UBS - 20-F annual report

In 2014, we delivered net profit attributable to shareholders of CHF 3.5 billion, a 9% increase on the prior year. At the same time, we continued to reduce risk-weighted assets (RWA) and improve our leverage ratio, and we maintained the best fully applied Basel III common equity tier 1 (CET1) capital ratio in our peer group of large global banks, ending the year at 13.4%.

We owe thanks to our employees for their continued dedication and hard work in providing superior advice and services to our clients daily. This enabled us to deliver on our commitment of attractive returns to our shareholders. As previously announced, we are proposing an ordinary dividend of CHF 0.50 per share for the financial year 2014, an increase of 100% on the prior year and a payout ratio of 55%¹ of reported net profit, which is in line with our commitment to attractive shareholder returns. In addition, reflecting progress in the establishment of the new Group holding company, including the successful completion of the share-for-share exchange offer, we fully accrued a supplementary capital return of CHF 0.25 per share in the fourth quarter of 2014. Subject to shareholder approval at the forthcoming Annual General Meeting (AGM), UBS Group AG intends to pay this one-time supplementary capital return upon successful completion of the squeeze-out procedure.

In 2014, we achieved the key strategic targets we set out in 2011 and 2012. Since the end of 2011, we have reduced RWA by over CHF 160 billion, particularly in the Corporate Center – Non-core and Legacy Portfolio, and added almost 700 basis points to our fully applied Basel III CET1 capital ratio, surpassing our long-stated target of 13%. Furthermore, our Investment Bank today is less complex and delivers more consistent underlying returns.

Now that we have completed our strategic transformation, we will concentrate all our efforts on executing our strategy to unlock our firm’s full potential. Our strategy centers on our leading wealth management businesses and our premier universal bank in Switzerland, enhanced by our strong asset manager and investment bank.

As we expected, markets and the macroeconomic environment during 2014 were influenced by heightened geopolitical tensions in eastern Europe and the Middle East. Economic conditions in

leading developed economies differed greatly. This was reflected in increasingly divergent central bank policies, as respective central bank actions fueled ongoing appreciation of the US dollar while weakening the euro and yen. At the same time, a sharp fall in commodity prices in the latter half of the year contributed to muted inflation expectations and to an increase in volatility, adversely influencing client confidence and activity levels. Client risk appetite remained subdued. All our business divisions demonstrated resilience and their commitment to clients in this challenging environment, while delivering solid underlying performances.

In Wealth Management, adjusted² profit before tax was up 4% on the prior year to CHF 2.5 billion, as the business attracted net new money, drove high-quality revenues and managed costs carefully. It was another record-breaking year for Wealth Management Americas, with operating income, loan balances, financial advisor productivity, invested assets and adjusted² profit before tax reaching all-time highs. Despite elevated charges for litigation, regulatory and similar matters, the business delivered USD 1 billion in adjusted² profit before tax for the second year in a row. In Retail & Corporate, 2014 was the best year for new Swiss retail client acquisition since 2008. The business also achieved all of its targets and grew adjusted² profit before tax 4%. Global Asset Management delivered over CHF 0.5 billion in adjusted² profit before tax and a substantial turnaround in net new money, attracting almost CHF 23 billion excluding money market flows, supported by greater engagement and collaboration with our wealth management businesses. Client focus and resource efficiency remained important drivers of our Investment Bank’s success. In particular, our strategic efforts to grow Corporate Client Solutions bore fruit, with revenues up 8% year on year. We achieved net cost reductions in Corporate Center,while reducing operational risks, strengthening controls and making progress with our resolution and recovery plans through the establishment of our Group holding company.

We are also pleased by the significant external recognition our businesses’ achievements received during 2014 and into 2015. UBS was confirmed as the largest wealth manager in the world in Scorpio Partnership’s influential Global Private Banking Benchmark 2014³. In Euromoney’s Private Banking Survey 2015, we

received five global awards and were acknowledged as the firm offering the best private banking services in Switzerland, western Europe and Asia. Reflecting our standing as a leading brokerage house and research provider, we took top position in several categories in the annual pan-European Thomson Reuters Extel Survey, including Leading Pan-European Equity House for the 11th consecutive year. Other accolades included being named Equity Derivatives House of the Year by International Financing Review and Most Innovative Bank for M&A by The Banker.

