Changes in accounting and presentation in 2005

Effective 2005, we will make a number of changes in accounting and disclosure – some are driven by changes in accounting standards, others concern the presentation of our financial results.

The International Accounting Standards Board (IASB) issued revisions to 15 of its 32 International Accounting Standards (IAS) in December 2003 in an effort to clarify and simplify them and make them more compatible with other accounting standards, notably US GAAP. All 15 revisions became effective on 1 January 2005. We decided to adopt two of the revisions, IAS 32 and 39, early, at the beginning of 2004. Together these two revisions provide comprehensive guidance on recognition, measurement, presentation and disclosure of financial instruments.

We adopted the remaining revisions at the beginning of 2005. As a result, we will make a number of changes to our accounting, presentation and disclosure in 2005. The IASB now calls new standards International Financial Reporting Standards (IFRS).

Several of the changes will require us to restate comparative prior periods, although not all of them will have an effect on net profit or shareholders’ equity. We will release restated interim and annual financial statement figures for 2004 and 2003 before we publish our first quarter 2005 report.

Accounting treatment and presentation of private equity investments

In the past we treated all our private equity investments as “Financial investments available- for-sale”. The revised IAS 27 and IAS 28 will require us to change this approach, with some investments no longer exempt from consolidation.

Depending on the size of our stake, these investments will have to be treated according to one of the three following methods:

Under the old method, all investments were accounted for as “available-for-sale”. That means that even if the value of an investment rose or fell, corresponding gains or losses were only recognized in the income statement on sale, unless an impairment occurred. Changes in the fair value of the investment were booked directly in equity for the time that we held it. Once an investment was sold, the gain or loss recognized was the difference between the value of the investment at the time that it was purchased (adjusted for any impairments) and its selling price. The introduction of revised IAS 27/28 requires that we adopt a new approach. Now, for an investment where we have a controlling interest or a significant influence, we will record our share of its net profit or loss directly through our income statement. Doing that will prompt corresponding changes to the carrying value of the investment – meaning its value on the balance sheet will be updated according to the accumulated profits and losses. Then, at the time of sale, any gain or loss we record will be based on the difference between the latest carrying value and the selling price.

Full consolidation according to IAS 27
The revision of IAS 27 requires companies to fully consolidate subsidiaries even when control over them is only temporary. As a result, from 2005 onwards we will consolidate line by line those private equity investments in which we have a controlling interest – in total 13 investments. As a consequence, we will debit approximately CHF 740 million to our equity (including minority interests) as at 1 January 2003. The move will add CHF 1.7 billion and CHF 3.1 billion in assets to our balance sheet for year-end 2004 and 2003 respectively. It will increase total operating income in 2004 and 2003 by approximately CHF 4.5 billion for each year. It will also add approximately CHF 165 million and CHF 25 million to 2004 and 2003 net profit.

In our restatement for 2004 and 2003, we will also have to reflect the impact on the sale of these type of investments in accordance with IFRS 5 (explained in detail below). Seven of the private equity investments in which we had a controlling interest on 1 January 2003 were sold during 2003 or 2004 and will therefore be presented as discontinued operations in the restated financial results for these years. Under the revised accounting method, the additional net profit /(loss) from these exits totaled CHF 55 million in 2004 and CHF (8) million in 2003. Under the old method, the corresponding figures were CHF 90 million and CHF 194 million.

Equity method according to IAS 28
Investments in companies in which we have a significant influence must now be accounted for under the equity method, even if they are held exclusively for future sale. From 2005 onwards we will therefore account for 15 private equity investments in which we have a stake between 20% and 50% using the equity method. As a consequence, we will debit CHF 240 million to our equity as at 1 January 2003. That debit is the difference between the carrying value of those private equity investments under the new and the old methods. The restated carrying values will be CHF 301 million and CHF 419 million on 31 December 2004 and 2003 respectively, which include equity in income of CHF (57) million and CHF 11 million recognized in the income statement in 2004 and 2003 respectively.

During 2004 and 2003, we exited four of these private equity investments accounted for using the equity method. Under the new accounting method, the gains on sale were CHF 1 million and zero in 2004 and 2003 respectively, compared to CHF 70 million and CHF 34 million in 2004 and 2003 respectively under the old method.

Changes in presentation
From first quarter 2005, our private equity business including all its investments will be reported as part of the Industrial Holdings segment. This is in line with our ongoing strategy of discontinuing this business. The fair value of the private equity portfolio was CHF 2.7 billion at end-December 2004, compared to CHF 6.9 billion at the end of 2000 – when it was at its highest. Current management will continue to look after the portfolio.

