Itaú Unibanco Holding S.A. a sociedade anônima incorporated in the Federative Republic of Brazil

Transcription

1 Itaú Unibanco Holding S.A. a sociedade anônima incorporated in the Federative Republic of Brazil Quarterly Management s Discussion and Analysis of Financial Condition and Results of Operations as of and for the three-month period ended March 31, 2013 The date of this Management s Discussion and Analysis is May 9, 2013.

2 TABLE OF CONTENTS CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS...3 PRESENTATION OF FINANCIAL AND CERTAIN OTHER INFORMATION...4 MANAGEMENT S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS...6 INDEX TO FINANCIAL STATEMENTS AS OF AND FOR THE THREE-MONTH PERIODS ENDED MARCH 31, 2013 AND In this quarterly update, except where otherwise specified or the context otherwise requires, all references to we, us, our or ourselves are references to Itaú Unibanco Holding S.A. ( Itaú Unibanco Holding ) and its subsidiaries, except where otherwise specified or the context otherwise requires. The business of Itaú Unibanco Holding is described in this quarterly update on a consolidated basis, except where otherwise specified or where the context otherwise requires. The term Brazil refers to the Federative Republic of Brazil. The phrase Brazilian government refers to the federal government of Brazil. Itaú Unibanco Holding is the parent of two main operating subsidiaries: Itaú Unibanco S.A. ( Itaú Unibanco ) and Banco Itaú BBA S.A. ( Itaú BBA ). Together with its subsidiaries and affiliates, Itaú Unibanco Holding is referred to in this quarterly update as the Itaú Unibanco Group. Itaú Unibanco carries on our commercial banking, consumer credit and other financial activities. Itaú BBA carries on our corporate and investment banking activities. On February 18, 2009, the Central Bank of Brazil (the Central Bank ) approved a series of transactions whereby the operations of Banco Itaú Holding Financeira S.A. (now Itaú Unibanco Holding) and its subsidiaries ( Banco Itaú Holding ) and Unibanco Holdings S.A., including its subsidiary Unibanco União de Banco Brasileiros S.A. ( Unibanco ) and Unibanco s subsidiaries ( Unibanco Holdings ), were merged. References to information on the website of Itaú Unibanco provided in this quarterly update are for convenience only, such information is not incorporated herein by reference. 2

3 CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS This Management s Discussion and Analysis of Financial Condition and Results of Operations as of and for the three-month period ended March 31, 2013 ( quarterly update ) contains statements that are or may constitute forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the United States Securities Exchange Act of 1934, as amended (the Exchange Act ). We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends affecting our business. These forward-looking statements are subject to risks, uncertainties and assumptions including, among other risks: General economic, political and business conditions in Brazil and changes in inflation, interest rates, exchange rates and the performance of financial markets; Disruptions and volatility in the global financial markets; Difficulties in integrating acquired or merged businesses; Government regulations and tax laws and changes therein; Competition and industry consolidation; Increases in reserve and compulsory deposit requirements; Changes in our loan, securities and derivatives portfolios; Our exposure to Brazilian federal government debt; Incorrect pricing expectations and inadequate reserves; Effectiveness of our risk management policies; Failure in, or breach of, our operational or security systems or infrastructure; Losses associated with counterparty exposures; The ability of our controlling shareholder to direct our business; and Regulation of our business on a consolidated basis. The words believe, may, will, estimate, continue, anticipate, intend, expect and similar words are intended to identify forward-looking statements, but are not the exclusive means of identifying such statements. We undertake no obligation to update publicly or revise any forward-looking statements because of new information, future events or otherwise. In light of these risks and uncertainties, the forward-looking information, events and circumstances discussed in this quarterly update might not occur. Our actual results and performance could differ substantially from those anticipated in such forward-looking statements. 3