Looking ahead to our 2015 AGM on May 7, in addition to votes on existing members of the Board standing forre-election, shareholders will have the opportunity to approve Jes Staley’s nomination to the Board. We believe his professional expertise would strengthen the UBS Board of Directors further. This year’s AGM will be the first time our shareholders have the opportunity to make binding decisions regarding remuneration for the Board of

Directors and Group Executive Board, in addition to the existing advisory vote on our Compensation Report. In relation to compensation, we have a stringent performance award framework which has remained broadly consistent for the past three years. Our robust compensation model fosters accountability by rewarding actions that help our firm achieve its medium and long-term goals and deliver attractive and sustainable returns for our shareholders. Overall, the firm’s performance award pool for 2014 was CHF 3.1 billion, 5% lower than in 2013, weighing our strong performance against the effects of charges for provisions for litigation, regulatory and similar matters.

For many years, we have been helping our clients invest sustainably and responsibly. In 2014, we launched UBS and Society, an initiative combining all our activities and capabilities in sustainable investing and philanthropy, as well as our firm’s interaction with the wider community. We also published details of our environmental

and social risk policy framework in a single, comprehensive document. This guides us in identifying and dealing with environmental and social risks arising from client and supplier relationships. We aim to be a responsible corporate citizen and are therefore honored by the external recognition our efforts have received. We were named in the top three in our industry for 2014 in RobecoSAM’s Corporate Sustainability Assessment, and we were rated best in class in the 2014 Dow Jones Sustainability Indices, the FTSE4Good Index Series and the CDP Climate Performance Leadership Index. We also received the American Foreign Policy Association 2014

Corporate Social Responsibility award in acknowledgment of our firm’s support of projects focusing on education and entrepreneurship in communities around the world.

Finally, we would like to take this opportunity to thank both our shareholders and our clients for the continued trust they place in us. We are confident that by striving for excellence and putting our clients at the center of everything we do, we can grow our business profitably and continue delivering attractive returns to shareholders.

13 March 2015

Yours sincerely,

UBS

Wealth Management

Wealth Management provides comprehensive financial services to wealthy private clients around the world – except those served by Wealth Management Americas. UBS is a global firm with global capabilities, and Wealth Management clients benefit from the full spectrum of UBS’s global resources, ranging from investment management solutions to wealth planning and corporate finance advice, as well as a wide range of specific offerings. Its guided architecture model gives clients access to a wide range of products from third-party providers that complement our own products.

Wealth Management Americas

Wealth Management Americas is one of the leading wealth managers in the Americas in terms of financial advisor productivity and invested assets. It provides advice-based solutions and banking services through financial advisors who deliver a fully integrated set of products and services specifically designed to address

the needs of ultra high net worth and high net worth individuals and families. It includes the domestic US and Canadian business as well as international business booked in the US.

Retail & Corporate

Retail & Corporate provides comprehensive financial products and services to its retail, corporate and institutional clients in Switzerland, maintaining a leading position in these client segments and embedding its offering in a multi-channel approach. The retail and corporate business constitutes a central building block of UBS’s universal bank delivery model in Switzerland, supporting other business divisions by referring clients to them and assisting retail clients to build their wealth to a level at which we can transfer them to our Wealth Management unit. Furthermore, it leverages the cross-selling potential of products and services provided by its asset-gathering and investment banking businesses. In addition, we manage a substantial part of UBS’s Swiss infrastructure and Swiss banking products platform, which are both leveraged across the Group.

Global Asset Management

Global Asset Management is a large-scale asset manager with well diversified businesses across regions and client segments. It serves third-party institutional and wholesale clients, as well as clients of UBS’s wealth management businesses with a broad range of investment capabilities and styles across all major traditional and alternative asset classes. Complementing the investment offering, the fund services unit provides fund administration services for UBS and third-party funds.

Investment Bank

The Investment Bank provides corporate, institutional and wealth management clients with expert advice, innovative solutions, execution and comprehensive access to the world’s capital markets. We offer advisory services and access to international capital markets, and provide comprehensive cross-asset research, along with access to equities, foreign exchange, precious metals and selected rates and credit markets, through our business units, Corporate Client Solutions and Investor Client Services. The Investment Bank is an active participant in capital markets flow activities, including sales, trading and market-making across a range of securities.

Corporate Center

Corporate Center is comprised of Core Functions and Non-core and Legacy Portfolio. Core Functions include Group-wide control functions such as finance (including treasury services such as liquidity, funding, balance sheet and capital management), risk control (including compliance) and legal. In addition, Core Functions provide all logistics and support services, including operations, information technology, human resources, regulatory relations and strategic initiatives, communications and branding, corporate services, physical security, information security as well as outsourcing, nearshoring and offshoring. Non-core and Legacy Portfolio is comprised of the non-core businesses and legacy positions that were part of the Investment Bank prior to its restructuring.

