Appropriation Date the Trustees shall appropriate to each Eligible Employee such number of Shares as is obtained by dividing (i) the product of that Eligible Employee's Base Salary and the Participation Level by (ii) the Relevant Value and 21 (iii) rounding the resultant number of Shares down to the next nearest whole number of Shares. (f) Shares appropriated to Eligible Employees pursuant to Rule 4(e) shall be appropriated at the Relevant Value. (g) The Trustees shall as soon as practicable notify each Eligible Employee to whom Plan Shares have been appropriated of: (i) the number and description of the Plan Shares; (ii) their Relevant Value; and (iii) their Appropriation Date. 5 Limits on Appropriations of Plan Shares No Eligible Employee shall be entitled to have Shares appropriated to the extent that the aggregate of their Initial Market Value and the Initial Market Value of all other Shares appropriated to him under this Plan during that Year of Assessment would exceed the limit imposed for the time being in paragraph 30(3) of Schedule 9 to the Act. For this purpose a Participant's salary shall be where expressed in a currency other than sterling converted by taking the United Kingdom sterling equivalent of such currency (ascertained by taking the highest buying rate of the spread for that day shown in the Financial Times) on the Working Day immediately preceding the Appropriation Date. If the Financial Times shall not be published for that day then the United Kingdom sterling equivalent shall be ascertained at the rate of exchange ruling in London at or about 11.00 am on the Working Day immediately preceding the Appropriation Date. 6 Restrictions on Dealings in Shares (a) Except as provided in Rule 7 below the Trustees: (i) shall not dispose of any Plan Shares (whether by transfer to a Participant or otherwise) before the expiry of the Retention Period; (ii) subject to (i) above shall not dispose of any Plan Shares before the Release Date except: (aa) pursuant to a direction given by or on behalf of the Participant or any person in whom the beneficial interest in his Plan Shares is for the time being vested; and (bb) by any transaction which would not involve a breach of the Participant's obligations under Rules 6(b)(iii) and (iv) below; (iii) shall at all times deal with any right conferred in respect of a Participant's Plan Shares to be allotted other shares securities or rights of any description only pursuant to a direction given by or on behalf of the Participant or any person in whom the beneficial interest 22 in his Plan Shares is for the time being vested; (iv) shall continue to hold the Plan Shares on behalf of each Participant after the Release Date until such Participant shall otherwise direct and upon receipt of such direction the Trustees shall sell the Participant's Plan Shares or transfer them into his name or the name of his nominee and the posting of a cheque or the relevant share certificate as the case may be to the Participant's last known address shall be a sufficient discharge for the Trustees. (b) Except as provided in Rule 7 below a Participant: (i) shall permit his Plan Shares to remain in the hands of the Trustees until the expiry of the Retention Period; (ii) shall not assign charge or otherwise dispose of his beneficial interest in his Plan Shares until the expiry of the Retention Period; (iii) shall not direct the Trustees to transfer the ownership of his Plan Shares to him at any time before the Release Date unless he shall pay to the Trustees before the transfer takes place a sum equal to income tax at the basic rate on the Appropriate Percentage of the Locked-in Value of the Plan Shares at the time of the direction; and (iv) shall not direct the Trustees to dispose of his Plan Shares at any time before the Release Date in any other way except by sale for the best consideration in money that can reasonably be obtained at the time of the sale. (c) The obligation placed on a Participant pursuant to Rule 6(b)(iii) above shall not bind his personal representatives. 7 Permitted Dealings in Plan Shares (a) Where it appears to the Trustees that directions to them will be made under Rules 7(a) (i) to (iii) they may give to Participants such notices and information as they in their absolute discretion deem appropriate and a Participant notwithstanding Rules 6(a) and (b) above: (i) may direct the Trustees to accept an offer for any of his Plan Shares in the circumstances mentioned in paragraph 1(1)(a), (b), (c) and (cc) of Schedule 10 to the Act; and (ii) may direct the Trustees to agree to a transaction affecting his Plan Shares if the transaction would be entered into pursuant to a compromise, arrangement or plan applicable to or affecting: (aa) all the ordinary share capital of the Company or, as the case may be, all the shares of the class in question; or 23 (bb) all the Shares or the shares of the class in question which are held by a class of shareholders identified otherwise than by reference to their employment or their participation in any other plan which is approved under Schedule 9 to the Act or this Plan; and (iii) may direct the Trustees to accept an offer of cash, with or without other assets, for his Plan Shares if the offer forms part of a general offer which is made to all holders of shares of the same class as himself or of other shares in the Company and which is made in the first instance on a condition such that if it is satisfied the person making the offer will have Control of the Company; and (iv) may direct the Trustees (but only if the Trustees are able to do so and signify their consent accordingly) after the expiry of the Retention Period to sell the beneficial interest in his Plan Shares to the Trustees for the same consideration as in accordance with Rule 6(b)(iv) above would be required to be obtained for the Plan Shares themselves. (b) Where an offer is made or a compromise, arrangement or plan is proposed, whether or not falling within Rule 7(a) conferring any rights upon Participants to receive additional securities, the Trustees shall: (i) allocate such rights among the Participants concerned on a proportionate basis and if such allocation shall give rise to a right in respect of a security shall round such allocation down to the next whole security; (ii) use their best endeavours to sell any rights which are not allocated and distribute the net proceeds of sale (after deducting therefrom any expenses of sale and any taxation which may be payable by the Trustees in respect thereof) proportionately among Participants whose allocation was rounded down. 8 Receipts by Trustees Subject to their obligations under Rule 10 and Rule 13 below and to any such direction as is referred to in paragraph 4(2) of Schedule 10 to the Act the Trustees shall pay or transfer to the Participant any money or money's worth other than money or money's worth of (Pounds)3 or less received by them in respect of or by reference to, any of his Shares other than money's worth consisting of "new shares" as defined in paragraph 5(3) of Schedule 10 to the Act. 9 Company reconstruction (a) Where the Company allots any new securities by way of capitalisation to the Trustees in respect of any Participant's Plan Shares the Trustees shall: (i) allocate such securities amongst the Participants concerned on a proportionate basis and if such allocation shall give rise to a fraction of a security shall round down to the next whole security; and 24 (ii) use their best endeavours to sell any securities which are not allocated and distribute the net proceeds of sale (after deducting therefrom any expenses of sale and any taxation which may be payable by the Trustees in respect thereof) proportionately amongst the Participants whose allocation was rounded down. (b) Where the Company makes an offer or invitation conferring any rights upon its members to acquire against payment additional securities in the Company the Trustees shall: (i) allocate such rights amongst the Participants concerned on a proportionate basis and, if such allocation shall give rise to a right in respect of a fraction of a security shall round such allocation down to the next whole security; (ii) use their best endeavours to sell any rights which are not allocated and distribute the net proceeds of sale (after deducting therefrom any expenses of sale and any taxation which may be payable by the Trustees in respect thereof) proportionately amongst the Participants whose allocation was rounded down; (iii) comply with any direction from the Participant concerning the exercise or sale of any rights attributable to that Participant's Plan Shares provided that the Trustees shall not be required to exercise any such rights except to the extent that they have been provided with the full amount payable on such exercise either by the Participant concerned or with his authority out of the net proceeds of the sale nil paid of another part of the rights attributable to his Plan Shares and provided also that the Trustees may ignore and take no action in respect of any direction from a Participant which is received by them less than seven days before the last date for acceptance and payment of the rights. (c) Where the Trustees receive any securities which consist of "new shares" as defined in paragraph 5(3) of Schedule 10 to the Act in relation to any of a Participant's Plan Shares, then the Trustees shall allocate the securities to the Participant by reference to the relative times of the Appropriation of his Plan Shares and, if any such allocation should give rise to a fraction of a security, the Trustees shall subject to the Act round such allocation up or down to the next whole security as they in their absolute discretion think fit and any such new shares allocated as aforesaid shall be deemed to have been appropriated to the Participant on the day when the original holding was appropriated to him and shall be held by the Trustees on the same terms provided that this Rule shall apply subject to the restrictions contained in paragraph 5(2) of Schedule 10 to the Act. 10 Payments of Dividends Any dividends paid by the Company to the Trustees in respect of Plan Shares shall be forwarded as soon as practicable to the Participants on whose behalf the Trustees hold such Plan Shares together with particulars of the related credit. 25 11 Voting Rights In the event of a general meeting of the stockholders of the Company or any class meeting the Trustees shall notify each Participant of any resolution on which holders of any Shares held on his behalf are entitled to vote and shall invite the Participant to direct the Trustees as to how they should vote on his behalf subject to any restrictions which may be imposed by the Act. The Trustees shall not be obliged to attend and may only attend and vote on a show of hands if all specific directions received from Participants in respect of a particular resolution are identical and on a poll shall vote or lodge proxy cards only in accordance with any directions of the Participants in respect of any Shares which directions must have been returned to the Trustees in accordance with the instructions accompanying the notification. In the absence of any such direction the Trustees shall abstain from voting. 12 Rights of Employees Participation in this Plan is a matter entirely separate from any pension right or entitlement which the Eligible Employee may have and from his terms or conditions of employment and participation in the Plan shall in no respects whatever affect in any way his pension rights or entitlement or terms or conditions of employment and in particular (but without limiting the generality of the foregoing words) any Eligible Employee who leaves the employment of the Company or a Participating Company shall not be entitled to any compensation for any loss of any right or benefit or prospective right or benefit under this Plan which he might otherwise have enjoyed whether such compensation is claimed by way of damages for wrongful or unfair dismissal or other breach of contract or by way of compensation for loss of office or otherwise howsoever. 13 Duty to Account for PAYE etc (a) Where the Trustees receive a sum of money which constitutes (or forms part of): (i) the proceeds of a disposal of Plan Shares falling before the Release Date; or (ii) a Capital Receipt falling within Rule 8 above then in accordance with the provisions of paragraph 7 of Schedule 10 to the Act they shall pay out of that sum of money to: (i) the Participating Company of which the Participant is a director or employee at the time of the receipt or if more than one such one of them as the Board of Inland Revenue may direct pursuant to paragraph 7(3) of Schedule 10 to the Act; or (ii) such other company as may be directed by the Board of Inland Revenue pursuant to paragraph 7(5) of Schedule 10 to the Act 26 with the consent of the Trustees and the relevant companies an amount equal to that on which income tax is payable and the company to which the amount is paid shall then pay over that amount to the Participant but in so doing shall make a PAYE deduction provided that if the Participant shall not be employed by that company he shall be treated as a former employee. If the Participant is not an employee or director of any Participating Company or the Board of Inland Revenue makes a direction under paragraph 7(4) of Schedule 10 to the Act the Trustees shall pay over the amount to the Participant but in so doing shall deduct United Kingdom income tax at the basic rate for the time being in force on an amount equal to that on which income tax is payable. (b) Where the Trustees receive from a Participant who has directed them to transfer the ownership of his Plan Shares to him at any time before the Release Date the sum calculated in accordance with Rule 6(b)(iii) above that sum shall be treated as a PAYE deduction by the Trustees. (c) Where a Participant disposes of his beneficial interest in any of his Plan Shares to the Trustees and the Trustees are deemed by section 186(9) of the Act to have disposed of the Shares in question this Rule 13 shall apply as if the consideration payable by the Trustees to the Participant on disposal had been received by the Trustees as the proceeds of disposal of shares falling within section 186(4) of the Act. (d) The Trustees shall maintain records of all payments to the Company and sums deducted by the Trustees falling within Rule 13(a) and of all sums received from Participants falling within Rule 13(b). (e) The Trustees shall inform each Participant in writing of any facts known to them which are relevant to determining his liability (if any) to income tax under Schedule E by reason of an occurrence of an event relating to any Plan Shares appropriated to him. 14 Notices Any notice which the Trustees are required to give to any Participant in pursuance of this Plan shall be sufficiently given if delivered to him by hand or forwarded to him with his earnings if he is an Eligible Employee or in any case if sent through the post in a prepaid cover addressed to the Participant at his address last known to the Trustees including any address supplied by the Company or a Subsidiary as being his address. Any notice required to be given to the Company a Subsidiary or the Trustees shall be properly given if sent to or delivered to the secretary of the Company the secretary of the Subsidiary concerned or the first named Trustee at their respective registered or principal offices or in the case of an individual Trustee his last known address. 15 Disputes If any matter arises on or in connection with this Plan or its operation for which specific provision is not made in the Rules or in the deed to which they are scheduled or in any deed supplemental to it such matter shall be resolved dealt with or provided 27 for in such manner as the Committee shall in its absolute discretion consider appropriate after taking into account the respective interests of the Company and of the Participants. 16 Alterations No modification alteration or amendment to these Rules shall be made except in accordance with Clause 20 of the deed. 28 SCHEDULE 3 (PART A) MORGAN STANLEY UK GROUP PROFIT SHARING PLAN LETTER OF OFFER (to be printed on Morgan Stanley letterhead) DATE: TO: You are invited to participate in Morgan Stanley UK Group Profit Sharing Plan ("the Plan") with effect from [ ]. The Plan is approved by the Board of Inland Revenue under the provisions of the Income and Corporation Taxes Act 1988 ("the Act"). It is a condition of participation in the Plan that you enter into a contract with the Company in the terms of paragraph 3 of the enclosed Letter of Acceptance, which complies with the provisions of paragraph 2(2) of Schedule 9 to the Act. The Letter of Acceptance should be returned to [ ] no later than [ ] A number of other matters are referred to in this letter which are fully covered in the explanatory documentation. SIGNED: (for and on behalf of [ ]) 29 SCHEDULE 3 (PART B) MORGAN STANLEY UK GROUP PROFIT SHARING PLAN LETTER OF ACCEPTANCE To: The Directors of Morgan Stanley, Dean Witter, Discover & Co. For: The Trustees of the Morgan Stanley UK Group Profit Sharing Plan ("the Trustees") From: Name (surname) : (forename) : Personnel No : Location : Extension No : 1 I have received the Company's letter dated 19 and the explanatory booklet explaining the Morgan Stanley UK Group Profit Sharing Plan ("the Plan"). 2 I accept the invitation to participate in the Plan and agree to be bound by the Rules (including any amendments or additions which may subsequently be made thereto). 3 As required by the conditions of the trust deed constituting the Plan and in consideration of the right to participate in the Plan and receive Plan Shares I bind myself in contract with the Company and I agree to comply with the provisions of paragraph 2(2) of Schedule 9 to the Income and Corporation Taxes Act 1988 (as amended from time to time) ("the Act") in respect of all Plan Shares held by the Trustees for me so that in particular: (a) Subject to the Rules of the Plan I agree my Plan Shares shall remain in the hands of the Trustees until the expiry of the Retention Period as defined in those Rules and I agree not to assign charge or otherwise dispose of my beneficial interest in any Plan Shares until the expiry of such period; (b) If it is permitted under the Rules of the Plan for me to direct the Trustees to transfer the ownership of any Plan Shares to me before the applicable Release Date I will pay to the Trustees before any such transfer takes place a sum equal to income tax at the basic rate on the Appropriate 30 Percentage of the Locked-in Value of such Plan Shares (as defined in the Act and explained in the explanatory booklet) at the time of such direction as notified to me by the Trustees; (c) If it is permitted under the Rules of the Plan for me to direct the Trustees to dispose of any Shares appropriated to me at any time before the applicable Release Date I will not so direct the Trustees to sell other than for the best cash price then reasonably obtainable. 4 I accept that any dividend tax credit voucher (made out in the Trustees' name but representing the tax credit to which I am beneficially entitled) received by me in respect of any of my Shares will be in full satisfaction of any rights I have to the voucher under the Act. 5 I authorise and require the Trustees subject to any subsequent direction which I may give and subject to my leaving the Company other than by retirement to continue to hold my Plan Shares after the Release Date as unrestricted shares. 6 I undertake to notify the Trustees of any change in my home/external address. 7 I confirm that I am to the best of my knowledge and belief resident/not resident* for tax purposes in the United Kingdom and undertake to notify you immediately of any event which may result in a change in my residential status for tax purposes. Signed: Dated: Note: This letter should be returned to [ ] * delete whichever is not applicable. 31 SCHEDULE 4 THIS DEED is made the day of One thousand nine hundred and BETWEEN (1) Morgan Stanley, Dean Witter, Discover & Co. whose registered office is at 1209 Orange Street, Wilmington, Delaware, DE 19801 (the "Company"); (2) Noble Lowndes Settlement Trustees Limited whose registered office is at PO Box 144 Norfolk House Wellesley Road Croydon CR9 3EB ("the Trustees"); and (3) whose registered office is at ("the Subsidiary"). WHEREAS (A) This Deed is supplemental to a Deed dated and made between the Company and the Trustees (hereinafter called the "Principal Deed") whereby the Company established Morgan Stanley UK Group Profit Sharing Plan (hereinafter called "the Plan"). (B) The Subsidiary is controlled by the Company within the meaning of section 840 of the Income and Corporation Taxes Act 1988. (C) In pursuance of the power contained in Clause 10 of the Principal Deed the Company has agreed that subject to its entering into this Supplemental Deed the Subsidiary may become a Participating Company for the purposes of the Plan. 32 NOW THIS DEED WITNESSETH as follows: 1. The Company hereby agrees that the Subsidiary shall be a Participating Company for the purposes of the Plan provided that it shall be deemed not to be such a Participating Company for the purposes of the operation of Rules 3 and 4 of the Plan as from the date it ceases to be a Subsidiary within the meaning of the Plan or as from such other date as the Company may by deed declare. 2. The Subsidiary hereby covenants with the Company and with the Trustees that subject to the proviso to Clause 1 above it will observe and perform all covenants conditions and provisions contained in the Principal Deed and all the provisions of the Plan applicable to Participating Companies. IN WITNESS whereof the parties have caused this Deed to be executed the day and year first before written 33 EX-10.41 9 AMENDMENT TO THE TRUST DEED AND RULES EXHIBIT 10.41 Amendments to the Trust Deed dated November 3, 1997 among the Corporation, Morgan Stanley UK Group and Morgan Stanley International Incorporated 1. The introductory clause of Clause 17(a) of the Trust Deed is amended in its entirety to read as follows: "The Company or any Participating Company may at any time by supplemental deed:" 2. Clause 18(a) of the Trust Deed is amended in its entirety to read as follows: "The Company may at any time with the consent of the Trustees delegate in writing to any other Participating Company or that Participating Company's duly authorised officers any of its powers and duties hereunder (except that the Company's obligations under Section 12(c) to indemnify the Trustees may not be so delegated) or any business including the exercise of any discretion or the formation of any opinion to any person or company." EX-10.42 10 AMENDMENTS TO THE RULES OF THE MORGAN STANLEY UK GROUP Exhibit 10.42 Amendments to the Rules of the Morgan Stanley UK Group Profit Sharing Plan 1. The definition of "the Committee" set forth in Rule 1 of the Rules of the Morgan Stanley UK Group Profit Sharing Plan (the "Rules") (which Rules are included as Schedule 2 to the Trust Deed dated as of November 3, 1997 among Morgan Stanley Dean Witter & Co., Morgan Stanley UK Group and Morgan Stanley International Incorporated) is amended in its entirety to read as follows: "the United Kingdom Profit Sharing Committee comprising the officers and other professional employees of Office of Development, London or such other persons as the Board of Directors of the Company (or the Compensation Committee of such Board) or the board of directors of any Participating Company may designate from time to time." 2. The definition of "Eligible Employee" set forth in Rule 1 is amended by adding to the end of clause (d) thereof the following: "or was an employee or director of a Participating Company at any time within the 18 months preceding the relevant Appropriation Date." 3. Clause (v) of Rule 4(a) is amended in its entirety to read as follows: "unless the Committee determines otherwise, no Shares shall be appropriated in respect of a Qualifying Period to any individual (including any individual who was an Eligible Employee at the time such individual returned a completed Letter of Acceptance pursuant to Rule 3(b)) who was not a director or employee of a Participating Company on the relevant Qualification Date, and promptly following the relevant Qualification Date the Committee shall if necessary notify the Trustees of the identity of any such individuals to whom Shares shall not be appropriated." EX-11 11 COMPUTATION OF EARNINGS PER SHARE EXHIBIT 11 MORGAN STANLEY DEAN WITTER & CO. COMPUTATION OF EARNINGS PER SHARE (IN MILLIONS, EXCEPT SHARE DATA)
FISCAL YEAR ENDED ------------------------------------------------------------------------- NOVEMBER 30 NOVEMBER 30 NOVEMBER 30 1998 1997 1996 ---------------------- --------------------- ---------------------- BASIC: Weighted-average shares outstanding 575,822,725 574,818,233 573,356,930 ====================== ===================== ====================== Earnings: Net income $3,276 $2,586 $1,980 Less: Preferred stock dividend requirements 55 66 66 ---------------------- --------------------- ---------------------- Earnings applicable to common shares $3,221 $2,520 $1,914 ====================== ===================== ====================== Basic earnings per share $5.60 $4.38 $3.34 ====================== ===================== ====================== DILUTED: Weighted-average shares outstanding 575,822,725 574,818,233 573,356,930 Average common shares issuable under employee benefit plans 18,539,765 19,364,651 21,121,605 Average common shares issuable upon conversion of ESOP preferred stock 11,931,575 12,123,591 12,312,219 ---------------------- --------------------- ---------------------- Total weighted-average diluted shares 606,294,065 606,306,475 606,790,754 ====================== ===================== ====================== Earnings: Net income $3,276 $2,586 $1,980 Less: Preferred stock dividend requirements 47 61 62 ---------------------- --------------------- ---------------------- Earnings applicable to common shares $3,229 $2,525 $1,918 ====================== ===================== ====================== Diluted earnings per share $5.33 $4.16 $3.16 ====================== ===================== ======================
EX-12 12 RATIO OF EARNINGS TO FIXED CHARGES Exhibit 12 MORGAN STANLEY DEAN WITTER & CO. Ratio of Earnings to Fixed Charges and Ratio of Earnings to Fixed Charges and Preferred Stock Dividends (Dollars in millions) Fiscal Year 1998 1997 1996 -------- -------- -------- Ratio of Earnings to Fixed Charges Earnings: Income before income taxes(l) $5,385 $4,274 $3,117 Add: Fixed charges, net 13,614 10,898 9,026 -------- -------- -------- Income before income taxes and fixed charges, net $18,999 $15,172 $12,143 ======== ======== ======== Fixed charges: Total interest expense $13,514 $10,806 $8,934 Interest factor in rents 100 92 92 -------- -------- -------- Total fixed charges $13,614 $10,898 $9,026 ======== ======== ======== Ratio of earnings to fixed charges 1.4 1.4 1.3 Ratio of Earnings to Fixed Charges and Preferred Stock Dividends Earnings: Income before income taxes(l) $5,385 $4,274 $3,117 Add: Fixed charges, net 13,614 10,898 9,026 -------- -------- -------- Income before income taxes and fixed charges, net $18,999 $15,172 $12,143 ======== ======== ======== Fixed charges: Total interest expense $13,514 $10,806 $8,934 Interest factor in rents 100 92 92 Preferred stock dividends 87 110 101 -------- -------- -------- Total fixed charges and preferred stock dividends $13,701 $11,008 $9,127 ======== ======== ======== Ratio of earnings to fixed charges and preferred stock dividends 1.4 1.4 1.3 /(1)/ 1998 Income before income taxes does not include a cumulative effect of accounting change. "Earnings" consist of income before income taxes and fixed charges. "Fixed charges" consist of interest costs, including interest on deposits, and that portion of rent expense estimated to be representative of the interest factor. The preferred stock dividend amounts represent pre-tax earnings required to cover dividends on preferred stock. EX-13.1 13 QUARTERLY RESULTS EXHIBIT 13.1 Morgan Stanley Dean Witter * 1998 Annual report 18 QUARTERLY RESULTS (UNAUDITED) ----------------------------------------------------------------------------
(dollars in millions, 1998 FISCAL QUARTER 1997 FISCAL QUARTER except share and FIRST SECOND THIRD per share data) (RESTATED)(1) (RESTATED)(1) (RESTATED)(1) FOURTH FIRST SECOND THIRD FOURTH =================================================================================================================================== Revenues: Investment banking $ 800 $ 988 $ 819 $ 733 $ 522 $ 581 $ 818 $ 773 Principal transactions: Trading 903 1,091 499 798 869 722 778 822 Investments 72 101 (174) 90 56 136 206 65 Commissions 547 611 608 587 490 484 559 553 Fees: Asset management, distribution and administration 676 741 718 714 587 610 656 652 Merchant and cardmember 428 404 438 377 436 424 433 411 Servicing 171 232 255 270 202 184 196 180 Interest and dividends 3,933 4,213 4,283 4,007 3,369 3,197 3,570 3,447 Other 55 47 52 44 29 38 41 36 Total revenues 7,585 8,428 7,498 7,620 6,560 6,376 7,257 6,939 Interest expense 3,145 3,554 3,377 3,438 2,709 2,478 2,765 2,854 Provision for consumer loan losses 405 275 280 213 379 376 385 353 Net revenues 4,035 4,599 3,841 3,969 3,472 3,522 4,107 3,732 Non-interest expenses: Compensation and benefits 1,788 2,017 1,609 1,222 1,490 1,505 1,849 1,175 Occupancy and equipment 140 143 148 152 128 127 134 137 Brokerage, clearing and exchange fees 121 135 160 136 95 113 130 122 Information processing and communications 267 275 291 307 270 267 249 294 Marketing and business development 294 286 354 477 288 274 293 324 Professional services 128 156 176 217 93 99 127 132 Other 165 190 193 197 180 180 219 191 Merger-related expenses -- -- -- -- -- 74 -- -- Total non-interest expenses 2,903 3,202 2,931 2,708 2,544 2,639 3,001 2,375 Gain on sale of businesses -- -- -- 685 -- -- -- -- Income before income taxes and cumulative effect of accounting change 1,132 1,397 910 1,946 928 883 1,106 1,357 Provision for income taxes 441 545 284 722 357 356 428 547 Income before cumulative effect of accounting change 691 852 626 1,224 571 527 678 810 Cumulative effect of accounting change (117) -- -- -- -- -- -- -- Net income $ 574 $ 852 $ 626 $ 1,224 $ 571 $ 527 $ 678 $ 810 Earnings applicable to common shares(2) $ 559 $ 838 $ 612 $ 1,212 $ 552 $ 509 $ 663 $ 796 Basic earnings per share(3): Income before cumulative effect of accounting change $ 1.15 $ 1.44 $ 1.07 $ 2.16 $ 0.96 $ 0.88 $ 1.15 $ 1.37 Cumulative effect of accounting change (0.20) -- -- -- -- -- -- -- Net income $ 0.95 $ 1.44 $ 1.07 $ 2.16 $ 0.96 $ 0.88 $ 1.15 $ 1.37 Diluted earnings per share(3): Income before cumulative effect of accounting change $ 1.10 $ 1.37 $ 1.01 $ 2.07 $ 0.91 $ 0.84 $ 1.09 $ 1.30 Cumulative effect of accounting change (0.19) -- -- -- -- -- -- -- Net income $ 0.91 $ 1.37 $ 1.01 $ 2.07 $ 0.91 $ 0.84 $ 1.09 $ 1.30 Dividends to common shareholders $ 0.20 $ 0.20 $ 0.20 $ 0.20 $ 0.14 $ 0.14 $ 0.14 $ 0.14 Book value $ 22.48 $ 21.95 $ 22.13 $ 23.88 $ 18.70 $ 19.37 $ 20.25 $ 22.11 Average common and equivalent shares: Basic 586,751,340 581,326,618 573,170,507 560,108,890 573,410,658 577,985,371 578,082,806 580,985,871 Diluted 616,377,562 612,625,354 604,779,594 585,533,337 605,691,066 610,430,898 610,019,122 612,092,405 Stock price range(4) $52.25-70.50 $69.75-84.44 $58.06-96.88 $38.44-74.75 $32.19-43.75 $34.50-41.50 $41.00-53.88 $47.31-58.75 - -----------------------------------------------------------------------------------------------------------------------------------
(1) The quarterly results for the first, second and third quarters of fiscal 1998 have been restated to reflect the effects of the accounting change adopted in the fourth quarter, effective December 1, 1997. As a result of this restatement, net income has been decreased by $117 million, $2 million and $21 million for the first, second and third quarters of fiscal 1998, respectively. For further information regarding the change in accounting, see Note 2. (2) Amounts shown are used to calculate basic earnings per share. (3) Summation of the quarters' earnings per common share may not equal the annual amounts due to the averaging effect of the number of shares and share equivalents throughout the year. (4) Prices represent the range of sales per share on the New York Stock Exchange for the periods indicated. The number of stockholders of record at November 30, 1998 approximated 186,000. The number of beneficial owners of common stock is believed to exceed this number. 88 EX-13.2 14 SELECTED FINANCIAL DATA EXHIBIT 13.2 Morgan Stanley Dean Witter*1998 Annual Report SELECTED FINANCIAL DATA
fiscal year (1) (dollars in millions, except share data) 1998 1997 1996 1995 1994 ================================================================================================================================== INCOME STATEMENT DATA: Revenues: Investment banking $ 3,340 $ 2,694 $ 2,190 $ 1,556 $ 1,102 Principal transactions: Trading 3,291 3,191 2,659 1,685 1,614 Investments 89 463 86 121 154 Commissions 2,353 2,086 1,776 1,533 1,323 Fees: Asset management, distribution and administration 2,849 2,505 1,732 1,377 1,317 Merchant and cardmember 1,647 1,704 1,505 1,135 940 Servicing 928 762 809 680 565 Interest and dividends 16,436 13,583 11,288 10,530 8,715 Other 198 144 126 115 127 - ---------------------------------------------------------------------------------------------------------------------------------- Total revenues 31,131 27,132 22,171 18,732 15,857 Interest expense 13,514 10,806 8,934 8,190 6,697 Provision for consumer loan losses 1,173 1,493 1,214 722 530 - ---------------------------------------------------------------------------------------------------------------------------------- Net revenues 16,444 14,833 12,023 9,820 8,630 - ---------------------------------------------------------------------------------------------------------------------------------- Non-interest expenses: Compensation and benefits 6,636 6,019 5,071 4,005 3,535 Other 5,108 4,466 3,835 3,464 3,133 Merger-related expenses -- 74 -- -- -- Relocation charge -- -- -- 59 -- - ---------------------------------------------------------------------------------------------------------------------------------- Total non-interest expenses 11,744 10,559 8,906 7,528 6,668 - ---------------------------------------------------------------------------------------------------------------------------------- Gain on sale of businesses 685 -- -- -- -- - ---------------------------------------------------------------------------------------------------------------------------------- Income before income taxes and cumulative effect of accounting change 5,385 4,274 3,117 2,292 1,962 Provision for income taxes 1,992 1,688 1,137 827 705 - ---------------------------------------------------------------------------------------------------------------------------------- Income before cumulative effect of accounting change 3,393 2,586 1,980 1,465 1,257 Cumulative effect of accounting change (117) -- -- -- -- - ---------------------------------------------------------------------------------------------------------------------------------- Net income $ 3,276 $ 2,586 $ 1,980 $ 1,465 $ 1,257 - ---------------------------------------------------------------------------------------------------------------------------------- Earnings applicable to common shares(2) $ 3,221 $ 2,520 $ 1,914 $ 1,400 $ 1,192 - ---------------------------------------------------------------------------------------------------------------------------------- PER SHARE DATA: Earnings per common share(3): Basic before cumulative effect of accounting change $ 5.80 $ 4.38 $ 3.34 $ 2.37 $ 2.01 Cumulative effect of accounting change (0.20) -- -- -- -- - ---------------------------------------------------------------------------------------------------------------------------------- Basic 5.60 4.38 3.34 2.37 2.01 - ---------------------------------------------------------------------------------------------------------------------------------- Diluted before cumulative effect of accounting change 5.52 4.16 3.16 2.26 1.93 Cumulative effect of accounting change (0.19) -- -- -- -- - ---------------------------------------------------------------------------------------------------------------------------------- Diluted 5.33 4.16 3.16 2.26 1.93 - ---------------------------------------------------------------------------------------------------------------------------------- Book value per common share 23.88 22.11 18.43 15.63 13.38 Dividends per common share 0.80 0.56 0.44 0.32 0.25 BALANCE SHEET AND OTHER OPERATING DATA: Total assets $ 317,590 $ 302,287 $ 238,860 $ 181,961 $ 159,477 Consumer loans, net 15,209 20,033 21,262 19,733 14,731 Total capital(4) 37,922 33,577 31,152 24,644 20,933 Long-term borrowings(4) 23,803 19,621 19,450 14,636 12,352 Shareholders' equity 14,119 13,956 11,702 10,008 8,581 Return on average common shareholders' equity 24.5% 22.0% 20.0% 16.4% 15.8% Average common and equivalent shares(2) (3) 575,822,725 574,818,233 573,356,930 590,144,217 594,212,948 ==================================================================================================================================
(1) Fiscal 1994 through fiscal 1996 represents the combination of Morgan Stanley Group Inc.'s financial statements for the fiscal years ended November 30 with Dean Witter, Discover & Co.'s financial statements for the years ended December 31. (2) Amounts shown are used to calculate basic earnings per common share. (3) Earnings per share data for fiscal 1994 through fiscal 1997 have been restated to reflect the Company's adoption of SFAS No. 128. (4) These amounts exclude the current portion of long-term borrowings and include Capital Units and Preferred Securities Issued by Subsidiaries. 6 EX-13.3 15 MANAGEMENT'S DISCUSSION AND ANALYSIS EXHIBIT 13.3 Morgan Stanley Dean Witter * 1998 Annual Report MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS INTRODUCTION - -------------------------------------------------------------------------------- THE COMPANY On May 31, 1997, Morgan Stanley Group Inc. ("Morgan Stanley") was merged with and into Dean Witter, Discover & Co. ("Dean Witter Discover") (the "Merger"). At that time, Dean Witter Discover changed its corporate name to Morgan Stanley, Dean Witter, Discover & Co. ("MSDWD"). In conjunction with the Merger, each share of Morgan Stanley common stock then outstanding was converted into 1.65 shares of MSDWD's common stock (the "Exchange Ratio"). In addition, each share of Morgan Stanley preferred stock was converted into one share of a corresponding series of preferred stock of MSDWD. The Merger was treated as a tax-free exchange. On March 24, 1998, MSDWD changed its corporate name to Morgan Stanley Dean Witter & Co. (the "Company"). The Company is a pre-eminent global financial services firm that maintains leading market positions in each of its businesses -- Securities and Asset Management, and Credit and Transaction Services. The Company combines global strengths in investment banking (including underwriting public offerings of securities and mergers and acquisitions advice) and institutional sales and trading, with strengths in providing investment and global asset management services to its customers and in providing quality consumer credit products primarily through its Discover Card brand. BASIS OF FINANCIAL INFORMATION AND CHANGE IN FISCAL YEAR-END The Company's consolidated financial statements give retroactive effect to the Merger, which was accounted for as a pooling of interests. The pooling of interests method of accounting requires the restatement of all periods presented as if Dean Witter Discover and Morgan Stanley always had been combined. The consolidated statement of changes in shareholders' equity reflects the accounts of the Company as if the additional preferred and common stock had been issued during all of the periods presented. Prior to the Merger, Dean Witter Discover's year ended on December 31 and Morgan Stanley's fiscal year ended on November 30. Subsequent to the Merger, the Company adopted a fiscal year-end of November 30. In recording the pooling of interests combination, Dean Witter Discover's financial statements for the year ended December 31, 1996 were combined with Morgan Stanley's financial statements for the fiscal year ended November 30, 1996 (on a combined basis, "fiscal 1996"). The Company's results for the 12 months ended November 30, 1998 ("fiscal 1998") and November 30, 1997 ("fiscal 1997") reflect the change in fiscal year-end. Fiscal 1997 includes the results of Dean Witter Discover that were restated to conform to the new fiscal year-end date. The Company's results of operations for fiscal 1997 and fiscal 1996 include the month of December 1996 for Dean Witter Discover. Certain reclassifications have been made to prior-year amounts to conform to the current presentation. All material intercompany balances and transactions have been eliminated. RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- CERTAIN FACTORS AFFECTING RESULTS OF OPERATIONS* The Company's results of operations may be materially affected by market fluctuations and by economic factors. In addition, results of operations in the past have been and in the future may continue to be materially affected by many factors of a global nature, including economic and market conditions; the availability of capital; the level and volatility of equity prices and interest rates; currency values and other market indices; technological changes and events (such as the increased use of the Internet and the Year 2000 issue); the availability of credit; inflation; and legislative and regulatory developments. Such factors also may have an impact on the Company's ability to achieve its strategic objectives on a global basis, including (without limitation) continued increased market share in its securities activities, growth in assets under management and the expansion of its Discover Card brand. The Company's Securities and Asset Management business, particularly its involvement in primary and secondary markets for all types of financial products, including derivatives, is subject to substantial positive and negative fluctuations due to a variety of factors that cannot be predicted with great certainty, including variations in the fair value of securities and other financial - -------------------------------------------------------------------------------- *This Management's Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements as well as a discussion of some of the risks and uncertainties involved in the Company's businesses that could affect the matters referred to in such statements. 