IFRS 2 Share-based Payment

IFRS 2 will require entities to recognize the fair value of share-based payments made to employees as compensation expense, recognized over the service period, which is generally equal to the vesting period. The new treatment differs from our current practice in two ways. First, option awards will be expensed over their vesting period whereas currently UBS discloses the pro-forma impact of expensing the fair value of such awards at grant. Second, share awards, which are currently expensed in the performance year (generally the year before grant), will in future be expensed from the date of grant over the vesting period. We will apply the new requirement to all prior period awards that impact income statements from 2003 onwards. This includes all unvested or outstanding awards as at 1 January 2003. The opening balance of retained earnings on 1 January 2003 will be adjusted by a credit of CHF 559 million after-tax for the effects these awards have on income statements prior to 2003. With regard to our income statement, we will record zero and CHF 558 million as additional compensation expense for 2004 and 2003 respectively. The significantly lower impact on the 2004 income statement is due to the fact that we have substantially raised the proportion of bonus payments made in the form of restricted stock rather than cash. The CHF 1,406 million expense related to these stock awards shifts under IFRS 2 from 2004 to the vesting period starting in 2005, and significantly exceeds the impact of prior year stock grants on 2004 expenses.

We will also introduce an updated option valuation model to determine the fair value of share options granted in 2005 and beyond. The new model better reflects observed exercise behavior. This reduces the value of an option and accordingly the new model will result in lower average values per option – other factors being equal. The new model will not affect the valuation of share options granted in 2004 and earlier.

UBS also has employee benefit trusts that are used in connection with sharebased payment arrangements and deferred compensation schemes. Henceforth, we will be required to consolidate those trusts. This will result in us recognizing assets of CHF 1.1 billion and CHF 1.3 billion and liabilities of CHF 1.1 billion and CHF 1.3 billion on our year-end 2004 and 2003 balance sheets respectively. The weighted average number of treasury shares held by these trusts was 22,995,954 in 2004 and 30,792,147 in 2003. The new standard will lower the weighted average number of shares outstanding used to calculate basic earnings per share. There will be no impact on diluted earnings per share.

The net impact of IFRS 2 and the trust consolidation on shareholder’s equity is a debit of CHF 166 million as at 31 December 2004 and a debit of CHF 674 million as at 31 December 2003.

IFRS 3 Business Combinations, IAS 36 Impairment of Assets and IAS 38 Intangible Assets

IFRS 3 requires that all business combinations be accounted for under the purchase method. The pooling-of-interests method is eliminated. Under the new accounting standard, we will cease to amortize existing goodwill beginning in 2005 and will instead conduct annual impairment tests. Goodwill from business combinations entered into on or after 31 March 2004 – including, for UBS, the Motor-Columbus transaction – has already been accounted for under the new guidance and has not been amortized during 2004. Goodwill from business combinations closed prior to 31 March 2004 continued to be amortized until 31 December 2004. We recorded goodwill amortization expense of CHF 713 million in 2004, and CHF 756 million in 2003. There will be no restatement of prior years with regard to this standard.

Following the new standard, we have also reclassified the net book value of the former PaineWebber trained workforce intangible asset to goodwill (book value CHF 1.0 billion). On 1 January 2005, we held CHF 2.3 billion in total intangible assets and we anticipate recording approximately CHF 300 million in related amortization expense in 2005.

IFRS 5 Non-current Assets Held for Sale and Discontinued Operations

The IASB issued this new standard on 31 March 2004. It requires that subsidiaries that are acquired exclusively for future sale be presented as discontinued operations at the time a sale is highly likely to occur. As certain of our private equity investments meet the criteria as discontinued operations, we will reclassify them accordingly. Although the impact from IFRS 5 on our financial statements will not be material, our income statement will be divided into two sections – net income from continuing operations and net income from discontinued operations.

Minority interests

Beginning in 2005, the revision of IAS 1 will require the presentation of net profit and equity to include minority interests. Net profit will be allocated to net profit attributable to UBS shareholders and net profit attributable to minority interests. Earnings per share and all our analysis of UBS performance will continue to be presented based on net profit attributable to UBS shareholders.

Analysis of results

We currently comment and analyze our results on an adjusted basis that excludes significant financial events (SFEs) as well as amortization of goodwill and other acquired intangible assets as a way of illustrating the underlying performance of our business.

With the introduction of IFRS 3, goodwill amortization – currently the biggest adjustment to our results – will no longer be required. From 2005 onwards, we will therefore cease to present future results on an adjusted basis except for Wealth Management USA. In our results analysis discussion, however, we will continue to illustrate the impact on underlying operational performance from one-off, UBS-specific events which do not reflect the ordinary course of business.