As of 1 January 2015, Corporate Center – Core Functions was reorganized into two new components, Corporate Center – Services and Corporate Center – Group Asset and Liability Management (Group ALM).

UBS has played a pivotal role in the development and growth of Switzerland’s banking tradition since the firm’s origins in the mid-19th century.

The origins of the banking industry in Switzerland can be traced back to medieval times. This long history may help explain the widespread impression, reinforced in popular fiction, that Switzerland has always possessed a strong financial sector. In reality, the size and international reach of the Swiss banking sector we know today is largely a product of the second half of the 20th century, strongly influenced by two banks: Union Bank of Switzerland and Swiss Bank Corporation (SBC), which merged to form UBS in 1998.

At the time of the merger, both banks were already well-established and successful in their own right. Union Bank of Switzerland celebrated its 100th anniversary in 1962, tracing its origins back to the Bank in Winterthur. SBC marked its centenary in 1972 with celebrations in honor of its founding forebear, the Basler Bankverein. The historical roots of PaineWebber, acquired by UBS in 2000, go back to 1879, while S.G. Warburg, the central pillar upon which UBS’s Investment Bank was built, commenced operations in 1946.

In the early 1990s, SBC and Union Bank of Switzerland were both commercial banks operating mainly out of Switzerland. The banks shared a similar vision: to become a world leader in wealth

management, a successful global investment bank and a top-tier global asset manager, while remaining an important commercial and retail bank in their home market of Switzerland.

Union Bank of Switzerland, the largest and best-capitalized Swiss bank of its time, pursued these goals primarily through a strategy of organic growth. In contrast, SBC, then the third-largest Swiss bank, grew through a combination of partnership and acquisition. In 1989, SBC started a joint venture with O’Connor, a leading US derivatives firm noted for its dynamic and innovative culture, its meritocracy and its team-oriented approach. O’Connor brought state-of-the-art risk management and derivatives technology to SBC, and in 1992 SBC moved to fully acquire O’Connor. In 1994, SBC added to its capabilities when it acquired Brinson Partners, a leading US-based institutional asset management firm.

The next major milestone was in 1995, when SBC acquired S.G. Warburg, the British merchant bank. The deal helped SBC fill

a strategic gap in its corporate finance, brokerage, and research capabilities and, most importantly, brought with it an institutional client franchise that remains crucial to our equities business to this day.

The 1998 merger of SBC and Union Bank of Switzerland into the firm we know today created a world-class wealth manager and the largest universal bank in Switzerland, complemented by a strong investment bank and a leading global institutional asset manager. In 2000, UBS grew further with the acquisition of PaineWebber, establishing the firm as a significant player in the US. UBS has established a strong footprint in the Asia Pacific region and emerging markets based on a presence in many of these countries going back decades.

In 2007, the effects of the global financial crisis started to be felt across the financial industry. This crisis had its origins in the securitized financial product business linked to the US residential real estate market. Between the third quarter of 2007 and the

fourth quarter of 2009, we incurred significant losses on these assets. We responded with decisive action designed to reduce risk exposures and stabilize our businesses, including raising capital on multiple occasions. More recently, we continued to improve the firm’s capital strength to meet new and enhanced industry-wide regulatory requirements. Our position as one of the world’s best-capitalized banks, together with our stable funding and sound liquidity positions, provides us with a solid foundation for our success.

In 2012, the year of our 150th anniversary, we accelerated our strategic transformation of the firm to create a business model that is better adapted to the new regulatory and market circumstances

and that we believe will result in more consistent and high-quality returns. In 2013, we further advanced the execution of our strategic transformation and by the end of 2014, we completed our strategic transformation process. We have further reduced risk-weighted assets, improved our leverage ratio and maintained the best fully applied Basel III CET1 capital ratio in our peer group of large global banks. We will continue to execute our strategy in order to achieve the firm’s long-term success and to deliver sustainable returns for our shareholders.

During 2014, we established UBS Group AG as the holding company of UBS Group. This change is intended, along with other measures already announced, to substantially improve the resolvability of UBS Group in response to evolving too big to fail (TBTF) regulatory requirements.