4 PRESENTATION OF FINANCIAL AND CERTAIN OTHER INFORMATION The financial data set out in this quarterly update are derived from and should be read in conjunction with the unaudited interim consolidated financial statements of Itaú Unibanco Holding as of and for the three-month periods ended March 31, 2013 and 2012 and the notes thereto which are included elsewhere in this quarterly update. Our unaudited interim consolidated financial statements as of and for the three-month periods ended March 31, 2013 and 2012 and the notes thereto are referred to as our interim consolidated financial statements. We maintain our books and records in reais, the official currency of Brazil, and prepare our consolidated financial statements and our financial statements for statutory and regulatory purposes in accordance with accounting practices adopted in Brazil and applicable to institutions authorized to operate by the Central Bank ( Brazilian GAAP ). Accounting principles and standards generally applicable under Brazilian GAAP include those established by Law No. 6,404, as amended, including by Law No. 11,638 ( Brazilian Corporate Law ), by the accounting pronouncements committee (Comitê de Pronunciamentos Contábeis or CPC ), which began issuing standards in 2007, and by the federal accounting council (Conselho Federal de Contabilidade or CFC ), while interpretative guidance was issued before the CPC became active by the Brazilian professional body of independent auditors (Instituto dos Auditores Independentes do Brasil or IBRACON ). In the case of companies subject to regulation by the Central Bank, such as Itaú Unibanco Holding, the effectiveness of accounting pronouncements issued by accounting standard setters, such as the CPC, depends on approval of the pronouncement by the National Monetary Council (Conselho Monetário Nacional or CMN ) and the Central Bank which also establishes the effective date of the pronouncements. In addition, the Brazilian Securities and Exchange Commission (Comissão de Valores Mobiliários or CVM ) and other regulatory entities, such as the Superintendency of Private Insurance (Superintendência de Seguros Privados or SUSEP ) and the Central Bank, provide additional industry-specific guidelines. Unless expressly stated otherwise, all financial data included in this quarterly update has been prepared in accordance with Brazilian GAAP. Brazilian GAAP differs in certain respects from generally accepted accounting principles in the United States ( U.S. GAAP ). No reconciliation to U.S. GAAP of the financial data presented in this quarterly update has been prepared for the purposes of this quarterly update or for any other purposes. There can be no assurance that a reconciliation would not identify material quantitative differences between our financial statements prepared in accordance with Brazilian GAAP and such financial statements as prepared on the basis of U.S. GAAP. On December 28, 2007, Law No. 11,638 was enacted, primarily to enable the convergence of Brazilian GAAP with International Financial Reporting Standards ( IFRS ) as issued by the International Accounting Standards Board and increase the transparency of financial statements in general. CMN Resolution No. 3,786, as amended, establishes that financial institutions meeting certain criteria, such as Itaú Unibanco Holding, are required to present consolidated financial statements in accordance with IFRS (as translated into Portuguese by IBRACON) starting with the year ended December 31, Itaú Unibanco Holding has been publishing consolidated financial statements in accordance with IFRS since then. As a result of the issuance of Law No. 11,638, in a parallel process, CPC has issued approximately 40 standards with the objective of making Brazilian GAAP similar to IFRS as described above. In the case of Itaú Unibanco Holding, effectiveness of the standards issued by CPC depends on approval of the standards by the Central Bank. The CPC has issued several standards since December 31, As of the date of this quarterly update, eight of those standards (which address impairment of assets, statements of cash flows, related parties disclosures, provisions, contingent liabilities and contingent assets, events after the reporting period, share-based payments, accounting policies and changes in accounting estimates and errors and a framework for the preparation and presentation of financial statements) have been approved by the Central Bank and have been applied to our interim consolidated financial statements. We have applied those standards to our financial statements as described below: Impairment of Assets (CPC 01) and Statements of Cash Flows (CPC 03), beginning with the year ended December 31, 2008, prospectively; 4

5 Related Parties Disclosures (CPC 05), beginning with the year ended December 31, 2009, prospectively; Provisions, Contingent Liabilities and Contingent Assets (CPC 25), beginning with the year ended December 31, 2010, prospectively; Events after the Reporting Period (CPC 24), beginning with the three-month period ended March 31, 2011, prospectively; Share-Based Payments (CPC 10) and Accounting Policies, Changes in Accounting Estimates and Errors (CPC 23), beginning January 1, 2012, prospectively; and Framework for the Preparation and Presentation of Financial Statements (CPC 00), beginning on September 28, 2012, prospectively. Standards issued by the CPC but not approved by the Central Bank are not required to be applied by Itaú Unibanco Holding. 5

6 MANAGEMENT S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion of our financial condition and results of operations should be read in conjunction with our interim consolidated financial statements, included elsewhere in this quarterly update, as well Presentation of Financial and Certain Information. The following discussion contains forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those discussed in forward-looking statements as a result of various factors, including those set forth in Cautionary Statement Regarding Forward-Looking Statements. Overview Itaú Unibanco Holding ranked among the twenty largest banks in the world in 2013 and was the largest bank in Brazil, each ranking based on market capitalization according to Bloomberg as of March 31, Our principal operations are: (i) commercial banking (retail, including insurance, pension plan and capitalization products, credit cards, asset management and a variety of credit products and services for individuals and small companies); (ii) Itaú BBA (wholesale banking, including middle-sized companies, corporate and investment banking); (iii) consumer credit (retail, including financial products and services to our non-accountholders); and (iv) treasury and corporation. Our results of operations are significantly affected by the following key factors, among others. Trends We expect that several factors will affect our future results of operations, liquidity and capital resources, including: The Brazilian economic environment; Legal and regulatory developments; The effects of any continued international financial turmoil, including on our required liquidity and capital; The effects of inflation on our results of operations; The effects of fluctuations in the value of the real and interest rates on our net interest income; Initiatives by the Brazilian government to decrease interest rates on consumer borrowing; and Any acquisitions we make in the future. As part of our strategy, we continue to review opportunities to grow, both in Brazil and internationally. Effects of the Global Financial Markets on our Financial Condition and Results of Operations The global financial markets crisis has significantly affected the world economy since The crisis led to: (i) recessions and increasing unemployment in the world s leading economies, (ii) a reduction in investments on a global scale, (iii) a sharp decline in credit availability and liquidity, and (iv) a general reduction in the levels of transactions in the capital markets worldwide. The world economy and the credit and capital markets substantially recovered in 2010 and early 2011, but the condition of the global financial markets is still relatively fragile. Increased volatility in the global financial markets resulted primarily from fiscal problems in Europe, such as the high debt levels that impair growth and the risk of a sovereign default. Concerns regarding the fiscal crisis in Europe remain, as well as the possibility of a new global recession with heightened risk aversion and volatility in the 6