23 Morgan Stanley Dean Witter * 1998 Annual Report products and the volatility and liquidity of global trading markets. Fluctuations also occur due to the level of market activity, which, among other things, affects the flow of investment dollars into mutual funds and the size, number and timing of transactions or client assignments (including the realization of returns from the Company's private equity investments). In the Company's Credit and Transaction Services business, changes in economic variables may substantially affect consumer loan levels and credit quality. Such variables include the number and size of personal bankruptcy filings, the rate of unemployment and the level of consumer debt as a percentage of income. The Company's results of operations also may be materially affected by competitive factors. In addition to competition from firms traditionally engaged in the securities and asset management business, there has been increased competition from other sources, such as commercial banks, insurance companies, mutual fund groups, online service providers and other companies offering financial services both in the U.S. and globally. As a result of recent and pending legislative and regulatory initiatives in the U.S. to remove or relieve certain restrictions on commercial banks, competition in some markets that have historically been dominated by investment banks and retail securities firms has increased and may continue to increase in the near future. In addition, recent and continuing global convergence and consolidation in the financial services industry will lead to increased competition from larger diversified financial services organizations. Such competition, among other things, affects the Company's ability to attract and retain highly skilled individuals. Competitive factors also affect the Company's success in attracting and retaining clients and assets through its ability to meet investors' saving and investment needs by consistency of investment performance and accessibility to a broad array of financial products and advice. In the credit services industry, competition centers on merchant acceptance of credit cards, credit card account acquisition and customer utilization of credit cards. Merchant acceptance is based on both competitive transaction pricing and the number of credit cards in circulation. Credit card account acquisition and customer utilization are driven by offering credit cards with competitive and appealing features such as no annual fees, low introductory interest rates and other customized features targeting specific consumer groups and by having broad merchant acceptance. As a result of the above economic and competitive factors, net income and revenues in any particular period may not be representative of full-year results and may vary significantly from year to year and from quarter to quarter. The Company intends to manage its business for the long term and help mitigate the potential effects of market downturns by strengthening its competitive position in the global financial services industry through diversification of its revenue sources and enhancement of its global franchise. The Company's ability and success in maintaining high levels of profitable business activities, emphasizing fee-based assets that are designed to generate a continuing stream of revenues, managing risks in both the Securities and Asset Management and Credit and Transaction Services businesses, evaluating credit product pricing and monitoring costs will continue to affect its overall financial results. In addition, the complementary trends in the financial services industry of consolidation and globalization present, among other things, technological, risk management and other infrastructure challenges that will require effective resource allocation in order for the Company to remain competitive. GLOBAL MARKET AND ECONOMIC CONDITIONS IN FISCAL 1998 Conditions in the global financial markets were extremely turbulent during fiscal 1998. While the favorable market and economic conditions which characterized fiscal 1997 continued through much of the first and second quarters of fiscal 1998, periods of extreme volatility in the latter half of the year created difficult conditions in many global financial markets. Nevertheless, the Company's Securities and Asset Management business generated record levels of net income and net revenues and ended the fiscal year with record levels of financial advisors, customer accounts and assets, and assets under management and administration. The Company's Credit and Transaction Services business also achieved record operating results in fiscal 1998, reflecting an improvement in the credit quality of customer receivables. In the U.S., market conditions continued to benefit from the overall strength of the domestic economy. Throughout fis- 24 Morgan Stanley Dean Witter * 1998 Annual Report cal 1998, the U.S. economy was characterized by moderate levels of growth, a stable level of inflation, low unemployment, and high levels of consumer confidence and spending. However, U.S. financial markets also experienced periods of volatility. In the first half of the year, investors were concerned with the potential impact of the ongoing economic downturn in the Far East and with domestic wage inflation. Later in the year, U.S. markets were adversely affected by investor reaction to the severe economic turmoil in the Far East, Russia and other emerging market nations. Investor preferences shifted toward less-risky investments, resulting in unprecedented widening of credit spreads, reduced liquidity in the marketplace and dramatic declines in U.S. Treasury yields. In addition, equity prices declined significantly as a result of these developments. During the fourth quarter, these conditions prompted the Federal Reserve Board to lower the overnight lending rate by 0.25% on three separate occasions in an effort to increase liquidity, to minimize the risk of recession in the U.S. due to the weaknesses in foreign economies and to avert a continued global economic slowdown. The actions of the Federal Reserve Board, coupled with the continued resilience of the U.S. economy, contributed to improved conditions in the financial markets in late 1998, and both equity and bond prices rebounded. Conditions in European financial markets were generally favorable in fiscal 1998. Many European stock exchanges reached record levels during the year as the result of strong corporate earnings, merger and consolidation activity, and stable economic conditions in the first half of fiscal 1998. European financial markets also benefited from positive investor sentiment relating to the European Economic and Monetary Union ("EMU"). EMU commenced on January 1, 1999 when the European Central Bank assumed control of monetary policy for the 11 European Union countries participating in the EMU. Those national currencies of the participating countries have become fixed denominations of the euro and ultimately will cease to exist as separate currencies and will be replaced by the euro. European markets also experienced periods of extreme volatility during the year, particularly during the third quarter as investors reacted to the severe economic and financial difficulties which developed in Russia. The Russian economy was adversely affected by the difficult conditions in the Far East, declining oil prices and an unstable political infrastructure. The Russian government's decision to reschedule its domestic debt obligations and some of its external Soviet debt obligations and to devalue the ruble severely reduced investor confidence and resulted in significant levels of volatility in Russian and other financial markets. Toward the end of fiscal 1998, conditions in Europe recovered due to, among other things, lower interest rates and increased stability in the global financial markets. Market conditions in the Far East continued to be sluggish due to the ongoing financial and economic difficulties that have existed in that region since the latter half of fiscal 1997. The Japanese economy continued to be adversely affected by shrinking consumer demand, declining corporate profits, deflation and rising unemployment. These conditions contributed to the resignation of Japan's Prime Minister during the year, as well as the announcement of more aggressive fiscal, monetary and financial sector policies designed to improve the nation's rate of economic growth. However, due to the weakness of the Japanese banking system and the difficult economic conditions existing throughout the Far East, many investors were concerned that the length of time necessary for economic recovery would be longer than expected. Financial markets elsewhere in the Far East also were weak during fiscal 1998. The poor economic performance of Japan, outbreaks of political and social unrest, and crises in other emerging markets adversely affected the financial markets of many nations within the region. The worldwide market for mergers and acquisitions continued to be robust during fiscal 1998, contributing to record levels of revenues by the Company's investment banking business. The merger and acquisition market reflected ongoing consolidation and globalization across many industry sectors, as well as an increased level of deregulation and privatization. As a result, fiscal 1998 included some of the largest merger and acquisition transactions ever completed. The markets for the underwriting of securities were positively impacted by the generally favorable market and economic conditions which existed during the first half of fiscal 1998. Activity in the primary markets virtually came to a standstill in the latter part of the third quarter and the beginning of the fourth quarter. However, toward the end of fiscal 1998, activity in the primary markets, par- 25 Morgan Stanley Dean Witter * 1998 Annual Report ticularly for fixed income securities, began to strengthen as conditions in the global financial markets stabilized. In fiscal 1998, U.S. consumer demand and retail sales continued to increase at a moderate pace, despite an earlier consensus that a slowdown may have been imminent. The favorable interest rate environment that existed in the U.S. during fiscal 1998 enabled consumers to manage finances advantageously while still allowing for steady growth in consumer credit. During fiscal 1998, loan losses and personal bankruptcies appeared to level off from the record growth of industry-wide loan losses set in 1997. The Company continued to invest in the growth of its credit card business through the expansion of its Discover/NOVUS Network and by increasing its marketing and solicitation activities with respect to the Discover Card brand. FISCAL 1998 AND 1997 RESULTS FOR THE COMPANY The Company achieved net income of $3,276 million in fiscal 1998, a 27% increase from fiscal 1997. Fiscal 1998's net income included a net gain of $345 million from the sale of the Company's Global Custody business, its interest in the operations of SPS Transaction Services, Inc. ("SPS"), and certain BRAVO Card receivables ("BRAVO") (see "Results of Operations -- Business Dispositions" herein). Fiscal 1998 net income also included a charge of $117 million resulting from the cumulative effect of an accounting change. This charge represents the effect of an accounting change adopted in the fourth quarter (effective December 1, 1997) with respect to the accounting for offering costs paid by investment advisors of closed-end mutual funds, where such costs are not specifically reimbursed through separate advisory contracts (see Note 2 to the consolidated financial statements). Excluding the net gain from the sale of the businesses noted above and the charge resulting from the cumulative effect of an accounting change, fiscal 1998 income was $3,048 million, an increase of 18% from fiscal 1997. In fiscal 1997, net income was $2,586 million, an increase of 31% from fiscal 1996. Basic earnings per common share increased 28% to $5.60 in fiscal 1998 and 31% to $4.38 in fiscal 1997. Excluding the net gain from the sale of the businesses noted above and the impact of the cumulative effect of an accounting change, basic earnings per common share was $5.20 in fiscal 1998, an increase of 19% from fiscal 1997. Diluted earnings per common share increased 28% to $5.33 in fiscal 1998 and 32% to $4.16 in fiscal 1997. Excluding the net gain from the sale of the businesses noted above and the impact of the cumulative effect of an accounting change, diluted earnings per common share was $4.95 in fiscal 1998, an increase of 19% from fiscal 1997. The Company's return on average shareholders' equity was 25%, 22% and 20% in fiscal 1998, fiscal 1997 and fiscal 1996, respectively. Excluding the net gain from the sale of the businesses noted above and the impact of the cumulative effect of an accounting change, fiscal 1998's return on average shareholders' equity was 23%. BUSINESS DISPOSITIONS In fiscal 1998, the Company entered into several transactions reflecting its strategic decision to focus on growing its core Securities and Asset Management and Credit and Transaction Services businesses. In the fourth quarter of fiscal 1998, the Company completed the sale of its Global Custody business. The Company also sold its interest in the operations of SPS, a 73%-owned, publicly held subsidiary of the Company. In addition, the Company sold certain credit card receivables relating to its discontinued BRAVO Card. The Company's aggregate net pre-tax gain resulting from these transactions was $685 million. In addition, during fiscal 1998 the Company sold its Prime Option(SM) MasterCard(R) portfolio ("Prime Option"), a business it had operated with NationsBank of Delaware, N.A., and its Correspondent Clearing business. The gains resulting from the sale of these businesses were not material to the Company's results of operations or financial condition. The remainder of Results of Operations is presented on a business segment basis. With the exception of fiscal 1997's merger-related expenses, substantially all of the operating revenues and operating expenses of the Company can be directly attributed to its two business segments: Securities and Asset Management and Credit and Transaction Services. This discussion excludes the cumulative effect of the accounting change in references to fiscal 1998 net 26 Morgan Stanley Dean Witter * 1998 Annual Report income. Certain reclassifications have been made to prior-period amounts to conform to the current year's presentation. SECURITIES AND ASSET MANAGEMENT STATEMENTS OF INCOME
FISCAL FISCAL FISCAL (dollars in millions) 1998 1997 1996 =========================================================================================================== Revenues: Investment banking $ 3,340 $ 2,694 $ 2,190 Principal transactions: Trading 3,291 3,191 2,659 Investments 89 463 86 Commissions 2,317 2,059 1,776 Asset management, distribution and administration fees 2,848 2,505 1,732 Interest and dividends 13,696 10,455 8,571 Other 182 132 122 - ------------------------------------------------------------------------------------------------------------- Total revenues 25,763 21,499 17,136 Interest expense 12,519 9,633 7,902 - ------------------------------------------------------------------------------------------------------------- Net revenues 13,244 11,866 9,234 - ------------------------------------------------------------------------------------------------------------- Compensation and benefits 6,071 5,475 4,585 Occupancy and equipment 510 462 432 Brokerage, clearing and exchange fees 538 448 317 Information processing and communications 666 602 514 Marketing and business development 487 393 296 Professional services 579 378 282 Other 529 511 382 - ------------------------------------------------------------------------------------------------------------- Total non-interest expenses 9,380 8,269 6,808 - ------------------------------------------------------------------------------------------------------------- Gain on sale of businesses 323 -- -- - ------------------------------------------------------------------------------------------------------------- Income before income taxes and cumulative effect of accounting change 4,187 3,597 2,426 Provision for income taxes 1,482 1,416 880 - ------------------------------------------------------------------------------------------------------------- Income before cumulative effect of accounting change 2,705 2,181 1,546 - ------------------------------------------------------------------------------------------------------------- Cumulative effect of accounting change (117) -- -- - ------------------------------------------------------------------------------------------------------------- Net income $ 2,588 $ 2,181 $ 1,546 =============================================================================================================
SECURITIES AND ASSET MANAGEMENT Securities and Asset Management provides a wide range of financial products, services and investment advice to individual and institutional investors. Securities and Asset Management business activities are conducted in the U.S. and throughout the world and include investment banking, research, institutional sales and trading, and investment and asset management products and services for institutional and individual clients. At November 30, 1998, the Company's financial advisors provided investment services to more than 3.9 million client accounts with assets of $438 billion. The Company had the second largest financial advisor sales organization in the U.S. with 11,238 professional financial advisors and 438 branches at November 30, 1998. With several brands, including those associated with Morgan Stanley Dean Witter Advisors (formerly known as Dean Witter InterCapital), Van Kampen Investments ("VK"), Morgan Stanley Dean Witter Investment Management and Miller Anderson & Sherrerd, the Company has one of the largest global asset management operations of any full-service securities firm, with total assets under management or supervision of $376 billion at November 30, 1998. Securities and Asset Management achieved record net revenues and income of $13,244 million and $2,705 million in fiscal 1998, increases of 12% and 24%, respectively, from fiscal 1997. Fiscal 1998's net income includes a net gain of $182 million resulting from the sale of the Company's Global Custody business. Excluding the net gain from the sale of this business, income increased 16% to $2,523 million. Fiscal 1998's net income also reflects a decline in the effective income tax rate, primarily resulting from lower tax rates applicable to non-U.S. earnings. In fiscal 1997, Securities and Asset Management net revenues and net income increased 29% and 41%, respectively, from fiscal 1996. The Company's fiscal 1998 and 1997 levels of net revenues and net income in its Securities and Asset Management business reflected a strong global market for mergers and acquisitions, higher principal trading and commission revenues primarily driven by generally favorable economic conditions, increased customer trading volume, and the positive accumulation and management of client assets. In fiscal 1998, record levels of net revenues were partially offset by losses from an institutional leveraged emerging markets debt portfolio that occurred during the third quarter. The results of both years were partially offset by increased costs for incentive-based compensation, as well as increased non-compensation expenses associated with the Company's higher level of global business activities. 27 Morgan Stanley Dean Witter * 1998 Annual Report The operating results of both years were favorably impacted by the Company's focus on accumulating client assets and building fee-based assets under management and administration. Investment Banking Investment banking revenues are derived from the underwriting of securities offerings and fees from advisory services. Investment banking revenues were as follows:
FISCAL FISCAL FISCAL (dollars in millions) 1998 1997 1996 =========================================================================================== Advisory fees from merger, acquisition and restructuring transactions $1,322 $ 920 $ 848 Equity underwriting revenues 815 888 722 Fixed income underwriting revenues 1,203 886 620 - ------------------------------------------------------------------------------------------- Total investment banking revenues $3,340 $2,694 $2,190 ===========================================================================================
Investment banking revenues increased 24% and attained record levels in fiscal 1998, surpassing the Company's previous record in fiscal 1997. Revenues in fiscal 1998 benefited from increased advisory fees from merger, acquisition and restructuring transactions, as well as increased revenues from underwriting fixed income securities. Fiscal 1997's revenues reflect higher advisory fees from merger, acquisition and restructuring transactions, as well as increased revenues from underwriting both equity and fixed income securities. The worldwide merger and acquisition markets remained robust for the fourth consecutive year with more than $2.5 trillion of transactions (per Securities Data Company) announced during calendar year 1998, including record volume in the U.S. During calendar year 1998, the Company's dollar volume of announced merger and acquisition transactions increased by more than 80% over the comparable period of 1997. The high level of transaction activity reflected the continuing trend of consolidation and globalization across many industry sectors, as companies attempted to expand into new markets and businesses through strategic combinations. The sustained growth of the merger and acquisition markets, coupled with the Company's global presence and strong market share, had a positive impact on advisory fees, which increased 44% in fiscal 1998. Advisory fees from real estate transactions also were higher as compared with the prior year, driven by strong levels of market consolidation activities in the U.S. and by recovering real estate markets in Europe. The 8% increase in advisory fees in fiscal 1997 was primarily due to high transaction volumes resulting from the strong global market for merger, acquisition and restructuring activities, as well as increased revenues from real estate advisory transactions. Equity underwriting revenues decreased 8% in fiscal 1998 although continuing to reflect a high volume of equity offerings and the Company's strong market share. During the first half of fiscal 1998, the primary market for equity issuances benefited from a high volume of cash inflows into equity mutual funds, as well as from a generally favorable economic environment. Equity underwriting revenues were adversely affected by the reduced activity in the primary market in the second half of the fiscal year due to the significant uncertainty and volatility in global financial markets. Equity underwriting revenues increased 23% in fiscal 1997, primarily due to a higher volume of equity offerings and an increased market share, particularly in Europe, as compared with the prior year. In fiscal 1997, the primary market for equity issuances also benefited from a high volume of cash inflows into equity mutual funds and from a favorable economic environment. Revenues from fixed income underwriting increased 36% in fiscal 1998, primarily driven by higher revenues from issuances of global high-yield and investment grade fixed income securities. The primary market for these securities benefited from relatively low nominal interest rates which existed throughout the year and attracted many issuers to the market, as well as from periods of strong investor demand. During the latter part of fiscal 1998, the primary market was less active as increased volatility in global financial markets caused an unprecedented widening of credit spreads and a shift of investor preferences toward financial instruments with higher credit ratings. Revenues from fixed income underwriting increased 43% in fiscal 1997. The increase was primarily attributable to higher revenues from high-yield debt issuances, as the favorable market conditions which existed for much of fiscal 1997 enabled certain high-yield issuers to obtain attractive rates of financing. Fiscal 1997's fixed income underwriting revenues also were impacted by higher revenues from securitized debt issuances, resulting from the Company's continued focus on this business sector and an increase in the number of asset-backed transactions. 28 Morgan Stanley Dean Witter * 1998 Annual Report Principal Transactions Principal transactions include revenues from customers' purchases and sales of securities in which the Company acts as principal and gains and losses on securities held for resale. Principal transaction trading revenues were as follows:
FISCAL FISCAL FISCAL (dollars in millions) 1998 1997 1996 - -------------------------------------------------------------------------------------------- Equities $2,056 $1,310 $1,181 Fixed income 455 1,187 1,172 Foreign exchange 587 500 169 Commodities 193 194 137 ------ ------ ------ Total principal transaction trading revenues $3,291 $3,191 $2,659 ====== ====== ======
Principal transaction trading revenues increased 3% in fiscal 1998, primarily due to higher equities and foreign exchange trading revenues, partially offset by a decline in fixed income trading revenues. In fiscal 1997, principal trading revenues increased 20%, primarily reflecting higher equities and foreign exchange trading revenues. Equity trading revenues increased 57% to a record level in fiscal 1998, primarily reflecting higher revenues from equity cash and derivative products. The increase in revenues from equity cash products was primarily attributable to higher trading volumes in European markets, which benefited from the Company's increased sales and research coverage of the region that began in mid-1997. European equity trading revenues also benefited from generally favorable market conditions and positive investor sentiment regarding EMU. Revenues from trading equity derivative products also increased, primarily due to increased transaction volume and the high levels of market volatility that existed throughout the year, particularly in technology-related issues. Equity trading revenues increased 11% in fiscal 1997, reflecting favorable market conditions that contributed to strong customer demand and high trading volumes. The increased revenues were primarily from trading in equity cash products, as the strong rates of return generated by many global equity markets contributed to higher customer trading volumes and the continuance of high levels of cash inflows into mutual funds. Revenues also benefited from the strong performance of many foreign equity markets, particularly in Europe, which led to higher trading volumes as U.S. investors sought to increase their positions in these markets. Fixed income trading revenues decreased 62% in fiscal 1998, reflecting significantly lower revenues from investment grade, high-yield and securitized fixed income securities. Revenues from investment grade fixed income securities were adversely affected by the severe economic and financial turmoil in the Far East, Russia and emerging markets that occurred during the year. These difficult conditions caused investor preferences to shift toward higher quality financial instruments, principally to U.S. treasury securities. This negatively affected the trading of credit-sensitive fixed income securities by widening credit spreads, reducing market liquidity and de-coupling the historical price relationships between credit-sensitive securities and government securities. Revenues from high-yield fixed income securities also were impacted by the turbulent conditions in the global financial markets due to investors' concerns about the impact of a prolonged economic downturn on high-yield issuers. Revenues from securitized fixed income securities also declined, as the relatively low interest rate environment in the U.S. increased prepayment concerns and resulted in increased spreads. Fixed income trading revenues increased 1% in fiscal 1997. Revenues from trading in fixed income products were positively affected by high levels of customer trading volumes, a large amount of new debt issuances and increased demand for credit-sensitive fixed income products. Revenues from trading in high-yield debt securities and fixed income derivative products were particularly favorably impacted by these developments. Securitized debt trading revenues also increased, as the Company continued to focus on this market segment by expanding its level of activity in several key areas. Trading revenues benefited from higher revenues from trading in commercial whole loans and mortgage swaps, coupled with increased securitization volumes and innovative structures. These increases were offset by lower revenues from trading in government and investment grade corporate securities. Revenues from foreign exchange trading increased 17% to record levels in fiscal 1998. The increase was primarily attributable to high levels of customer trading volume and volatility in the foreign exchange markets. During fiscal 1998, the U.S. dollar fluctuated against major currencies due to concerns about the U.S. economy's exposure to the financial crises in the Far East and emerging markets, as well as from the Federal Reserve Board's decision to lower the overnight lending rate on three occasions during the fourth 29 Morgan Stanley Dean Witter * 1998 Annual Report quarter. Certain European currencies also experienced periods of volatility, resulting from expectations of interest rate fluctuations in anticipation of EMU and the collapse of the Russian ruble. Difficult political and economic conditions in certain Asian nations, coupled with the continued recession in Japan, also contributed to periods of high volatility in the currency markets. Foreign exchange trading revenues increased 196% in fiscal 1997, primarily resulting from the Company's increased client market share and from high levels of volatility in the foreign exchange markets. During fiscal 1997, the U.S. dollar appreciated against many currencies throughout the year due to the strong growth of the U.S. economy and continued low levels of inflation. In addition, many European currencies experienced periods of increased volatility due to uncertainty regarding the timing of EMU and the strength of the euro, while the performance of the yen was affected by sluggish economic growth in Japan. Other Asian currencies were particularly volatile during the latter half of fiscal 1997, primarily due to the depreciation of certain currencies, including Thailand's baht. Higher trading volumes and an increasing customer base also contributed to the increase in revenues. Commodities trading revenues were comparable to prior-year levels, as higher revenues from crude oil, refined energy products and electricity were partially offset by lower revenues from natural gas trading. Revenues from trading crude oil and refined energy products were impacted by energy prices that fell during much of fiscal 1998. Diminished demand for these products, partially due to the ongoing economic crisis in the Far East, coupled with high inventory levels, contributed to the decline in prices. Electricity trading revenues benefited from higher electricity prices, primarily during the summer months when the demand for electric power increased. The Company's continued presence in the electricity market and the ongoing deregulation of the industry also had a favorable impact on electricity trading revenues. Revenues from natural gas trading decreased as unseasonably warm weather in certain regions of the U.S. during the winter months reduced the demand for home heating oil, leading to a decline in prices. Commodities trading revenues increased 42% and reached record levels in fiscal 1997, benefiting from higher revenues from trading in energy products, including the Company's increased presence in the electricity markets, precious metals and natural gas. Volatility in these products was high during most of the year due to fluctuating levels of customer demand and inventory. In both fiscal 1998 and fiscal 1997, commodities trading revenues benefited from the expansion of the customer base for commodity-related products, including derivatives, and the use of such products for risk management purposes. Principal transaction investment revenues aggregating $89 million were recognized in fiscal 1998 as compared with $463 million in fiscal 1997. Fiscal 1998 revenues reflected the second highest level of revenues from the Company's private equity business, which primarily resulted from gains on certain positions that were sold during the year and increases in the carrying value of certain of the Company's private equity investments. Such increases included gains from the initial public offering of Equant and gains from the sale of positions in Fort James Corporation and Jefferson Smurfit Corporation. These gains were substantially offset by losses from an institutional leveraged emerging markets debt portfolio that occurred during the third quarter. Fiscal 1997 revenues primarily reflect increases in the carrying value of certain of the Company's private equity investments, including an increase related to the Company's holdings of Fort James Corporation, as well as realized gains on certain positions that were sold during the year. Higher revenues from certain real estate and venture capital investment gains also contributed to fiscal 1997's revenues. Commissions Commission revenues primarily arise from agency transactions in listed and over-the-counter equity securities and sales of mutual funds, futures, insurance products and options. Commission revenues increased 13% in fiscal 1998, reflecting higher revenues from equity cash products, primarily from markets in the U.S. and Europe, as well as higher revenues from derivative products. Revenues from U.S. markets benefited from high levels of market volatility, which contributed to increased customer trading volumes. Revenues from European markets also benefited from strong customer trading volumes, which were positively impacted by the generally favorable performances of certain European equity markets and from the Company's increased sales and research activities in the region. Commissions on derivative products increased as the high levels of market volatility contributed to increased customer hedging activities and trading volumes. Higher commissions from the sale of mutual funds and the Company's addition of more than 1,000 financial advisors during fiscal 1998 also contributed to the increase. Commission revenues increased 16% in fiscal 1997, primarily reflecting high customer trading volumes, particularly in the third and fourth fiscal quarters when the New York Stock Exchange expe- 30 Morgan Stanley Dean Witter * 1998 Annual Report rienced some of the highest trading volume in its history. The strong returns posted by many global equity markets encouraged an increased investor demand for equity securities and resulted in high levels of cash inflows into mutual funds. Commission revenues also benefited from an increase in the Company's market share and from the continued strength in the market for equity issuances. Net Interest Interest and dividend revenues and interest expense are a function of the level and mix of total assets and liabilities, including financial instruments owned, reverse repurchase and repurchase agreements, trading strategies associated with the Company's institutional securities activities, customer margin loans and the prevailing level, term structure and volatility of interest rates. Interest and dividend revenues and interest expense should be viewed in the broader context of principal trading results. Decisions relating to principal transactions in securities are based on an overall review of aggregate revenues and costs associated with each transaction or series of transactions. This review includes an assessment of the potential gain or loss associated with a trade; the interest income or expense associated with financing or hedging the Company's positions; and potential underwriting, commission or other revenues associated with related primary or secondary market sales. Net interest revenues increased 43% in fiscal 1998, primarily attributable to higher levels of revenues from net interest earning assets, including financial instruments owned and customer margin receivable balances. Higher levels of securities lending transactions also had a positive impact on net interest revenues. Net interest revenues increased 23% in fiscal 1997, reflecting higher levels of trading activities and retail customer financing activity, including margin interest. In fiscal 1997, net interest revenues also reflected increased financing costs associated with higher average levels of balance sheet usage, particularly in equity-related businesses. Asset Management, Distribution and Administration Fees Asset management, distribution and administration fees include revenues from asset management services, including fund management fees which are received for investment management and for promoting and distributing mutual funds ("12b-1 fees"), other administrative fees and non-interest revenues earned from correspondent clearing and custody services. Fund management fees arise from investment management services the Company provides to registered investment companies (the "Funds") pursuant to various contractual arrangements. The Company receives management fees based upon each Fund's average daily net assets. The Company receives 12b-1 fees for services it provides in promoting and distributing certain open-ended Funds. These fees are based on either the average daily Fund net asset balances or average daily aggregate net Fund sales and are affected by changes in the overall level and mix of assets under management and administration. The Company also receives fees from investment management services provided to segregated customer accounts pursuant to various contractual arrangements. Asset management, distribution and administration fees were as follows: FISCAL FISCAL FISCAL (dollars in millions) 1998 1997 1996 ================================================================================ Asset management, distribution and administration fees $2,848 $2,505 $1,732 - -------------------------------------------------------------------------------- The Company's customer assets under management or supervision were as follows: FISCAL FISCAL FISCAL (dollars in billions) 1998 1997 1996 ================================================================================ Customer assets under management or supervision (at fiscal year-end) $376 $338 $278 - -------------------------------------------------------------------------------- In fiscal 1998, asset management, distribution and administration fees increased 14%, reflecting the Company's continuing strategic emphasis on the asset management business. The increase in revenues primarily reflects higher fund management and 12b-1 fees as well as other revenues resulting from a higher level of assets under management or supervision, including revenues from developed country global equity and fixed income products. Such increases were partially offset by the impact of market depreciation in certain of the Company's products resulting from the downturn in certain global financial markets which occurred during the latter half of the year. Fiscal 1998's revenues also were negatively impacted by the Company's sale of its Correspondent Clearing and Global Custody businesses which occurred during fiscal 1998. In fiscal 1997, asset management, distribution and administration fees increased 45%. This increase reflects revenues from VK, which was acquired by the Company on October 31, 1996. Fiscal 1997 revenues also benefited from higher levels of fund management fees and increased 31 Morgan Stanley Dean Witter * 1998 Annual Report revenues from international equity, emerging market, and U.S. domestic equity and fixed income products and continued growth in customer assets under management or supervision. Revenues also were positively impacted by the Company's acquisition of the institutional global custody business of Barclays Bank PLC ("Barclays") on April 3, 1997. As of November 30, 1998, assets under management or supervision increased $38 billion from fiscal year-end 1997. The increase in assets under management or supervision in both fiscal 1998 and fiscal 1997 reflected continued inflows of customer assets as well as appreciation in the value of customer portfolios. In both fiscal 1998 and fiscal 1997, approximately 50% of the increase in assets under management or supervision was attributable to the acquisition of net new assets, while the remaining 50% reflected market appreciation. Non-Interest Expenses FISCAL FISCAL FISCAL (dollars in millions) 1998 1997 1996 ================================================================================ Compensation and benefits $6,071 $5,475 $4,585 Occupancy and equipment 510 462 432 Brokerage, clearing and exchange fees 538 448 317 Information processing and communications 666 602 514 Marketing and business development 487 393 296 Professional services 579 378 282 Other 529 511 382 - -------------------------------------------------------------------------------- Total non-interest expenses $9,380 $8,269 $6,808 - -------------------------------------------------------------------------------- Fiscal 1998's total non-interest expenses increased 13% to $9,380 million. Within the non-interest expense category, employee compensation and benefits expense increased 11%, reflecting increased levels of incentive compensation based on record fiscal 1998 revenues and earnings, as well as an increase in the number of employees. Excluding compensation and benefits expense, non-interest expenses increased $515 million. Occupancy and equipment expense increased 10%, principally reflecting additional office space and higher occupancy costs in New York and Hong Kong, as well as incremental rent attributable to the opening of 27 securities branch locations. Brokerage, clearing and exchange fees increased 20%, primarily reflecting increased expenses related to higher levels of trading volume in the global securities markets. Commissions paid in connection with the Company's launch of The Van Kampen Senior Income Trust mutual fund also contributed to the increase. Information processing and communications costs increased 11% due to higher data services and communications costs related to an increased number of employees and continued enhancements and maintenance associated with the Company's information technology infrastructure. Marketing and business development expense increased 24%, reflecting higher travel and entertainment costs relating to increased levels of business activity associated with active financial markets. Higher advertising and promotional costs also contributed to the increase. Professional services expense increased 53%, primarily reflecting higher consulting costs as a result of certain information technology initiatives, including the Company's preparations for EMU and Year 2000 (see also "Year 2000 and EMU" herein). Higher levels of temporary staff and employment fees due to the increased level of overall business activity also contributed to the increase. Other expenses increased 4%, which reflects the impact of a higher level of business activity on various operating expenses. Fiscal 1997's total non-interest expenses increased 21% to $8,269 million. Within the non-interest expense category, employee compensation and benefits expense increased 19%, reflecting increased levels of incentive compensation based on then-record fiscal 1997 revenues and earnings. Excluding compensation and benefits expense, non-interest expenses increased $571 million, including $266 million of operating costs related to VK and the global institutional custody business of Barclays. Occupancy and equipment expense increased 7%, principally reflecting the occupancy costs of VK and increased office space in London and Hong Kong. Brokerage, clearing and exchange fees increased 41%, primarily reflecting the acquisitions of VK and the institutional global custody business of Barclays, as well as higher levels of trading volume in the global securities markets. Information processing and communications costs increased 17% due to higher data services costs related to an increased number of employees, incremental costs related to VK and continued enhancements to the Company's information technology infrastructure. Marketing and business development expense increased 33%, reflecting higher travel and entertainment costs relating to increased levels of business activity associated with active financial markets. Additional advertising costs associated with VK's retail mutual funds also contributed to the increase. Professional services expense increased 34%, reflecting higher consulting costs as a result of information technology ini- 32 Morgan Stanley Dean Witter * 1998 Annual Report tiatives and the increased level of overall business activity. Other expenses increased 34%, which includes goodwill amortization of $43 million associated with the acquisitions of VK and Barclays, as well as the impact of a higher level of business activity on various operating expenses. CREDIT AND TRANSACTION SERVICES STATEMENTS OF INCOME FISCAL FISCAL FISCAL (dollars in millions) 1998 1997 1996 ================================================================================ Fees: Merchant and cardmember $1,647 $1,704 $1,505 Servicing 928 762 809 Commissions 36 27 -- Asset management, distribution and administration fees 1 -- -- Other 16 12 4 ................................................................................ Total non-interest revenues 2,628 2,505 2,318 ................................................................................ Interest revenue 2,740 3,128 2,717 Interest expense 995 1,173 1,032 ................................................................................ Net interest income 1,745 1,955 1,685 Provision for consumer loan losses 1,173 1,493 1,214 ................................................................................ Net credit income 572 462 471 ................................................................................ Net revenues 3,200 2,967 2,789 ................................................................................ Compensation and benefits 565 544 486 Occupancy and equipment 73 64 61 Brokerage, clearing and exchange fees 14 12 -- Information processing and communications 474 478 482 Marketing and business development 924 786 731 Professional services 98 73 52 Other 216 259 286 ................................................................................ Total non-interest expenses 2,364 2,216 2,098 ................................................................................ Gain on sale of businesses 362 -- -- ................................................................................ Income before income taxes 1,198 751 691 Provision for income taxes 510 283 257 ................................................................................ Net income $ 688 $ 468 $ 434 ................................................................................ CREDIT AND TRANSACTION SERVICES In fiscal 1998, Credit and Transaction Services net income increased 47% to $688 million, including a net after-tax gain of $163 million related to the sale of the Company's interest in the operations of SPS and certain BRAVO receivables. Excluding this gain, net income increased 12%. The increase in net income in fiscal 1998 was primarily attributable to the gain on the above-mentioned sales and a lower provision for loan losses primarily resulting from the sale of Prime Option and the operations of SPS. This increase was partially offset by increases in marketing and business development expense and incremental taxes associated with the sale of the operations of SPS. In fiscal 1997, net income increased 8% to $468 million. Fiscal 1997 net income was positively impacted by higher average levels of consumer loans, credit card fees and interest revenue enhancements introduced in fiscal 1996 and higher general purpose credit card transaction volume, partially offset by increased consumer credit losses and higher non-interest expenses. The sale of Prime Option, the operations of SPS and certain BRAVO receivables reflect the Company's strategic decision to focus on the growth of its existing Discover Card brand and Discover/NOVUS Network. Reflecting this renewed focus, the Company introduced the Discover(R) Platinum Card in December 1998 and plans to launch the Discover Card in a major foreign market during fiscal 1999. As a result of enhancements made to certain of the Company's operating systems in the fourth quarter of fiscal 1997, the Company began recording charged-off cardmember fees and interest revenue directly against the income statement line items to which they were originally recorded. Prior to the enhancements, charged-off cardmember fees and interest revenue both were recorded as a reduction of interest revenue. While this change had no impact on net revenues, the Company believes the revised presentation better reflects the manner in which charge-offs affect the Credit and Transaction Services statements of income. However, since prior periods have not been restated to reflect this change, the comparability of merchant and cardmember fees and interest revenue between fiscal 1998 and fiscal 1997 has been affected. Accordingly, the following sections also will discuss the changes in these income statement categories excluding the impact of this reclassification. Credit and Transaction Services statistical data were as follows: FISCAL FISCAL FISCAL (dollars in billions) 1998 1997 1996 ================================================================================ Consumer loans at fiscal year-end: Owned $16.0 $20.9 $22.1 Managed $32.5 $36.0 $35.3 General Purpose Credit Card transaction volume $58.0 $55.8 $53.6 - -------------------------------------------------------------------------------- 33 The lower level of consumer loans at November 30, 1998 reflects the Company's sale of Prime Option, the operations of SPS and certain BRAVO receivables during fiscal 1998. Merchant and Cardmember Fees Merchant and cardmember fees include revenues from fees charged to merchants on credit card sales, late payment fees, overlimit fees, insurance fees, cash advance fees, and fees for the administration of credit card programs and transaction processing services. Merchant and cardmember fees decreased 3% in fiscal 1998 and increased 13% in fiscal 1997. Excluding the effect of the reclassification of charged-off cardmember fees discussed above, merchant and cardmember fees would have increased 2% in fiscal 1998. This increase in fiscal 1998 was attributable to higher merchant discount revenue primarily associated with increased growth of general purpose credit card transaction volume related to the Discover Card offset by lower revenues due to the sale of the operations of SPS in October 1998. In addition, merchant and cardmember fees benefited from higher overlimit and late fees attributable to a fee increase introduced during fiscal 1998 and an increase in occurrences of delinquent and overlimit accounts. Partially offsetting these increases was a decrease in cash advance fees as a result of lower cash advance transaction volume primarily attributable to limits on cash advances imposed by the Company in an effort to improve credit quality. The increase in fiscal 1997 was due to an increase in merchant discount revenue associated with increased growth of general purpose credit card transaction volume and increased late payment fees and overlimit fees. The increase in overlimit fees was due to a higher incidence of overlimit occurrences. The increase in late payment fee revenues was due to an increase in the incidence of late payments and higher levels of delinquent accounts. Servicing Fees Servicing fees are revenues derived from consumer loans which have been sold to investors through asset securitizations. Cash flows from the interest yield and cardmember fees generated by securitized loans are used to pay investors in these loans a predetermined fixed or floating rate of return on their investment, to reimburse the investors for losses of principal resulting from charged-off loans and to pay the Company a fee for servicing the loans. Any excess cash flows remaining are paid to the Company. The servicing fees and excess net cash flows paid to the Company are reported as servicing fees in the consolidated statements of income. The sale of consumer loans through asset securitizations therefore has the effect of converting portions of net credit income and fee income to servicing fees. The Company completed asset securitizations of $4.5 billion in fiscal 1998 and $2.8 billion in fiscal 1997. The asset securitizations in fiscal 1998 and 1997 have expected maturities ranging from three to 10 years from the date of issuance. The table below presents the components of servicing fees: FISCAL fiscal fiscal (dollars in millions) 1998 1997 1996 ============================================================================ Merchant and cardmember fees $ 505 $ 436 $ 307 Interest revenue 2,598 2,116 2,025 Interest expense (1,010) (829) (792) Provision for consumer loan losses (1,165) (961) (731) - ---------------------------------------------------------------------------- Servicing fees $ 928 $ 762 $ 809 - ---------------------------------------------------------------------------- Servicing fees are affected by the level of securitized loans, the spread between the interest yield on the securitized loans and the yield paid to the investors, the rate of credit losses on securitized loans and the level of cardmember fees earned from securitized loans. Servicing fees also include the effects of interest rate contracts entered into by the Company as part of its interest rate risk management program. Servicing fees increased 22% in fiscal 1998 and decreased 6% in fiscal 1997. The increase in fiscal 1998 was due to higher levels of net interest cash flows and increased fee revenue, partially offset by increased credit losses from securitized consumer loans which were primarily a result of higher levels of average securitized loans. The decline in fiscal 1997 servicing fees was attributable to higher credit losses, partially offset by higher cardmember fees and net interest revenues. Commission Revenues Commission revenues arise from customer securities transactions associated with Discover Brokerage Direct, Inc. ("DBD"), the Company's provider of electronic brokerage services acquired in January 1997. Commission revenues increased 33% in fiscal 1998 resulting from an increase in the level of customer trading activity, partially offset by lower revenue per trade due to an increase in Internet trades as a percentage of total trades. In addition, fiscal 1998 contained a full year of commissions for DBD, while fiscal 1997 reflected only 10 months. 34 Morgan Stanley Dean Witter * 1998 Annual Report Asset Management, Distribution and Administration Fees Asset management, distribution and administration fees include revenues from asset management services, including fund management fees which are received by DBD for promoting and distributing mutual funds. Net Interest Income Net interest income is equal to the difference between interest revenue derived from Credit and Transaction Services consumer loans and short-term investment assets and interest expense incurred to finance those assets. Credit and Transaction Services assets, consisting primarily of consumer loans, earn interest revenue at both fixed rates and market-indexed variable rates. The Company incurs interest expense at fixed and floating rates. Interest expense also includes the effects of interest rate contracts entered into by the Company as part of its interest rate risk management program. This program is designed to reduce the volatility of earnings resulting from changes in interest rates and is accomplished primarily through matched financing, which entails matching the repricing schedules of consumer loans and the related financing. The following tables present analyses of Credit and Transaction Services average balance sheets and interest rates in fiscal 1998, fiscal 1997 and fiscal 1996 and changes in net interest income during those fiscal years: AVERAGE BALANCE SHEET ANALYSIS
FISCAL 1998 FISCAL 1997(3) FISCAL 1996(3) AVERAGE Average Average (dollars in millions) BALANCE RATE INTEREST Balance Rate Interest Balance Rate Interest ==================================================================================================================================== ASSETS Interest earning assets: General purpose credit card loans $17,184 13.87% $2,383 $19,512 14.03% $2,738 $17,083 13.99% $2,391 Other consumer loans 1,374 16.70 229 1,773 15.73 279 1,766 14.25 252 Investment securities 496 6.25 31 176 5.45 10 234 5.38 13 Other 1,465 6.61 97 1,680 6.06 101 1,078 5.60 61 - ------------------------------------------------------------------------------------------------------------------------------------ Total interest earning assets 20,519 13.35 2,740 23,141 13.52 3,128 20,161 13.47 2,717 Allowance for loan losses (847) (828) (669) Non interest earning assets 1,517 1,529 1,334 - ------------------------------------------------------------------------------------------------------------------------------------ Total assets $21,189 $23,842 $20,826 - ------------------------------------------------------------------------------------------------------------------------------------ LIABILITIES AND SHAREHOLDERS' EQUITY Interest bearing liabilities: Interest bearing deposits Savings $ 1,073 4.79% $ 51 $ 963 4.27% $ 41 $ 1,021 4.58% $ 47 Brokered 5,656 6.62 375 4,589 6.66 306 3,418 6.93 237 Other time 2,189 6.16 135 2,212 6.12 135 1,921 6.05 116 - ------------------------------------------------------------------------------------------------------------------------------------ Total interest bearing deposits 8,918 6.29 561 7,764 6.21 482 6,360 6.29 400 Other borrowings 7,162 6.06 434 11,371 6.07 691 10,307 6.11 632 - ------------------------------------------------------------------------------------------------------------------------------------ Total interest bearing liabilities 16,080 6.19 995 19,135 6.13 1,173 16,667 6.18 1,032 Shareholders' equity/other liabilities 5,109 4,707 4,159 - ------------------------------------------------------------------------------------------------------------------------------------ Total liabilities and shareholders' equity $21,189 $23,842 $20,826 Net interest income $1,745 $1,955 $1,685 Net interest margin(1) 8.51% 8.45% 8.36% Interest rate spread(2) 7.16% 7.39% 7.29% - ------------------------------------------------------------------------------------------------------------------------------------
(1) Net interest margin represents net interest income as a percentage of total interest earning assets. (2) Interest rate spread represents the difference between the rate on total interest earning assets and the rate on total interest bearing liabilities. (3) Certain prior-year information has been reclassified to conform to the current year's presentation. 35 Morgan Stanley Dean Witter * 1998 Annual Report RATE/VOLUME ANALYSIS
Increase/(Decrease) due to Changes in: 1998 vs. 1997 1997 vs. 1996 (dollars in millions) Volume Rate Total Volume Rate Total ===================================================================================================== INTEREST REVENUE General purpose credit card loans $(327) $ (28) $(355) $ 339 $ 8 $ 347 Other consumer loans (63) 13 (50) 1 26 27 Investment securities 17 4 21 (3) -- (3) Other (12) 8 (4) 33 7 40 ------ ------ Total interest revenue (353) (35) (388) 400 11 411 - ----------------------------------------------------------------------------------------------------- INTEREST EXPENSE Interest bearing deposits: Savings 5 5 10 (3) (3) (6) Brokered 71 (2) 69 81 (12) 69 Other time (1) 1 -- 18 1 19 ------ ------ Total interest bearing deposits 72 7 79 88 (6) 82 Other borrowings (256) (1) (257) 64 (5) 59 ------ ------ Total interest expense (188) 10 (178) 151 (10) 141 ------ ------ Net interest income $(165) $ (45) $(210) $ 249 $ 21 $ 270 - -----------------------------------------------------------------------------------------------------
Net interest income decreased 11% in fiscal 1998 and increased 16% in fiscal 1997. Excluding the effect of the reclassification of charged-off cardmember fees discussed previously, net interest income would have decreased 15% in fiscal 1998. The decrease in fiscal 1998 was due to lower average levels of owned consumer loans and a lower yield on general purpose credit card loans. The decrease in owned consumer loans was primarily due to an increase in securitized loans and the sale of the Prime Option and SPS portfolios. The lower yield on general purpose credit card loans in fiscal 1998 was due to a larger number of cardmembers taking advantage of promotional rates. In both years, the effects of changes in interest rates on the Company's variable rate loan portfolio were substantially offset by comparable changes in the Company's cost of funds for the related financing. The Company believes that the effect of changes in market interest rates on net interest income was mitigated as a result of its liquidity and interest rate risk management policies. The increase in net interest income in fiscal 1997 was due to higher average levels of consumer loans outstanding, partially offset by the effects of higher charge-offs on interest revenue. The impact of higher charge-offs in fiscal 1997 was mitigated by pricing actions implemented in the fourth quarter of fiscal 1996. The Company anticipates the repricing of a substantial portion of its existing credit card receivables to a fixed interest rate during fiscal 1999. The Company does not believe this repricing will have a material impact on its interest rate sensitivity due to the Company's matched financing objectives. 36 Morgan Stanley Dean Witter * 1998 Annual Report The supplemental table below provides average managed loan balance and rate information which takes into account both owned and securitized loans: SUPPLEMENTAL AVERAGE MANAGED LOAN INFORMATION
FISCAL 1998 FISCAL 1997 FISCAL 1996 Average Average Average (dollars in millions) Balance Rate Balance Rate Balance Rate =========================================================================================================== Consumer loans $34,619 14.86% $34,619 14.83% $31,459 14.83% General purpose credit card loans 32,684 14.72 32,176 14.72 29,021 14.81 Total interest earning assets 36,580 14.41 36,475 14.38 32,770 14.46 Total interest bearing liabilities 32,141 6.16 32,469 6.17 29,277 6.22 Consumer loan interest rate spread 8.70 8.66 8.61 Interest rate spread 8.25 8.21 8.24 Net interest margin 9.00 8.89 8.90 - -----------------------------------------------------------------------------------------------------------
Provision for Consumer Loan Losses The provision for consumer loan losses is the amount necessary to establish the allowance for loan losses at a level that the Company believes is adequate to absorb estimated losses in its consumer loan portfolio at the balance sheet date. The Company's allowance for loan losses is regularly evaluated by management for adequacy on a portfolio-by-portfolio basis and was $787 million at November 30, 1998 and $884 million at November 30, 1997. The provision for consumer loan losses, which is affected by net charge-offs, loan volume and changes in the amount of consumer loans estimated to be uncollectable, decreased 21% in fiscal 1998 and increased 23% in fiscal 1997. The decrease in fiscal 1998 was due to a decrease in net charge-offs resulting from lower average levels of owned consumer loans, primarily attributable to an increased level of securitized loans and reduced levels of charge-offs associated with the sale of Prime Option and SPS receivables, partially offset by a small increase in the net charge-off rate of the Discover Card portfolio. The provision for loan losses also was positively impacted by a decline in the loan loss allowance in connection with securitization transactions entered into prior to the third quarter of 1996. The Company expects this loan loss allowance will be fully amortized over fiscal 1999. In fiscal 1997, the increase in consumer loan losses was primarily due to higher net charge-offs, which resulted from an increase in the percentage of consumer loans charged off and a higher level of average consumer loans outstanding. The Company's expectations about future charge-off rates and credit quality are subject to uncertainties that could cause actual results to differ materially from what has been discussed above. Factors that influence the provision for consumer loan losses include the level and direction of consumer loan delinquencies and charge-offs, changes in consumer spending and payment behaviors, bankruptcy trends, the seasoning of the Company's loan portfolio, interest rate movements and their impact on consumer behavior, and the rate and magnitude of changes in the Company's consumer loan portfolio, including the overall mix of accounts, products and loan balances within the portfolio. Consumer loans are considered delinquent when interest or principal payments become 30 days past due. Consumer loans are charged-off when they become 180 days past due, except in the case of bankruptcies and fraudulent transactions, where loans are charged-off earlier. Loan delinquencies and charge-offs are primarily affected by changes in economic conditions and may vary throughout the year due to seasonal consumer spending and payment behaviors. Delinquency rates decreased in fiscal 1998 as a reflection of the Company's increased focus on credit quality and account collections, as well as the sale of Prime Option, SPS and BRAVO. From time to time, the Company has offered and may continue to offer cardmembers with accounts in good standing the 37 Morgan Stanley Dean Witter * 1998 Annual Report opportunity to skip the minimum monthly payment, while continuing to accrue periodic finance charges, without being considered to be past due ("skip-a-payment"). The comparison of delinquency rates at any particular point in time may be affected depending on the timing of the skip-a-payment program. The delinquency rate for consumer loans 30-89 days past due at November 30, 1997 as compared with November 30, 1996 was favorably impacted by a September 1997 skip-a-payment offer allowing certain cardmembers to skip their next monthly payment. The following table presents delinquency and net charge-off rates with supplemental managed loan information:
ASSET QUALITY FISCAL 1998 FISCAL 1997 FISCAL 1996 (dollars in millions) Owned Managed Owned Managed Owned Managed ============================================================================================================================== Consumer loans at period-end $15,996 $32,502 $20,917 $35,950 $20,085 $33,316 Consumer loans contractually past due as a percentage of period-end consumer loans: 30 to 89 days 3.54% 3.69% 3.96% 3.91% 4.45% 4.49% 90 to 179 days 2.67% 2.84% 3.11% 3.07% 2.78% 2.78% Net charge-offs as a percentage of average consumer loans 6.75% 6.90% 6.78% 6.95% 5.29% 5.43% - ------------------------------------------------------------------------------------------------------------------------------
Non-Interest Expenses Total non-interest expenses increased 7% to $2,364 million in fiscal 1998 and 6% to $2,216 million in fiscal 1997. Employee compensation and benefits expense increased 4% in fiscal 1998 and 12% in fiscal 1997. The increase in fiscal 1998 was due to an increased number of employees and higher executive compensation costs associated with Discover Card operations and DBD, offset by lower compensation costs associated with the sale of Prime Option and the operations of SPS. The increase in fiscal 1997 was due to an increased number of employees and employment costs associated with processing increased credit card transaction volume and servicing additional Discover/NOVUS Network merchants and active credit card accounts, including collection activities. Occupancy and equipment expense increased 14% in fiscal 1998 and 5% in fiscal 1997. The increases in both years were due to higher rent and other occupancy costs at certain of the Company's facilities, including payment processing centers. Brokerage, clearing and exchange fees increased 17% from fiscal 1997. The increase is attributable to higher levels of DBD customer trading volume, partially offset by lower costs per trade resulting from DBD's implementation of self-clearing operations in October 1998. Information processing and communications expense decreased 1% in fiscal 1998 and 1997. In fiscal 1998, lower transaction processing costs resulting from the sale of the operations of SPS were partially offset by higher external data processing costs related to the Year 2000 project and increased cardmember data analysis associated with credit risk management activity. In fiscal 1997, information processing and communications expense increased due to higher levels of transaction volume, additional Discover/NOVUS Network servicing costs and the development of the systems supporting the Company's multi-card strategy. In fiscal 1997, the increases were offset by an adjustment resulting from the sale of the Company's indirect interest in one of the Company's transaction processing vendors. Marketing and business development expense increased 18% in fiscal 1998 and 8% in fiscal 1997. The increase in fiscal 1998 was attributed to higher advertising and promotional expenses associated with increased direct mail and other promotional activities related to the Discover Card, Private Issue(R) Card, partnership programs and DBD, as well as higher cardmember rewards expense. The Company increased marketing and promotional spending significantly in the third and fourth quarters of fiscal 1998 in an effort to renew and increase growth in the Discover Card brand. In the past several years, the Company focused its attention on improving and maintaining credit quality. In fiscal 1999, the Company expects to continue to invest in the growth of its credit card business, including the introduction of a Discover Platinum Card and the launch of the Discover Card into a major foreign market. 38 Morgan Stanley Dean Witter * 1998 Annual Report The increase in fiscal 1997 was primarily attributable to higher cardmember rewards expense and marketing and promotional costs. Higher marketing and promotional costs were associated with the growth of new and existing credit card brands. Cardmember rewards expense includes the Cashback Bonus(R) award, pursuant to which the Company annually pays Discover Cardmembers and Private Issue Cardmembers electing this feature a percentage of their purchase amounts ranging up to 1% (up to 2% for the Private Issue Card) based upon a cardmember's level of annual purchases. Higher cardmember rewards expense in both years was associated with growth in credit card transaction volume and increased credit cardmember qualification for higher award levels. Commencing March 1, 1998, the terms of the Private Issue Cashback Bonus program were amended by limiting the maximum annual bonus amount to $500 and by increasing the amount of purchases required to receive this bonus amount. Cardmember rewards expense was not materially impacted by these changes. Professional services expense increased 34% in fiscal 1998 and 40% in fiscal 1997. The increase in fiscal 1998 was due to services related to increased partnership program activity, higher expenditures for consumer credit counseling and collections services and consulting fees. The increase in fiscal 1997 was primarily due to higher expenditures for consumer credit counseling and collections services. Other non-interest expenses decreased 17% in fiscal 1998 and 9% in fiscal 1997. Other expenses primarily include fraud losses, credit inquiry fees and other administrative costs. The decrease in both years was due to a continuing decline in the level of fraud losses. Fiscal 1998 also reflects a lower level of expenses resulting from the sale of Prime Option and the operations of SPS. Seasonal Factors The credit card lending activities of Credit and Transaction Services are affected by seasonal patterns of retail purchasing. Historically, a substantial percentage of credit card loan growth occurs in the fourth calendar quarter, followed by a flattening or decline of consumer loans in the following calendar quarter. Merchant fees, therefore, have historically tended to increase in the first fiscal quarter, reflecting higher sales activity in the month of December. Additionally, higher cardmember rewards expense is accrued in the first fiscal quarter, reflecting seasonal growth in retail sales volume. LIQUIDITY AND CAPITAL RESOURCES The Balance Sheet The Company's total assets increased to $317.6 billion at November 30, 1998 from $302.3 billion at November 30, 1997, primarily reflecting growth in cash and cash equivalents, cash and securities deposited with clearing organizations or segregated under federal and other regulations, and securities borrowed. A substantial portion of the Company's total assets consists of highly liquid marketable securities and short-term receivables arising principally from securities transactions. The highly liquid nature of these assets provides the Company with flexibility in financing and managing its business. Funding and Capital Policies The Company's senior management establishes the overall funding and capital policies of the Company, reviews the Company's performance relative to these policies, monitors the availability of sources of financing, reviews the foreign exchange risk of the Company, and oversees the liquidity and interest rate sensitivity of the Company's asset and liability position. The primary goal of the Company's funding and liquidity activities is to ensure adequate financing over a wide range of potential credit ratings and market environments. Many of the Company's businesses are capital-intensive. Capital is required to finance, among other things, the Company's securities inventories, underwriting, principal investments, private equity activities, consumer loans and investments in fixed assets. As a policy, the Company attempts to maintain sufficient capital and funding sources in order to have the capacity to finance itself on a fully collateralized basis at all times, including periods of financial stress. Currently, the Company believes it has sufficient capital to meet its needs. In addition, the Company attempts to maintain total equity, on a consolidated basis, at least equal to the sum of all of its subsidiaries' equity. Subsidiary equity capital requirements are determined by regulatory requirements (if applicable), asset mix, leverage considerations and earnings volatility. The Company views return on equity to be an important measure of its performance, in the context of both the particular business environment in which the Company is operating and its peer group's results. In this regard, the Company actively manages its consolidated capital position based upon, among other 39 Morgan Stanley Dean Witter * 1998 Annual Report things, business opportunities, capital availability and rates of return together with internal capital policies, regulatory requirements and rating agency guidelines and therefore, in the future, may expand or contract its capital base to address the changing needs of its businesses. The Company also has returned to shareholders internally generated equity capital which was in excess of the needs of its businesses through common stock repurchases and dividends. The Company's liquidity policies emphasize diversification of funding sources. The Company also follows a funding strategy which is designed to ensure that the tenor of the Company's liabilities equals or exceeds the expected holding period of the assets being financed. Short-term funding generally is obtained at rates related to U.S., Euro or Asian money market rates for the currency borrowed. Repurchase transactions are effected at negotiated rates. Other borrowing costs are negotiated depending upon prevailing market conditions (see Notes 5 and 6 to the consolidated financial statements). Maturities of both short-term and long-term financings are designed to minimize exposure to refinancing risk in any one period. The volume of the Company's borrowings generally fluctuates in response to changes in the amount of repurchase transactions outstanding, the level of the Company's securities inventories and consumer loans receivable, and overall market conditions. Availability and cost of financing to the Company can vary depending upon market conditions, the volume of certain trading activities, the Company's credit ratings and the overall availability of credit. The Company, therefore, maintains a surplus of unused short-term funding sources at all times to withstand any unforeseen contraction in credit capacity. In addition, the Company attempts to maintain cash and unhypothecated marketable securities equal to at least 110% of its outstanding short-term unsecured borrowings. The Company has in place a contingency funding strategy, which provides a comprehensive one-year action plan in the event of a severe funding disruption. The Company views long-term debt as a stable source of funding for core inventories, consumer loans and illiquid assets and, therefore, maintains a long-term debt-to-capitalization ratio at a level appropriate for the current composition of its balance sheet. In general, fixed assets are financed with fixed rate long-term debt, and securities inventories and all current assets are financed with a combination of short-term funding, floating rate long-term debt or fixed rate long-term debt swapped to a floating basis. Both fixed rate and floating rate long-term debt (in addition to sources of funds accessed directly by the Company's Credit and Transaction Services business) are used to finance the Company's consumer loan portfolio. Consumer loan financing is targeted to match the repricing and duration characteristics of the loans financed. The Company uses derivative products (primarily interest rate, currency and equity swaps) to assist in asset and liability management, reduce borrowing costs and hedge interest rate risk (see Note 6 to the consolidated financial statements). The Company's reliance on external sources to finance a significant portion of its day-to-day operations makes access to global sources of financing important. The cost and availability of unsecured financing generally are dependent on the Company's short-term and long-term debt ratings. In addition, the Company's debt ratings can have a significant impact on certain trading revenues, particularly in those businesses where longer term counterparty performance is critical, such as over-the-counter derivative transactions. As of January 31, 1999, the Company's credit ratings were as follows: Commercial Senior Paper Debt ======================================================================== Dominion Bond Rating Service R-1 n/a Duff & Phelps Credit Rating Co. D-1+ AA Fitch IBCA, Inc. F1+ AA- Japan Rating & Investment Information, Inc. A-1+ AA- Moody's Investors Service P-1 Aa3 Standard & Poor's A-1 A+ Thomson BankWatch, Inc. TBW-1 AA - ------------------------------------------------------------------------ During fiscal 1998, Moody's Investors Service upgraded the Company's senior debt rating from A1 to Aa3. In January 1999, Duff & Phelps Credit Rating Co. upgraded the Company's senior debt rating from AA- to AA. As the Company continues its global expansion and derives revenues increasingly from various currencies, foreign currency management is a key element of the Company's financial policies. The Company benefits from operating in several different currencies because weakness in any particular currency often is offset by strength in another currency. The Company closely monitors its exposure to fluctuations in currencies and, where cost-justified, adopts strategies to reduce the impact of these fluctuations on the Company's financial performance. These strategies include engag- 40 Morgan Stanley Dean Witter * 1998 Annual Report ing in various hedging activities to manage income and cash flows denominated in foreign currencies and using foreign currency borrowings, when appropriate, to finance investments outside the U.S. Principal Sources of Funding The Company funds its balance sheet on a global basis. The Company's funding for its Securities and Asset Management business is raised through diverse sources. These sources include the Company's capital, including equity and long-term debt; repurchase agreements; U.S., Canadian, Euro and Japanese commercial paper; letters of credit; unsecured bond borrows; securities lending; buy/sell agreements; municipal reinvestments; master notes; and committed and uncommitted lines of credit. Repurchase agreement transactions, securities lending and a portion of the Company's bank borrowings are made on a collateralized basis and therefore provide a more stable source of funding than short-term unsecured borrowings. The funding sources utilized for the Company's Credit and Transaction Services business include the Company's capital, including equity and long-term debt, asset securitizations, commercial paper, deposits, asset-backed commercial paper, Federal Funds and short-term bank notes. The Company sells consumer loans through asset securitizations using several transaction structures. Riverwoods Funding Corporation ("RFC"), an entity included in the consolidated financial statements of the Company, issues asset-backed commercial paper. The Company's bank subsidiaries solicit deposits from consumers, purchase Federal Funds and issue short-term bank notes. Interest bearing deposits are classified by type as savings, brokered and other time deposits. Savings deposits consist primarily of money market deposits and certificate of deposit accounts sold directly to cardmembers and savings deposits from individual clients. Brokered deposits consist primarily of certificates of deposit issued by the Company's bank subsidiaries. Other time deposits include institutional certificates of deposit. The Company, through Greenwood Trust Company, an indirect subsidiary of the Company, sells notes under a short-term bank note program. The Company maintains borrowing relationships with a broad range of banks, financial institutions, counterparties and others from which it draws funds in a variety of currencies. The Company maintains a senior revolving credit agreement with a group of banks to support general liquidity needs, including the issuance of commercial paper (the "MSDW Facility"). Under the terms of the MSDW Facility, the banks are committed to provide up to $6.0 billion. The MSDW Facility contains restrictive covenants which require, among other things, that the Company maintain shareholders' equity of at least $9.1 billion at all times. The Company believes that the covenant restrictions will not impair the Company's ability to pay its current level of dividends. At November 30, 1998, no borrowings were outstanding under the MSDW Facility. The Company maintains a master collateral facility that enables Morgan Stanley & Co. Incorporated ("MS&Co."), one of the Company's U.S. broker-dealer subsidiaries, to pledge certain collateral to secure loan arrangements, letters of credit and other financial accommodations (the "MS&Co. Facility"). As part of the MS&Co. Facility, MS&Co. also maintains a secured committed credit agreement with a group of banks that are parties to the master collateral facility under which such banks are committed to provide up to $1.875 billion. The credit agreement contains restrictive covenants which require, among other things, that MS&Co. maintain specified levels of consolidated shareholders' equity and Net Capital, as defined. In January 1999, the MS&Co. Facility was renewed. At November 30, 1998, no borrowings were outstanding under the MS&Co. Facility. The Company also maintains a revolving committed financing facility that enables Morgan Stanley & Co. International Limited ("MSIL"), the Company's London-based broker-dealer subsidiary, to secure committed funding from a syndicate of banks by providing a broad range of collateral under repurchase agreements (the "MSIL Facility"). Such banks are committed to provide up to an aggregate of $1.85 billion available in 12 major currencies and, effective January 1, 1999, the euro. The facility agreements contain restrictive covenants which require, among other things, that MSIL maintain specified levels of Shareholders' Equity and Financial Resources, each as defined. At November 30, 1998, no borrowings were outstanding under the MSIL Facility. RFC maintains a senior bank credit facility to support the issuance of asset-backed commercial paper in the amount of $2.6 billion. Under the terms of the asset-backed commercial paper program, certain assets of RFC were subject to a lien in the amount of 41 Morgan Stanley Dean Witter * 1998 Annual Report $2.6 billion at November 30, 1998. RFC has never borrowed from its senior bank credit facility. The Company anticipates that it will utilize the MSDW Facility, the MS&Co. Facility or the MSIL Facility for short-term funding from time to time (see Note 5 to the consolidated financial statements). Fiscal 1998 and Subsequent Activity During fiscal 1998, the Company took several steps to extend the maturity of its liabilities, reduce its reliance on unsecured short-term funding and increase its capital. These steps contributed to a net increase in capital of $4,345 million to $37,922 million at November 30, 1998. During fiscal 1998, the Company issued senior notes aggregating $9,800 million, including non-U.S. dollar currency notes aggregating $1,640 million, primarily pursuant to its public debt shelf registration statements. These notes have maturities from 1999 to 2028 and a weighted average coupon interest rate of 5.6% at November 30, 1998; the Company has entered into certain transactions to obtain floating interest rates based primarily on short-term LIBOR trading levels. At November 30, 1998, the aggregate outstanding principal amount of the Company's Senior Indebtedness (as defined in the Company's public debt shelf registration statements) was approximately $45.3 billion. Between November 30, 1998 and January 31, 1999, the Company issued additional debt obligations aggregating approximately $2,298 million. These notes have maturities from 2000 to 2013. Effective January 1999, the Company's Board of Directors authorized the Company to purchase, subject to market conditions and certain other factors, up to $1 billion of the Company's common stock. The Board of Directors also approved a separate ongoing repurchase authorization in connection with awards granted under the Company's equity-based compensation plans. During fiscal 1998, the Company purchased $2,925 million of its common stock. Subsequent to November 30, 1998 and through January 31, 1999, the Company purchased an additional $110 million of its common stock. On March 5, 1998, MSDW Capital Trust I, a Delaware statutory business trust (the "Capital Trust"), all of the common securities of which are owned by the Company, issued $400 million of 7.10% Capital Securities (the "Capital Securities") that are guaranteed by the Company. The Capital Trust issued the Capital Securities and invested the proceeds in 7.10% Junior Subordinated Deferrable Interest Debentures issued by the Company, which are due February 28, 2038. On March 12, 1998, the Company's shelf registration statement for an additional $8 billion of debt securities, warrants, preferred stock or purchase contracts, or any combination thereof in the form of units, became effective. On August 31, 1998, the Company redeemed all 1,000,000 outstanding shares of its 7-3/8% Cumulative Preferred Stock at a redemption price of $200 per share. The Company also simultaneously redeemed all corresponding Depositary Shares at a redemption price of $25 per Depositary Share. Each Depositary Share represented 1/8 of a share of the Company's 7-3/8% Cumulative Preferred Stock. On January 28, 1999, the Company and Morgan Stanley Finance, plc, a U.K. subsidiary, called for redemption all of the outstanding 7.82% Capital Units and 7.80% Capital Units on February 28, 1999. The aggregate principal amount of the Capital Units to be redeemed is $352 million. At November 30, 1998, certain assets of the Company, such as real property, equipment and leasehold improvements of $1.8 billion, and goodwill and other intangible assets of $1.2 billion, were illiquid. In addition, certain equity investments made in connection with the Company's private equity and other principal investment activities, high-yield debt securities, emerging market debt, and certain collateralized mortgage obligations and mortgage-related loan products are not highly liquid. In connection with its private equity and other principal investment activities, the Company has equity investments (directly or indirectly through funds managed by the Company) in privately and publicly held companies. As of November 30, 1998, the aggregate carrying value of the Company's equity investments in privately held companies (including direct investments and partnership interests) was $185 million, and its aggregate investment in publicly held companies was $320 million. The Company acts as an underwriter of and as a market-maker in mortgage-backed pass-through securities, collateralized mortgage obligations and related instruments and as a market-maker in commercial, residential and real estate loan products. In this capacity, the Company takes positions in market segments in which liquidity can vary greatly from time to time. The carrying value 42 Morgan Stanley Dean Witter * 1998 Annual Report of the portion of the Company's mortgage-related portfolio at November 