UBS Group AG was incorporated on 10 June 2014 as a wholly owned subsidiary of UBS AG. On 29 September 2014, UBS Group AG launched an offer to acquire all the issued ordinary shares of

UBS AG in exchange for registered shares of UBS Group AG on a one-for-one basis. Following the exchange offer and subsequent private exchanges on a one-for-one basis with various shareholders and banks in Switzerland and elsewhere outside the United States, UBS Group AG acquired 96.68% of UBS AG shares by 31 December 2014.

UBS Group AG has filed a request with the Commercial Court of the Canton of Zurich for a procedure under article 33 of the

Swiss Stock Exchanges and Securities Trading Act (the “SESTA procedure”). If the SESTA procedure is successful, the shares of the remaining minority shareholders of UBS AG will be automatically exchanged for UBS Group AG shares, and UBS Group AG will become the 100% owner of UBS AG. The timing and success of the SESTA procedure are dependent on the court. We currently expect that the SESTA procedure will be completed in the second half of 2015.

UBS Group AG may continue to acquire additional UBS AG shares using any method permitted under applicable law, including purchases of UBS AG shares or share equivalents or exchanges of UBS AG shares with UBS Group AG shares on a one for one basis.

After the squeeze-out process is completed, we expect to pay a supplementary capital return of CHF 0.25 per share to shareholders of UBS Group AG.

UBS Group AG shares have been listed on the SIX Swiss Exchange (SIX) (Ticker symbol: UBSG) since 28 November 2014 and also began regular-way trading on the New York Stock Exchange (NYSE) (Ticker symbol: UBS) on the same date. UBS AG shares were delisted from the NYSE on 17 January 2015. UBS AG shares will also be delisted from SIX upon completion of the squeeze-out process.

The changes to our legal structure do not affect our strategy, our business and the way we serve our clients. They also have no material effect on the organization, processes, roles and responsibilities with respect to how UBS is managed and governed. UBS Group AG’s Board of Directors and Group Executive Board have the same members as UBS AG’s Board of Directors and Group Executive Board, respectively.

Key steps in the Group reorganization

Transfer of deferred compensation plans

As part of the Group’s reorganization, in the fourth quarter of 2014, UBS Group AG assumed obligations of UBS AG as grantor in connection with outstanding awards under employee share, option, notional fund and deferred cash plans. At the same time, UBS Group AG acquired the beneficial ownership of the financial assets and 90.5 million treasury shares of UBS Group AG held to hedge the economic exposure arising from these plans.

Obligations relating to these deferred compensation plans’ awards, which are required to be, and have been, granted by a separate UBS subsidiary or local employing UBS AG branches, have not been assumed by UBS Group AG and will continue on this basis. Furthermore, obligations related to other compensation vehicles, such as defined benefit pension plans and other local awards, have not been assumed by UBS Group AG and are retained by the relevant employing and/or sponsoring subsidiaries or UBS AG branches.

The consolidated assets and liabilities of the Group were not affected by the transaction. No cash offer was made for UBS AG shares and therefore no cash proceeds have resulted from the issue of the UBS Group AG shares in connection with the exchange offer.

The table on the next page shows the differences between UBS Group AG (consolidated) and UBS AG (consolidated) financial, capital and liquidity and funding information as of or for the period ended 31 December 2014. These differences are recorded in Corporate Center – Core Functions and relate to the following:

General requirements

Our external reporting requirements and the scope of our external reports are defined by general accounting law and principles, relevant stock and debt listing rules, specific legal and regulatory requirements, as well as by our own financial reporting policies. As a global firm with shares listed both on the SIX and the NYSE, we have to prepare and publish consolidated financial statements in accordance with International Financial Reporting Standards (IFRS) at least on a half-yearly basis. Additionally, statutory financial statements need to be prepared annually as the basis for the tax return, the appropriation of retained earnings and a potential distribution of dividends or capital contribution reserves, subject to approval at the Annual General Meeting (AGM). Management’s discussion and analysis (MD&A) complements our annual financial statements by providing information on (i) our strategy and the operating environment in which we operate, (ii) the financial and operating performance

of our business divisions and Corporate Center, (iii) our risk, treasury and capital management and (iv) our corporate governance, corporate responsibility framework and compensation frameworks.