7 financial markets. Tensions have receded with the intervention of the European Central Bank and European governments, but markets still fear sovereign or bank defaults and the lack of political coordination in Europe. The Greek debt crisis spread to other highly indebted European countries, such as Italy, Spain, Portugal and Cyprus. A significant portion of these countries debt is held by financial institutions, and their economic situation may impact the results of banks and investment funds. The fiscal crisis in Europe is expected to last for an extended period, and may include the implementation of fiscal adjustment measures, which may have a negative impact on economic growth and may lead to further sovereign restructurings. Although the European Union and the European Central Bank have been taking measures to deal with these difficulties, a financial deterioration of any of these countries may impair financial markets and growth of economies worldwide and, indirectly, Brazil. Although we have international operations and investments in certain European countries affected by the fiscal crisis, our exposure to the sovereign bonds of Greece, Ireland, Italy, Portugal and Spain ( GIIPS ), as well as to financial institutions and other corporations and small businesses and individuals domiciled in those countries, is not significant when compared to our total assets or stockholders equity. We were also indirectly exposed to the GIIPS countries through Banco BPI S.A. ( Banco BPI ), a Portuguese bank which was our equity investee. However, on April 20, 2012, Itaú Unibanco Holding sold its investment of 18.87% in Banco BPI to Caixa Bank, S.A. ( La Caixa Group ) and received approximately 93 million in cash. Growth expectations for the U.S. economy remain modest for the remainder of 2013, mainly due to tighter fiscal policy and sluggish global growth rates, but the U.S. economy is expected to accelerate into U.S. real gross domestic product accelerated to an annualized pace of 2.5% in the first quarter of 2013, after a sluggish fourth quarter in Real gross domestic product was boosted mainly by a faster pace of inventory accumulation. Excluding this transitory factor, private domestic demand (consumption plus investment) continued to expand at a relatively healthy pace, while government and external demand remained a drag on growth. In China, despite the weaker activity in the first quarter of 2013, there has been no significant policy response to reinvigorate economic growth. China s government seems comfortable with the recent deceleration, focusing on maintaining the continuity and stability of its macroeconomic policies. Our results of operations since the last quarter of 2008 have been partially negatively affected by the global financial markets crisis. Fiscal problems in advanced economies, sluggishness in developed countries and inflation and other issues in developing economies may have an impact on future growth in Brazil and, therefore, on our results of operations. Brazilian Economic, Political and Social Conditions As a Brazilian bank with most of our operations in Brazil, we are significantly affected by economic, political and social conditions in Brazil. In recent years, we have benefited from Brazil s generally stable economic environment, with average annual gross domestic product ( GDP ) growth of approximately 4.3% from 2004 to 2011, which led to increased bank lending and deposits. Brazilian GDP growth decelerated to 2.7% in 2011 and 0.9% in We expect growth to improve in 2013 in response to recent fiscal and monetary stimuli implemented by the Brazilian government. The Central Bank reduced the benchmark interest rate payable to holders of securities issued by the Brazilian government and traded through the Special Clearing and Settlement System (Sistema Especial de Liquidação e Custódia, or the SELIC ) from a high of 19.75% in May 2005 to a low of 7.25% in October In April 2013, the SELIC rate was raised to 7.5%, the effective rate as of the date of this quarterly update. As a proportion of GDP, bank lending increased to 53.9% in March 2013, from 53.8% in December The reference interest rate (Taxa Referencial or TR ) was close to 0.0% as of March Consumer price inflation decreased in 2012, but remained at high levels, reflecting higher commodity prices, exchange rate depreciation and an overheated labor market. The Consumer Price Index (Índice de Preços ao 7