30, 1998 traded in markets that the Company believed were experiencing lower levels of liquidity than traditional mortgage-backed pass-through securities approximated $1,369 million. In addition, at November 30, 1998, the aggregate value of high-yield debt securities and emerging market loans and securitized instruments held in inventory was $2,395 million (a substantial portion of which was subordinated debt). These securities, loans and instruments were not attributable to more than 6% to any one issuer, 22% to any one industry or 18% to any one geographic region. Non-investment grade securities generally involve greater risk than investment grade securities due to the lower credit ratings of the issuers, which typically have relatively high levels of indebtedness and, therefore, are more sensitive to adverse economic conditions. In addition, the market for non-investment grade securities and emerging market loans and securitized instruments has been, and may in the future be, characterized by periods of volatility and illiquidity. The Company has in place credit and other risk policies and procedures to control total inventory positions and risk concentrations for non-investment grade securities and emerging market loans and securitized instruments that are administered in a manner consistent with the Company's overall risk management policies and procedures (see "Risk Management" following "Management's Discussion and Analysis of Financial Condition and Results of Operations"). The Company also has commitments to fund certain fixed assets and other less liquid investments, including at November 30, 1998 approximately $181 million in connection with its private equity and other principal investment activities. Additionally, the Company has provided and will continue to provide financing, including margin lending and other extensions of credit to clients. In November 1998, the Company announced that it had entered into an agreement that will result in the development of an office tower in New York City. Pursuant to this agreement, the Company has entered into a 99-year lease for the land at the proposed development site. The Company may, from time to time, also provide financing or financing commitments to companies in connection with its investment banking and private equity activities. The Company may provide extensions of credit to leveraged companies in the form of senior or subordinated debt, as well as bridge financing on a selective basis. At November 30, 1998, the Company had two commitments to provide an aggregate of $82 million and had one loan in the amount of $8 million outstanding in connection with its high-yield underwriting activities. Between November 30, 1998 and January 31, 1999, the Company's aggregate commitments increased to $89 million and had two loans in the amount of $112 million outstanding. In September 1998, the Company made an investment of $300 million in the Long-Term Capital Portfolio, L.P. ("LTCP"). The Company is a member of a consortium of 14 financial institutions participating in an equity recapitalization of LTCP. The objectives of this investment, the term of which is three years, are to continue active management of its positions and, over time, reduce excessive risk exposures and leverage, return capital to the participants and ultimately realize the potential value of the LTCP portfolio. At November 30, 1998, the carrying value of the Company's investment in LTCP approximated fair value. The Company also engages in senior lending activities, including origination, syndication and trading of senior secured loans of non-investment grade companies. Such companies are more sensitive to adverse economic conditions than investment grade issuers, but the loans generally are made on a secured basis and are senior to the non-investment grade securities of these issuers that trade in the capital markets. At November 30, 1998, the aggregate value of senior secured loans and positions held by the Company was $1,259 million, and aggregate senior secured loan commitments were $447 million. The gross notional and fair value amounts of derivatives used by the Company for asset and liability management and as part of its trading activities are summarized in Notes 6 and 9, respectively, to the consolidated financial statements (see also "Derivative Financial Instruments" herein). YEAR 2000 AND EMU Year 2000 Readiness Disclosure Many of the world's computer systems (including those in non-information technology equipment and systems) currently record years in a two-digit format. If not addressed, such computer systems may be unable to properly interpret dates beyond the year 1999, which could lead to business disruptions in the U.S. and internationally (the "Year 2000" issue). The potential costs and uncertainties associated with the Year 2000 issue will depend on a number of factors, 43 Morgan Stanley Dean Witter * 1998 Annual Report including software, hardware and the nature of the industry in which a company operates. Additionally, companies must coordinate with other entities with which they electronically interact. The Company has established a firm-wide initiative to address issues associated with the Year 2000. Each of the Company's business areas has taken responsibility for the identification and remediation of Year 2000 issues within its own areas of operations and for addressing all interdependencies. A corporate team of internal and external professionals supports the business teams by providing direction and company-wide coordination as needed. The Year 2000 and EMU (discussed below) projects have been designated as the highest priority activities of the Company's Information Technology Department. To ensure that the Company's computer systems are Year 2000 compliant, a team of Information Technology professionals began preparing for the Year 2000 issue in 1995. Since then, the Company has been reviewing its systems and programs to identify those that contain two-digit year codes and is in the process of upgrading its global infrastructure and corporate facilities to achieve Year 2000 compliance. In addition, the Company is actively working with its major external counterparties and suppliers to assess their compliance and remediation efforts and the Company's exposure to them. In addressing the Year 2000 issue, the Company has identified the following phases. In the Awareness phase, the Company defined the Year 2000 issue and obtained executive level support and funding. In the Inventory phase, the Company collected a comprehensive list of items that may be affected by Year 2000 compliance issues. Such items include facilities and related non-information technology systems (embedded technology), computer systems, hardware, and services and products provided by third parties. In the Assessment phase, the Company evaluated the items identified in the Inventory phase to determine which will function properly with the change to the new century and ranked items which will need to be remediated based on their potential impact to the Company. The Remediation phase includes an analysis of the items that are affected by Year 2000, the identification of problem areas and the repair of non-compliant items. The Testing phase includes a thorough testing of all proposed repairs, including present and forward date testing which simulates dates in the Year 2000. The Implementation phase consists of placing all items that have been remediated and successfully tested into production. Finally, the Integration and External Testing phase includes exercising business-critical production systems in a future time environment and testing with external entities. The Company has completed the Awareness, Inventory and Assessment phases. As of November 30, 1998, the Remediation, Testing and Implementation phases were substantially complete. Due to resource allocations between the Year 2000 and EMU projects, as well as late vendor delivery of third-party products, the Company expects that the remaining portions of the Remediation, Testing and Implementation phases of substantially all mission-critical systems will be complete by March 31, 1999 as compared with the original expected completion date of December 31, 1998. The Integration and External Testing phase commenced in the second quarter of 1998 and will continue through 1999. In addition, the major business relationships of the Company have been identified, and the most critical of them have been or are scheduled to be tested. In addition, the Company is closely monitoring the Year 2000 compliance status of its most critical business relationships. The Company continues to survey and communicate with counterparties, intermediaries and vendors with whom it has important financial and operational relationships to determine the extent to which they are vulnerable to Year 2000 issues. As of November 30, 1998, the Company had not yet received sufficient information from all parties about their remediation plans to predict the outcomes of their efforts. In particular, in some international markets in which the Company conducts business, the level of awareness and remediation efforts relating to the Year 2000 issue is thought to be less advanced than in the United States. During the third quarter of fiscal 1998, the Company participated in the Securities Industry Association's Beta test and a test sponsored by the Bank of England's Central Gilts Office. These tests were run in "future time," using a portion of the Company's production system, and employed test scripts to check functionality. The Company has achieved successful results in each of the industry-wide tests in which it participated. The Company will continue to participate in industry-wide and vendor-specific tests throughout 1999. There are many risks associated with the Year 2000 issue, including the possibility of a failure of the Company's computer and non-information technology systems. Such failures could have a material adverse effect on the Company and may cause systems malfunctions; incorrect or incomplete transaction processing resulting in failed trade settlements; the inability to reconcile accounting books and records; the inability to reconcile credit card transactions and 44 Morgan Stanley Dean Witter * 1998 Annual Report balances; the inability to reconcile trading positions and balances with counterparties; and inaccurate information to manage the Company's exposure to trading risks and disruptions of funding requirements. In addition, even if the Company successfully remediates its Year 2000 issues, it can be materially and adversely affected by failures of third parties to remediate their own Year 2000 issues. The Company recognizes the uncertainty of such external dependencies since it cannot directly control the remediation efforts of third parties. The failure of third parties with which the Company has financial or operational relationships, such as securities exchanges, clearing organizations, depositories, regulatory agencies, banks, clients, counterparties, vendors (including data center, data network and voice service providers) and utilities, to remediate their computer and non-information technology systems issues in a timely manner could result in a material financial risk to the Company. If the above-mentioned risks are not remedied, the Company may experience business interruption or shutdown, financial loss, regulatory actions, damage to the Company's global franchise and legal liability. The Company has business continuity plans in place for its critical business functions on a worldwide basis. The Company also has in place a contingency funding strategy (see "Liquidity and Capital Resources"). The Company has begun Year 2000 contingency planning. The Company is currently reviewing responses from its major external counterparties and suppliers with respect to Year 2000 preparation, assessing the results of various internal and external systems tests and analyzing possible Year 2000 scenarios to determine a range of likely outcomes. The Company intends to document and test Year 2000 specific contingency plans during fiscal 1999 as part of its Year 2000 mitigation efforts. Based upon current information, the Company estimates that the total cost of implementing its Year 2000 initiative will be between $200 million and $225 million. The decrease in these estimates from amounts previously reported is associated with the Company's sale of its interest in the operations of SPS and with revised internal estimates. The Year 2000 costs include all activities undertaken on Year 2000 related matters across the Company, including, but not limited to, remediation, testing (internal and external), third- party review, risk mitigation and contingency planning. Through November 30, 1998, the Company expended approximately $110 million on the Year 2000 project. The Company expects the majority of the remaining costs to be directed primarily toward testing activities. These costs have been and will continue to be funded through operating cash flow and are expensed in the period in which they are incurred. The Company's expectations about future costs, the timely completion and the potential risks of its Year 2000 modifications are subject to uncertainties that could cause actual results to differ materially from what has been discussed above. Factors that could influence the amount of future costs and the effective timing of remediation efforts include the success of the Company in identifying computer programs and non-information technology systems that contain two-digit year codes; the nature and amount of programming and testing required to upgrade or replace each of the affected programs and systems; the nature and amount of testing, verification and reporting required by the Company's regulators around the world, including securities exchanges, central banks and various governmental regulatory bodies; the rate and magnitude of related labor and consulting costs; and the success of the Company's external counterparties and suppliers, as well as worldwide exchanges, clearing organizations and depositories, in addressing the Year 2000 issue. EMU EMU replaces the national currencies of 11 participating European Union countries with a single European currency -- the euro. The euro was launched on January 1, 1999, when the European Central Bank assumed control of monetary policy for the participating nations. During the transition period until the national currencies are withdrawn from circulation (July 2002 at the latest), such currencies will continue to exist but only as fixed denominations of the euro. EMU will primarily impact the Company's Securities and Asset Management business. The introduction of the euro presents major business opportunities for financial market participants such as the Company. The Company expects that the introduction of the euro will lead to greater cross-border price transparency and will have a significant impact on the markets in which the Company operates. The Company prepared actively for the introduction of the euro and implemented significant modifications to its information technology systems and programs in order to prepare for transition to the euro. The Company engaged in extensive testing of the 45 Morgan Stanley Dean Witter * 1998 Annual Report systems and processes affected by EMU and also communicated extensively with its clients and counterparties regarding the implications of EMU. The Company considers that the initial redenomination exercise that took place between January 1 and January 3, 1999 was successful from the perspective of its internal systems and books and records. Despite certain initial issues with the settlement of euro payments, as of January 31, 1999 it appears that the changeover to the euro has been successful across Europe. Based upon current information, the Company estimates that the costs associated with reviewing, amending and testing its information technology systems to prepare for EMU for fiscal 1998 and through the project's completion will be approximately $76 million. Substantially all of such costs were incurred by the end of fiscal 1998. These costs have been and will continue to be funded through operating cash flow and are expensed in the period in which they are incurred. REGULATORY CAPITAL REQUIREMENTS Dean Witter Reynolds Inc. ("DWR") and MS&Co. are registered broker- dealers and registered futures commission merchants and, accordingly, are subject to the minimum net capital requirements of the Securities and Exchange Commission ("SEC"), the New York Stock Exchange and the Commodity Futures Trading Commission. MSIL, a London-based broker-dealer subsidiary, is regulated by the Securities and Futures Authority ("SFA") in the United Kingdom and, accordingly, is subject to the Financial Resources Requirements of the SFA. Morgan Stanley Japan Limited ("MSJL"), a Tokyo-based broker-dealer, is regulated by the Japanese Ministry of Finance with respect to regulatory capital requirements. DWR, MS&Co., MSIL and MSJL have consistently operated in excess of their respective regulatory requirements (see Note 11 to the consolidated financial statements). Certain of the Company's subsidiaries are Federal Deposit Insurance Corporation ("FDIC") insured financial institutions. Such subsidiaries are therefore subject to the regulatory capital requirements adopted by the FDIC. These subsidiaries have consistently operated in excess of these and other regulatory requirements. Certain other U.S. and non-U.S. subsidiaries are subject to various securities, commodities and banking regulations and capital adequacy requirements promulgated by the regulatory and exchange authorities of the countries in which they operate. These subsidiaries have consistently operated in excess of their applicable local capital adequacy requirements. In addition, Morgan Stanley Derivative Products Inc., a triple-A rated subsidiary through which the Company conducts some of its derivative activities, has established certain operating restrictions which have been reviewed by various rating agencies. EFFECTS OF INFLATION AND CHANGES IN FOREIGN EXCHANGE RATES Because the Company's assets to a large extent are liquid in nature, they are not significantly affected by inflation. However, inflation may result in increases in the Company's expenses, which may not be readily recoverable in the price of services offered. To the extent inflation results in rising interest rates and has other adverse effects upon the securities markets, on the value of financial instruments and upon the markets for consumer credit services, it may adversely affect the Company's financial position and profitability. A portion of the Company's business is conducted in currencies other than the U.S. dollar. Non-U.S. dollar assets typically are financed by direct borrowing or swap-based funding in the same currency. Changes in foreign exchange rates affect non-U.S. dollar revenues as well as non-U.S. dollar expenses. Those foreign exchange exposures that arise and are not hedged by an offsetting foreign currency exposure are actively managed by the Company to minimize risk of loss due to currency fluctuations. DERIVATIVE FINANCIAL INSTRUMENTS The Company actively offers to clients and trades for its own account a variety of financial instruments described as "derivative products" or "derivatives." These products generally take the form of futures, forwards, options, swaps, caps, collars, floors, swap options and similar instruments which derive their value from underlying interest rates, foreign exchange rates, or commodity or equity instruments and indices. All of the Company's trading-related divisions use derivative products as an integral part of their respective trading strategies, and such products are used extensively to manage the market exposure that results from a variety of proprietary trading activities (see Note 9 to the consolidated financial statements). In addition, as a dealer in certain derivative products, most notably interest rate and currency swaps, the Company enters into derivative contracts to meet a variety of risk management and other financial needs of its clients. Given the highly integrated nature of derivative products and related cash instruments in the determination of overall trading division profitability and the context in which the Company 46 Morgan Stanley Dean Witter * 1998 Annual Report manages its trading areas, it is not meaningful to allocate trading revenues between the derivative and underlying cash instrument components. Moreover, the risks associated with the Company's derivative activities, including market and credit risks, are managed on an integrated basis with associated cash instruments in a manner consistent with the Company's overall risk management policies and procedures (see "Risk Management" following "Management's Discussion and Analysis of Financial Condition and Results of Operations"). It should be noted that while particular risks may be associated with the use of derivatives, in many cases derivatives serve to reduce, rather than increase, the Company's exposure to market, credit and other risks. The total notional value of derivative trading contracts outstanding at November 30, 1998 was $2,860 billion (as compared with $2,529 billion at November 30, 1997). While these amounts are an indication of the degree of the Company's use of derivatives for trading purposes, they do not represent the Company's market or credit exposure and may be more indicative of customer utilization of derivatives. The Company's exposure to market risk relates to changes in interest rates, foreign currency exchange rates or the fair value of the underlying financial instruments or commodities. The Company's exposure to credit risk at any point in time is represented by the fair value of such contracts reported as assets. Such total fair value outstanding as of November 30, 1998 was $21.4 billion. Approximately $16.2 billion of that credit risk exposure was with counterparties rated single-A or better (see Note 9 to the consolidated financial statements). The Company also uses derivative products (primarily interest rate, currency and equity swaps) to assist in asset and liability management, reduce borrowing costs and hedge interest rate risk (see Note 6 to the consolidated financial statements). The Company believes that derivatives are valuable tools that can provide cost-effective solutions to complex financial problems and remains committed to providing its clients with innovative financial products. The Company established Morgan Stanley Derivative Products Inc. to offer derivative products to clients who will enter into derivative transactions only with triple-A rated counterparties. In addition, the Company, through its continuing involvement with regulatory, self-regulatory and industry activities such as the International Swaps and Derivatives Association Inc. ("ISDA"), the Securities Industry Association, the Group of 30 and the U.S. securities firms' Derivatives Policy Group, provides leadership in the development of policies and practices in order to maintain confidence in the markets for derivative products, which is critical to the Company's ability to assist clients in meeting their overall financial needs. 47 EX-13.4 16 RISK MANAGEMENT EXHIBIT 13.4 RISK MANAGEMENT - -------------------------------------------------------------------------------- RISK MANAGEMENT POLICY AND CONTROL STRUCTURE Risk is an inherent part of the Company's business and activities. The extent to which the Company properly and effectively identifies, assesses, monitors and manages each of the various types of risk involved in its activities is critical to its soundness and profitability. The Company's broad-based portfolio of business activities helps reduce the impact that volatility in any particular area or related areas may have on its net revenues as a whole. The Company seeks to identify, assess, monitor and manage, in accordance with defined policies and procedures, the following principal risks involved in the Company's business activities: market risk, credit risk, operational risk, legal risk and funding risk. Funding risk is discussed in the Liquidity and Capital Resources section of Management's Discussion and Analysis of Financial Condition and Results of Operations beginning on page 23. Risk management at the Company is a multi-faceted process with independent oversight that requires constant communication, judgment and knowledge of specialized products and markets. The Company's senior management takes an active role in the risk management process and has developed policies and procedures that require specific administrative and business functions to assist in the identification, assessment and control of various risks. In recognition of the increasingly varied and complex nature of the global financial services business, the Company's risk management policies and procedures are evolutionary in nature and are subject to ongoing review and modification. The Management Committee, composed of the Company's most senior officers, establishes the overall risk management policies for the Company and reviews the Company's performance relative to these policies. The Management Committee has created several Risk Committees to assist it in monitoring and reviewing the Company's risk management practices. These Risk Committees, as well as other committees established to manage and monitor specific risks, review the risk monitoring and risk management policies and procedures relating to the Company's market 47 Morgan Stanley Dean Witter * 1998 Annual Report and credit risk profile, sales practices, pricing of consumer loans and reserve adequacy, legal enforceability and operational and systems risks. The Controllers, Treasury, Law, Compliance and Governmental Affairs and Firm Risk Management Departments, which are all independent of the Company's business units, assist senior management and the Risk Committees in monitoring and controlling the Company's risk profile. In addition, the Internal Audit Department, which also reports to senior management, periodically examines and evaluates the Company's operations and control environment. The Company continues to be committed to employing qualified personnel with appropriate expertise in each of its various administrative and business areas to implement effectively the Company's risk management and monitoring systems and processes. The following is a discussion of the Company's risk management policies and procedures for its principal risks (other than funding risk). The discussion focuses on the Company's securities trading (primarily its institutional trading activities) and consumer lending and related activities. The Company believes that these activities generate a substantial portion of its principal risks. This discussion and the estimated amounts of the Company's market risk exposure generated by the Company's statistical analyses are forward-looking statements. However, the analyses used to assess such risks are not predictions of future events, and actual results may vary significantly from such analyses due to actual events in the markets in which the Company operates and certain other factors described below. MARKET RISK Market risk refers to the risk that a change in the level of one or more market prices, rates, indices, volatilities, correlations or other market factors, such as liquidity, will result in losses for a specified position or portfolio. For a discussion of the Company's currency exposure relating to its net monetary investments in non-U.S. dollar functional currency subsidiaries, see Note 11 to the consolidated financial statements. TRADING AND RELATED ACTIVITIES Primary Market Risk Exposures and Market Risk Management During fiscal 1998, the Company had exposures to a wide range of interest rates, equity prices, foreign exchange rates and commodity prices -- and associated volatilities and spreads -- related to a broad spectrum of global markets in which it conducts its trading activities. The Company is exposed to interest rate risk as a result of maintaining market making and proprietary positions and trading in interest rate sensitive financial instruments (e.g., risk arising from changes in the level or volatility of interest rates, the timing of mortgage prepayments, the shape of the yield curve and credit spreads for corporate bonds and emerging market debt). The Company is exposed to equity price risk as a result of making markets in equity securities and equity derivatives and maintaining proprietary positions. The Company is exposed to foreign exchange rate risk in connection with making markets in foreign currencies, foreign currency options and maintaining foreign exchange positions. The Company's currency trading covers many foreign currencies, including the yen, deutsche mark, pound sterling, French franc and, on a going-forward basis, the euro. The Company is exposed to commodity price risk as a result of trading in commodity-related derivatives and physical commodities. The Company manages its trading positions by employing a variety of strategies, which include diversification of risk exposures and the purchase or sale of positions in related securities and financial instruments, including a variety of derivative products (e.g., swaps, options, futures and forwards). The Company manages the market risk associated with its trading activities on a Company-wide basis, on a trading division level worldwide and on an individual product basis. The Company manages and monitors its market risk exposures in such a way as to maintain a portfolio that the Company believes is well-diversified with respect to market risk factors. Market risk limits have been approved for the Company and each major trading division of the Company worldwide (equity, fixed income, foreign exchange and commodities). Discrete market risk limits are assigned to trading desks and, as appropriate, products and regions, that are compatible with the trading division limits. Trading division risk managers, desk risk managers and the Firm Risk Management Department all monitor market risk measures against limits and report major market and position events to senior management. The Firm Risk Management Department independently reviews the Company's trading portfolios on a regular basis from a market risk perspective utilizing Value-at-Risk and other quantitative and qualitative risk measurements and analyses. The Company may use 48 Morgan Stanley Dean Witter * 1998 Annual Report measures, such as rate sensitivity, convexity, volatility and time decay measurements, to estimate market risk and to assess the sensitivity of positions to changes in market conditions. Stress testing, which measures the impact on the value of existing portfolios of specified changes in market factors, for certain products is performed periodically and reviewed by trading division risk managers, desk risk managers and the Firm Risk Management Department. Value-at-Risk The statistical technique known as Value-at-Risk ("VaR") is one of the tools used by management to measure, monitor and review the market risk exposures of the Company's trading portfolios. The Company's independent Firm Risk Management Department calculates and distributes daily VaR-based risk measures to various levels of management. VaR Methodology, Assumptions and Limitations The Company estimates VaR using a model based on historical simulation with a confidence level of 99%. Historical simulation involves constructing a distribution of hypothetical daily changes in trading portfolio value. The hypothetical changes in portfolio value are based on daily observed percentage changes in key market indices or other market factors ("market risk factors") to which the portfolio is sensitive. In the case of the Company's VaR, the historical observation period is approximately four years. The Company's one-day 99% VaR corresponds to the negative change in portfolio value that, based on observed market risk factor movements, would have been exceeded with a frequency of 1%, or once in 100 trading days. The VaR model generally takes into account linear and non-linear exposures to price and interest rate risk and linear exposure to implied volatility risks. Market risks that are incorporated in the VaR model include equity and commodity prices, interest rates, foreign exchange rates and associated volatilities, as well as correlation that exists among these variables. As a supplement to the use of historical simulation for major market risk factors, the Company's VaR model uses Monte Carlo simulation to capture name-specific risk in global equities and in U.S. corporate and high-yield bonds. As of November 30, 1998, a total of approximately 500 market risk factor benchmark data series were incorporated in the Company's VaR model covering interest rates, equity prices, foreign exchange rates, commodity prices and associated volatilities. In addition, the model includes market risk factors for approximately 7,500 equity names and 60 classes of corporate and high-yield bonds. VaR models such as the Company's are continually evolving as the composition of trading portfolios change and as modeling techniques and systems capabilities improve. During fiscal 1998, as part of the Company's ongoing program of VaR model enhancement, position and risk coverage were broadened and risk measurement methodologies were refined. Included in such enhancements were improved capture of implied volatility risks in certain derivative products and interest rate related risks in mortgage-backed and emerging-market financial instruments, which had the primary effect of increasing the VaR for interest rate risk. Among their benefits, VaR models permit estimation of a portfolio's aggregate market risk exposure, incorporating a range of varied market risks; reflect risk reduction due to portfolio diversification; and can cover a wide range of portfolio assets yet are relatively easy to interpret. However, VaR risk measures should be interpreted in light of the methodology's limitations, which include the following: past changes in market risk factors will not always yield accurate predictions of the distributions and correlations of future market movements; changes in portfolio value in response to market movements may differ from the responses implicit in a VaR model; published VaR results reflect past trading positions while future risk depends on future positions; VaR using a one-day time horizon does not fully capture the market risk of positions that cannot be liquidated or hedged within one day; and the historical market risk factor data used for VaR estimation may provide only limited insight into losses that could be incurred under certain unusual market movements. The Company is aware of these and other limitations and therefore uses VaR as only one component in its risk management review process. This process also incorporates stress testing and extensive risk monitoring and control at the trading desk, division and Company levels. VaR for Fiscal 1998 The table below presents the results of the Company's VaR for each of the Company's primary market risk exposures and on an aggregate basis at November 30, 1998 and November 30, 1997, incor- 49 Morgan Stanley Dean Witter * 1998 Annual Report porating substantially all financial instruments generating market risk (including funding liabilities related to hedging trading positions, retail trading activities and certain private equity positions that are not reported separately because the aggregate impact on the Company's VaR was not material). However, a small proportion of trading positions generating market risk were not covered, and the modeling of the risk characteristics of some positions involved approximations which could be significant under certain circumstances. Market risks that the Company has found particularly difficult to incorporate in its VaR model include certain risks associated with mortgage-backed securities, some commodity price risks (such as electricity price risk) and liquidity risks in certain financial products. Since VaR is based on historical data and changes in market risk factor returns, VaR should not be viewed as predictive of the Company's future financial performance or its ability to manage and monitor risk, and there can be no assurance that the Company's actual losses on a particular day will not exceed the VaR amounts indicated below or that such losses will not occur more than once in 100 trading days. 99%/One-Day VaR Primary Market Risk Category at November 30, (dollars in millions, pre-tax) 1998 1997(1) ================================================================================ Interest rate $36 $42 Equity price 17 17 Foreign exchange rate 5 7 Commodity price 6 6 - -------------------------------------------------------------------------------- Subtotal 64 72 Less diversification benefit(2) 26 26 - -------------------------------------------------------------------------------- Aggregate Value-at-Risk $38 $46 ================================================================================ (1) The Interest rate and Aggregate Value-at-Risk for fiscal 1997 have been restated to reflect the estimated impact of enhancements to the Company's VaR model made during fiscal 1998 described above. (2) Equals the difference between Aggregate VaR and the sum of the VaRs for the four risk categories. This benefit arises because the simulated 99%/one-day losses for each of the four primary market risk categories occur on different days; similar diversification benefits also are taken into account within each such category. The change in Aggregate Value-at-Risk from November 30, 1997 to November 30, 1998 primarily reflected a reduction in certain interest rate risk positions. In order to facilitate comparison with other global financial services firms, the Company notes that its aggregate VaR at November 30, 1998 for other confidence levels and time horizons was as follows: $26 million for 95%/one-day VaR and $121 million for 99%/two-week VaR. The table below presents the average, high and low 99%/one-day VaR over the course of fiscal 1998 for substantially all of the Company's institutional trading activities. This measure of VaR incorporates most of the Company's trading-related market risks. Certain market risks included in the year-end VaR discussed above are excluded from this measure (i.e., those associated with the Company's retail trading activities, equity price risk in certain private equity positions and funding liabilities related to hedging trading positions). Primary Market Risk Category Daily 99%/One-Day VaR for Fiscal 1998 (dollars in millions, pre-tax) High Low Average ============================================================================ Interest rate $50 $35 $41 Equity price 19 12 15 Foreign exchange rate 10 3 5 Commodity price 8 5 6 Aggregate Value-at-Risk $50 $35 $43 ============================================================================ The Company evaluates the reasonableness of its VaR model by comparing the potential declines in portfolio values generated by the model with actual trading results. Despite volatile market conditions during fiscal 1998, there were no days during which the Company incurred daily trading losses in its institutional trading business in excess of the 99%/one-day VaR which incorporates the enhancements to the Company's VaR model made during fiscal 1998. The chart below presents the Company's daily 99%/one-day VaR for its institutional trading activities over the course of fiscal 1998: [LINE GRAPH APPEARS HERE] Description of the Line Graph: Shown on page 50 is a line graph displaying 99%/one-day Value-at-Risk, as defined in the annual report text, for trading days in fiscal year 1998. The horizontal axis of the chart is marked to indicate the start of each fiscal quarter. The vertical axis of the chart is marked to indicate VaR in millions of dollars. The values displayed in the graph start the fiscal year in the $45-50 million range and end the fiscal year in the $35-40 million range. The maximum VaR, of approximately $50 million, is reached in the first quarter and the minimum VaR, of approximately $35 million, is reached in the fourth quarter. 