8 Consumidor Amplo or IPCA ) decreased to 5.8% in 2012, compared to 6.5% in The twelve-month IPCA inflation rate ending in March 2013 reached 6.6%, above the Central Bank s target of 4.5%, mainly due to increases in the price of foods and services. Inflation averaged 5.5% from 2004 to The monetary easing cycle implemented by the Central Bank and other government measures are expected to stimulate domestic activity, but could also produce higher inflation. If economic activity does not recover as expected or inflation rises as a result of government stimuli, income of families may decrease in real terms and could eventually lead to higher delinquency rates in the Brazilian banking system. Recently, the Brazilian government provided tax incentives in order to stimulate domestic activity. In the future, the Brazilian government could further reduce taxes to stimulate the Brazilian economy. We are exposed to tax policy and regulatory changes, which are sometimes adopted on short notice. See Recent Developments Recent Legislation and Regulation. In addition, Brazil has experienced a large number of regulatory changes, such as changes in reserve and capital requirements, as well as other macro-prudential policies (such as capital controls). More recently, the Central Bank also altered the rules for reserve requirements. The additional reserve requirement for demand deposits decreased to 0.0% from 6.0%, and the additional reserve requirement for time deposits decreased to 11.0% from 12.0%. See Recent Developments Recent Legislation and Regulation Additional Reserve Requirements and Recent Developments Recent Legislation and Regulation Capital Adequacy and Leverage/Regulatory Capital Requirements. Brazil s current account deficit (net balance from trade of goods and services and international transfers) reached 2.9% of GDP as of March 31, 2013, an increase from 2.4% as of December 31, Despite this current account deficit widening, Brazil maintains its external solvency, with US$376.9 billion in international reserves and US$317.8 billion in external debt as of March 31, The Brazilian real appreciated slightly in relation to the US dollar, reaching R$2.01 per US$1.00 as of March 31, 2013, from R$2.04 per US$1.00 as of December 31, Recent government intervention to maintain a stable foreign exchange rate might not have the desired effect and could lead to increased exchange rate volatility, potentially affecting our results. See Certain Effects of Foreign Exchange Rates on Our Net Interest Income. Real total outstanding loan growth slowed to 10.0% in 2012 (from 11.7% in 2011), due to higher nonperforming loans during 2011 and the first half of 2012 and modest increase in economic activity in While outstanding loan growth varied across the financial industry, state-owned financial institutions continued to widen their market share. Although these trends still persist in 2013, the credit market is showing signs of improvement. Over the last two quarters, real year-over-year total loan growth stabilized and has been consistently around 10.0%. In addition, consumer non-performing loans have begun to decrease, reaching 5.35% as of March 2013 from 5.99% as of May Finally, real total new loans grew at an annual average of 12.6% in the first quarter of 2013, faster than the average for the second half of 2012 of 4.3%. Initiatives by the Brazilian government to decrease interest rates on consumer borrowing may also affect our results. In 2012, the government used two instruments to reduce interest rates for new credit operations: lower funding costs through cuts of the SELIC rate and price competition through state-owned financial institutions. The average interest rate for new credit operations decreased to approximately 18.0% in 2012 from 22.8% in Although funding rates may increase again due to a possible tightening of monetary policy, price competition through state-owned financial institutions may still be used as an instrument to keep rates at historically low levels. Furthermore, regulatory changes for the domestic banking sector have recently been released, such as new rules for implementation of the third Basel Accord ( Basel III ) framework in Brazil, including further modifications to capital requirement models. See Recent Developments and Liquidity and Capital Resources Capital. These changes have the potential to adversely affect our operations and profitability. 8

9 On February 28, 2013, Moody s Investor Service Inc. ( Moody s ) announced the downgrade of the ratings of subordinated debt issued by certain Brazilian banks, including Itaú Unibanco Holding. This downgrade reflected Moody s global revision of its approach to notching and is in line with the Moody s Guidelines for Rating Bank Hybrid Securities and Subordinated Debt. For Itaú Unibanco Holding, the downgrade did not reflect a credit profile deterioration. There has been no material impact in funding related to this rating action. The table below shows the real GDP growth, the inflation rate, exchange rate variation and the interest rates in Brazil as of and for the three-month period ended March 31, 2013 and the years ended December 31, 2012, 2011, 2010, 2009 and 2008: As of and for the Three- Month Period Ended March 31, As of and for the Year Ended December 31, Real GDP growth %(1)... n.a (0.3) 5.2 Inflation rate %(2) (1.4) 9.1 Inflation rate %(3) Exchange rate variation % (R$/US$)(4) (8.2) (11.2) (24.2) TR % (a reference interest rate)(5) CDI % (interbank interest rate)(5) SELIC % (overnight interest rate)(5) CDS 5-year(6) (1) Source: Instituto Brasileiro de Geografia e Estatística ( IBGE ). (2) Source: General Price Index Internal Availability (Índice Geral de Preços Disponibilidade Interna or IGP-DI ), as published by the Fundação Getulio Vargas data are for the twelve months ended March 31, (3) Source: IPCA, as published by IBGE data are for the twelve months ended March 31, (4) Source: Central Bank (accumulated rates for the period, negative numbers mean depreciation of the Brazilian real). (5) Source: Central Bank (period end) data are presented in percent per annum. (6) Source: Bloomberg (period end). Credit default swap (CDS) is a measure of country risk (basis point). Certain Effects of Foreign Exchange Rates on Our Net Interest Income The variation of the real can affect our net interest income. A certain amount of our financial assets and liabilities are denominated in or indexed to foreign currencies, primarily the U.S. dollar. When the real depreciates, we incur losses on our liabilities denominated in or indexed to foreign currencies, such as our U.S. dollardenominated long-term debt and short-term borrowings, because the cost in reais of the related interest expense increases. At the same time, we realize gains on monetary assets denominated in or indexed to foreign currencies, such as our dollar-indexed trading securities and loans, due to increased interest income from such assets measured in reais. When the real appreciates, the effects are the opposite of those described above. Consequently, the management of the gap in foreign currencies can have material effects on our net income. Our foreign currency gap management also takes into account the tax effects of such positions. As the profits from exchange rate variation on investments abroad are not taxable, we aim to maintain sufficient hedges (a liability position in foreign exchange derivatives) to reduce the potential effects from our total foreign-exchange exposure, net of tax effects. Unless otherwise indicated, the discussion in this Management s Discussion and Analysis of Financial Condition and Results of Operations relates to our annual average interest rates and yields. Interest rates cited are measured in reais and include the effect of the variation of the real against foreign currencies. Seasonality Generally our retail banking and our credit card businesses have some seasonality, with increased levels of retail and credit card transactions during the Christmas season and a subsequent decrease of these levels at the beginning of the year. We also have some seasonality in our banking service fees related to collection services at the beginning of the year, which is when taxes and other fiscal contributions are generally paid. 9

10 Discussion of Critical Accounting Policies General Our main accounting policies are described in Note 4 to our interim consolidated financial statements. The preparation of the financial statements involves certain assumptions that are derived from historical experience and various other factors that we deem reasonable and relevant. While we review these estimates and assumptions in the ordinary course of business, the portrayal of our financial condition and results of operations often requires our management to make judgements on matters that are inherently uncertain. The following discussion describes the areas that require the most judgement or involve a higher degree of complexity in the application of the accounting policies that currently affect our financial condition and results of operations. Use of Estimates and Assumptions The preparation of financial statements in accordance with Brazilian GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Estimates and assumptions are used for, but not limited to, the calculation of the allowance for loan and lease losses, the selection of useful lives for certain assets, the determination of whether a specific asset or group of assets has been impaired, the expected realisable amount of deferred tax assets, the market value of certain financial instruments, the classification and computation of contingent liabilities and the amount of technical provisions for insurance, pension plans and capitalization. The accounting estimates made in these contexts require management to make assumptions about matters that are highly uncertain. In each case, if management had made other estimates, or if changes in these estimates occur from period to period, it could have a material impact on our financial condition and results of operations. Therefore, actual results may differ from our estimates. Allowance for Loan and Lease Losses The allowance for loan and lease losses represents our estimate of the probable losses on our loan and lease portfolio at the end of each reporting period. The allowance for loan losses is calculated taking into consideration the classification of loan losses in one of nine different risk levels (from AA through H). The classification of the risk levels is a judgement that takes into consideration the economic and political situation, credit quality trends, past experience and the portfolio s specific and global risks, as well as Central Bank and CMN guidelines. CMN rules specify a minimum allowance for loan losses and other extensions of credit in each rating category ranging from zero per cent (in the case of a credit that is not in arrears) to 100.0% (in the case of any credit that is more than 180 days in arrears). In addition to recognizing allowances for loan and lease losses in accordance with the CMN minimum requirements, we also recognize an allowance that we identify as cyclical allowance, which represents our estimate of the allowance as of any given date based on our historic loss experience, which beginning in December 31, 2010, is measured using models employed in credit risk management based on the second Basel Accord ( Basel II ). Beginning in December 31, 2008, we also recognized a complementary allowance, which represents an adjustment to our cyclical allowance considering the economic scenario. Under Basel III, countercyclical provisions will be addressed as part of a required capital buffer. The methodologies to compute the cyclical allowance depend on several criteria including the criteria used to segment our loan portfolio, the period used to measure our historical losses, the specific method used to measure such historical losses, the impact of our loan granting criteria on losses over time and other factors. Additionally, the methodologies used to measure the additional allowance also depend on significant judgements, including the relationship between the level of loan losses observed and economic factors as of any given date. If our estimates differ from the amounts actually collected, additional provisions may be required. 10