50 Morgan Stanley Dean Witter * 1998 Annual Report CONSUMER LENDING AND RELATED ACTIVITIES Interest Rate Risk and Management In its consumer lending activities, the Company is exposed to market risk primarily from changes in interest rates. Such changes in interest rates impact interest earning assets, principally credit card and other consumer loans and net servicing fees received in connection with consumer loans sold through asset securitizations, as well as the interest-sensitive liabilities which finance these assets, including asset securitizations, commercial paper, medium-term notes, long-term borrowings, deposits, asset-backed commercial paper, Federal Funds and short-term bank notes. The Company's interest rate risk management policies are designed to reduce the potential volatility of earnings which may arise from changes in interest rates. This is accomplished primarily by matching the repricing of credit card and consumer loans and the related financing. To the extent that asset and related financing repricing characteristics of a particular portfolio are not matched effectively, the Company utilizes interest rate derivative contracts, such as swap and cap agreements, to achieve its matched financing objectives. Interest rate swap agreements effectively convert the underlying asset or financing from fixed to variable repricing, from variable to fixed repricing or, in more limited circumstances, from variable to variable repricing. Interest rate cap agreements effectively establish a maximum interest rate on certain variable rate financings. Sensitivity Analysis Methodology, Assumptions and Limitations For its consumer lending activities, the Company uses a variety of techniques to assess its interest rate risk exposure, one of which is interest rate sensitivity simulation. For purposes of presenting the possible earnings effect of a hypothetical, adverse change in interest rates over the 12-month period from its fiscal year-end, the Company assumes that all interest rate sensitive assets and liabilities will be impacted by a hypothetical, immediate 100 basis point increase in interest rates as of the beginning of the period. Interest rate sensitive assets are assumed to be those for which the stated interest rate is not contractually fixed for the next 12-month period. Thus, assets which have a market-based index, such as the prime rate, which will reset before the end of the 12-month period, or assets with rates that are fixed at fiscal year-end, but which will mature, or otherwise contractually reset to a market-based indexed rate prior to the end of the 12-month period, are rate-sensitive. The latter category includes certain credit card loans which may be offered at below-market rates for an introductory period, such as for balance transfers and special promotional programs, after which the loans will contractually reprice in accordance with the Company's normal market-based pricing structure. For purposes of measuring rate-sensitivity for such loans, only the effect of the hypothetical 100 basis point change in the underlying market-based index, such as the prime rate, has been considered rather than the full change in the rate to which the loan would contractually reprice. For assets which have a fixed rate at fiscal year-end, but which contractually will, or are assumed to, reset to a market-based index during the next 12 months, earnings sensitivity is measured from the expected repricing date. In addition, for all interest rate sensitive assets, earnings sensitivity is calculated net of expected loan losses. Interest rate sensitive liabilities are assumed to be those for which the stated interest rate is not contractually fixed for the next 12-month period. Thus, liabilities which have a market-based index, such as the prime, commercial paper, or LIBOR rates, which will reset before the end of the 12-month period, or liabilities whose rates are fixed at fiscal year-end, but which will mature and be replaced with a market-based indexed rate prior to the end of the 12-month period, are rate-sensitive. For liabilities which have a fixed rate at fiscal year-end, but which are assumed to reset to a market-based index during the next 12 months, earnings sensitivity is measured from the expected repricing date. Assuming a hypothetical, immediate 100 basis point increase in the interest rates affecting all interest rate sensitive assets and liabilities as of November 30, 1998, pre-tax income of consumer lending and related activities over the following 12-month period would be reduced by approximately $65 million. The comparable reduction of pre-tax income for the 12-month period following November 30, 1997 was estimated to be approximately $66 million. The hypothetical model assumes that the balances of interest rate sensitive assets and liabilities at fiscal year-end will remain constant over the next 12-month period. It does not assume any growth, strategic change in business focus, change in asset pricing philosophy or change in asset/liability funding mix. Thus, this model represents a static analysis which cannot adequately portray how the Company would respond to significant changes in market conditions. Furthermore, the analysis does not necessarily reflect the Company's expectations regarding the movement of interest rates in 51 Morgan Stanley Dean Witter * 1998 Annual Report the near term, including the likelihood of an immediate 100 basis point change in market interest rates nor necessarily the actual effect on earnings if such rate changes were to occur. The Company anticipates the repricing of a substantial portion of its existing credit card receivables to a fixed interest rate during fiscal 1999. The Company does not believe this repricing will have a material impact on its interest rate sensitivity due to the Company's matched financing objectives. CREDIT RISK The Company's exposure to credit risk arises from the possibility that a customer or counterparty to a transaction might fail to perform under its contractual commitment, which could result in the Company incurring losses. With respect to its trading activities, the Company has credit guidelines which limit the Company's credit exposure to any one counterparty. Specific credit risk limits based on the credit guidelines also are in place for each type of counterparty (by rating category) as well as for secondary positions in high-yield and emerging market debt. In addition to monitoring credit limits, the Company manages the credit exposure relating to the Company's trading activities by reviewing counterparty financial soundness periodically, by entering into master netting agreements and collateral arrangements with counterparties in appropriate circumstances and by limiting the duration of exposure. With respect to its consumer lending activities, potential credit card holders undergo credit reviews by the Credit Department to establish that they meet standards of ability and willingness to pay. Credit card applications are evaluated using scoring models (statistical evaluation models) based on information obtained from credit bureaus. The Company's credit scoring systems include both industry and customized models using the Company's criteria and historical data. Each cardmember's credit line is reviewed at least annually, and actions resulting from such review may include lowering a cardmember's credit line or closing the account. In addition, the Company reviews the creditworthiness of prospective Discover/NOVUS Network merchants and conducts annual reviews of merchants, with the greatest scrutiny given to merchants with substantial sales volume. OPERATIONAL RISK Operational risk refers to the risk of loss resulting from improper processing of transactions or deficiencies in the Company's operating systems or control processes. With respect to its trading activities, the Company has developed and continues to enhance specific policies and procedures that are designed to provide, among other things, that all transactions are accurately recorded and properly reflected in the Company's books and records and confirmed on a timely basis; position valuations are subject to periodic independent review procedures; and adequate documentation (e.g., master agreements) is obtained from counterparties in appropriate circumstances. With respect to its consumer lending activities, operating systems are designed to provide for the efficient servicing of consumer loan accounts. The Company manages operational risk through its system of internal controls which provides checks and balances to ensure that transactions and other account-related activity (e.g., new account solicitation, transaction authorization and processing, billing and collection of delinquent accounts) are properly approved, processed, recorded and reconciled. Disaster recovery plans are in place on a Company-wide basis for critical systems, and redundancies are built into the systems as deemed appropriate. LEGAL RISK Legal risk includes the risk of non-compliance with applicable legal and regulatory requirements and the risk that a counterparty's performance obligations will be unenforceable. The Company is generally subject to extensive regulation in the different jurisdictions in which it conducts its business. The Company has established procedures based on legal and regulatory requirements on a worldwide basis that are designed to ensure compliance with all applicable statutory and regulatory requirements. The Company, principally through the Law, Compliance and Governmental Affairs Department, also has established procedures that are designed to ensure that senior management's policies relating to conduct, ethics and business practices are followed globally. In connection with its business, the Company has various procedures addressing issues, such as regulatory capital requirements, sales and trading practices, new products, use and safekeeping of customer funds and securities, credit granting, collection activities, money-laundering and recordkeeping. The Company also has established procedures to mitigate the risk that a counterparty's performance obligations will be unenforceable, including consideration of counterparty legal authority and capacity, adequacy of legal documentation, the permissibility of a transaction under applicable law and whether applicable bankruptcy or insolvency laws limit or alter contractual remedies. 52 EX-13.5 17 CONSOLIDATED FINANCIAL STATEMENTS EXHIBIT 13.5 Morgan Stanley Dean Witter * 1998 Annual Report REPORT OF INDEPENDENT AUDITORS TO THE BOARD OF DIRECTORS AND SHAREHOLDERS OF MORGAN STANLEY DEAN WITTER & CO. We have audited the accompanying consolidated statements of financial condition of Morgan Stanley Dean Witter & Co. and subsidiaries as of fiscal years ended November 30, 1998 and 1997, and the related consolidated statements of income, cash flows and changes in shareholders' equity for each of the three fiscal years in the period ended November 30, 1998. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. The consolidated financial statements give retroactive effect to the merger of Morgan Stanley Group Inc. and Dean Witter, Discover & Co., which has been accounted for as a pooling of interests as described in Note 1 to the consolidated financial statements. We did not audit the consolidated statements of income, cash flows and changes in shareholders' equity of Morgan Stanley Group Inc. and subsidiaries for the fiscal year ended November 30, 1996, which statements reflect total revenues of $13,144 million for the fiscal year then ended. Those statements were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for Morgan Stanley Group Inc. and subsidiaries for such period, is based solely on the report of such other auditors. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits and the report of the other auditors provide a reasonable basis for our opinion. In our opinion, based on our audits and the report of the other auditors, the accompanying consolidated financial statements present fairly, in all material respects, the consolidated financial position of Morgan Stanley Dean Witter & Co. and subsidiaries at fiscal years ended November 30, 1998 and 1997, and the consolidated results of their operations and their cash flows for each of the three fiscal years in the period ended November 30, 1998, in conformity with generally accepted accounting principles. As discussed in Note 2 to the consolidated financial statements, in fiscal 1998, Morgan Stanley Dean Witter & Co. changed its method of accounting for certain offering costs of closed-end funds. /s/ Deloitte & Touche LLP New York, New York January 22, 1999 53 Morgan Stanley Dean Witter * 1998 Annual Report CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(dollars in millions, except share data) NOVEMBER 30, 1998 NOVEMBER 30, 1997 ========================================================================================================================== ASSETS Cash and cash equivalents $ 16,878 $ 8,255 Cash and securities deposited with clearing organizations or segregated under federal and other regulations (including securities at fair value of $7,518 at November 30, 1998 and $4,655 at November 30, 1997) 10,531 6,890 Financial instruments owned: U.S. government and agency securities 12,350 12,901 Other sovereign government obligations 15,050 22,900 Corporate and other debt 22,388 24,499 Corporate equities 14,289 10,329 Derivative contracts 21,442 17,146 Physical commodities 416 242 Securities purchased under agreements to resell 79,570 84,516 Receivable for securities provided as collateral(1) 4,388 -- Securities borrowed 69,338 55,266 Receivables: Consumer loans (net of allowances of $787 at November 30, 1998 and $884 at November 30, 1997) 15,209 20,033 Customers, net 18,785 12,259 Brokers, dealers and clearing organizations 4,432 13,263 Fees, interest and other 3,359 4,705 Office facilities, at cost (less accumulated depreciation and amortization of $1,837 at November 30, 1998 and $1,279 at November 30, 1997) 1,834 1,705 Other assets 7,331 7,378 - -------------------------------------------------------------------------------------------------------------------------- Total assets $ 317,590 $ 302,287 ==========================================================================================================================
54 Morgan Stanley Dean Witter * 1998 Annual Report
(dollars in millions, except share data) NOVEMBER 30, 1998 NOVEMBER 30, 1997 ========================================================================================================================== LIABILITIES AND SHAREHOLDERS' EQUITY Commercial paper and other short-term borrowings $ 28,137 $ 22,614 Deposits 8,197 8,993 Financial instruments sold, not yet purchased: U.S. government and agency securities 11,305 11,563 Other sovereign government obligations 13,899 12,095 Corporate and other debt 3,093 1,699 Corporate equities 11,501 13,305 Derivative contracts 21,198 15,599 Physical commodities 348 68 Securities sold under agreements to repurchase 92,327 111,680 Obligation to return securities received as collateral(1) 6,636 -- Securities loaned 23,152 14,141 Payables: Customers 40,606 25,086 Brokers, dealers and clearing organizations 5,244 16,097 Interest and dividends 371 970 Other liabilities and accrued expenses 8,623 8,630 Long-term borrowings 27,435 24,792 - ------------------------------------------------------------------------------------------------------------------------- 302,072 287,332 - ------------------------------------------------------------------------------------------------------------------------- Capital Units 999 999 - ------------------------------------------------------------------------------------------------------------------------- Preferred Securities Issued by Subsidiaries 400 -- - ------------------------------------------------------------------------------------------------------------------------- Commitments and contingencies Shareholders' equity: Preferred stock 674 876 Common stock ($0.01 par value, 1,750,000,000 shares authorized, 605,842,952 and 602,829,994 shares issued, 565,670,808 and 594,708,971 shares outstanding at November 30, 1998 and November 30, 1997) 6 6 Paid-in capital 3,746 3,727 Retained earnings 12,080 9,330 Employee stock trust 1,913 1,681 Cumulative translation adjustments (12) (9) - ------------------------------------------------------------------------------------------------------------------------- Subtotal 18,407 15,611 Note receivable related to sale of preferred stock to ESOP (60) (68) Common stock held in treasury, at cost ($0.01 par value, 40,172,144 and 8,121,023 shares at November 30, 1998 and November 30, 1997) (2,702) (250) Common stock issued to employee trust (1,526) (1,337) - ------------------------------------------------------------------------------------------------------------------------- Total shareholders' equity 14,119 13,956 - ------------------------------------------------------------------------------------------------------------------------- Total liabilities and shareholders' equity $317,590 $302,287 =========================================================================================================================
(1) These amounts relate to the Company's adoption of SFAS No. 127. See Notes to Consolidated Financial Statements. 55 Morgan Stanley Dean Witter * 1998 Annual Report CONSOLIDATED STATEMENTS OF INCOME
fiscal year (dollars in millions, except share and per share data) 1998 1997 1996 ============================================================================================================================== Revenues: Investment banking $ 3,340 $ 2,694 $ 2,190 Principal transactions: Trading 3,291 3,191 2,659 Investments 89 463 86 Commissions 2,353 2,086 1,776 Fees: Asset management, distribution and administration 2,849 2,505 1,732 Merchant and cardmember 1,647 1,704 1,505 Servicing 928 762 809 Interest and dividends 16,436 13,583 11,288 Other 198 144 126 - ----------------------------------------------------------------------------------------------------------------------------- Total revenues 31,131 27,132 22,171 Interest expense 13,514 10,806 8,934 Provision for consumer loan losses 1,173 1,493 1,214 - ----------------------------------------------------------------------------------------------------------------------------- Net revenues 16,444 14,833 12,023 - ----------------------------------------------------------------------------------------------------------------------------- Non-interest expenses: Compensation and benefits 6,636 6,019 5,071 Occupancy and equipment 583 526 493 Brokerage, clearing and exchange fees 552 460 317 Information processing and communications 1,140 1,080 996 Marketing and business development 1,411 1,179 1,027 Professional services 677 451 334 Other 745 770 668 Merger-related expenses -- 74 -- - ----------------------------------------------------------------------------------------------------------------------------- Total non-interest expenses 11,744 10,559 8,906 - ----------------------------------------------------------------------------------------------------------------------------- Gain on sale of businesses 685 -- -- - ----------------------------------------------------------------------------------------------------------------------------- Income before income taxes and cumulative effect of accounting change 5,385 4,274 3,117 Provision for income taxes 1,992 1,688 1,137 - ----------------------------------------------------------------------------------------------------------------------------- Income before cumulative effect of accounting change 3,393 2,586 1,980 Cumulative effect of accounting change (117) -- -- - ----------------------------------------------------------------------------------------------------------------------------- Net income $3,276 $2,586 $1,980 - ----------------------------------------------------------------------------------------------------------------------------- Preferred stock dividend requirements $ 55 $ 66 $ 66 - ----------------------------------------------------------------------------------------------------------------------------- Earnings applicable to common shares(1) $3,221 $2,520 $1,914 Earnings per common share(2): Basic before cumulative effect of accounting change $ 5.80 $ 4.38 $ 3.34 Cumulative effect of accounting change $(0.20) $ -- $ -- - ----------------------------------------------------------------------------------------------------------------------------- Basic $ 5.60 $ 4.38 $ 3.34 - ----------------------------------------------------------------------------------------------------------------------------- Diluted before cumulative effect of accounting change $ 5.52 $ 4.16 $ 3.16 Cumulative effect of accounting change $(0.19) $ -- $ -- - ----------------------------------------------------------------------------------------------------------------------------- Diluted $ 5.33 $ 4.16 $ 3.16 - ----------------------------------------------------------------------------------------------------------------------------- Average common shares outstanding(2): Basic 575,822,725 574,818,233 573,356,930 Diluted 606,294,065 606,306,475 606,790,754 - -----------------------------------------------------------------------------------------------------------------------------
(1) Amounts shown are used to calculate basic earnings per common share. (2) Per share and share data for fiscal 1997 and 1996 have been restated to reflect the Company's adoption of SFAS No. 128. See Notes to Consolidated Financial Statements. 56 Morgan Stanley Dean Witter * 1998 Annual Report CONSOLIDATED STATEMENTS OF CASH FLOWS
fiscal year (dollars in millions) 1998 1997 1996 ========================================================================================================================= CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 3,276 $ 2,586 $ 1,980 Adjustments to reconcile net income to net cash provided by (used for) operating activities: Non-cash charges included in net income: Cumulative effect of accounting change 117 -- -- Gain on sale of businesses (685) -- -- Deferred income taxes (55) (77) (426) Compensation payable in common or preferred stock 334 374 513 Depreciation and amortization 575 338 251 Provision for consumer loan losses 1,173 1,493 1,214 Changes in assets and liabilities: Cash and securities deposited with clearing organizations or segregated under federal and other regulations (3,641) (1,691) (1,943) Financial instruments owned, net of financial instruments sold, not yet purchased 11,127 1,730 (2,536) Securities borrowed, net of securities loaned (5,061) (10,561) (13,087) Receivables and other assets 2,114 (13,808) (8,227) Payables and other liabilities 6,095 19,058 6,910 - ------------------------------------------------------------------------------------------------------------------------- Net cash provided by (used for) operating activities 15,369 (558) (15,351) - ------------------------------------------------------------------------------------------------------------------------- CASH FLOWS FROM INVESTING ACTIVITIES Net (payments for) proceeds from: Office facilities (358) (301) (152) Sale of businesses, net of disposal costs 1,399 -- -- Purchase of Miller Anderson & Sherrerd, LLP, net of cash acquired -- -- (200) Purchase of Van Kampen American Capital, Inc., net of cash acquired -- -- (986) Net principal disbursed on consumer loans (2,314) (4,994) (7,532) Purchases of consumer loans -- (11) (51) Sales of consumer loans 4,466 2,783 4,824 Other investing activities -- (5) (40) - ------------------------------------------------------------------------------------------------------------------------- Net cash provided by (used for) investing activities 3,193 (2,528) (4,137) - ------------------------------------------------------------------------------------------------------------------------- CASH FLOWS FROM FINANCING ACTIVITIES Net proceeds from (payments for) short-term borrowings 5,620 (1,336) 8,106 Securities sold under agreements to repurchase, net of securities purchased under agreements to resell (14,407) 3,080 7,748 Net proceeds from (payments for): Deposits (796) 2,113 1,022 Issuance of cumulative preferred stock -- -- 540 Issuance of common stock 186 194 156 Issuance of long-term borrowings 9,771 6,619 8,745 Issuance of Preferred Securities Issued by Subsidiaries 400 -- -- Issuance of Capital Units -- 134 -- Payments for: Repayments of long-term borrowings (7,069) (3,964) (2,637) Redemption of cumulative preferred stock (200) (345) (138) Repurchases of common stock (2,925) (124) (1,133) Cash dividends (519) (416) (313) - ------------------------------------------------------------------------------------------------------------------------- Net cash (used for) provided by financing activities (9,939) 5,955 22,096 - ------------------------------------------------------------------------------------------------------------------------- Dean Witter, Discover & Co.'s net cash activity for the month of December 1996 -- (1,158) -- - ------------------------------------------------------------------------------------------------------------------------- Net increase in cash and cash equivalents 8,623 1,711 2,608 Cash and cash equivalents, at beginning of period 8,255 6,544 3,936 - ------------------------------------------------------------------------------------------------------------------------- Cash and cash equivalents, at end of period $ 16,878 $ 8,255 $ 6,544 =========================================================================================================================
See Notes to Consolidated Financial Statements. 57 Morgan Stanley Dean Witter * 1998 Annual Report CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY
Note Receivable Related to Sale of Employee Cumulative Preferred Preferred Common Paid-in Retained Stock Translation Stock to (dollars in millions) Stock Stock Capital Earnings Trust Adjustments ESOP ============================================================================================================================ BALANCE AT FISCAL YEAR-END 1995 $ 818 $ 6 $ 3,456 $ 5,981 $1,050 $(9) $(89) Net income -- -- -- 1,980 -- -- -- Dividends -- -- -- (323) -- -- -- Issuance of common stock in connection with MAS acquisition -- -- 9 -- -- -- -- Redemption of 9.36% Cumulative Preferred Stock (138) -- -- -- -- -- -- Issuance of 7-3/4% Cumulative Preferred Stock 200 -- (3) -- -- -- -- Issuance of Series A Fixed/Adjustable Rate Cumulative Preferred Stock 345 -- (2) -- -- -- -- Conversion of ESOP preferred stock (2) -- 2 -- -- -- -- Issuance of common stock -- -- 97 -- -- -- -- Repurchases of common stock -- -- -- -- -- -- -- Retirement of treasury stock -- -- (4) (161) -- -- -- Compensation payable in common stock -- -- 34 -- 445 -- -- ESOP shares allocated, at cost -- -- -- -- -- -- 11 Translation adjustments -- -- -- -- -- (2) -- - ---------------------------------------------------------------------------------------------------------------------------- BALANCE AT FISCAL YEAR-END 1996 $ 1,223 $ 6 $ 3,589 $ 7,477 $1,495 $(11) $(78) Net income -- -- -- 2,586 -- -- -- Dividends -- -- -- (387) -- -- -- Redemption of 8.88% Cumulative Preferred Stock (195) -- -- -- -- -- -- Redemption of 8-3/4% Cumulative Preferred Stock (150) -- -- -- -- -- -- Conversion of ESOP Preferred Stock (2) -- (1) -- -- -- -- Issuance of common stock -- -- (22) -- -- -- -- Repurchases of common stock -- -- -- -- -- -- -- Compensation payable in common stock -- -- 243 -- 186 -- -- ESOP shares allocated, at cost -- -- -- -- -- -- 10 Retirement of treasury stock -- -- (6) (265) -- -- -- Translation adjustments -- -- -- -- -- 2 -- Issuance of common stock in connection with Lombard acquisition -- -- 14 -- -- -- -- Adjustment for change In Dean Witter Discover's year-end -- -- (90) (81) -- -- -- ===========================================================================================================================
Common Common Stock Held Stock Issued in Treasury to Employee (dollars in millions) at Cost Trust Total ====================================================================================== BALANCE AT FISCAL YEAR-END 1995 $(361) $ (844) $ 10,008 Net income -- -- 1,980 Dividends -- -- (323) Issuance of common stock in connection with MAS acquisition 74 -- 83 Redemption of 9.36% Cumulative Preferred Stock -- -- (138) Issuance of 7-3/4% Cumulative Preferred Stock -- -- 197 Issuance of Series A Fixed/Adjustable Rate Cumulative Preferred Stock -- -- 343 Conversion of ESOP preferred stock -- -- -- Issuance of common stock 133 -- 230 Repurchases of common stock (1,133) -- (1,133) Retirement of treasury stock 165 -- -- Compensation payable in common stock 117 (150) 446 ESOP shares allocated, at cost -- -- 11 Translation adjustments -- -- (2) - --------------------------------------------------------------------------------------- BALANCE AT FISCAL YEAR-END 1996 $(1,005) $ (994) $ 11,702 Net income -- -- 2,586 Dividends -- -- (387) Redemption of 8.88% Cumulative Preferred Stock -- -- (195) Redemption of 8-3/4% Cumulative Preferred Stock -- -- (150) Conversion of ESOP Preferred Stock 3 -- -- Issuance of common stock 246 -- 224 Repurchases of common stock (124) -- (124) Compensation payable in common stock 278 (343) 364 ESOP shares allocated, at cost -- -- 10 Retirement of treasury stock 271 -- -- Translation adjustments -- -- 2 Issuance of common stock in connection with Lombard acquisition 49 -- 63 Adjustment for change In Dean Witter Discover's year-end 32 -- (139) ======================================================================================
58 Morgan Stanley Dean Witter * 1998 Annual Report
Note Receivable Related to Sale of Employee Cumulative Preferred Preferred Common Paid-in Retained Stock Translation Stock to (dollars in millions) Stock Stock Capital Earnings Trust Adjustments ESOP ===================================================================================================================== BALANCE AT NOVEMBER 30, 1997 $876 $6 $3,727 $ 9,330 $ 1,681 $ (9) $(68) Net income -- -- -- 3,276 -- -- -- Dividends -- -- -- (526) -- -- -- Redemption of 7-3/8% Cumulative Preferred Stock (200) -- -- -- -- -- -- Conversion of ESOP Preferred Stock (2) -- (12) -- -- -- -- Issuance of common stock -- -- (210) -- -- -- -- Repurchases of common stock -- -- -- -- -- -- -- Compensation payable in common stock -- -- 241 -- 232 -- -- ESOP shares allocated, at cost -- -- -- -- -- -- 8 Translation adjustments -- -- -- -- -- (3) -- - --------------------------------------------------------------------------------------------------------------------- BALANCE AT NOVEMBER 30, 1998 $674 $6 $3,746 $12,080 $ 1,913 $ (12) $(60) =====================================================================================================================
Common Common Stock Held Stock Issued in Treasury to Employee (dollars in millions) at Cost Trust Total ================================================================================= BALANCE AT NOVEMBER 30, 1997 $(250) $(1,337) $13,956 Net income -- -- 3,276 Dividends -- -- (526) Redemption of 7-3/8% Cumulative Preferred Stock -- -- (200) Conversion of ESOP Preferred Stock 14 -- -- Issuance of common stock 417 -- 207 Repurchases of common stock (2,925) -- (2,925) Compensation payable in common stock 42 (189) 326 ESOP shares allocated, at cost -- -- 8 Translation adjustments -- -- (3) - --------------------------------------------------------------------------------- BALANCE AT NOVEMBER 30, 1998 $(2,702) $(1,526) $14,119 =================================================================================
See Notes to Consolidated Financial Statements. 59 Morgan Stanley Dean Witter * 1998 Annual Report NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. INTRODUCTION AND BASIS OF PRESENTATION - -------------------------------------------------------------------------------- THE MERGER On May 31, 1997, Morgan Stanley Group Inc. ("Morgan Stanley") was merged with and into Dean Witter, Discover & Co. ("Dean Witter Discover") (the "Merger"). At that time, Dean Witter Discover changed its corporate name to Morgan Stanley, Dean Witter, Discover & Co. ("MSDWD"). In conjunction with the Merger, MSDWD issued 260,861,078 shares of its common stock, as each share of Morgan Stanley common stock then outstanding was converted into 1.65 shares of MSDWD's common stock (the "Exchange Ratio"). In addition, each share of Morgan Stanley preferred stock was converted into one share of a corresponding series of preferred stock of MSDWD. The Merger was treated as a tax-free exchange. On March 24, 1998, MSDWD changed its corporate name to Morgan Stanley Dean Witter & Co. (the "Company"). THE COMPANY The consolidated financial statements include the accounts of the Company and its U.S. and international subsidiaries, including Morgan Stanley & Co. Incorporated ("MS&Co."), Morgan Stanley & Co. International Limited ("MSIL"), Morgan Stanley Japan Limited ("MSJL"), Dean Witter Reynolds Inc. ("DWR"), Morgan Stanley Dean Witter Advisors Inc. (formerly known as Dean Witter InterCapital Inc.) and NOVUS Credit Services Inc. The Company, through its subsidiaries, provides a wide range of financial and securities services on a global basis and provides credit and transaction services nationally. Its Securities and Asset Management businesses include securities underwriting, distribution and trading; merger, acquisition, restructuring, real estate, project finance and other corporate finance advisory activities; asset management; private equity and other principal investment activities; brokerage and research services; the trading of foreign exchange and commodities as well as derivatives on a broad range of asset categories, rates and indices; and securities lending. The Company's Credit and Transaction Services businesses include the issuance of the Discover(R) Card and other proprietary general purpose credit cards, the operation of the Discover/NOVUS(R) Network, a proprietary network of merchant and cash access locations, and direct-marketed activities such as the online securities services offered by Discover Brokerage Direct, Inc. The Company's services are provided to a large and diversified group of clients and customers, including corporations, governments, financial institutions and individuals. BASIS OF FINANCIAL INFORMATION The consolidated financial statements give retroactive effect to the Merger, which was accounted for as a pooling of interests. The pooling of interests method of accounting requires the restatement of all periods presented as if Dean Witter Discover and Morgan Stanley had always been combined. The consolidated statement of changes in shareholders' equity reflects the accounts of the Company as if the preferred and additional common stock had been issued during all of the periods presented. Prior to the consummation of the Merger, Dean Witter Discover's year ended on December 31 and Morgan Stanley's fiscal year ended on November 30. Subsequent to the Merger, the Company adopted a fiscal year-end of November 30. In recording the pooling of interests combination, Dean Witter Discover's financial statements for the year ended December 31, 1996 were combined with Morgan Stanley's financial statements for the fiscal year ended November 30, 1996 (on a combined basis, "fiscal 1996"). The Company's results for the 12 months ended November 30, 1998 ("fiscal 1998") and November 30, 1997 ("fiscal 1997") reflect the change in fiscal year-end. Fiscal 1997 includes the results of Dean Witter Discover that were restated to conform with the new fiscal year-end date. The Company's results of operations for fiscal 1997 and fiscal 1996 include the month of December 1996 for Dean Witter Discover. The consolidated financial statements are prepared in accordance with generally accepted accounting principles, which require management to make estimates and assumptions regarding certain trading inventory valuations, consumer loan loss levels, the potential outcome of litigation and other matters that affect the consolidated financial statements and related disclosures. Management believes that the estimates utilized in the preparation of the con- 60 Morgan Stanley Dean Witter * 1998 Annual Report solidated financial statements are prudent and reasonable. Actual results could differ materially from these estimates. Certain reclassifications have been made to prior-year amounts to conform to the current presentation. All material intercompany balances and transactions have been eliminated. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - -------------------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF CASH FLOWS For purposes of these statements, cash and cash equivalents consist of cash and highly liquid investments not held for resale with maturities, when purchased, of three months or less. In connection with the fiscal 1997 purchase of Discover Brokerage Direct, Inc. (formerly Lombard Brokerage, Inc.), the Company issued 1.9 million shares of common stock having a fair value on the date of acquisition of approximately $63 million. In connection with the purchase of Miller Anderson & Sherrerd, LLP ("MAS") in fiscal 1996, the Company issued approximately $66 million of notes payable, as well as 3.3 million shares of common stock having a fair value on the date of acquisition of approximately $83 million. In addition, in connection with the purchase in fiscal 1996 of VK/AC Holding, Inc., the parent of Van Kampen American Capital, Inc., the Company assumed approximately $162 million of long-term debt. CONSUMER LOANS Consumer loans, which consist primarily of credit card and other consumer installment loans, are reported at their principal amounts outstanding, less applicable allowances. Interest on consumer loans is credited to income as earned. Interest is accrued on credit card loans until the date of charge-off, which generally occurs at the end of the month during which an account becomes 180 days past due, except in the case of bankruptcies and fraudulent transactions, which are charged off earlier. The interest portion of charged-off credit card loans is written off against interest revenue. Origination costs related to the issuance of credit cards are charged to earnings over periods not exceeding 12 months. ALLOWANCE FOR CONSUMER LOAN LOSSES The allowance for consumer loan losses is a significant estimate that is regularly evaluated by management for adequacy on a portfolio-by-portfolio basis and is established through a charge to the provision for loan losses. The evaluations take into consideration factors such as changes in the nature and volume of the loan portfolio, overall portfolio quality, review of specific problem loans and current economic conditions that may affect the borrower's ability to pay. The Company uses the results of these evaluations to provide an allowance for loan losses. The exposure for credit losses for owned loans is influenced by the performance of the portfolio and other factors discussed above, with the Company absorbing all related losses. The exposure for credit losses for securitized loans is represented by the Company retaining a contingent risk based on the amount of credit enhancement provided. SECURITIZATION OF CONSUMER LOANS The Company periodically sells consumer loans through asset securitizations and continues to service these loans. In accordance with Statement of Financial Accounting Standards ("SFAS") No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities" ("SFAS No. 125"), the present value of the future net servicing revenues which the Company estimates that it will receive over the term of the securitized loans is recognized in income as the loans are securitized. A corresponding asset also is recorded and then amortized as a charge to income over the term of the securitized loans, with actual net servicing revenues continuing to be recognized in income as they are earned. The impact of recognizing the present value of estimated future net servicing revenues as loans are securitized has not been material to the consolidated statements of income. 61 Morgan Stanley Dean Witter * 1998 Annual Report FINANCIAL INSTRUMENTS USED FOR TRADING AND INVESTMENT Financial instruments, including derivatives, used in the Company's trading activities are recorded at fair value, and unrealized gains and losses are reflected in trading revenues. Interest and dividend revenue and interest expense arising from financial instruments used in trading activities are reflected in the consolidated statements of income as interest and dividend revenue or interest expense. The fair values of the trading positions generally are based on listed market prices. If listed market prices are not available or if liquidating the Company's positions would reasonably be expected to impact market prices, fair value is determined based on other relevant factors, including dealer price quotations and price quotations for similar instruments traded in different markets, including markets located in different geographic areas. Fair values for certain derivative contracts are derived from pricing models which consider current market and contractual prices for the underlying financial instruments or commodities, as well as time value and yield curve or volatility factors underlying the positions. Purchases and sales of financial instruments are recorded in the accounts on trade date. Unrealized gains and losses arising from the Company's dealings in over-the-counter ("OTC") financial instruments, including derivative contracts related to financial instruments and commodities, are presented in the accompanying consolidated statements of financial condition on a net-by-counterparty basis, when appropriate. Equity securities purchased in connection with private equity and other principal investment activities initially are carried in the consolidated financial statements at their original costs. The carrying value of such equity securities is adjusted when changes in the underlying fair values are readily ascertainable, generally as evidenced by listed market prices or transactions which directly affect the value of such equity securities. Downward adjustments relating to such equity securities are made in the event that the Company determines that the eventual realizable value is less than the carrying value. The carrying value of investments made in connection with principal real estate activities which do not involve equity securities are adjusted periodically based on independent appraisals, estimates prepared by the Company of discounted future cash flows of the underlying real estate assets or other indicators of fair value. Loans made in connection with private equity and investment banking activities are carried at cost plus accrued interest less reserves, if deemed necessary, for estimated losses. FINANCIAL INSTRUMENTS USED FOR ASSET AND LIABILITY MANAGEMENT The Company has entered into various contracts as hedges against specific assets, liabilities or anticipated transactions. These contracts include interest rate swaps, foreign exchange forwards and foreign currency swaps. The Company uses interest rate and currency swaps to manage the interest rate and currency exposure arising from certain borrowings and to match the repricing characteristics of consumer loans with those of the borrowings that fund these loans. For contracts that are designated as hedges of the Company's assets and liabilities, gains and losses are deferred and recognized as adjustments to interest revenue or expense over the remaining life of the underlying assets or liabilities. For contracts that are hedges of asset securitizations, gains and losses are recognized as adjustments to servicing fees. Gains and losses resulting from the termination of hedge contracts prior to their stated maturity are recognized ratably over the remaining life of the instrument being hedged. The Company also uses foreign exchange forward contracts to manage the currency exposure relating to its net monetary investment in non-U.S. dollar functional currency operations. The gain or loss from revaluing these contracts is deferred and reported within cumulative translation adjustments in shareholders' equity, net of tax effects, with the related unrealized amounts due from or to counterparties included in receivables from or payables to brokers, dealers and clearing organizations. SECURITIES TRANSACTIONS Clients' securities transactions are recorded on a settlement date basis with related commission revenues and expenses recorded on trade date. Securities purchased under agreements to resell (reverse repurchase agreements) and securities sold under agreements to repurchase (repurchase agreements), principally government and 62 Morgan Stanley Dean Witter * 1998 Annual Report agency securities, are treated as financing transactions and are carried at the amounts at which the securities subsequently will be resold or reacquired as specified in the respective agreements; such amounts include accrued interest. Reverse repurchase and repurchase agreements are presented on a net-by-counterparty basis, when appropriate. It is the Company's policy to take possession of securities purchased under agreements to resell. The Company monitors the fair value of the underlying securities as compared with the related receivable or payable, including accrued interest, and, as necessary, requests additional collateral. Where deemed appropriate, the Company's agreements with third parties specify its rights to request additional collateral. Securities borrowed and securities loaned are carried at the amounts of cash collateral advanced and received in connection with the transactions. The Company measures the fair value of the securities borrowed and loaned against the collateral on a daily basis. Additional collateral is obtained as necessary to ensure such transactions are adequately collateralized. INVESTMENT BANKING Underwriting revenues and fees for mergers and acquisitions and advisory assignments are recorded when services for the transaction are substantially completed. Transaction-related expenses are deferred and later expensed to match revenue recognition. OFFICE FACILITIES Office facilities are stated at cost less accumulated depreciation and amortization. Depreciation and amortization of buildings and leasehold improvements are provided principally by the straight-line method, while depreciation and amortization of furniture, fixtures and equipment are provided by both straight-line and accelerated methods. Property and equipment are depreciated over the estimated useful lives of the related assets, while leasehold improvements are amortized over the lesser of the economic useful life of the asset or, where applicable, the remaining term of the lease. INCOME TAXES Income tax expense is provided for using the asset and liability method, under which deferred tax assets and liabilities are determined based upon the temporary differences between the financial statement and income tax bases of assets and liabilities, using currently enacted tax rates. EARNINGS PER SHARE The calculations of earnings per common share are based on the weighted average number of common shares and share equivalents outstanding and give effect to preferred stock dividend requirements. All per share and share amounts reflect stock splits effected by Dean Witter Discover and Morgan Stanley prior to the Merger, as well as the additional shares issued to Morgan Stanley shareholders pursuant to the Exchange Ratio. As of December 1, 1997, the Company adopted SFAS No. 128, "Earnings per Share" ("SFAS No. 128"). SFAS No. 128 replaces the previous earnings per share ("EPS") categories of primary and fully diluted with "basic EPS," which reflects no dilution from common stock equivalents, and "diluted EPS," which reflects dilution from common stock equivalents and other dilutive securities based on the average price per share of the Company's common stock during the period. The EPS amounts of prior periods have been restated in accordance with SFAS No. 128. The adoption of SFAS No. 128 has not had a material effect on the Company's EPS calculations. CARDMEMBER REWARDS Cardmember rewards, primarily the Cashback Bonus(R) award, pursuant to which the Company annually pays Discover Cardmembers and Private Issue(R) Cardmembers a percentage of their purchase amounts ranging up to 1% (up to 2% for the Private Issue Card), are based upon a cardmember's level of annual purchases. The liability for cardmember rewards expense, included in other liabilities and accrued expenses, is accrued at the time that qualified cardmember transactions occur and is calculated on an individual cardmember basis. 