11 Market Value of Financial Instruments In accordance with Brazilian GAAP and specific rules of the Central Bank, we record some of our financial instruments at market value. Financial instruments recorded at market value on our balance sheet include mainly securities classified as trading, available-for-sale, and other trading assets, including derivatives. Securities classified as held-to-maturity are recorded at their amortized cost on our balance sheet, and their corresponding market values are disclosed in the notes to our interim consolidated financial statements. Market value is defined as the value at which a position could be closed out or sold in a transaction with a willing and knowledgeable party. We estimate market value using quoted market prices when available. When quoted market prices are not available, we use a variety of sources, which include dealer quotes, pricing models and quoted prices of instruments with similar characteristics or discounted cash flows. The determination of market value when quoted market prices are not available involves judgement by our management. Similarly, judgement must be applied in estimating prices when no external parameters exist. Other factors that can affect the estimates include incorrect model assumptions and unexpected correlations. While we believe our valuation methods are appropriate and consistent with those of other market participants, the use of different methodologies and assumptions to determine the market value of certain instruments could result in a different estimate of market value at the reporting date, which may affect the amount of revenue or loss recorded for a specific asset or liability. Judgements are also required to determine whether a decline in market value below amortized costs is permanent in available-for-sale or held-to-maturity securities, therefore requiring cost basis to be written down and recognition of related effects on our results of operations. Factors that are used by our management in determining whether a decline is permanent include mainly the observed period of the loss, the degree of the loss and the expectation, as of the date of analysis, as to the potential for realisation of the security. Contingent Liabilities We are currently party to civil, labour, tax and social security proceedings arising from the normal course of our business. We normally make provisions for these contingencies based on the following: (i) for lawsuits individually reviewed, on the opinion of internal and external legal counsel and the probability that financial resources will be required to settle the claim, where settlement amounts may be estimated with sufficient certainty and (ii) for lawsuits collectively evaluated, by using statistical references by group of lawsuits, type of legal body (small claims court or regular court) and claimant. We classify as probable, possible or remote the risk that such contingencies arising from these proceedings will materialize into actual losses for us. We generally recognize provisions for these contingencies when we classify the loss related to these claims as probable. While we do not recognize provisions for contingencies whose risk we consider possible or remote, we disclose significant contingencies whose risk we consider possible. We measure contingency amounts by using models and criteria that, in spite of the uncertainty of these contingencies terms and amounts, we feel accurately estimate their values. Although we believe that these contingencies are adequately reflected in our interim consolidated financial statements, their outcomes may result in obligations to pay amounts higher than the aggregate values of our contingency provisions, given the inherent difficulties in estimating the exact amounts involved in the claims made against us. Recent Developments BMG Association The association between Itaú Unibanco and Banco BMG S.A. entered into on July 9, 2012 and which closed on January 7, 2013, was approved and ratified by the Central Bank in April Bylaws In a general meeting held on April 19, 2013, our shareholders approved several changes to our bylaws including, among other things, to reflect (i) our increased capital stock and authorized capital discussed below, (ii) the increased mandatory retirement age for the position of Chief Executive Officer from 60 to 62 years old, and (iii) our board of directors power to authorize issuances of debt securities and other instruments convertible into shares, within the limit of our authorized capital. 11

12 Our shareholders approved an increase in our capital stock of R$15.0 billion, from R$45.0 billion to R$60.0 billion, through the capitalization of certain statutory revenue reserves. This capital increase will be effected by the issuance of 457,093,610 new book entry shares with no par value, 228,928,640 of which will be common shares and 228,164,970 of which will be preferred shares. Such shares will be granted to shareholders in the form of bonus shares, free of charge, in the proportion of one new share for every ten shares of the same class held. Shares held as treasury stock will be entitled to receive bonus shares in the same proportion. There has been no change to our dividend policy as a consequence of this approval. In addition, our shareholders also approved an increase in the limit of our authorized capital from 6.0 billion to 6.6 billion shares, of which 3.3 billion must consist of common shares and 3.3 billion of preferred shares. On May 6, 2013, the Central Bank ratified the amendments to our bylaws, as approved by our shareholders in the general meeting held on April 19, Accordingly, the increase of our capital stock will be effected by the issuance of bonus shares to all our shareholders as of the close of trading on May, 20, The new shares will be cleared for trading on May 21, 2013 and will be accounted for in our shareholders positions on May 24, Management The members of our board of directors were elected on April 19, 2013 at our annual shareholders meeting. Messrs. Pedro Moreira Salles, Alfredo Egydio Arruda Villela Filho, Roberto Egydio Setubal, Alfredo Egydio Setubal, Candido Botelho Bracher, Demosthenes Madureira de Pinho Neto, Gustavo Jorge Laboissiere Loyola, Henri Penchas, Israel Vainboim, Nildemar Secches, Pedro Luiz Bodin de Moraes and Ricardo Villela Marino were reelected as members of our board of directors for a term of one year. In addition, Messrs. Iran Siqueira Lima, Alberto Sozin Furuguem and Luiz Alberto de Castro Falleiros were reelected as members of our fiscal council, and Messrs. Ernesto Rubens Gelbcke, José Caruso Cruz Henriques and João Costa were reelected as alternate members of our fiscal council. On April 25, 2013, the members of our board of officers were reelected for a term of one year. In addition, current members of our audit, strategy, risks and capital management, appointment and corporate governance, personnel and compensation committees were reelected for a term of one year. On March 15, 2013, Marcos de Barros Lisboa, our executive officer responsible for operational risk and efficiency divisions, resigned. The reelection of the members of our board of directors, board of officers, fiscal council and audit committee is pending approval by the Central Bank. In addition, on April 19, 2013, our shareholders approved an increase in the mandatory retirement age for the position of Chief Executive Officer from 60 to 62 years old. This increase is subject to Central Bank approval. Roberto Egydio Setubal is expected to remain as Chief Executive Officer of Itaú Unibanco Holding and Itaú Unibanco until he reaches the age of 60, after which he is expected to hold only the position of Chief Executive Officer of Itaú Unibanco Holding for the following two years. Related Parties Committee On March 28, 2013, we created a related parties committee, entirely composed of independent members, to analyze the transactions between related parties in certain circumstances and in accordance with our related party transactions policy, to ensure their treatment at arm s length and transparency and our alignment with best practices in corporate governance. The following members were appointed to our related parties committee: Pedro Luiz Bodin de Moraes, Nildemar Secches and Gustavo Jorge Laboissiere Loyola. 12

13 Stock Option Plan On April 19, 2013, our shareholders approved modifications to our stock option plan in order to (i) improve clarity and objectivity; (ii) establish new mechanisms for granting options to beneficiaries who reside outside of Brazil; (iii) consolidate rules governing termination of options in the event of an option-holder s death; and (iv) amend the rule on a holder s right to retain options in the event of retirement. Finally, our shareholders approved our assumption of the rights and obligations set forth in currently effective agreements entered into with beneficiaries of Redecard S.A. s stock option plan, including responsibilities for the granting of options under such plan. Code of Ethics On March 28, 2013, our board of directors revised our code of ethics in order to update and consolidate our guiding principles. Recent Legislation and Regulation Capital Adequacy and Leverage/Regulatory Capital Requirements Implementation of Basel III in Brazil On February 28, 2013, the Brazilian government enacted Provisional Measure No. 608 to address certain legislative changes required to enable the implementation of the Basel III framework in Brazil, including modifications to Law No. 12,249, which regulates the issuance of financial bills and modifications to the treatment of tax credits for regulatory capital purposes. Pursuant to Provisional Measure No. 608, new rules were also issued to adapt financial bills to the Basel III framework, as well as to provide for the possibility of the Central Bank limiting the payment of dividends and interest on capital by financial institutions not in compliance with the capital requirements defined by the CMN. See Dividends. The new rules include the following main features with respect to financial bills: Possibility of issuance of financial bills convertible into equity. The conversion may not be requested by the investor or the issuer (financial institution), and is subject to the rules indicated below. The issuance of financial bills convertible into equity is subject to the preemptive right of shareholders, except in case of public offerings and other exceptions established in the regulations; In case the financial bills are part of the regulatory capital of the financial institution, suspension of payment of interest in case of non-compliance with capital requirements. In addition, in accordance with Basel III rules, and in order to preserve the regular functioning of the financial system, the Central Bank may determine the conversion of financial bills into equity or extinction of the debt (write-off), and these decisions shall not be considered an event of default and shall not accelerate other debts of the financial institution; and Financial bills may include, as early maturity events, an event of default in case of non-payment of interest or the dissolution of the financial institution. On March 1, 2013, the CMN issued four resolutions (one of which, CMN Resolution No. 4,194, does not apply to our business), which were followed by several circulars enacted by the Central Bank on March 4, 2013, all of which detail the implementation of the Basel III framework. CMN Resolution No. 4,192, CMN Resolution No. 4,193 and CMN Resolution No. 4,195 regulate, among others, the calculation of capital requirements (Common Equity Tier 1 Capital, Tier 1 and total capital requirements), eligibility of instruments to qualify as Tier 1 or Tier 2 Capital, calculation methodology for 13

14 regulatory capital, the introduction of capital buffers, the definition of consolidated enterprise level (conglomerado prudencial) and phase-in and phase-out arrangements. According to CMN Resolution No. 4,192 and CMN Resolution No. 4,193, Brazilian banks minimum total capital ratio is calculated as the sum of three components: Regulatory capital (patrimônio de referência); A capital conservation buffer (to enhance the loss absorption ability of financial institutions); and A countercyclical capital buffer (to address the risk of the build-up of excess credit growth). Brazilian banks regulatory capital continues to comprise two tiers, Tier 1 Capital and Tier 2 Capital, and qualification of financial instruments as Tier 1 Capital or Tier 2 Capital is based on the ability of such instruments to absorb losses of such financial institution. Tier 1 Capital is further divided into two portions: Common Equity Tier 1 Capital (common equity capital and profit reserves, or Capital Principal) and Additional Tier 1 Capital (hybrid debt and equity instruments authorized by the Central Bank, or Capital Complementar). Existing hybrid instruments and subordinated debt already approved by the Central Bank as Additional Tier 1 Capital or Tier 2 Capital may continue to qualify as Additional Tier 1 Capital or Tier 2 Capital, as the case may be, provided that such instruments comply with CMN Resolution No. 4,192 s requirements and a new authorization from the Central Bank is obtained. All instruments that do not comply with these requirements will be phased-out as eligible capital instruments by deducting 10.0% of their book value per year from the amount that qualifies as Additional Tier 1 Capital or Tier 2 Capital. The first deduction is due on October 1, 2013, and subsequent deductions will take place annually starting January 1, 2014 until January 1, According to CMN Resolution No. 4,192, in order to qualify as Additional Tier 1 or Tier 2 Capital, an instrument issued by a Brazilian bank must, among other things, have a provision that requires such instrument to be automatically written-off or converted to equity upon a trigger event. A trigger event is the earlier of: (i) Common Equity Tier 1 Capital being less than 5.125% of risk-weighted assets for Tier 1 instruments and 4.5% for Tier 2 instruments, calculated in accordance with the requirements of CMN Resolution No. 4,193; (ii) the decision, as established in a firm irrevocable written agreement, to make a public sector injection of capital, as determined by applicable legislation; (iii) the Central Bank imposing a special administration regime (Regime de Administração Especial Temporária, or RAET ) or intervention in the issuing financial institution; or (iv) a decision that a writeoff or conversion, without which the bank would become non-viable and in order to mitigate relevant risks to the Brazilian financial system, is necessary, as determined by the Central Bank, in accordance with guidance criteria to be established by the CMN (the regulatory discretionary trigger event ). The additional requirements apply to all instruments issued after October 1, Resolution No. 4,193 also establishes capital conservation and countercyclical buffers for Brazilian financial institutions, determining their minimum percentages and which sanctions and limitations will apply in case of noncompliance with such additional requirements. Such limitations include: (i) partial or full inability to pay executives and members of the board their share of variable compensation; (ii) partial or full inability to distribute dividends and interest on equity to shareholders; and (iii) full inability to repurchase their own shares and effect reductions in their share capital. Under CMN Resolution No. 4,193, capital requirements will be increased in 2019 to a maximum of 13.0% of risk-weighted assets, of which 2.5% will only be required as a countercyclical measure, with phase-in of such modifications beginning on October 1, The composition of a financial institution s risk-weighted assets is also described in Resolution No. 4,193 and the risk categories are detailed and regulated by the Central Bank Circulars enacted on March 4, For further details on the detailed calculation of risk-weighted assets, please see Liquidity and Capital Resources. The following table presents the schedule for implementation by the Central Bank of the principal changes related to capital adequacy and leverage requirements under Basel III according to CMN Resolution No. 4,