63 Morgan Stanley Dean Witter * 1998 Annual Report STOCK-BASED COMPENSATION SFAS No. 123, "Accounting for Stock-Based Compensation" encourages, but does not require, companies to record compensation cost for stock-based employee compensation plans at fair value. The Company has elected to continue to account for its stock-based compensation plans using the intrinsic value method prescribed by Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB No. 25"). Under the provisions of APB No. 25, compensation cost for stock options is measured as the excess, if any, of the quoted market price of the Company's common stock at the date of grant over the amount an employee must pay to acquire the stock. TRANSLATION OF FOREIGN CURRENCIES Assets and liabilities of operations having non-U.S. dollar functional currencies are translated at year-end rates of exchange, and the income statements are translated at weighted average rates of exchange for the year. In accordance with SFAS No. 52, "Foreign Currency Translation," gains or losses resulting from translating foreign currency financial statements, net of hedge gains or losses and related tax effects, are reflected in cumulative translation adjustments, a separate component of shareholders' equity. Gains or losses resulting from foreign currency transactions are included in net income. GOODWILL AND OTHER INTANGIBLE ASSETS Goodwill and other intangible assets are amortized on a straight-line basis over periods from five to 40 years, generally not exceeding 25 years, and are periodically evaluated for impairment. At November 30, 1998, goodwill of approximately $1.2 billion was included in the Company's consolidated statements of financial condition as a component of Other Assets. ACCOUNTING CHANGE In the fourth quarter of fiscal 1998, the Company adopted American Institute of Certified Public Accountants ("AICPA") Statement of Position 98-5, "Reporting on the Costs of Start-Up Activities" ("SOP 98-5"), with respect to the accounting for offering costs paid by investment advisors of closed-end funds where such costs are not specifically reimbursed through separate advisory contracts. In accordance with SOP 98-5 and per an announcement by the Financial Accounting Standards Board ("FASB") staff in September 1998, such costs are to be considered start-up costs and expensed as incurred. Prior to the adoption of SOP 98-5, the Company deferred such costs and amortized them over the life of the fund. The Company recorded a charge to earnings for the cumulative effect of the accounting change as of December 1, 1997, of $117 million, net of taxes of $79 million. The first three quarters of fiscal 1998 have been retroactively restated to reflect this change (see Note 18). The effect of adopting these provisions on the Company's income before the cumulative effect of the accounting change for fiscal year 1998 was a decrease of $24 million, net of taxes. The effect on diluted and basic earnings per share was $0.04. The pro forma effect on net income for fiscal years 1997 and 1996 would not have been material. NEW ACCOUNTING PRONOUNCEMENTS As of January 1, 1998, the Company adopted SFAS No. 127, "Deferral of the Effective Date of Certain Provisions of FASB Statement No. 125," which was effective for transfers and pledges of certain financial assets and collateral made after December 31, 1997. The adoption of SFAS No. 127 required the recognition of assets and liabilities on the Company's consolidated statement of financial condition related to certain securities provided and received as collateral. At November 30, 1998, the Company recorded an obligation to return securities received as collateral of $6,636 million. The related collateral assets were recorded among various captions included in the Company's consolidated statement of financial condition. After giving effect to reclassifications, the net increase in total assets and total liabilities was $2,089 million. In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." These statements, which are effective for fiscal years beginning after 64 Morgan Stanley Dean Witter * 1998 Annual Report December 15, 1997, establish standards for the reporting and presentation of comprehensive income and the disclosure requirements related to segments. In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosures about Pensions and Other Postretirement Benefits," which revises and standardizes pension and other postretirement benefit plan disclosures that are to be included in the employers' financial statements. SFAS No. 132 does not change the measurement or recognition rules for pensions and other postretirement benefit plans and is effective for fiscal years beginning after December 15, 1997. In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," which establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. The statement is effective for fiscal years beginning after June 15, 1999. The Company is in the process of evaluating the impact of adopting SFAS No. 133. In July 1998, the Emerging Issues Task Force ("EITF") reached a consensus on EITF Issue 97-14, "Accounting for Deferred Compensation Arrangements Where Amounts Earned Are Held in a Rabbi Trust and Invested" ("EITF 97-14"). Under EITF 97-14, assets of the rabbi trust are to be consolidated with those of the employer, and the value of the employer's stock held in the rabbi trust should be classified in shareholders' equity and generally accounted for in a manner similar to treasury stock. The Company therefore has included its obligations under certain deferred compensation plans in employee stock trust. Shares that the Company has issued to the rabbi trusts are recorded in common stock issued to employee trust. Both employee stock trust and common stock issued to employee trust are components of shareholders' equity. The adoption of EITF 97-14 did not result in any change to the Company's consolidated statement of income, total assets, total liabilities or total shareholders' equity. 3. CONSUMER LOANS - -------------------------------------------------------------------------------- Consumer loans were as follows: Nov. 30, Nov. 30, (dollars in millions) 1998 1997 ===================================================================== Credit card $15,993 $20,914 Other consumer installment 3 3 - --------------------------------------------------------------------- 15,996 20,917 Less: Allowance for loan losses 787 884 - --------------------------------------------------------------------- Consumer loans, net $15,209 $20,033 - --------------------------------------------------------------------- Activity in the allowance for consumer loan losses was as follows: fiscal fiscal fiscal (dollars in millions) 1998 1997 1996 ===================================================================== Balance beginning of period $ 884 $ 781(2) $ 709 Additions: Provision for loan losses 1,173 1,493 1,214 Purchase of loan portfolios 1 -- 4 - --------------------------------------------------------------------- Total additions 1,174 1,493 1,218 - --------------------------------------------------------------------- Deductions: Charge-offs 1,423 1,639 1,182 Recoveries (170) (196) (155) - --------------------------------------------------------------------- Net charge-offs 1,253 1,443 1,027 - --------------------------------------------------------------------- Other(1) (18) 53 (98) - --------------------------------------------------------------------- Balance end of period $ 787 $ 884 $ 802 ===================================================================== (1) These amounts primarily reflect net transfers related to asset securitizations and the sale of consumer loans associated with SPS, Prime Option and BRAVO (see Note 17). (2) Beginning balance differs from the fiscal 1996 end-of-period balance due to the Company's change in fiscal year-end. Interest accrued on loans subsequently charged off, recorded as a reduction of interest revenue, was $199 million, $301 million and $181 million in fiscal 1998, 1997 and 1996, respectively. The amounts charged off in fiscal 1998 include only interest, whereas amounts in fiscal 1997 and 1996 also include cardmember fees. At November 30, 1998 and 1997, $3,999 million and $5,385 million of the Company's consumer loans had minimum contractual maturities of less than one year. Because of the uncertainty 65 Morgan Stanley Dean Witter * 1998 Annual Report regarding consumer loan repayment patterns, which historically have been higher than contractually required minimum payments, this amount may not necessarily be indicative of the Company's actual consumer loan repayments. At November 30, 1998, the Company had commitments to extend credit in the amount of $170.5 billion. Commitments to extend credit arise from agreements to extend to customers unused lines of credit on certain credit cards provided there is no violation of conditions established in the related agreement. These commitments, substantially all of which the Company can terminate at any time and which do not necessarily represent future cash requirements, are periodically reviewed based on account usage and customer creditworthiness. The Company received proceeds from asset securitizations of $4,466 million, $2,783 million and $4,528 million in fiscal 1998, 1997 and 1996, respectively. The uncollected balances of consumer loans sold through asset securitizations were $16,506 million and $15,033 million at November 30, 1998 and 1997. The Company uses interest rate exchange agreements to hedge the risk from changes in interest rates on servicing fee revenues (which are derived from loans sold through asset securitizations). Gains and losses from these agreements are recognized as adjustments to servicing fees. The estimated fair value of the Company's consumer loans approximated carrying value at November 30, 1998 and 1997. The Company's consumer loan portfolio, including securitized loans, is geographically diverse, with a distribution approximating that of the population of the United States. 4. Deposits - -------------------------------------------------------------------------------- Deposits were as follows: Nov. 30, Nov. 30, (dollars in millions) 1998 1997 ============================================================== Demand, passbook and money market accounts $1,355 $1,210 Consumer certificate accounts 1,635 1,498 $100,000 minimum certificate accounts 5,207 6,285 - ------------------------------------------------------------- Total $8,197 $8,993 - ------------------------------------------------------------- The weighted average interest rates of interest bearing deposits outstanding during fiscal 1998 and 1997 were 6.2%. At November 30, 1998 and 1997, the notional amounts of interest rate exchange agreements that hedged deposits outstanding were $650 million and $535 million and had fair values of $15 million and $7 million. Under these interest rate exchange agreements, the Company primarily pays floating rates and receives fixed rates. At November 30, 1998, the weighted average interest rate of the Company's deposits, including the effect of interest rate exchange agreements, was 6.1%. At November 30, 1998, certificate accounts maturing over the next five years were as follows: (dollars in millions) ================================================== 1999 $2,448 2000 1,502 2001 1,261 2002 592 2003 620 - -------------------------------------------------- The estimated fair value of the Company's deposits, using current rates for deposits with similar maturities, approximated carrying value at November 30, 1998 and 1997. 5. Short-Term Borrowings - -------------------------------------------------------------------------------- At November 30, 1998 and 1997, commercial paper in the amount of $19,643 million and $15,447 million, with weighted average interest rates of 5.3% and 5.5%, was outstanding. At November 30, 1998 and 1997, the notional amounts of interest rate contracts that hedged commercial paper outstanding were $208 million and $732 million and had fair values of $(6) million and $(5) million. These interest rate contracts effectively converted the commercial paper to fixed rates. These contracts had no material effect on the weighted average interest rates of commercial paper. At November 30, 1998 and 1997, other short-term borrowings of $8,494 million and $7,167 million were outstanding. These borrowings included bank loans, Federal Funds and bank notes. The Company maintains a senior revolving credit agreement with a group of banks to support general liquidity needs, including the issuance of commercial paper (the "MSDW Facility"). 66 Morgan Stanley Dean Witter * 1998 Annual Report Under the terms of the MSDW Facility, the banks are committed to provide up to $6.0 billion. The MSDW Facility contains restrictive covenants which require, among other things, that the Company maintain shareholders' equity of at least $9.1 billion at all times. The Company believes that the covenant restrictions will not impair the Company's ability to pay its current level of dividends. At November 30, 1998, no borrowings were outstanding under the MSDW Facility. Riverwoods Funding Corporation ("RFC"), an entity included in the consolidated financial statements of the Company, maintains a senior bank credit facility to support the issuance of asset-backed commercial paper in the amount of $2.6 billion. Under the terms of the asset-backed commercial paper program, certain assets of RFC were subject to a lien in the amount of $2.6 billion at November 30, 1998. RFC has never borrowed from its senior bank credit facility. The Company maintains a master collateral facility that enables MS&Co. to pledge certain collateral to secure loan arrangements, letters of credit and other financial accommodations (the "MS&Co. Facility"). As part of the MS&Co. Facility, MS&Co. also maintains a secured committed credit agreement with a group of banks that are parties to the master collateral facility under which such banks are committed to provide up to $1.875 billion. The credit agreement contains restrictive covenants which require, among other things, that MS&Co. maintain specified levels of consolidated shareholders' equity and Net Capital, as defined. In January 1999, the MS&Co. Facility was renewed. At November 30, 1998, no borrowings were outstanding under the MS&Co. Facility. The Company also maintains a revolving committed financing facility that enables MSIL to secure committed funding from a syndicate of banks by providing a broad range of collateral under repurchase agreements (the "MSIL Facility"). Such banks are committed to provide up to an aggregate of $1.85 billion available in 12 major currencies and, effective January 1, 1999, the euro. The facility agreements contain restrictive covenants which require, among other things, that MSIL maintain specified levels of Shareholders' Equity and Financial Resources, each as defined. At November 30, 1998, no borrowings were outstanding under the MSIL Facility. The Company anticipates that it will utilize the MSDW Facility, the MS&Co. Facility or the MSIL Facility for short-term funding from time to time. 6 LONG-TERM BORROWINGS - ------------------------------------------------------------------------------ MATURITIES AND TERMS Long-term borrowings at fiscal year-end consist of the following:
U.S. Dollar Non-U.S. Dollar(1) At November 30 ------------------------------- ----------------- ------------------ Index/ Fixed Floating Floating Fixed Floating 1998 1997 (dollars in millions) Rate Rate(2) Linked Rate Rate(2) Total Total ====================================================================================================================== Due in fiscal 1998 $ -- $ -- $ -- $ -- $ -- $ -- $ 6,170 Due in fiscal 1999 842 2,627 587 208 767 5,031 4,693 Due in fiscal 2000 1,568 4,396 347 62 490 6,863 2,418 Due in fiscal 2001 1,496 1,596 88 115 604 3,899 2,282 Due in fiscal 2002 1,077 1,033 42 17 332 2,501 2,623 Due in fiscal 2003 1,093 1,034 105 428 235 2,895 1,621 Thereafter 4,460 899 217 642 28 6,246 4,985 - ---------------------------------------------------------------------------------------------------------------------- Total $10,536 $11,585 $1,386 $1,472 $2,456 $27,435 $24,792 - ---------------------------------------------------------------------------------------------------------------------- Weighted average coupon at fiscal year-end 7.4% 5.7% n/a 5.4% 4.9% 6.1% 6.1% - ----------------------------------------------------------------------------------------------------------------------
(1) Weighted average coupon was calculated utilizing non-U.S. dollar interest rates. (2) U.S. dollar contractual floating rate borrowings bear interest based on a variety of money market indices, including London Interbank Offered Rates ("LIBOR") and Federal Funds rates. Non-U.S. dollar contractual floating rate borrowings bear interest based on Euro floating rates. 67 Morgan Stanley Dean Witter * 1998 Annual Report MEDIUM-TERM NOTES Included in the table above are medium-term notes of $17,011 million and $14,049 million at November 30, 1998 and 1997. The effective weighted average interest rate on all medium-term notes was 5.7% in fiscal 1998 and 5.9% in fiscal 1997. Maturities of these notes range from fiscal 1999 through fiscal 2028. STRUCTURED BORROWINGS U.S. dollar index/equity linked borrowings include various structured instruments whose payments and redemption values are linked to the performance of a specific index (i.e., Standard & Poor's 500), a basket of stocks or a specific equity security. To minimize the exposure resulting from movements in the underlying equity position or index, the Company has entered into various equity swap contracts and purchased options which effectively convert the borrowing costs into floating rates based upon LIBOR. These instruments are included in the preceding table at their redemption values based on the performance of the underlying indices, baskets of stocks or specific equity securities at November 30, 1998 and 1997. OTHER BORROWINGS Included in the Company's long-term borrowings are subordinated notes of $1,309 million and $1,302 million at November 30, 1998 and 1997, respectively. The effective weighted average interest rate on these subordinated notes was 7.1% in fiscal 1998 and 7.2% in fiscal 1997. Maturities of the subordinated notes range from fiscal 1999 to fiscal 2016. Certain of the Company's long-term borrowings are redeemable prior to maturity at the option of the holder. These notes contain certain provisions which effectively enable noteholders to put the notes back to the Company and therefore are scheduled in the foregoing table to mature in fiscal 1999 through fiscal 2001. The stated maturities of these notes, which aggregate $1,933 million, are from fiscal 2000 to fiscal 2011. MS&Co., a registered U.S. broker-dealer subsidiary of the Company, has outstanding $357 million of 8.22% fixed rate subordinated Series A notes, $243 million of 8.51% fixed rate subordinated Series B Notes, $313 million of 6.81% fixed rate subordinated Series C notes, $96 million of 7.03% fixed rate subordinated Series D notes, $82 million of 7.28% fixed rate subordinated Series E notes and $25 million of 7.82% fixed rate subordinated Series F notes. These notes have maturities from 2001 to 2016. The terms of such notes contain restrictive covenants which require, among other things, that MS&Co. maintain specified levels of Consolidated Tangible Net Worth and Net Capital, each as defined. ASSET AND LIABILITY MANAGEMENT A portion of the Company's fixed rate long-term borrowings is used to fund highly liquid marketable securities, short-term receivables arising from securities transactions and consumer loans. The Company uses interest rate swaps to more closely match the duration of these borrowings to the duration of the assets being funded and to minimize interest rate risk. These swaps effectively convert certain of the Company's fixed rate borrowings into floating rate obligations. In addition, for non-U.S. dollar currency borrowings that are not used to fund assets in the same currency, the Company has entered into currency swaps which effectively convert the borrowings into U.S. dollar obligations. The Company's use of swaps for asset and liability management reduced its interest expense and effective average borrowing rate as follows: fiscal fiscal fiscal (dollars in millions) 1998 1997 1996 ========================================================= ====== ====== Net reduction in interest expense from swaps for the fiscal year $48 $21 $29 - --------------------------------------------------------------------------- Weighted average coupon of long-term borrowings at fiscal year-end(1) 6.1% 6.1% 6.2% - --------------------------------------------------------------------------- Effective average borrowing rate for long-term borrowings after swaps at fiscal year-end(1) 5.9% 6.0% 6.1% - --------------------------------------------------------------------------- (1) Included in the weighted average and effective average calculations are non-U.S. dollar interest rates. The effective weighted average interest rate on the Company's index/equity linked notes, which is not included in the table above, was 5.2% and 5.7% in fiscal 1998 and fiscal 1997, respectively, after giving effect to the related hedges. 68 Morgan Stanley Dean Witter * 1998 Annual Report The table below summarizes the notional or contract amounts of these swaps by maturity and weighted average interest rates to be received and paid at fiscal year-end 1998. Swaps utilized to hedge the Company's structured borrowings are presented at their redemption values:
U.S. Dollar Non-U.S. Dollar(1) ------------------------------------ ------------------- Receive Receive Receive Receive Receive Fixed Floating Floating Index/ Fixed Floating Nov. 30, Nov. 30, Pay Pay Pay Equity Pay Pay 1998 1997 (dollars in millions) Floating Fixed Floating Linked Floating Floating(2) Total Total ========================================================================================================================== Maturing in fiscal 1998 $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ 2,744 Maturing in fiscal 1999 552 100 375 587 195 372 2,181 1,972 Maturing in fiscal 2000 1,169 400 20 347 62 243 2,241 638 Maturing in fiscal 2001 1,384 80 5 88 110 514 2,181 1,082 Maturing in fiscal 2002 720 200 -- 42 17 -- 979 831 Maturing in fiscal 2003 500 -- -- 105 428 219 1,252 1,029 Thereafter 3,020 400 -- 217 620 10 4,267 3,411 - -------------------------------------------------------------------------------------------------------------------------- Total $7,345 $1,180 $400 $1,386 $1,432 $1,358 $13,101 $11,707 - -------------------------------------------------------------------------------------------------------------------------- Weighted average at fiscal year-end(3) Receive rate 6.53% 5.25% 4.88% n/a 5.24% 4.77% Pay rate 5.59% 6.22% 5.65% n/a 4.94% 5.44% - --------------------------------------------------------------------------------------------------------------------------
(1) The differences between the receive rate and the pay rate may reflect differences in the rate of interest associated with the underlying currency. (2) These amounts include currency swaps used to effectively convert borrowings denominated in one currency into obligations denominated in another currency. (3) The table was prepared under the assumption that interest rates remain constant at year-end levels. The variable interest rates to be received or paid will change to the extent that rates fluctuate. Such changes may be substantial. Variable rates presented generally are based on LIBOR or Treasury bill rates. As noted above, the Company uses interest rate and currency swaps to modify the terms of its existing borrowings. Activity during the periods in the notional value of the swap contracts used by the Company for asset and liability management (and the unrecognized gain at fiscal year-end) is summarized in the table below: fiscal fiscal (dollars in millions) 1998 1997 ========================================================================== Notional value at beginning of period $11,707 $10,189 Additions 4,520 3,567 Matured (2,305) (1,657) Terminated (868) (216) Effect of foreign currency translation on non-U.S. dollar notional values and changes in redemption values on structured borrowings 47 (176) - -------------------------------------------------------------------------- Notional value at fiscal year-end $13,101 $ 11,707 - -------------------------------------------------------------------------- Unrecognized gain at fiscal year-end $ 279 $ 104 - -------------------------------------------------------------------------- The Company also uses interest rate swaps to modify certain of its repurchase financing agreements. The Company had interest rate swaps with notional values of approximately $1.3 billion and $1.8 billion at November 30, 1998 and 1997, and unrecognized gains of approximately $28 million and $13 million at November 30, 1998 and 1997, for such purpose. The unrecognized gains on these swaps were offset by unrecognized losses on certain of the Company's repurchase financing agreements. The estimated fair value of the Company's long-term borrowings approximated carrying value based on rates available to the Company at year-end for borrowings with similar terms and maturities. Cash paid for interest for the Company's borrowings and deposits approximated interest expense in fiscal 1998, 1997 and 1996. 69 Morgan Stanley Dean Witter * 1998 Annual Report 7 COMMITMENTS AND CONTINGENCIES - ------------------------------------------------------------------------------- The Company has non-cancelable operating leases covering office space and equipment. At November 30, 1998, future minimum rental commitments under such leases (net of subleases, principally on office rentals) were as follows: (dollars in millions) ================================================================================ 1999 $363 2000 324 2001 286 2002 238 2003 193 Thereafter 959 - -------------------------------------------------------------------------------- Occupancy lease agreements, in addition to base rentals, generally provide for rent and operating expense escalations resulting from increased assessments for real estate taxes and other charges. Total rent expense, net of sublease rental income, was $274 million, $262 million and $264 million in fiscal 1998, 1997 and 1996, respectively. The Company has an agreement with IBM, under which the Company receives information processing, data networking and related services. Under the terms of the agreement, the Company has an aggregate minimum annual commitment of $166 million subject to annual cost-of-living adjustments. In November 1998, the Company announced that it had entered into an agreement that will result in the development of an office tower in New York City. Pursuant to this agreement, the Company has entered into a 99-year lease for the land at the proposed development site. In the normal course of business, the Company has been named as a defendant in various lawsuits and has been involved in certain investigations and proceedings. Some of these matters involve claims for substantial amounts. Although the ultimate outcome of these matters cannot be ascertained at this time, it is the opinion of management, after consultation with outside counsel, that the resolution of such matters will not have a material adverse effect on the consolidated financial condition of the Company, but may be material to the Company's operating results for any particular period, depending upon the level of the Company's income for such period. The Company had approximately $5.7 billion of letters of credit outstanding at November 30, 1998 to satisfy various collateral requirements. Financial instruments sold, not yet purchased represent obligations of the Company to deliver specified financial instruments at contracted prices, thereby creating commitments to purchase the financial instruments in the market at prevailing prices. Consequently, the Company's ultimate obligation to satisfy the sale of financial instruments sold, not yet purchased may exceed the amounts recognized in the consolidated statements of financial condition. The Company also has commitments to fund certain fixed assets and other less liquid investments, including at November 30, 1998 approximately $181 million in connection with its private equity and other principal investment activities. Additionally, the Company has provided and will continue to provide financing, including margin lending and other extensions of credit to clients (including subordinated loans on an interim basis to leveraged companies associated with its investment banking and its private equity and other principal investment activities), that may subject the Company to increased credit and liquidity risks. 70 Morgan Stanley Dean Witter * 1998 Annual Report 8 EARNINGS PER SHARE - -------------------------------------------------------------------------------- Earnings per share was calculated as follows (in millions, except for per share data): fiscal fiscal fiscal Basic EPS: 1998 1997 1996 ================================================================================ Income before cumulative effect of accounting change $ 3,393 $ 2,586 $ 1,980 Cumulative effect of accounting change (117) -- -- Preferred stock dividend requirements (55) (66) (66) - -------------------------------------------------------------------------------- Net income available to common shareholders $ 3,221 $ 2,520 $ 1,914 - -------------------------------------------------------------------------------- Weighted average common shares outstanding 576 575 573 Basic EPS before cumulative effect of accounting change $ 5.80 $ 4.38 $ 3.34 Cumulative effect of accounting change $ (0.20) -- -- - -------------------------------------------------------------------------------- Basic EPS $ 5.60 $ 4.38 $ 3.34 - -------------------------------------------------------------------------------- fiscal fiscal fiscal Diluted EPS: 1998 1997 1996 ================================================================================ Income before cumulative effect of accounting change $ 3,393 $ 2,586 $ 1,980 Cumulative effect of accounting change (117) -- -- Preferred stock dividend requirements (47) (61) (62) - -------------------------------------------------------------------------------- Net income available to common shareholders $ 3,229 $ 2,525 $ 1,918 - -------------------------------------------------------------------------------- Weighted average common shares outstanding 576 575 573 Effect of dilutive securities: Stock options 18 19 21 ESOP convertible preferred stock 12 12 13 - -------------------------------------------------------------------------------- Weighted average common shares outstanding and common stock equivalents 606 606 607 - -------------------------------------------------------------------------------- Diluted EPS before cumulative effect of accounting change $ 5.52 $ 4.16 $ 3.16 Cumulative effect of accounting change $ (0.19) -- -- - -------------------------------------------------------------------------------- Diluted EPS $ 5.33 $ 4.16 $ 3.16 - ------------------------------------------------------------------------------- 9. TRADING ACTIVITIES - -------------------------------------------------------------------------------- TRADING REVENUES The Company's trading activities include providing securities brokerage, derivatives dealing and underwriting services to clients. While trading activities are generated by client order flow, the Company also takes proprietary positions based on expectations of future market movements and conditions. The Company's trading strategies rely on the integrated management of its client-driven and proprietary transactions, along with the hedging and financing of these positions. The Company manages its trading businesses by product groupings and therefore has established distinct, worldwide trading divisions having responsibility for equity, fixed income, foreign exchange and commodities products. Because of the integrated nature of the markets for such products, each product area trades cash instruments as well as related derivative products (i.e., options, swaps, futures, forwards and other contracts with respect to such underlying instruments or commodities). Revenues related to principal trading are summarized below by trading division: fiscal fiscal fiscal (dollars in millions) 1998 1997 1996 ============================================================ Equities $2,056 $1,310 $1,181 Fixed Income 455 1,187 1,172 Foreign Exchange 587 500 169 Commodities 193 194 137 - ------------------------------------------------------------ Total principal trading revenues $3,291 $3,191 $2,659 ============================================================ Interest revenue and expense are integral components of trading activities. In assessing the profitability of trading activities, the Company views net interest and principal trading revenues in the aggregate. The Company's trading portfolios are managed with a view toward the risk and profitability of the portfolios to the Company. The nature of the equities, fixed income, foreign exchange and commodities activities conducted by the Company, including the use of derivative products in these businesses, and the market, credit and concentration risk management policies and procedures covering these activities are discussed below. 71 Morgan Stanley Dean Witter * 1998 Annual Report EQUITIES The Company makes markets and trades in the global secondary markets for equities and convertible debt and is a dealer in equity warrants, exchange traded and OTC equity options, index futures, equity swaps and other sophisticated equity derivatives. The Company's activities as a dealer primarily are client-driven, with the objective of meeting clients' needs while earning a spread between the premiums paid or received on its contracts with clients and the cost of hedging such transactions in the cash or forward market or with other derivative transactions. The Company limits its market risk related to these contracts, which stems primarily from underlying equity/index price and volatility movements, by employing a variety of hedging strategies, such as delta hedging (delta is a measure of a derivative contract's price movement based on the movement of the price of the security or index underlying the contract). The Company also takes proprietary positions in the global equity markets by using derivatives, most commonly futures and options, in addition to cash positions, intending to profit from market price and volatility movements in the underlying equities or indices positioned. Equity option contracts give the purchaser of the contract the right to buy (call) or sell (put) the equity security or index underlying the contract at an agreed-upon price (strike price) during or at the conclusion of a specified period of time. The seller (writer) of the contract is subject to market risk, and the purchaser is subject to market risk (to the extent of the premium paid) and credit risk. Equity swap contracts are contractual agreements whereby one counterparty receives the appreciation (or pays the depreciation) on an equity investment in return for paying another rate, often based upon equity index movements or interest rates. The counterparties to the Company's equity transactions include commercial banks, investment banks, broker-dealers, investment funds and industrial companies. FIXED INCOME The Company is a market-maker for U.S. and non-U.S. government securities, corporate bonds, money market instruments, medium-term notes and Eurobonds, high-yield securities, emerging market securities, mortgage and other asset-backed securities, preferred stock and tax-exempt securities. In addition, the Company is a dealer in interest rate and currency swaps and other related derivative products, OTC options on U.S. and non-U.S. government bonds and mortgage-backed forward agreements ("TBA"), options and swaps. In this capacity, the Company facilitates asset and liability management for its customers in interest rate and currency swaps and related products and OTC government bond options. Swaps used in fixed income trading are, for the most part, contractual agreements to exchange interest payment streams (i.e., an interest rate swap may involve exchanging fixed for floating interest payments) or currencies (i.e., a currency swap may involve exchanging yen for U.S. dollars in one year at an agreed-upon exchange rate). The Company profits by earning a spread between the premium paid or received for these contracts and the cost of hedging such contracts. The Company seeks to manage the market risk of its swap portfolio, which stems from interest rate and currency movements and volatility, by using modeling that quantifies the sensitivity of its portfolio to movements in interest rates and currencies and by adding positions to or selling positions from its portfolio as needed to minimize such sensitivity. Typically, the Company adjusts its positions by entering into additional swaps or interest rate and foreign currency futures or foreign currency forwards and by purchasing or selling additional underlying government bonds. The Company manages the risk related to its option portfolio by using a variety of hedging strategies such as delta hedging, which includes the use of futures and forward contracts to hedge market risk. The Company also is involved in using debt securities to structure products with multiple risk/return factors designed to suit investor objectives. The Company is an underwriter of and a market-maker in mortgage-backed securities and collateralized mortgage obligations ("CMO") as well as commercial, residential and real estate loan products. The Company also structures mortgage-backed swaps for its clients, enabling them to derive the cash flows from an underlying mortgage-backed security without purchasing the cash position. The Company earns the spread between the premium inherent in the swap and the cost of hedging the swap contract through the use of cash positions or TBA contracts. The Company also uses TBAs in its 72 Morgan Stanley Dean Witter * 1998 Annual Report role as a dealer in mortgage-backed securities and facilitates customer trades by taking positions in the TBA market. Typically, these positions are hedged by offsetting TBA contracts or underlying cash positions. The Company profits by earning the bid-offer spread on such transactions. Further, the Company uses TBAs to ensure delivery of underlying mortgage-backed securities in its CMO issuance business. As is the case with all mortgage-backed products, market risk associated with these instruments results from interest rate fluctuations and changes in mortgage prepayment speeds. The counterparties to the Company's fixed income transactions include investment advisors, commercial banks, insurance companies, investment funds and industrial companies. FOREIGN EXCHANGE The Company is a market-maker in a number of foreign currencies. In this business, it actively trades currencies in the spot and forward markets earning a dealer spread. The Company seeks to manage its market risk by entering into offsetting positions. The Company conducts an arbitrage business in which it seeks to profit from inefficiencies between the futures, spot and forward markets. The Company also makes a market in foreign currency options. This business largely is client-driven and involves the purchasing and writing of European and American style options and certain sophisticated products to meet specific client needs. The Company profits in this business by earning spreads between the options' premiums and the cost of the hedging of such positions. The Company limits its market risk by using a variety of hedging strategies, including the buying and selling of the currencies underlying the options based upon the options' delta equivalent. Foreign exchange option contracts give the purchaser of the contract the right to buy (call) or sell (put) the currency underlying the contract at an agreed-upon strike price at or over a specified period of time. Forward contracts and futures represent commitments to purchase or sell the underlying currencies at a specified future date at a specified price. The Company also takes proprietary positions in currencies to profit from market price and volatility movements in the currencies positioned. The majority of the Company's foreign exchange business relates to major foreign currencies such as deutsche marks, yen, pound sterling, French francs, Swiss francs, Italian lire, Canadian dollars and, effective January 1, 1999, the euro. The balance of the business covers a broad range of other currencies. The counterparties to the Company's foreign exchange transactions include commercial banks, investment banks, broker-dealers, investment funds and industrial companies. COMMODITIES The Company, as a major participant in the world commodities markets, trades in physical precious, base and platinum group metals, electricity, energy products (principally oil, refined oil products and natural gas) as well as a variety of derivatives related to these commodities such as futures, forwards and exchange traded and OTC options and swaps. Through these activities, the Company provides clients with a ready market to satisfy end users' current raw material needs and facilitates their ability to hedge price fluctuations related to future inventory needs. The former activity at times requires the positioning of physical commodities. Derivatives on those commodities, such as futures, forwards and options, often are used to hedge price movements in the underlying physical inventory. The Company profits as a market-maker in physical commodities by capturing the bid-offer spread inherent in the physical markets. To facilitate hedging for its clients, the Company often is required to take positions in the commodity markets in the form of forward, option and swap contracts involving oil, natural gas, precious and base metals, and electricity. The Company generally hedges these positions by using a variety of hedging techniques such as delta hedging, whereby the Company takes positions in the physical markets and/or positions in other commodity derivatives such as futures and forwards to offset the market risk in the underlying derivative. The Company profits from this business by earning a spread between the premiums paid or received for these derivatives and the cost of hedging such derivatives. 73 Morgan Stanley Dean Witter * 1998 Annual Report The Company also maintains proprietary trading positions in commodity derivatives, including futures, forwards and options in addition to physical commodities, to profit from price and volatility movements in the underlying commodities markets. Forward, option and swap contracts on commodities are structured similarly to like-kind derivative contracts for cash financial instruments. The counterparties to OTC commodity contracts include precious metals producers, refiners and consumers as well as shippers, central banks, and oil, gas and electricity producers. The following discussions of risk management, market risk, credit risk, concentration risk and customer activities relate to the Company's trading activities. RISK MANAGEMENT Risk management at the Company is a multi-faceted process with independent oversight which requires constant communication, judgment and knowledge of specialized products and markets. The Company's senior management takes an active role in the risk management process and has developed policies and procedures that require specific administrative and business functions to assist in the identification, assessment and control of various risks. In recognition of the increasingly varied and complex nature of the global financial services business, the Company's risk management policies and procedures are evolutionary in nature and are subject to ongoing review and modification. Many of the Company's risk management and control practices are subject to periodic review by the Company's internal auditors as well as to interactions with various regulatory authorities. The Management Committee, composed of the Company's most senior officers, establishes the overall risk management policies for the Company and reviews the Company's performance relative to these policies. The Management Committee has created several Risk Committees to assist it in monitoring and reviewing the Company's risk management practices. These Risk Committees, among other matters, review the general framework, levels and monitoring procedures relating to the Company's market and credit risk profile, sales practices, legal enforceability and operational and systems risks. The Controllers, Treasury, Law, Compliance and Governmental Affairs and Firm Risk Management Departments, which are all independent of the Company's business units, assist senior management and the Risk Committees in monitoring and controlling the Company's risk profile. In addition, the Internal Audit Department, which also reports to senior management, periodically examines and evaluates the Company's operations and control environment. The Company continues to be committed to employing qualified personnel with appropriate expertise in each of its various administrative and business areas to implement effectively the Company's risk management and monitoring systems and processes. MARKET RISK Market risk refers to the risk that a change in the level of one or more market prices, rates, indices, volatilities, correlations or other market factors, such as liquidity, will result in losses for a specified position or portfolio. The Company manages the market risk associated with its trading activities on a Company-wide basis, on a trading division level worldwide and on an individual product basis. Market risk limits have been approved for the Company and each trading division of the Company worldwide. Discrete market risk limits are assigned to trading divisions and trading desks and, as appropriate, products and regions, that are compatible with the trading division limits. Trading division risk managers, desk risk managers and the Firm Risk Management Department all monitor market risk measures against limits and report major market and position events to senior management. The Firm Risk Management Department independently reviews the Company's trading portfolios on a regular basis from a market risk perspective utilizing Value-at-Risk and other quantitative and qualitative risk measurements and analyses. The Company may use measures, such as rate sensitivity, convexity, volatility and time decay measurements, to estimate market risk and to assess the sensitivity of positions to changes in market conditions. Stress testing, which measures the impact on the value of existing portfolios 74 Morgan Stanley Dean Witter * 1998 Annual Report of specified changes in market factors, for certain products is performed periodically and is reviewed by trading division risk managers, desk risk managers and the Firm Risk Management Department. CREDIT RISK The Company's exposure to credit risk arises from the possibility that a counterparty to a transaction might fail to perform under its contractual commitment, which could result in the Company incurring losses. The Company has credit guidelines which limit the Company's credit exposure to any one counterparty. Specific credit risk limits based on the credit guidelines also are in place for each type of counterparty (by rating category) as well as for secondary positions of high-yield and emerging market debt. The Credit Department administers and monitors the credit limits among trading divisions on a worldwide basis. In addition to monitoring credit limits, the Company manages the credit exposure relating to the Company's trading activities by reviewing counterparty financial soundness periodically, by entering into master netting agreements and collateral arrangements with counterparties in appropriate circumstances and by limiting the duration of exposure. In certain cases, the Company also may close out transactions or assign them to other counterparties to mitigate credit risk. CONCENTRATION RISK The Company is subject to concentration risk by holding large positions in certain types of securities or commitments to purchase securities of a single issuer, including sovereign governments and other entities, issuers located in a particular country or geographic area, public and private issuers involving developing countries or issuers engaged in a particular industry. Financial instruments owned by the Company include U.S. government and agency securities and securities issued by other sovereign governments (principally Japan, Germany and Italy), which, in the aggregate, represented approximately 9% of the Company's total assets at November 30, 1998. In addition, substantially all of the collateral held by the Company for resale agreements or bonds borrowed, which together represented approximately 33% of the Company's total assets at November 30, 1998, consists of securities issued by the U.S. government, federal agencies or other sovereign government obligations. Positions taken and commitments made by the Company, including positions taken and underwriting and financing commitments made in connection with its private equity and principal investment activities, often involve substantial amounts and significant exposure to individual issuers and businesses, including non-investment grade issuers. The Company seeks to limit concentration risk through the use of the systems and procedures described in the preceding discussions of market and credit risk. CUSTOMER ACTIVITIES The Company's customer activities involve the execution, settlement and financing of various securities and commodities transactions on behalf of customers. Customer securities activities are transacted on either a cash or margin basis. Customer commodities activities, which include the execution of customer transactions in commodity futures transactions (including options on futures), are transacted on margin basis. The Company's customer activities may expose it to off-balance sheet credit risk. The Company may have to purchase or sell financial instruments at prevailing market prices in the event of the failure of a customer to settle a trade on its original terms or in the event cash and securities in customer margin accounts are not sufficient to fully cover customer loses. The Company seeks to control the risks associated with customer activities by requiring customers to maintain margin collateral in compliance with various regulations and Company policies. NATIONAL/CONTRACT AMOUNTS AND FAIR MARKET VALUES OF DERIVATIVES The gross notinal or contract amounts of derivative instruments and fair value (carrying amount) of the related assets and liabilities at November 30, 1998 and 1997, as well as the average fair value of those assets and liabilities for fiscal 1998 and 1997, are presented in the table which follows. Fair value represents the cost of replacing these instruments and is further described in Note 2. Future 75 Morgan Stanley Dean Witter * 1998 Annual Report changes in interest rates, foreign currency exchange rates of the fair values of the financial instruments, commodities or indices underlying these contracts may ultimately result in cash settlements exceeding fair value amounts recognized in the consolidated statements of financial condition. Assets represent unrealized gains on purchased exchange traded and OTC options and other contracts (including interest rate, foreign exchange and other forward contracts and swaps) net of any unrealized losses owed to the counterparties on offsetting positions in situations where netting is appropriate. Similarly, liabilities represent net amounts owed to counterparties. These amounts will vary based on changes in the fair values of underlying financial instruments and/or the volatility of such underlying instruments:
Fiscal Year-End Gross Notional/Contract Amount(1)(2) Fiscal Year-End Fair Values(3) Average Fair Values(3)(4) - ------------------------------------------------------------------------------------------------------------------------------------ (dollars in billions at fiscal year-end) Assets Liabilities Assets Liabilities - ------------------------------------------------------------------------------------------------------------------------------------ 1998 1997 1998 1997 1998 1997 1998 1997 1998 1997 ==================================================================================================================================== Interest rate and currency swaps and options (including caps, floors and swap options) and other fixed $1,719 $1,262 income securities contracts $10.1 $ 7.1 $10.4 $ 6.4 $ 9.5 $ 4.8 $ 8.6 $ 5.9 Foreign exchange forward and futures 903 1,035 contracts and options 3.7 4.6 4.1 4.2 4.6 3.4 4.4 3.2 Equity securities contracts (including equity swaps, futures contracts, and 107 112 warrants and options) 5.2 3.8 4.8 3.8 4.8 2.6 4.6 2.6 Commodity forwards, futures, options 91 78 and swaps 2.2 1.3 1.9 1.2 2.0 1.1 1.7 0.9 Mortgage-backed securities forward 40 42 contracts, swaps and options 0.2 0.3 -- -- 0.2 0.3 -- -- - ------------------------------------------------------------------------------------------------------------------------------------ $2,860 $2,529 Total $21.4 $17.1 $21.2 $15.6 $21.1 $12.2 $19.3 $12.6 - ------------------------------------------------------------------------------------------------------------------------------------
(1) The notional amounts of derivatives have been adjusted to reflect the effects of leverage, where applicable. (2) Notional amounts include purchased and written options of $485 billion and $442 billion, respectively, at November 30, 1998, and $572 billion and $549 billion, respectively, at November 30, 1997. (3) These amounts represent carrying value (exclusive of collateral) at November 30, 1998 and 1997, respectively, and do not include receivables or payables related to exchange traded futures contracts. (4) Amounts are calculated using a monthly average. The gross notional or contract amounts of these instruments are indicative of the Company's degree of use of derivatives for trading purposes but do not represent the Company's exposure to market or credit risk. Credit risk arises from the failure of a counterparty to perform according to the terms of the contract. The Company's exposure to credit risk at any point in time is represented by the fair value of the contracts reported as assets. These amounts are presented on a net-by-counterparty basis when appropriate, but are not reported net of collateral, which the Company obtains with respect to certain of these transactions to reduce its exposure to credit losses. The Company monitors the creditworthiness of counterparties to these transactions on an ongoing basis and requests additional collateral when deemed necessary. The Company believes the ultimate settlement of the transactions outstanding at November 30, 1998 will not have a material effect on the Company's financial condition. 76 Morgan Stanley Dean Witter * 1998 Annual Report The remaining maturities of the Company's swaps and other derivative products at November 30, 1998 and 1997 are summarized in the following table, showing notional values by year of expected maturity:
Less than 1 to 3 3 to 5 More than (dollars in billions) 1 Year Years Years 5 Years Total =================================================================================================================================== AT NOVEMBER 30, 1998 Interest rate and currency swaps and options (including caps, floors and swap options) and other fixed income securities contracts $ 457 $479 $371 $412 $1,719 Foreign exchange forward and futures contracts and options 892 11 -- -- 903 Equity securities contracts (including equity swaps, futures contracts, and warrants and options) 82 17 7 1 107 Commodity forwards, futures, options and swaps 53 22 8 8 91 Mortgage-backed securities forward contracts, swaps and options 25 1 2 12 40 - ------------------------------------------------------------------------------------------------------------------------------------ Total $1,509 $530 $388 $433 $2,860 - ------------------------------------------------------------------------------------------------------------------------------------ Percent of total 53% 19% 13% 15% 100% - ------------------------------------------------------------------------------------------------------------------------------------ AT NOVEMBER 30, 1997 Interest rate and currency swaps and options (including caps, floors and swap options) and other fixed income securities contracts $ 319 $398 $235 $310 $1,262 Foreign exchange forward and futures contracts and options 1,026 7 2 -- 1,035 Equity securities contracts (including equity swaps, futures contracts, and warrants and options) 87 17 7 1 112 Commodity forwards, futures, options and swaps 58 14 4 2 78 Mortgage-backed securities forward contracts, swaps and options 20 1 4 17 42 - ------------------------------------------------------------------------------------------------------------------------------------ Total $1,510 $437 $252 $330 $2,529 - ------------------------------------------------------------------------------------------------------------------------------------ Percent of total 60% 17% 10% 13% 100% - ------------------------------------------------------------------------------------------------------------------------------------
77 Morgan Stanley Dean Witter * 1998 Annual Report The credit quality of the Company's trading-related derivatives at November 30, 1998 and 1997 is summarized in the table below, showing the fair value of the related assets by counterparty credit rating. The actual credit ratings are determined by external rating agencies or by equivalent ratings used by the Company's Credit Department:
Collateralized Other Non- Non- Investment Investment (dollars in millions) AAA AA A BBB Grade Grade Total =================================================================================================================================== AT NOVEMBER 30, 1998 Interest rate and currency swaps and options (including caps, floors and swap options) and other fixed income securities contracts $ 894 $3,727 $3,694 $1,181 $ 98 $ 510 $10,104 Foreign exchange forward contracts and options 306 1,413 1,435 337 -- 263 3,754 Equity securities contracts (including equity swaps, warrants and options) 1,995 1,105 478 61 1,364 165 5,168 Commodity forwards, options and swaps 71 448 401 708 46 534 2,208 Mortgage-backed securities forward contracts, swaps and options 130 51 21 3 -- 3 208 - ----------------------------------------------------------------------------------------------------------------------------------- Total $3,396 $6,744 $6,029 $2,290 $1,508 $1,475 $21,442 - ----------------------------------------------------------------------------------------------------------------------------------- Percent of total 16% 31% 28% 11% 7% 7% 100% - ----------------------------------------------------------------------------------------------------------------------------------- AT NOVEMBER 30, 1997 Interest rate and currency swaps and options (including caps, floors and swap options) and other fixed income securities contracts $ 754 $2,761 $2,544 $ 436 $ 33 $ 568 $ 7,096 Foreign exchange forward contracts and options 788 2,504 1,068 72 -- 176 4,608 Equity securities contracts (including equity swaps, warrants and options) 1,141 917 567 233 780 152 3,790 Commodity forwards, options and swaps 70 425 380 312 12 145 1,344 Mortgage-backed securities forward contracts, swaps and options 156 90 50 2 -- 10 308 - ----------------------------------------------------------------------------------------------------------------------------------- Total $2,909 $6,697 $4,609 $1,055 $825 $1,051 $17,146 - ----------------------------------------------------------------------------------------------------------------------------------- Percent of total 17% 39% 27% 6% 5% 6% 100% - -----------------------------------------------------------------------------------------------------------------------------------
The Company also has obtained assets posted as collateral by investment grade counterparties amounting to $2.5 billion and $1.2 billion at November 30, 1998 and November 30, 1997, respectively. 78 Morgan Stanley Dean Witter * 1998 Annual report 10 PREFERRED STOCK, CAPITAL UNITS AND PREFERRED SECURITIES ISSUED BY SUBSIDIARIES - ---------------------------------------------- Preferred stock of the Company is composed of the following issues:
Shares Outstanding at Balance at November 30 November 30 (dollars in millions) 1998 1997 1998 1997 ========================================================================================================================== ESOP Convertible Preferred Stock, liquidation preference $35.88 3,581,964 3,646,664 $129 $131 Series A Fixed/Adjustable Rate Cumulative Preferred Stock, stated value $200 1,725,000 1,725,000 345 345 7-3/4% Cumulative Preferred Stock, stated value $200 1,000,000 1,000,000 200 200 7-3/8% Cumulative Preferred Stock, stated value $200 -- 1,000,000 -- 200 - -------------------------------------------------------------------------------------------------------------------------- Total $674 $876 ==========================================================================================================================
Each issue of outstanding preferred stock ranks in parity with all other outstanding preferred stock of the Company. During fiscal 1998, MSDW Capital Trust I, a Delaware statutory business trust (the "Capital Trust"), all of the common securities of which are owned by the Company, issued $400 million of 7.10% Capital Securities (the "Capital Securities") that are guaranteed by the Company. The Capital Trust issued the Capital Securities and invested the proceeds in 7.10% Junior Subordinated Deferrable Interest Debentures issued by the Company, which are due February 28, 2038. During fiscal 1998, the Company redeemed all 1,000,000 outstanding shares of its 7-3/8% Cumulative Preferred Stock at a redemption price of $200 per share. The Company also simultaneously redeemed all corresponding Depositary Shares at a redemption price of $25 per Depositary Share. Each Depositary Share represented 1/8 of a share of the Company's 7-3/8% Cumulative Preferred Stock. The Company has Capital Units outstanding which were issued by the Company and Morgan Stanley Finance plc ("MS plc"), a U.K. subsidiary. A Capital Unit consists of (a) a Subordinated Debenture of MS plc guaranteed by the Company and having maturities from 2013 to 2017 and (b) a related Purchase Contract issued by the Company, which may be accelerated by the Company beginning approximately one year after the issuance of each Capital Unit, requiring the holder to purchase one Depositary Share representing shares (or fractional shares) of the Company's Cumulative Preferred Stock. The aggregate amount of Capital Units outstanding was $999 million at November 30, 1998 and 1997. In January 1999, the Company and MS plc called for redemption all of the outstanding 7.82% Capital Units and 7.80% Capital Units on February 28, 1999. The aggregate principal amount of the Capital Units to be redeemed is $352 million. The estimated fair value of the Capital Units approximated carrying value at November 30, 1998 and November 30, 1997. 11 SHAREHOLDERS' EQUITY - -------------------------------------------------------------------------------- MS&Co. and DWR are registered broker-dealers and registered futures commission merchants and, accordingly, are subject to the minimum net capital requirements of the Securities and Exchange Commission, the New York Stock Exchange and the Commodity Futures Trading Commission. MS&Co. and DWR have consistently operated in excess of these requirements. MS&Co.'s net capital totaled $3,205 million at November 30, 1998, which exceeded the amount required by $2,699 million. DWR's net capital totaled $752 million at November 30, 1998, which exceeded the amount required by $668 million. MSIL, a London-based broker-dealer subsidiary, is subject to the capital requirements of the Securities and Futures Authority, and MSJL, a Tokyo-based broker-dealer, is subject to the capital requirements of the Japanese Ministry of Finance. MSIL and MSJL have consistently operated in excess of their respective regulatory capital requirements. Under regulatory net capital requirements adopted by the Federal Deposit Insurance Corporation ("FDIC") and other regulatory capital guidelines, FDIC-insured financial institutions must 79 Morgan Stanley Dean Witter * 1998 Annual Report maintain (a) 3% to 5% of Tier 1 capital, as defined, to total assets ("leverage ratio") and (b) 8% combined Tier 1 and Tier 2 capital, as defined, to risk-weighted assets ("risk-weighted capital ratio"). At November 30, 1998, the leverage ratio and risk-weighted capital ratio of each of the Company's FDIC-insured financial institutions exceeded these and all other regulatory minimums. Certain other U.S. and non-U.S. subsidiaries are subject to various securities, commodities and banking regulations, and capital adequacy requirements promulgated by the regulatory and exchange authorities of the countries in which they operate. These subsidiaries have consistently operated in excess of their local capital adequacy requirements. Morgan Stanley Derivative Products Inc., the Company's triple-A rated derivative products subsidiary, also has established certain operating restrictions which have been reviewed by various rating agencies. The regulatory capital requirements referred to above, and certain covenants contained in various agreements governing indebtedness of the Company, may restrict the Company's ability to withdraw capital from its subsidiaries. At November 30, 1998, approximately $4.9 billion of net assets of consolidated subsidiaries may be restricted as to the payment of cash dividends and advances to the Company. Cumulative translation adjustments include gains or losses resulting from translating foreign currency financial statements from their respective functional currencies to U.S. dollars, net of hedge gains or losses and related tax effects. The Company uses foreign currency contracts and designates certain non-U.S. dollar currency debt as hedges to manage the currency exposure relating to its net monetary investments in non-U.S. dollar functional currency subsidiaries. Increases or decreases in the value of the Company's net foreign investments generally are tax-deferred for U.S. purposes, but the related hedge gains and losses are taxable currently. Therefore, the gross notional amounts of the contracts and debt designated as hedges exceed the Company's net foreign investments to result in effective hedging on an after-tax basis. The Company attempts to protect its net book value from the effects of fluctuations in currency exchange rates on its net monetary investments in non-U.S. dollar subsidiaries by selling the appropriate non-U.S. dollar currency in the forward market. However, under some circumstances, the Company may elect not to hedge its net monetary investments in certain foreign operations due to market conditions, including the availability of various currency contracts at acceptable costs. Information relating to the hedging of the Company's net monetary investments in non-U.S. dollar functional currency subsidiaries and their effects on cumulative translation adjustments is summarized below: At November 30 (dollars in millions) 1998 1997 =========================================================================== Net monetary investments in non-U.S. dollar functional currency subsidiaries $ 1,364 $ 1,128 - --------------------------------------------------------------------------- Gross notional amounts of foreign exchange contracts and non-U.S. dollar debt designated as hedges(1) $ 2,239 $ 1,881 - --------------------------------------------------------------------------- Cumulative translation adjustments resulting from net investments in subsidiaries with a non-U.S. dollar functional currency $ 29 $ 6 Cumulative translation adjustments resulting from realized or unrealized gains or losses on hedges, net of tax $ (41) $ (15) - --------------------------------------------------------------------------- Total cumulative translation adjustments $ (12) $ (9) - --------------------------------------------------------------------------- (1) Notional amounts represent the contractual currency amount translated at respective fiscal year-end spot rates. 12 EMPLOYEE COMPENSATION PLANS - -------------------------------------------------------------------------------- The Company has adopted a variety of compensation plans for certain of its employees as well as the Company's non-employee directors. These plans are designed to facilitate a pay-for-performance policy, provide compensation commensurate with other leading financial services companies and provide for internal ownership in order to align the interests of employees with the long-term interests of the Company's shareholders. These plans are summarized below. EQUITY-BASED COMPENSATION PLANS The Company is authorized to issue up to approximately 270 million shares of its common stock in connection with awards under its equity- 80 Morgan Stanley Dean Witter * 1998 Annual Report based compensation plans. At November 30, 1998, approximately 150 million shares were available for future grant under these plans. STOCK OPTION AWARDS Stock option awards have been granted pursuant to several equity-based compensation plans. Historically, these plans have generally provided for the granting of stock options having an exercise price not less than the fair value of the Company's common stock (as defined in the plan) on the date of grant. Such options generally become exercisable over a one-to-five year period and expire seven to 10 years from the date of grant. The following table sets forth activity relating to the Company's stock option awards (share data in millions):
FISCAL 1998 FISCAL 1997 FISCAL 1996 ----------------------------------------------------------------------------- WEIGHTED Weighted Weighted NUMBER AVERAGE Number Average Number Average OF EXERCISE of Exercise of Exercise SHARES PRICE Shares Price Shares Price ==================================================================================================================================== Options outstanding at beginning of period 64.1 $27.85 60.3 $17.04 63.1 $14.46 Granted 15.6 68.77 20.2 48.16 7.5 30.15 Exercised (15.3) 18.23 (14.9) 11.68 (9.0) 9.45 Forfeited (1.1) 39.40 (1.5) 26.66 (1.3) 21.14 - ------------------------------------------------------------------------------------------------------------------------------------ Options outstanding at end of period 63.3 $40.08 64.1 $27.85 60.3 $17.04 - ------------------------------------------------------------------------------------------------------------------------------------ Options exercisable at end of period 40.6 $39.37 44.3 $26.67 36.4 $13.82 ====================================================================================================================================
The following table presents information relating to the Company's stock options outstanding at November 30, 1998 (share data in millions): OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------------------------------- Weighted Average Weighted Average Remaining Average Range of Number Exercise Life Number Exercise Exercise Prices Outstanding Price (Years) Exercisable Price ================================================================================ $ 8.00 - $19.99 22.7 $17.29 5.9 17.9 $17.09 $20.00 - $29.99 2.0 24.02 3.3 1.0 23.35 $30.00 - $39.99 7.9 32.13 5.5 1.3 32.42 $40.00 - $49.99 4.4 43.47 8.6 3.8 43.47 $50.00 - $59.99 15.0 54.90 8.1 9.2 55.64 $60.00 - $69.99 0.5 63.08 7.1 0.5 62.88 $70.00 - $79.99 9.5 71.56 9.8 5.7 71.73 $80.00 - $96.00 1.3 89.90 7.1 1.2 90.00 - -------------------------------------------------------------------------------- Total 63.3 7.1 40.6 - -------------------------------------------------------------------------------- Deferred Compensation Awards The Company has made deferred compensation awards pursuant to several equity- based compensation plans. These plans provide for the deferral of a portion of certain key employees' compensation with payments made in the form of the Company's common stock or in the right to receive unrestricted shares (collectively, "Restricted Stock"). Compensation expense for all such awards (including those subject to forfeiture) amounted to $415 million, $347 million and $534 million in fiscal 1998, fiscal 1997 and fiscal 1996, respectively. Compensation expense for Restricted Stock awards was determined based on the fair value of the Company's common stock (as defined in the plans). The number of Restricted Stock shares outstanding were 59 million at fiscal year-end 1998, 62 million at fiscal year-end 1997, and 65 million at fiscal year-end 1996. Restricted Stock awarded under these plans are subject to restrictions on sale, transfer or assignment until the end of a specified restriction period, generally 5 to 10 years from the date of grant. Holders of Restricted Stock generally may forfeit ownership of a portion of their award if employment is terminated before the end of the relevant restriction period. Holders of vested Restricted Stock generally will forfeit ownership only in certain limited situations, including termination for cause during the restriction period. Employee Stock Purchase Plan Under the Employee Stock Purchase Plan, eligible employees may purchase shares of the Company's common stock at not less than 81 Morgan Stanley Dean Witter * 1998 Annual Report 85% of the fair value on the date of purchase. Employees of the Company purchased 0.6 million shares of common stock in fiscal 1998, 0.5 million shares in fiscal 1997 and 0.7 million shares in fiscal 1996. The discount to fair value was $6 million for fiscal 1998 and $3 million for both fiscal 1997 and fiscal 1996. The plan is "non-compensatory" under APB No. 25, and, accordingly, no charge to earnings has been recorded for the amount of the discount to fair value. Non-Employee Director Awards The Company sponsors an equity-based plan for non-employee directors under which shares of the Company's common stock have been authorized for issuance in the form of option grants, stock awards or deferred compensation. The effect of these grants on results of operations was not material. OTHER COMPENSATION PLANS Capital Accumulation Plan Under the Capital Accumulation Plan ("CAP"), vested units consisting of unsecured rights to receive payments based on notional interests in existing and future risk-capital investments made directly or indirectly by the Company ("CAP Units") are granted to key employees. The value of the CAP Units awarded for services rendered in fiscal 1998, 1997 and 1996 was approximately $15 million, $14 million and $7 million, respectively, all of which relate to vested units. Carried Interest Plans Under various Carried Interest Plans, certain key employees effectively participate in a portion of the Company's realized gains from certain of its equity investments in private equity transactions. Compensation expense for fiscal 1998, 1997 and 1996 related to these plans aggregated $33 million, $38 million and $0.2 million, respectively. Real Estate Fund Plans Under various plans, select employees and consultants to certain partnerships may participate in certain gains realized by the Company's real estate funds. Compensation expense relating to these plans aggregated $3 million, $8 million and $13 million for fiscal 1998, fiscal 1997 and fiscal 1996, respectively. Profit Sharing Plans The Company sponsors qualified profit sharing plans covering substantially all U.S. employees and also provides cash payment of profit sharing to employees of its international subsidiaries. Contributions are made to eligible employees at the discretion of management based upon the financial performance of the Company. Total profit sharing expense for fiscal 1998, fiscal 1997 and fiscal 1996 was $115 million, $113 million and $72 million, respectively. Employee Stock Ownership Plan The Company has a $140 million leveraged employee stock ownership plan, funded through an independently managed trust. The Employee Stock Ownership Plan ("ESOP") was established to broaden internal ownership of the Company and to provide benefits to its employees in a cost-effective manner. Each of the 3,581,964 preferred shares outstanding at November 30, 1998 is held by the ESOP trust, is convertible into 3.3 shares of the Company's common stock and is entitled to annual dividends of $2.78 per preferred share. The ESOP trust funded its stock purchase through a loan of $140 million from the Company. The ESOP trust note, due September 19, 2005 (extendible at the option of the ESOP trust to September 19, 2010), bears a 10-3/8% interest rate per annum with principal payable without penalty on or before the due date. The ESOP trust expects to make principal and interest payments on the note from funds provided by dividends on the shares of convertible preferred stock and contributions from the Company. The note receivable 82 Morgan Stanley Dean Witter * 1998 Annual Report from the ESOP trust is reflected as a reduction in the Company's shareholders' equity. Shares allocated to employees generally may not be withdrawn until the employee's death, disability, retirement or termination. Upon withdrawal, each share of ESOP preferred stock generally will be converted into 3.3 shares of the Company's common stock. If the fair value of such 3.3 common shares at conversion is less than the $35.88 liquidation value of an ESOP preferred share, the Company will pay the withdrawing employee the difference in additional common shares or cash. Contributions to the ESOP by the Company and allocation of ESOP shares to employees are made annually at the discretion of the Board of Directors. The cost of shares allocated to participants' accounts amounted to $8 million in both fiscal 1998 and fiscal 1997, and $9 million in fiscal 1996. The ESOP debt service costs for fiscal 1998, fiscal 1997 and fiscal 1996 were paid from dividends received on preferred stock held by the plan and from Company contributions. PRO FORMA EFFECT OF SFAS NO. 123 Had the Company elected to recognize compensation cost pursuant to SFAS No. 123 for its stock option plans and the Employee Stock Purchase Plan, net income would have been reduced by $214 million, $196 million and $41 million for fiscal 1998, 1997 and 1996, respectively. Basic and diluted earnings per common share would have been reduced by $0.38, $0.34 and $0.07 for fiscal 1998, 1997 and 1996, respectively. The weighted average fair value at date of grant for stock options granted during fiscal 1998, 1997 and 1996 was $22.37, $16.76 and $9.08 per option, respectively. The fair value of stock options at date of grant was estimated using the Black-Scholes option pricing model utilizing the following weighted average assumptions: FISCAL fiscal fiscal 1998 1997 1996 ============================================================================ Risk-free interest rate 4.9% 6.0% 5.5% Expected option life in years 4.8 6.0 5.3 Expected stock price volatility 33.2% 28.0% 27.5% Expected dividend yield 1.3% 1.3% 1.6% - ---------------------------------------------------------------------------- 13 EMPLOYEE BENEFIT PLANS The Company sponsors various pension plans for the majority of its worldwide employees. The Company provides certain other postretirement benefits, primarily health care and life insurance, to eligible employees. The Company also provides certain benefits to former or inactive employees prior to retirement. The following summarizes these plans: PENSION PLANS Substantially all of the U.S. employees of the Company and its U.S. affiliates are covered by non-contributory pension plans that are qualified under Section 401(a) of the Internal Revenue Code (the "Qualified Plans"). Unfunded supplementary plans (the "Supplemental Plans") cover certain executives. In addition to the Qualified Plans and the Supplemental Plans (collectively, the "U.S. Plans"), nine of the Company's international subsidiaries also have pension plans covering substantially all of their employees. These pension plans generally provide pension benefits that are based on each employee's years of credited service and on compensation levels specified in the plans. For the Qualified Plans and the other international plans, the Company's policy is to fund at least the amounts sufficient to meet minimum funding requirements under applicable employee benefit and tax regulations. Liabilities for benefits payable under the Supplemental Plans are accrued by the Company and are funded when paid to the beneficiaries. 83 Morgan Stanley Dean Witter * 1998 Annual Report The following tables present information for the Company's pension plans on an aggregate basis. Pension expense includes the following components: FISCAL fiscal fiscal (dollars in millions) 1998 1997 1996 ============================================================================= U.S. Plans: Service cost, benefits earned during the period $ 72 $ 54 $ 48 Interest cost on projected benefit obligation 78 67 58 Return on plan assets (7) (170) (111) Difference between actual and expected return on assets (80) 104 53 Net amortization 1 1 2 - ----------------------------------------------------------------------------- Total U.S. plans 64 56 50 International plans 12 9 12 - ----------------------------------------------------------------------------- Total pension expense $ 76 $ 65 $ 62 - ----------------------------------------------------------------------------- The following table provides the assumptions used in determining the projected benefit obligation for the U.S. Plans: FISCAL fiscal 1998 1997 ============================================================================= Weighted average discount rate 6.75% 7.25% Rate of increase in future compensation levels 5.00% 5.00% Expected long-term rate of return on plan assets 9.00% 9.00% - ----------------------------------------------------------------------------- The following table sets forth the funded status of the U.S. Plans: NOVEMBER 30, 1998 November 30, 1997 ACCUMULATED Accumulated ASSETS EXCEED BENEFITS Assets Exceed Benefits ACCUMULATED EXCEED Accumulated Exceed (dollars in millions) BENEFITS ASSETS Benefits Assets ============================================================================ Actuarial present value of vested benefit obligation $ (269) $ (616) $ (735) $ (34) - ---------------------------------------------------------------------------- Accumulated benefit obligation $ (314) $ (693) $ (807) $ (71) Effect of future salary increases (114) (93) (181) (30) - ---------------------------------------------------------------------------- Projected benefit obligation (428) (786) (988) (101) Plan assets at fair value (primarily listed stocks and bonds) 384 597 1,006 -- - ---------------------------------------------------------------------------- Projected benefit obligation (in excess of) or less than plan assets (44) (189) 18 (101) Unrecognized net loss or (gain) 53 83 (4) 27 Unrecognized prior service cost 1 28 31 (4) Unrecognized net transition obligation -- 8 3 5 - ---------------------------------------------------------------------------- Prepaid (accrued) pension cost at fiscal year-end $ 10 $ (70) $ 48 $ (73) Additional liability for unfunded accumulated benefit obligation -- (30) -- -- - ---------------------------------------------------------------------------- Pension asset (liability) $ 10 $ (100) $ 48 $ (73) - ---------------------------------------------------------------------------- The Company also maintains a separate defined contribution pension plan which covers substantially all employees of the Company's U.K. subsidiaries (the "U.K. Plan"). Under the U.K. Plan, benefits are determined by the purchasing power of the accumulated value of contributions paid. In fiscal 1998 and 1997, the Company's expense related to the U.K. Plan was $17 million and $15 million, respectively. 84 Morgan Stanley Dean Witter * 1998 Annual Report POSTRETIREMENT BENEFITS The Company has unfunded postretirement benefit plans that provide medical and life insurance for eligible retirees, employees and dependents. At November 30, 1998 and 1997, the Company's accrued postretirement benefit costs were $95 million and $91 million, respectively. POSTEMPLOYMENT BENEFITS Postemployment benefits include, but are not limited to, salary continuation, supplemental unemployment benefits, severance benefits, disability-related benefits, and continuation of health care and life insurance coverage provided to former or inactive employees after employment but before retirement. These benefits were not material to the consolidated financial statements in fiscal 1998, 1997 and 1996. 14 INCOME TAXES ----------------------------------------------------------------------------- The provision for income taxes consists of: FISCAL fiscal fiscal (dollars in millions) 1998 1997 1996 =========================================================================== Current U.S. federal $ 1,199 $ 1,079 $ 1,096 U.S. state and local 372 348 290 Non-U.S 476 338 177 - --------------------------------------------------------------------------- 2,047 1,765 1,563 - --------------------------------------------------------------------------- Deferred U.S. federal (26) (45) (326) U.S. state and local 1 (17) (74) Non-U.S (30) (15) (26) - --------------------------------------------------------------------------- (55) (77) (426) - --------------------------------------------------------------------------- Provision for income taxes $ 1,992 $ 1,688 $ 1,137 - --------------------------------------------------------------------------- The following table reconciles the provision to the U.S. federal statutory income tax rate: FISCAL fiscal fiscal 1998 1997 1996 ============================================================================ U.S. federal statutory income tax rate 35.0% 35.0% 35.0% U.S. state and local income taxes, net of U.S. federal income tax benefits 4.6 5.1 4.6 Lower tax rates applicable to non-U.S. earnings (2.4) (1.1) (1.7) Reduced tax rate applied to dividends (0.1) (0.1) (0.1) Other (0.1) 0.6 (1.3) - ---------------------------------------------------------------------------- Effective income tax rate 37.0% 39.5% 36.5% - ---------------------------------------------------------------------------- As of November 30, 1998, the Company had approximately $2.6 billion of earnings attributable to foreign subsidiaries for which no provisions have been recorded for income tax that could occur upon repatriation. Except to the extent such earnings can be repatriated tax efficiently, they are permanently invested abroad. It is not practicable to determine the amount of income taxes payable in the event all such foreign earnings are repatriated. Deferred income taxes reflect the net tax effects of temporary differences between the financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when such differences are expected to reverse. Significant components of the Company's deferred tax assets and liabilities at November 30, 1998 and 1997 are as follows: NOV. 30, NOV. 30, (dollars in millions) 1998 1997 ========================================================================= Deferred tax assets Employee compensation and benefit plans $1,289 $1,168 Loan loss allowance 371 459 Other valuation and liability allowances 604 545 Other 167 180 - ------------------------------------------------------------------------- Total deferred tax assets 2,431 2,352 - ------------------------------------------------------------------------- Deferred tax liabilities Prepaid commissions 239 233 Valuation of inventory, investments and receivables 127 298 Other 237 265 - ------------------------------------------------------------------------- Total deferred tax liabilities 603 796 - ------------------------------------------------------------------------- Net deferred tax assets $1,828 $1,556 - ------------------------------------------------------------------------- Cash paid for income taxes was $1,591 million, $1,251 million and $1,190 million in fiscal 1998, 1997 and 1996, respectively. 85 Morgan Stanley Dean Witter * 1998 Annual Report 15 GEOGRAPHIC AREA DATA ----------------------------------------------------------------------------- Total revenues, net revenues, income before taxes and identifiable assets of the Company's operations by geographic area are as follows:
TOTAL REVENUES NET REVENUES ---------------------------------------------------------------------------------------------- FISCAL fiscal fiscal FISCAL fiscal fiscal (dollars in millions) 1998 1997 1996 1998 1997 1996 ================================================================================================================================ International: Europe $ 7,541 $ 6,468 $ 5,616 $ 2,786 $ 1,757 $ 1,429 Asia 1,176 952 768 1,023 866 700 - -------------------------------------------------------------------------------------------------------------------------------- Total 8,717 7,420 6,384 3,809 2,623 2,129 North America 28,001 28,711 24,235 12,933 12,519 10,193 Eliminations (5,587) (8,999) (8,448) (298) (309) (299) - -------------------------------------------------------------------------------------------------------------------------------- Total $ 31,131 $ 27,132 $ 22,171 $ 16,444 $ 14,833 $ 12,023 - -------------------------------------------------------------------------------------------------------------------------------- INCOME BEFORE TAXES IDENTIFIABLE ASSETS ---------------------------------------------------------------------------------------------- FISCAL fiscal fiscal FISCAL fiscal fiscal (dollars in millions) 1998 1997 1996 1998 1997 1996 ================================================================================================================================ International: Europe $ 1,088 $ 399 $ 328 $ 139,923 $ 126,138 $ 113,734 Asia 287 240 161 25,712 30,656 21,561 - -------------------------------------------------------------------------------------------------------------------------------- Total 1,375 639 489 165,635 156,794 135,295 North America 4,010 3,635 2,628 337,588 307,728 242,510 Eliminations -- -- -- (185,633) (162,235) (138,945) - -------------------------------------------------------------------------------------------------------------------------------- Total $ 5,385 $ 4,274 $ 3,117 $ 317,590 $ 302,287 $ 238,860 - --------------------------------------------------------------------------------------------------------------------------------
Because of the international nature of the financial markets and the resulting geographic integration of the Company's business, the Company manages its business with a view to the profitability of the enterprise as a whole, and, as such, profitability by geographic area is not necessarily meaningful. 86 Morgan Stanley Dean Witter * 1998 Annual Report 16 SEGMENT INFORMATION ----------------------------------------------------------------------------- The Company is in the business of providing financial services, and operates in two business segments -- Securities and Asset Management and Credit and Transaction Services. Securities and Asset Management engages in delivering a broad range of financial products and services, including asset management, to individual and institutional investors. Credit and Transaction Services is engaged in the issuance and servicing of general purpose credit cards, consumer lending and electronic transaction processing services. The following table presents certain information regarding these business segments: FISCAL fiscal fiscal (dollars in millions) 1998 1997 1996 ============================================================================ Total revenues: Securities and Asset Management $ 25,763 $ 21,499 $ 17,136 Credit and Transaction Services 5,368 5,633 5,035 Income before income taxes(1): Securities and Asset Management 4,187 3,597 2,426 Credit and Transaction Services 1,198 751 691 Identifiable assets at end of period(2): Securities and Asset Management 297,054 277,878 213,967 Credit and Transaction Services 20,536 24,409 24,893 - ---------------------------------------------------------------------------- (1) Excludes merger-related expenses of $74 million in fiscal 1997. (2) Corporate assets have been fully allocated to the Company's business segments. 17 BUSINESS DISPOSITIONS - --.............................................................................. In fiscal 1998, the Company entered into several transactions reflecting its strategic decision to focus on growing its core Securities and Asset Management and Credit and Transaction Services businesses. In the fourth quarter of fiscal 1998, the Company completed the sale of its Global Custody business. The Company also sold its interest in the operations of SPS Transaction Services, Inc., a 73%-owned, publicly held subsidiary of the Company. In addition, the Company sold certain credit card receivables relating to its discontinued BRAVO Card. The Company's aggregate net pre-tax gain resulting from these transactions was $685 million. In addition, during fiscal 1998 the Company sold its Prime Option/SM/ MasterCard(R) portfolio, a business it had operated with NationsBank of Delaware, N.A., and its Correspondent Clearing business. The gains resulting from the sale of these businesses were not material to the Company's results of operations or financial condition. 87 Morgan Stanley Dean Witter * 1998 Annual report 18 QUARTERLY RESULTS (UNAUDITED) ----------------------------------------------------------------------------
(dollars in millions, 1998 FISCAL QUARTER 1997 FISCAL QUARTER except share and FIRST SECOND THIRD per share data) (RESTATED)(1) (RESTATED)(1) (RESTATED)(1) FOURTH FIRST SECOND THIRD FOURTH =================================================================================================================================== Revenues: Investment banking $ 800 $ 988 $ 819 $ 733 $ 522 $ 581 $ 818 $ 773 Principal transactions: Trading 903 1,091 499 798 869 722 778 822 Investments 72 101 (174) 90 56 136 206 65 Commissions 547 611 608 587 490 484 559 553 Fees: Asset management, distribution and administration 676 741 718 714 587 610 656 652 Merchant and cardmember 428 404 438 377 436 424 433 411 Servicing 171 232 255 270 202 184 196 180 Interest and dividends 3,933 4,213 4,283 4,007 3,369 3,197 3,570 3,447 Other 55 47 52 44 29 38 41 36 Total revenues 7,585 8,428 7,498 7,620 6,560 6,376 7,257 6,939 Interest expense 3,145 3,554 3,377 3,438 2,709 2,478 2,765 2,854 Provision for consumer loan losses 405 275 280 213 379 376 385 353 Net revenues 4,035 4,599 3,841 3,969 3,472 3,522 4,107 3,732 Non-interest expenses: Compensation and benefits 1,788 2,017 1,609 1,222 1,490 1,505 1,849 1,175 Occupancy and equipment 140 143 148 152 128 127 134 137 Brokerage, clearing and exchange fees 121 135 160 136 95 113 130 122 Information processing and communications 267 275 291 307 270 267 249 294 Marketing and business development 294 286 354 477 288 274 293 324 Professional services 128 156 176 217 93 99 127 132 Other 165 190 193 197 180 180 219 191 Merger-related expenses -- -- -- -- -- 74 -- -- Total non-interest expenses 2,903 3,202 2,931 2,708 2,544 2,639 3,001 2,375 Gain on sale of businesses -- -- -- 685 -- -- -- -- Income before income taxes and cumulative effect of accounting change 1,132 1,397 910 1,946 928 883 1,106 1,357 Provision for income taxes 441 545 284 722 357 356 428 547 Income before cumulative effect of accounting change 691 852 626 1,224 571 527 678 810 Cumulative effect of accounting change (117) -- -- -- -- -- -- -- Net income $ 574 $ 852 $ 626 $ 1,224 $ 571 $ 527 $ 678 $ 810 Earnings applicable to common shares(2) $ 559 $ 838 $ 612 $ 1,212 $ 552 $ 509 $ 663 $ 796 Basic earnings per share(3): Income before cumulative effect of accounting change $ 1.15 $ 1.44 $ 1.07 $ 2.16 $ 0.96 $ 0.88 $ 1.15 $ 1.37 Cumulative effect of accounting change (0.20) -- -- -- -- -- -- -- Net income $ 0.95 $ 1.44 $ 1.07 $ 2.16 $ 0.96 $ 0.88 $ 1.15 $ 1.37 Diluted earnings per share(3): Income before cumulative effect of accounting change $ 1.10 $ 1.37 $ 1.01 $ 2.07 $ 0.91 $ 0.84 $ 1.09 $ 1.30 Cumulative effect of accounting change (0.19) -- -- -- -- -- -- -- Net income $ 0.91 $ 1.37 $ 1.01 $ 2.07 $ 0.91 $ 0.84 $ 1.09 $ 1.30 Dividends to common shareholders $ 0.20 $ 0.20 $ 0.20 $ 0.20 $ 0.14 $ 0.14 $ 0.14 $ 0.14 Book value $ 22.48 $ 21.95 $ 22.13 $ 23.88 $ 18.70 $ 19.37 $ 20.25 $ 22.11 Average common and equivalent shares: Basic 586,751,340 581,326,618 573,170,507 560,108,890 573,410,658 577,985,371 578,082,806 580,985,871 Diluted 616,377,562 612,625,354 604,779,594 585,533,337 605,691,066 610,430,898 610,019,122 612,092,405 Stock price range(4) $52.25-70.50 $69.75-84.44 $58.06-96.88 $38.44-74.75 $32.19-43.75 $34.50-41.50 $41.00-53.88 $47.31-58.75 - -----------------------------------------------------------------------------------------------------------------------------------
(1) The quarterly results for the first, second and third quarters of fiscal 1998 have been restated to reflect the effects of the accounting change adopted in the fourth quarter, effective December 1, 1997. As a result of this restatement, net income has been decreased by $117 million, $2 million and $21 million for the first, second and third quarters of fiscal 1998, respectively. For further information regarding the change in accounting, see Note 2. (2) Amounts shown are used to calculate basic earnings per share. (3) Summation of the quarters' earnings per common share may not equal the annual amounts due to the averaging effect of the number of shares and share equivalents throughout the year. (4) Prices represent the range of sales per share on the New York Stock Exchange for the periods indicated. The number of stockholders of record at November 30, 1998 approximated 186,000. The number of beneficial owners of common stock is believed to exceed this number. 88 EX-21 18 SUBSIDIARIES EXHIBIT 21 MORGAN STANLEY DEAN WITTER & CO. -------------------------------- As of January 26, 1999
Year of Jurisdiction of Incorporation/ Incorporation Formation ------------- --------- Dean Witter Alliance Capital Corporation Delaware 1993 Dean Witter Asset Corporation Delaware 1992 Dean Witter Capital Corporation Delaware 1987 Dean Witter Advisers Inc. Delaware 1989 Dean Witter Capital Advisers Inc. Delaware 1989 DW Administrators Inc. Delaware 1989 DW Window Coverings Holding, Inc. Delaware 1988 Dean Witter Futures and Currency Management Inc. Delaware 1987 Dean Witter Realty Inc. Delaware 1982 Cool Springs Inc. Massachusetts 1991 Dean Witter Global Realty Inc. Delaware 1995 Dean Witter Holding Corporation Delaware 1983 Civic Center Leasing Corporation Delaware 1983 Lee Leasing Corporation Delaware 1982 Lewiston Leasing Corporation Delaware 1983 Sartell Leasing Corporation Delaware 1982 Dean Witter Leasing Corporation Delaware 1982 Dean Witter Realty Credit Corporation Delaware 1982 Dean Witter Realty Fourth Income Properties Inc. Delaware 1986 Dean Witter Realty Growth Properties Inc. Delaware 1985 Dean Witter Realty Income Associates I Inc. Delaware 1983 Dean Witter Realty Income Associates II Inc. Delaware 1984 Dean Witter Realty Income Properties I Inc. Delaware 1983 Dean Witter Realty Income Properties II Inc. Delaware 1984 Dean Witter Realty Income Properties III Inc. Delaware 1985 Dean Witter Realty Yield Plus Assignor Inc. Delaware 1987 Dean Witter Realty Yield Plus Inc. Delaware 1987 Dean Witter Realty Yield Plus II Inc. Delaware 1988 DW Arboretum Plaza Inc. Delaware 1992 DW Bennington Property Inc. Delaware 1993 DW Chesterbrook Investors Inc. Delaware 1992 DW Duportail Investors Inc. Delaware 1992 DW Greycoat Inc. Delaware 1993 Green Orchard Inc. Massachusetts 1991 LLJV Funding Corporation Massachusetts 1984 Realty Management Services Inc. Delaware 1982 Dean Witter Reynolds Inc. Delaware 1968 Dean Witter Reynolds Insurance Agency (Massachusetts) Inc. Massachusetts 1975 Dean Witter Reynolds Insurance Agency (Ohio) Inc. Ohio 1977 Dean Witter Reynolds Insurance Agency (Oklahoma) Inc. Oklahoma 1976 Dean Witter Reynolds Insurance Agency (Texas) Inc. Texas 1978 Dean Witter Reynolds Insurance Services (Alabama) Inc. Alabama 1991 Dean Witter Reynolds Insurance Services (Arizona) Inc. Arizona 1974 Dean Witter Reynolds Insurance Services (Arkansas) Inc. Arkansas 1977 Dean Witter Reynolds Insurance Services (Illinois) Inc. Illinois 1975 (Dean Witter Reynolds Inc. - cont'd)
Year of Jurisdiction of Incorporation/ Incorporation Formation ------------- --------- Dean Witter Reynolds Insurance Services Inc. Delaware 1972 Dean Witter Reynolds Insurance Agency (Indiana) Inc. Indiana 1975 FD Insurance Services, Inc. Delaware 1997 FD Insurance Services of Nevada, Inc. Nevada 1997 FD Insurance Services of New Mexico, Inc. New Mexico 1997 FD Insurance Services of Texas, Inc. Texas 1997 Dean Witter Reynolds Insurance Services, Inc. (Puerto Rico) Puerto Rico 1987 Dean Witter Reynolds Insurance Services (Maine) Inc. Maine 1995 Dean Witter Reynolds Insurance Services (Montana) Inc. Montana 1977 Dean Witter Reynolds Insurance Services (New Hampshire) Inc. New Hampshire 1977 Dean Witter Reynolds Insurance Services (South Dakota) Inc. South Dakota 1977 Dean Witter Reynolds Insurance Services (Wyoming) Inc. Wyoming 1977 DWR Special Partners Inc. Delaware 1982 Dean Witter Reynolds International Incorporated Delaware 1978 Dean Witter Reynolds GmbH Germany 1974 Dean Witter Reynolds (Hong Kong) Limited Hong Kong 1979 Dean Witter Reynolds International, Inc. Panama 1959 Dean Witter Reynolds (Geneva) S.A. Switzerland 1991 Dean Witter International Ltd. U.K. 1988 Dean Witter Capital Markets International Ltd. (U.K.) U.K. 1987 Dean Witter Futures Limited U.K. 1977 Dean Witter Reynolds Limited U.K. 1968 Dean Witter Reynolds International, S.A. France 1979 Dean Witter Reynolds (Lausanne) S.A. Switzerland 1973 Dean Witter Reynolds (Lugano) S.A. Switzerland 1989 Dean Witter Reynolds S.p.A. Italy 1978 Morgan Stanley Dean Witter Trust Company (Cayman) Ltd. Cayman Islands 1998 Dean Witter Reynolds Partners Inc. Delaware 1982 Dean Witter Reynolds Venture Equities Inc. Delaware 1981 Dean Witter Venture Management Inc. Delaware 1986 Dean Witter Venture Inc. Delaware 1993 Demeter Management Corporation Delaware 1977 DWD Electronic Financial Services Inc. Delaware 1997 Discover Brokerage Direct Inc. California 1992 Bay One Technologies Group, Inc. California 1996 DWR Partnership Administrators Inc. Delaware 1989 Morgan Stanley Dean Witter Advisors Inc. Delaware 1992 Morgan Stanley Dean Witter Services Company Inc. Delaware 1994 Morgan Stanley Dean Witter Distributors Inc. Delaware 1992 Morgan Stanley Dean Witter Trust FSB Federal Charter 1996 NOVUS Credit Services Inc. Delaware 1960 Bank of New Castle Delaware 1988 Discover Card Bank Limited Gibraltar 1992 Discover Services Corporation Delaware 1990 Greenwood Trust Company Delaware 1911 Morgan Stanley Dean Witter Bank, Inc. Utah 1990 Mountain Receivables Corp. Delaware 1996 NCL Investments, Inc. Delaware 1997 NOVUS Consumer Discount Company Pennsylvania 1967 (NOVUS Credit Services Inc. - cont'd) NOVUS Financial Corporation Delaware 1969
2
Year of Jurisdiction of Incorporation/ Incorporation Formation ------------- --------- NOVUS Financial Corporation of Iowa Iowa 1977 NOVUS Financial Corporation of Minnesota Minnesota 1994 NOVUS Financial Corporation of Tennessee Tennessee 1975 NOVUS Financial Corporation of Washington Washington 1991 NOVUS Services (Canada), Inc. Canada 1985 NOVUS Services, Inc. Delaware 1985 SCFC Receivables Corp. Delaware 1989 Discover Receivables Financing Corporation Delaware 1989 Discover Receivables Financing Group, Inc. Delaware 1990 SCFC Receivables Financing Corporation Delaware 1988 SPS Transaction Services, Inc. Delaware 1991 Utah Receivables Financing Corporation Delaware 1997 One Water Corporation Massachusetts 1985 Open Road Airways, Inc. Delaware 1998 Reynolds Securities Inc. Delaware 1978 Tempo-GP, Inc. Delaware 1986 Tempo-LP, Inc. Delaware 1986
3
Year of Jurisdiction of Incorporation/ Incorporation Formation ------------- --------- Fourth Street Development Co. Incorporated Delaware 1990 Fourth Street Ltd. Delaware 1990 Jolter Investments Inc. Delaware 1989 Morgan Rundle Inc. Delaware 1978 MR Ventures Inc. Delaware 1982 Morgan Stanley & Co. Incorporated Delaware 1969 Morgan Stanley Flexible Agreements Inc. Delaware 1992 MS Securities Services Inc. Delaware 1981 Prime Dealer Services Corp. Delaware 1994 Morgan Stanley ABS Capital I Inc. Delaware 1997 Morgan Stanley ABS Capital II Inc. Delaware 1997 Morgan Stanley Advisory Partnership Inc. Delaware 1985 Morgan Stanley Asset Funding Inc. Delaware 1997 Morgan Stanley Asset Management (CPO) Inc. Delaware 1996 Morgan Stanley Baseball, Inc. Delaware 1989 Morgan Stanley Capital Group Inc. Delaware 1984 South Eastern Electric Development Corporation Delaware 1998 Morgan Stanley Capital I Inc. Delaware 1985 Morgan Stanley Capital International Inc. Delaware 1998 Morgan Stanley Capital International S.A. Switzerland 1998 Morgan Stanley Capital (Jersey) Limited Jersey, Channel Is. 1987 Morgan Stanley Capital Partners III, Inc. Delaware 1993 Morgan Stanley Capital Services Inc. Delware 1985 Morgan Stanley Commercial Mortgage Capital, Inc. Delaware 1994 Morgan Stanley Dean Witter Commodities Management Inc. Delaware 1992 Morgan Stanley Dean Witter Equity Funding, Inc. Delaware 1998 Morgan Stanley Dean Witter Investment Group Inc. Delaware 1999 Morgan Stanley Dean Witter Investment Management Inc. Delaware 1980 Morgan Stanley Dean Witter Investment Management Holdings Inc. Delaware 1995 Miller Anderson & Sherrerd, LLP Pennsylvania 1971 MAS Fixed Income Partnership I, L.P. Delaware 1995 MAS Fixed Income I, LLC Delaware 1995 MAS Fixed Income Partnership II, LP Delaware 1995 MAS Fixed Income II, LLC Delaware 1995 MAS Fund Distribution, Inc. Pennsylvania 1992 Morgan Stanley Dean Witter Global Franchise Inc. Delaware 1997 Morgan Stanley Dean Witter Municipal Funding, Inc. Delaware 1998 Morgan Stanley Dean Witter Principal Funding, Inc. Delaware 1998 Morgan Stanley Dean Witter Wealth Management, Inc. Delaware 1998 Morgan Stanley Derivative Products Inc. Delaware 1994 Morgan Stanley Developing Country Debt II, Inc. Delaware 1991 Morgan Stanley Emerging Markets Inc. Delaware 1990 Morgan Stanley Emerging Markets Debt Opportunity Fund, LLC Delaware 1998 Morgan Stanley Equity (C.I.) Limited Jersey, Channel Is. 1995 Morgan Stanley Equity Finance Limited England 1997 Morgan Stanley Equity Investors Inc. Delaware 1988 Morgan Stanley Finance (Jersey) Limited Jersey, Channel Is. 1990 Morgan Stanley Funding, Inc. Delaware 1997 Morgan Stanley Global Emerging Markets, Inc. Delaware 1996 Morgan Stanley Insurance Agency Inc. Delaware 1985 Morgan Stanley International Incorporated Delaware 1963
4
Year of Jurisdiction of Incorporation/ Incorporation Formation ------------- --------- Bank Morgan Stanley AG Switzerland 1973 Cabot Aircraft Services Limited Ireland 1997 Morgan Stanley AOZT Russia 1994 Morgan Stanley Asia (China) Limited Hong Kong 1991 Morgan Stanley Asia Holdings I Inc. Delaware 1990 Morgan Stanley Asia Holdings II Inc. Delaware 1990 Morgan Stanley Asia Holdings III Inc. Delaware 1990 Morgan Stanley Asia Holdings IV Inc. Delaware 1990 Morgan Stanley Asia Holdings V Inc. Delaware 1990 Morgan Stanley Asia Holdings VI Inc. Delaware 1990 Morgan Stanley Asia Pacific (Holdings) Limited Cayman Islands 1995 Morgan Stanley Asia Regional (Holdings) II LLC Cayman Islands 1995 Morgan Stanley Asia Regional (Holdings) III LLC Cayman Islands 1995 Morgan Stanley Dean Witter Asia (Singapore) Pte Rep. of Singapore 1992 Morgan Stanley Dean Witter Investment Management Company Rep. of Singapore 1990 Morgan Stanley Dean Witter Capital Group (Singapore) Pte Rep. of Singapore 1990 Morgan Stanley Dean Witter Futures (Singapore) Pte Rep. of Singapore 1992 Morgan Stanley Asia Regional (Holdings) IV LLC Cayman Islands 1995 Morgan Stanley Dean Witter (Hong Kong) Holdings Hong Kong 1998 MSDW Asia Securities Products LLC Cayman Islands 1995 Morgan Stanley Asia Limited Hong Kong 1984 Morgan Stanley Futures (Hong Kong) Limited Hong Kong 1988 Morgan Stanley Hong Kong Securities Limited Hong Kong 1988 Morgan Stanley Pacific Limited Hong Kong 1987 MSDW-JL Holdings I Limited Cayman Islands 1998 Morgan Stanley Japan (Holdings) Ltd. Cayman Islands 1984 Fosbury Investments Cooperatie U.A. The Netherlands 1998 Morgan Stanley Japan Limited Hong Kong 1993 Morgan Stanley Asia (Taiwan) Ltd. Rep. of China 1990 Morgan Stanley Asset & Investment Trust Management Co., Limited Japan 1987 Morgan Stanley Asset Management S.A. Luxembourg 1988 Morgan Stanley Australia Limited Australia 1989 Morgan Stanley Australia Securities Limited Australia 1997 Morgan Stanley Canada Limited Canada 1982 Morgan Stanley Capital SA France 1989 Morgan Stanley Capital (Luxembourg) S.A. Luxembourg 1993 Morgan Stanley Dean Witter (Espana) SA Spain 1998 Morgan Stanley Dean Witter (Europe) Limited England 1998 Morgan Stanley Group (Europe) England 1988 Morgan Stanley Dean Witter Investment Management Limited England 1986 Morgan Stanley Capital Group Limited England 1993 Morgan Stanley (Europe) Limited England 1993 Morgan Stanley Finance plc England 1993 Morgan Stanley Properties Limited England 1986 Morgan Stanley Property Management (UK) Limited England 1987 Morgan Stanley Services (UK) Limited England 1993 Morgan Stanley (Structured Products) Jersey Limited Jersey, Channel Is. 1994
5
Year of Jurisdiction of Incorporation/ Incorporation Formation ------------- --------- (Morgan Stanley Group (Europe) - cont'd) Morgan Stanley UK Group England 1976 Morgan Stanley & Co. International Limited England 1986 Morgan Stanley Funding Limited Jersey, Channel Is. 1997 Morgan Stanley International Nominees Limited England 1994 Morgan Stanley & Co. Limited England 1986 Morgan Stanley Securities Limited England 1986 Morstan Nominees Limited England 1986 MSDW Equity (UK) Plc England 1998 MS Leasing UK Limited England 1991 Morgan Stanley Holding (Deutschland) GmbH Germany 1990 Morgan Stanley Bank AG Germany 1986 Morgan Stanley Hong Kong Nominees Limited Hong Kong 1988 Morgan Stanley International Insurance Ltd. Bermuda 1995 Morgan Stanley Latin America Incorporated Delaware 1994 Morgan Stanley Administadora de Carteiras Ltda. Brazil 1996 Morgan Stanley do Brasil Ltda. Brazil 1995 Morgan Stanley Dean Witter Distributidora de Titulos e Valores Mobilarios SA Brazil 1998 Morgan Stanley Financial Products Ltd. Cayman Islands 1997 MSLA Advisors Incorporated Delaware 1995 Morgan Stanley Mauritius Company Limited Mauritius 1993 Morgan Stanley Dean Witter Investment Management Private Limited India 1993 Morgan Stanley India Securities Limited India 1995 Morgan Stanley India Private Limited India 1995 Morgan Stanley Middle East Inc. Delaware 1997 Morgan Stanley Offshore Investment Company Ltd. Cayman Islands 1987 Morgan Stanley Principal Finance Ltd. England 1997 Morgan Stanley S.A. France 1992 Morgan Stanley Dean Witter (France) SA France 1998 Morgan Stanley Services (Jersey) Limited Jersey, Channel Is. 1997 Morgan Stanley South Africa (Pty) Limited South Africa 1994 Morgan Stanley SPV I (Cayman Islands) LLC Cayman Islands 1996 Farlington Corporation Ireland 1996 ITALSEC S.r.l. Italy 1996 Morgan Stanley SPV II (Cayman Islands) LLC Cayman Islands 1996 Morgan Stanley (Thailand) Limited Thailand 1997 Morgan Stanley Trading Beteiligungs-GmbH Germany 1993 Morgan Stanley Trading GmbH & Co. KG Germany 1994 Morgan Stanley Wertpapiere GmbH Germany 1989 MS Balmoral Inc. Cayman Islands 1997 MS Italy (Holdings) Inc. Delaware 1990 Banca Morgan Stanley SpA Italy 1990 MS LDC, Ltd. Delaware 1991 MSAM/Kokusai (Cayman Islands), Inc. Cayman Islands 1996 MSL Incorporated Delaware 1976 Morgan Stanley (Jersey) Limited Jersey, Channel Is. 1986 Morgan Stanley LEF I, Inc. Delaware 1989 Morgan Stanley Leveraged Capital Fund Inc. Delaware 1985
6
Year of Jurisdiction of Incorporation/ Incorporation Formation ------------- --------- Morgan Stanley Leveraged Equity Fund II, Inc. Delaware 1987 Morgan Stanley Capital Partners Asia Limited Hong Kong 1992 Morgan Stanley Leveraged Equity Holdings Inc. Delaware 1987 Morgan Stanley Market Products Inc. Delaware 1987 Morgan Stanley Mortgage Capital Inc. New York 1984 Morgan Stanley Overseas Finance Ltd. Cayman Islands 1997 Morgan Stanley Overseas Services (Jersey) Limited Jersey, Channel Is. 1986 Morgan Stanley Real Estate Investment Management Inc. Delaware 1990 Morgan Stanley Real Estate Fund, Inc. Delaware 1989 MSREF I, L.L.C. Delaware 1995 MSREF I-CO, L.L.C. Delaware 1995 Morgan Stanley Real Estate Investment Management II, Inc. Delaware 1994 MSREF II-CO, L.L.C. Delaware 1995 Morgan Stanley Realty Incorporated Delaware 1969 BH-MS Realty Inc. Delaware 1983 BH-MS Leasing Inc. Delaware 1983 BH-Sartell Inc. Delaware 1983 Brooks Harvey & Co., Inc. Delaware 1971 Brooks Harvey of Florida, Inc. Florida 1978 DP Properties, Inc. Japan 1991 Japan Realty Finance Company Cayman Islands 1998 Japan Realty Holding Company Cayman Islands 1998 Kearny Global, Inc. Delaware 1998 Kearny Global Investors, K.K. Japan 1998 Kearny Real Estate Company Delaware 1998 KG-Sub Y.K. Japan 1998 Morgan Stanley Realty of California Inc. California 1970 Morgan Stanley Realty of Illinois Inc. Delaware 1989 Morgan Stanley Realty Japan Ltd. Japan 1998 The Morgan Stanley Scholarship Fund Inc. (Not-For-Profit) Delaware 1985 Morgan Stanley Securitization Funding Inc. Delaware 1998 Morgan Stanley Senior Funding, Inc. Delaware 1996 Morgan Stanley Services Inc. Delaware 1988 Morgan Stanley Structured Products (Cayman) I Limited Cayman Islands 1997 Morgan Stanley Structured Products (Cayman) II Limited Cayman Islands 1997 Morgan Stanley Technical Services Inc. Delaware 1989 Morgan Stanley Technical Services MB/VC Inc. Delaware 1993 Morgan Stanley Venture Capital Inc. Delaware 1984 Morgan Stanley Venture Capital II, Inc. Delaware 1992 Morgan Stanley Venture Capital III, Inc. Delaware 1996 Morgan Stanley Ventures Inc. Delaware 1984 Morstan Development Company, Inc. Delaware 1971 Moranta, Inc. Georgia 1979 Porstan Development Company, Inc. Oregon 1982 MS 10020, Inc. Delaware 1994 MS 10036, Inc. Delaware 1996 MS Capital Cayman Ltd. Cayman Islands 1997 MS Capital Holdings Inc. Delaware 1997 Morgan Stanley Capital (Delaware) L.L.C. Delaware 1997 MS Financing Inc. Delaware 1986 Corso Marconi Immobiliare Limited Liability Company Delaware 1998
7
Year of Jurisdiction of Incorporation/ Incorporation Formation ------------- --------- Morgan Stanley 750 Building Corp. Delaware 1994 G.H.Y. Capital B.V. The Netherlands 1998 Morgan Stanley Aircraft Finance Delaware 1997 Aircraft SPC-5, Inc. California 1997 Greenfly (Ireland) Limited Ireland 1997 MS Aircraft I Delaware 1997 Redfly (UK) Limited England 1997 MS Tokyo Properties Ltd. Japan 1989 MSDW LTCP, L.L.C. Delaware 1998 MSDW 745, LLC Delaware 1998 MS Holdings Incorporated Delaware 1995 MS Real Estate Special Situations Inc. Delaware 1997 MS Real Estate Special Situations GP Inc. Delaware 1997 MS Synfuels, Inc. Delaware 1998 MS Technology Holdings, Inc. Delaware 1997 MS Venture Capital (Japan) Inc. Delaware 1989 MSAM Holdings II, Inc. Delaware 1996 Van Kampen Investments Inc. Delaware 1992 American Capital Contractual Services, Inc. New York 1957 Riverview International Inc. Delaware 1998 Van Kampen Advisors Inc. Delaware 1974 Van Kampen Asset Management Inc. Delaware 1936 Van Kampen Funds Inc. Delaware 1974 Van Kampen Exchange Corp. California 1975 Van Kampen Insurance Agency of Illinois Inc. Illinois 1996 Van Kampen Insurance Agency of Texas Inc. Texas 1996 Van Kampen Investment Advisory Corp. Delaware 1982 Van Kampen Investor Services Inc. Delaware 1987 Van Kampen Management Inc. Delaware 1990 Van Kampen Recordkeeping Services Inc. Delaware 1997 Van Kampen System Inc. Delaware 1996 Van Kampen Trust Co. Texas 1986 VKAC Cayman Limited Cayman Islands 1995 MSBF Inc. Delaware 1995 MSCP III Holdings, Inc. Delaware 1994 MSDW Capital Partners IV, Inc. Delaware 1998 MSDW Capital Trust I Delaware 1998 MSDW Corporate Coverage Limited Cayman Islands 1998 MSDW CPIV Holdings, Inc. Delaware 1998 MSDW International Employee Services LLC Delaware 1998 MSDW Offshore Equity Services Inc. Delaware 1998 MSDW Equity Finance Services I (Cayman) Ltd. Cayman Islands 1998 MSDW Structured Asset Corp. Delaware 1998 MSDW Synfuels II, Inc. Delaware 1998 MSDW Synfuels III, Inc. Delaware 1998 MSIT Holdings, Inc. Delaware 1996 MSPL Co. Inc. Delaware 1990
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Year of Jurisdiction of Incorporation/ Incorporation Formation ------------- --------- MSREF II, Inc. Delaware 1994 MSREF II, L.L.C. Delaware 1995 MSREF III, Inc. Delaware 1997 MSREF Funding, Inc. Delaware 1997 MSUH Holdings I, Inc. Delaware 1996 MSUH Holdings II, Inc. Delaware 1996 MS SP Urban Horizons, Inc. Delaware 1996 MS Urban Horizons, Inc. Delaware 1994 PG Holdings, Inc. Delaware 1991 PG Investors, Inc. Delaware 1991 PG Investors II, Inc. Delaware 1996 Pierpont Power, Inc. New York 1987 Romley Computer Leasing Inc. Delaware 1985 Strategic Investments I, Inc. Delaware 1996
9 EX-23.1 19 CONSENT OF DELOITTE & TOUCHE LLP EXHIBIT 23.1 INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in the following Registration Statements of Morgan Stanley Dean Witter & Co. of our reports dated January 22, 1999, included in and incorporated by reference in this Annual Report on Form 10-K of Morgan Stanley Dean Witter & Co. for the fiscal year ended November 30, 1998: Filed on Form S-3: Registration Statement No. 33-57202 Registration Statement No. 33-60734 Registration Statement No. 33-89748 Registration Statement No. 33-92172 Registration Statement No. 333-07947 Registration Statement No. 333-22409 Registration Statement No. 333-27881 Registration Statement No. 333-27893 Registration Statement No. 333-27919 Registration Statement No. 333-46403 Registration Statement No. 333-46935 Filed on Form S-4: Registration Statement No. 333-25003 Filed on Form S-8: Registration Statement No. 33-62374 Registration Statement No. 33-63024 Registration Statement No. 33-63026 Registration Statement No. 33-78038 Registration Statement No. 33-79516 Registration Statement No. 33-82240 Registration Statement No. 33-82242 Registration Statement No. 33-82244 Registration Statement No. 333-04212 Registration Statement No. 333-28141 Registration Statement No. 333-25003 Registration Statement No. 333-28263 Registration Statement No. 333-62869 /s/ Deloitte & Touche LLP - ------------------------- New York, New York February 22, 1999 EX-23.2 20 CONSENT OF ERNST & YOUNG LLP EXHIBIT 23.2 CONSENT OF INDEPENDENT AUDITORS We consent to the incorporation by reference in the Registration Statements (Form S-4 No. 333-25003, Form S-3 No.33-92172, Form S-3 No. 33-57202, Form S-3 No. 33-60734, Form S-3 No. 33-89748, Form S-3 No. 333-7947, Form S-3 No. 333- 22409, Form S-3 No. 333-27919, Form S-3 No. 333-27881, Form S-3 No. 333-27893, Form S-8 No. 333-28141, Form S-8 No. 33-62374, Form S-8 No. 33-63024, Form S-8 No. 33-63026, Form S-8 No. 33-78038, Form S-8 No. 33-79516, Form S-8 No. 33- 82240, Form S-8 No. 33-82242, Form S-8 No. 33-82244, Form S-8 No. 333-4212, Form S-8 No. 333-28263, Amendment to Form S-4 No. 333-25003 On Form S-8, Form S-3 No. 333-46403, Form S-3 No. 333-46935 and Form S-8 No. 333-62869) of Morgan Stanley Dean Witter & Co. of our report Dated May 27, 1997 with respect to the Consolidated Financial Statements and Financial Statement Schedule of Morgan Stanley Group Inc. (not presented separately herein) included in the Form 10-K of Morgan Stanley Dean Witter & Co. filed on February 22, 1999. /s/ ERNST & YOUNG LLP NEW YORK, NEW YORK FEBRUARY 22, 1999 EX-23.3 21 CONSENT OF DELOITTE & TOUCHE LLP EXHIBIT 23.3 CONSENT OF INDEPENDENT CHARTERED ACCOUNTANTS TO THE DIRECTORS OF MORGAN STANLEY DEAN WITTER & CO. We consent to the incorporation by reference in the Registration Statement No. 333-28263 of Morgan Stanley Dean Witter, Discover & Co. on Form S-8 of our report dated 17 February 1999 relating to the Morgan Stanley UK Group Profit Sharing Schemes, appearing in the Annual Report on Form 10-K of Morgan Stanley Dean Witter & Co. for the fiscal year ended 30 November 1998. DELOITTE & TOUCHE Chartered Accountants 1 Stonecutter Street London England 22 February 1999 EX-27 22 FINANCIAL DATA SCHEDULE
BD This schedule contains summary financial information extracted from the Consolidated Statements of Financial Condition at November 30, 1998 and the Consolidated Statements of Income for the Twelve Months Ended November 30, 1998 and is qualified in its entirety by reference to such consolidated financial statements. 1,000,000 YEAR NOV-30-1998 DEC-01-1997 NOV-30-1998 27,409 46,173 79,570 69,338 85,935 1,834 317,590 36,334 52,857 92,327 23,152 61,344 27,435 0 674 6 13,439 317,590 3,291 16,436 2,353 3,340 5,424 13,514 6,636 5,385 5,385 0 (117) 3,276 5.60 5.33
EX-99.1 23 MORGAN STANLEY UK GROUP PROFIT SHARING SCHEME EXHIBIT 99.1 MORGAN STANLEY UK GROUP PROFIT SHARING SCHEME AND MORGAN STANLEY UK GROUP PROFIT SHARING PLAN Combined Financial Statements for the years ended 31 December 1998 and 1997 Deloitte & Touche Stonecutter Court 1 Stonecutter Street London EC4A 4TR MORGAN STANLEY UK GROUP PROFIT SHARING SCHEME AND MORGAN STANLEY UK GROUP PROFIT SHARING PLAN REPORT AND COMBINED FINANCIAL STATEMENTS 1998 AND 1997 PAGE CONTENTS Report of the Independent Chartered Accountants 1 Combined Statements of financial condition 2 Combined Statements of income and change in Combined Schemes' equity 3 Notes to the combined financial statements 4 MORGAN STANLEY UK GROUP PROFIT SHARING SCHEME AND MORGAN STANLEY UK GROUP PROFIT SHARING PLAN REPORT OF THE INDEPENDENT CHARTERED ACCOUNTANTS TO THE TRUSTEES OF THE MORGAN STANLEY UK GROUP PROFIT SHARING SCHEMES (incorporating the Morgan Stanley UK Group Profit Sharing Scheme and the Morgan Stanley UK Group Profit Sharing Plan) We have audited the accompanying combined statements of financial condition of the Morgan Stanley UK Group Profit Sharing Scheme ("the Scheme") and the Morgan Stanley UK Group Profit Sharing Plan ("the Plan"), (collectively "the Schemes"), as of 31 December 1998 and 1997 and the related statements of income and changes in schemes' equity for the years then ended. These combined financial statements are the responsibility of the Scheme's and the Plan's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such financial statements referred to above present fairly, in all material respects, the combined financial condition of the Schemes as of 31 December 1998 and 1997 and the combined results of operations and the changes in Schemes' equity for the years then ended in conformity with accounting principles generally accepted in the United States. Deloitte & Touche Chartered Accountants Stonecutter Court 1 Stonecutter Street London, EC4A 4TR England 17 February 1999 1 MORGAN STANLEY UK GROUP PROFIT SHARING SCHEME AND MORGAN STANLEY UK GROUP PROFIT SHARING PLAN COMBINED STATEMENTS OF FINANCIAL CONDITION 31 December 1998 and 1997
Notes 1998 1997 ASSETS Investments at market value Morgan Stanley Dean Witter & Co. Common Stock 2,3 $ 42,678,171 $ 32,361,300 Amounts due from Trustee 59,109 33,834 Employee contributions receivable 9,397,520 6,900,757 ------------ ------------ TOTAL ASSETS $ 52,134,800 $ 39,295,891 ============ ============ LIABILITIES AND COMBINED SCHEMES' EQUITY Dividend income, net of withholding taxes, payable to participants $ 20,724 $ 18,188 Taxes withheld in respect of 38,382 15,645 dividend income Combined Schemes' equity 52,075,694 39,262,058 ------------ ------------ TOTAL LIABILITIES AND COMBINED SCHEMES' EQUITY $ 52,134,800 $ 39,295,891 ============ ============
See Notes accompanying Combined Financial Statements MORGAN STANLEY UK GROUP PROFIT SHARING SCHEME AND MORGAN STANLEY UK GROUP PROFIT SHARING PLAN COMBINED STATEMENTS OF INCOME AND CHANGES IN SCHEMES' EQUITY Years ended 31 December 1998 and 1997
Notes 1998 1997 CASH DIVIDENDS Distribution from Morgan Stanley Dean Witter & Co. $ 472,521 $ 291,301 Less: United States tax withheld 70,876 38,021 ------------ ------------ 401,645 253,280 GAINS ON INVESTMENTS Gain on sale of Morgan Stanley Dean Witter & Co. Common Stock 2 2,849,581 980,382 Change in unrealised appreciation of investments 3 5,283,698 12,503,846 EMPLOYEE CONTRIBUTIONS Current year 9,397,520 6,915,329 ------------ ------------ INCOME FOR THE YEAR 17,932,444 20,652,837 Less: Dividend income payable to participants 378,019 233,049 Income tax payable 23,624 20,232 Withdrawals disbursed to employees 3,822,395 1,754,676 Value of shares transferred to employees 894,770 137,342 ------------ ------------ INCREASE IN COMBINED SCHEMES' EQUITY 12,813,636 18,507,538 COMBINED SCHEMES' EQUITY AT 1 JANUARY 39,262,058 20,754,520 ------------ ------------ COMBINED SCHEMES' EQUITY AT 31 DECEMBER $ 52,075,694 $ 39,262,058 ============ ============
See Notes accompanying Combined Financial Statements 3 MORGAN STANLEY UK GROUP PROFIT SHARING SCHEME AND MORGAN STANLEY UK GROUP PROFIT SHARING PLAN NOTES TO THE COMBINED FINANCIAL STATEMENTS Years ended 31 December 1998 and 1997 Scheme description The financial statements show the combined results of the Morgan Stanley UK Group Profit Sharing Scheme and Morgan Stanley UK Group Profit Sharing Plan. On 12 November 1987 the Morgan Stanley International Profit Sharing Scheme was established in the United Kingdom by a trust deed made between Morgan Stanley Group Inc., its subsidiary Morgan Stanley International and Noble Lowndes Settlement Trustees Limited. After the merger between Morgan Stanley Group Inc. and Dean Witter, Discover & Co. on 31 May 1997 a new scheme, the Morgan Stanley UK Group Profit Sharing Plan, was established in the United Kingdom on 3 November 1997 by a trust deed made between Morgan Stanley, Dean Witter, Discover & Co., its subsidiary Morgan Stanley UK Group and Noble Lowndes Settlement Trustees Limited. On 2 November 1998, a change was made to the Plan trust deed amending the parent company name to Morgan Stanley Dean Witter & Co. The Schemes allow employees of Morgan Stanley UK Group to accumulate pre-tax profit share contributions in the form of shares of Morgan Stanley Dean Witter & Co. Common Stock, with all contributions after 1997 being paid into the Plan. Eligibility Full time employees of Morgan Stanley UK Group with at least one year of service, commencing from the first of the month after the date of joining, are eligible to participate in the scheme. Employees may elect to participate in the Schemes, for the full amount of their profit share, up to a maximum of the lesser of 10% of UK base salary or (Pounds)8,000. Funding Policy Amounts invested by employees are invested by Noble Lowndes Settlement Trustees Limited, as Trustee, in Morgan Stanley Dean Witter & Co. shares which are held by the Trustee in their name on the employee's behalf. Shares in respect of the previous qualifying period are appropriated to employees within two weeks of 31 December (the qualifying date). The Trustee's fees and brokerage commissions are borne by Morgan Stanley UK Group, the employer. During the first two years after appropriation (the Retention Period) certain statutory restrictions apply limiting members' ability to deal in or withdraw their shares. After the Retention Period, members may withdraw their shares or instruct the Trustee to sell their shares and withdraw the cash proceeds. The cost of withdrawals from the scheme is determined on a first in first out basis within the relevant employee allocation. Taxation The United Kingdom Board of Inland Revenue have approved both the Scheme and the Plan under Schedule 9, Income & Corporation Taxes Act 1988 and the Scheme and the Plan are thus exempt from taxation. Employee contributions to the Schemes are not liable to income tax if shares are held by the Trustees for at least five years after appropriation. If employees' shares are sold prior to the end of the three year period, some or all of the income tax benefits are lost. 1. ACCOUNTING POLICIES Presentation of the Accounts The Trustee, being the same for both the Scheme and the Plan, has resolved that the results of the Scheme and the Plan should the combined as this appropriately represents the similar nature of the schemes and the intent of the employer, Morgan Stanley UK Group to continue benefits under the Scheme after the merger. 4 MORGAN STANLEY UK GROUP PROFIT SHARING SCHEME AND MORGAN STANLEY UK GROUP PROFIT SHARING PLAN NOTES TO THE COMBINED FINANCIAL STATEMENTS Years ended 31 December 1998 and 1997 Foreign Currencies Monetary assets and liabilities denominated in foreign currencies are translated at the rate of exchange ruling at the balance sheet date except for employee contributions receivable, which are translated at the rate ruling at the time of share purchase, which occurs shortly after balance sheet date. Transactions in foreign currencies are translated at the approximate rate of exchange ruling at the date of the transaction. Valuation of Investments The investments are recorded at market value based on the closing market price on the New York Stock Exchange. Dividend Income Dividend income is recorded when the applicable dividends are declared. Dividends are received net of US withholding tax and are allocated to participants according to their shareholdings. 5 MORGAN STANLEY UK GROUP PROFIT SHARING SCHEME AND MORGAN STANLEY UK GROUP PROFIT SHARING PLAN NOTES TO THE COMBINED FINANCIAL STATEMENTS Years ended 31 December 1998 and 1997 2. CHANGES IN COMBINED HOLDINGS OF MORGAN STANLEY DEAN WITTER & Co. COMMON STOCK
Number Total of Cost shares At 1 January 1997 339,148 $ 10,221,235 Add: Purchase January 1997 24,291 1,395,261 Add: Rights Issue June 1997 223,402 - ------------ ------------ 586,841 11,616,496 Less: Sales of shares during the year (32,920) (774,294) Less: Transfers of shares during the year (6,584) (137,342) ------------ ------------ At 31 December 1997 547,337 10,704,860 Add: Purchases January 1998 124,482 6,907,738 Less: Sales of shares during the year (55,757) (979,795) Less: Transfers of shares during the year (14,961) (894,770) ------------ ------------ At 31 December 1998 601,101 $ 15,738,033 ============ ============ 124,351 shares were purchased in January 1998 in one transaction representing more than 5% of the current value of the Scheme at the beginning of the year. 1998 1997 Aggregate proceeds of sales $ 3,829,376 $ 1,754,676 Aggregate cost of sales (979,795) (774,294) ------------ ------------ Net gain on sales 2,849,581 980,382 ------------ ------------ Aggregate proceeds of transfers 894,770 137,342 Aggregate cost of transfers (894,770) (137,342) ------------ ------------ Net gain on transfers - - ------------ ------------ $ 2,849,581 $ 980,382 ============ ============
MORGAN STANLEY UK GROUP PROFIT SHARING SCHEME AND MORGAN STANLEY UK GROUP PROFIT SHARING PLAN NOTES TO THE COMBINED FINANCIAL STATEMENTS Years ended 31, December 1998 and 1997 3. CHANGE IN UNREALISED APPRECIATION OF INVESTMENTS At 31 December 1998 the closing price on the New York Stock Exchange for Morgan Stanley Dean Witter & Co. common stock was $71 per share.
Number Total of shares Market value at 31 December 1998 601,101 $ 42,678,171 Average cost at 31 December 1998 601,101 15,738,033 ----------- ------------ Unrealised appreciation at 31 December 1998 26,940,138 Unrealised appreciation at 1 January 1998 21,656,440 ------------ Increase in unrealised appreciation 5,283,698 ============ Market value at 31 December 1997 547,337 32,361,300 Average cost at 31 December 1997 547,337 10,704,860 ----------- ------------ Unrealised appreciation at 31 December 1997 21,656,440 Unrealised appreciation at 1 January 1997 9,152,594 ~ ------------ Increase in unrealised appreciation 12,503,846 ============
EX-99.2 24 REPORT OF ERNST & YOUNG LLP EXHIBIT 99.2 Report of Independent Auditors The Stockholders and Board of Directors of Morgan Stanley Group Inc. We have audited the Consolidated Statements of Income, Cash Flows and Changes in Stockholders' Equity of Morgan Stanley Group Inc. for the year ended November 30, 1996 (not presented separately herein). Our audit also included the schedule of parent company stand alone results of operations and cash flows of Morgan Stanley Group Inc. for the year ended November 30, 1996. These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated results of operations and cash flows of Morgan Stanley Group Inc. for the year ended November 30, 1996, in conformity with generally accepted accounting principles. Also, in our opinion, the related schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. /s/ Ernst & Young LLP New York, New York May 27, 1997 -----END PRIVACY-ENHANCED MESSAGE-----