15 From October 1, From January 1, Common equity tier % 4.5% 4.5% 4.5% 4.5% 4.5% 4.5% Tier 1 capital % 5.5% 6.0% 6.0% 6.0% 6.0% 6.0% Regulatory capital % 11.0% 11.0% 9.875% 9.25% 8.625% 8.00% Capital conservation buffer % 1.25% 1.875% 2.5% Countercyclical capital buffer Up to 0.625% Up to 1.25% Up to 1.875% CMN Resolution No. 4,195 defines the entities that compose the consolidated enterprise level (conglomerado prudencial) of a Brazilian financial institution, and establishes the requirement that a financial institution prepare and file with the Central Bank monthly consolidated financial statements of the consolidated enterprise level, as defined therein. Such financial statements must also be subject to audit by external auditors on a semi-annual basis. According to CMN Resolution No. 4,192, capital requirements will, as of January 1, 2014, be applied at the consolidated enterprise level (conglomerado prudencial), as determined by CMN Resolution No. 4,195. Also as part of the implementation of the Basel III framework, on June 30, 2011 the CMN enacted Resolution No. 3,988, which sets forth that Brazilian financial institutions shall implement a structure of capital management compatible with the nature of their transactions, the complexity of the products and services they offer, as well as with the extent of their exposure to risks. Capital management is defined as a process that includes: (i) monitoring and controlling the financial institution s capital; (ii) assessing capital needs in light of the risks to which the financial institution is subject; and (iii) setting goals and conducting goal and capital planning in order to anticipate capital needs due to changes in market conditions. Financial institutions shall provide to the general public a report describing the structure of their capital management at least on an annual basis. Until the resolutions issued on March 1, 2013 and the circulars issued on March 4, 2013 come into effect (on July 1, 2013, in the case of CMN Resolution No. 4,195, and on October 1, 2013, in the case of the other resolutions and circulars), the existing capital rules continue to be in force. Further Details on Provisional Measure No. 608 s Effects Pursuant to CMN Resolution No. 4,192, Common Equity Tier 1 Capital is reduced by tax credits due to temporary differences, among other items. These tax credits, which are tax credits for accounting purposes, depend on future profits to be realized and may, in the future, reduce taxation levied on profits. Allowances for loan and lease losses represent one of the most significant of such temporary differences. In order to reduce the negative impact of such reductions to Common Equity Tier 1 Capital, Provisional Measure No. 608 allows financial institutions to replace such temporary differences related to allowances for loan and lease losses with a presumed credit, cashable against the national treasury. Temporary differences related to allowances for loan and lease losses are also automatically replaced with a presumed credit when a financial institution undergoes liquidation or bankruptcy. As a result, financial institutions should be able to reduce their tax credits due to temporary differences which depend of future profits for their realization (accounting tax credits) and, consequently, negative impacts on Common Equity Tier 1 Capital. The presumed credit created by Provisional Measure No. 608, on the other hand, does not reduce the regulatory capital as it is not an accounting tax credit that depends on future profits. The use of presumed credits is expected to be further regulated by the Brazilian Revenue Office and the Central Bank during Implementation of Basel III in Brazil Expected Future Rules A maximum leverage ratio of 3.0% is expected to apply to Brazilian banks beginning January 2018, with certain disclosure requirements applicable from January 1, A liquidity coverage ratio ( LCR ) to address short-term liquidity risk and a net stable funding ratio ( NSFR ) to address long-term liquidity risk are expected to apply to Brazilian banks beginning January 1, 2015 and 2018, respectively, with certain calculation and monitoring requirements applicable beginning January 15, None of CMN Resolution No. 4,192, CMN Resolution No. 4,193, CMN Resolution No. 4,195 and the Circulars enacted by the Central Bank on March 4, 2013 address liquidity ratio requirements and the Central Bank has not yet officially announced its position on liquidity regulation, Up to 2.5% 15