Our Annual Reports and Form 20-F

To give shareholders as well as other stakeholders access to information on UBS Group AG and on UBS AG, both in a combined manner and separately, we publish three distinct documents on www.ubs.com/investors:

UBS continues to implement additional measures to substantially improve the Group’s resolvability in response to too big to fail (TBTF) requirements in Switzerland and other countries in which the Group operates. In Switzerland, we are progressing toward the transfer of our Retail & Corporate business division and the Swiss-booked business of our Wealth Management business division into UBS Switzerland AG by mid-2015. Pursuant to the Swiss Merger Act, we will transfer all relevant assets, liabilities and contracts of clients of the Retail & Corporate business and the Swiss-booked clients of the Wealth Management business. Under the Swiss Merger Act, UBS AG will retain joint liability for obligations existing on the date of the transfer that are transferred to UBS Switzerland AG. UBS Switzerland AG will contractually assume joint liability for contractual obligations of UBS AG existing on the date of transfer. Neither UBS AG nor UBS Switzerland AG will have joint liability for new obligations incurred by the other after the effective date of the asset transfer.

To comply with new rules for foreign banks in the US under the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank), by 1 July 2016 we will designate an intermediate holding company that will own all of our US operations except US branches of UBS AG. In the UK, we have begun to implement a revised business and operating model for UBS Limited, which will enable UBS Limited to bear and retain a larger proportion of the risk and reward in its business activities.

Our strategy, our business and the way we serve our clients are not affected by these changes. These plans do not require UBS to raise additional common equity capital and are not expected to materially affect the firm’s capital-generating capability.

We are confident that the establishment of UBS Group AG as the holding company of the Group along with our other announced measures will substantially enhance the resolvability of the Group. We expect that the Group will qualify for a rebate on the progressive buffer capital requirements, which should result in lower overall capital requirements. The Swiss Financial Market Supervisory Authority (FINMA) has confirmed that our proposed measures are in principle suitable to warrant a rebate, although the amount and timing will depend on the actual execution of these measures and can therefore only be specified once all measures are implemented.

We may consider further changes to the Group’s legal structure in response to regulatory requirements, including to further improve the resolvability of the Group, to respond to capital requirements, to seek any reduction in capital requirements to which the Group may be entitled, and to meet any other regulatory requirements regarding our legal structure. Such changes may include the transfer of operating subsidiaries of UBS AG to become direct subsidiaries of UBS Group AG, the transfer of shared service and support functions to service companies and adjustments to the booking entity or location of products and services. These structural changes are being discussed on an ongoing basis with FINMA and other regulatory authorities and remain subject to a number of uncertainties that may affect their feasibility, scope or timing.

Global economic and market climate

Global economies recovered moderately over the course of 2014. However, the pace of the recovery remained slow in most parts of the world and was marked by distinct divergence. Whereas the US and the UK experienced stronger rates of growth with improving labor markets, economies in continental Europe remained anemic and Japan relapsed into a recession in mid-2014. Among key emerging markets, the still solid growth in China slowed due to the ongoing real estate market downturn, Russia slipped into a recession and Brazil’s economy stagnated.

In many advanced economies, growth remained constrained by high levels of public and private debt. Fiscal austerity policies, even if less intense than in prior years, continued to pose headwinds, as did concerns with regard to the stability of the banking sector, particularly in the eurozone. Geopolitical uncertainty, doubts about the pace of reforms in emerging economies, and falling oil and commodity prices further restrained economic activity in a number of economies.

Despite such mixed growth, global equity markets rallied to all-time highs, supported by strong liquidity, mostly due to quantitative easing and high levels of corporate profitability, notably in the US. Global fixed income markets were supported by expansive monetary policies, low or falling inflation, and subdued global economic activity. However, by the second half of 2014, market volatility was fuelled by concerns about a potential end to unconventional monetary policy measures in the US and its consequences domestically and, especially, internationally. Most notably, the stronger US economic recovery and market expectations for divergent monetary policies between the US and Europe or Japan resulted in a strong appreciation of the US dollar.

The momentum of economic activity in the US improved during 2014, with the recovery becoming more broad-based, supported by an improving labor market and recovering consumer and investor confidence. Wage inflation accelerated modestly and falling energy prices kept inflation low, helping to lift household purchasing power. Against this background, the Board of Governors of the Federal Reserve System (Federal Reserve) decided to gradually taper its asset purchase program, concluding its third round of quantitative easing in October 2014.

The Japanese economy suffered from a consumption tax increase in April 2014, which stifled domestic demand, softened

capital expenditures and set off a two-quarter recession around mid-year. The Bank of Japan responded with a further round of monetary easing. Consequently, the yen remained weak on global foreign exchange markets during 2014, but inflation remained below the central bank’s 2% target.

The recovery in the eurozone remained asymmetrical and fragile, with growth insufficient to bring down unemployment. Falling energy and food prices, alongside considerable weakness in the eurozone, resulted in falling inflation and ultimately deflation by the end of the year. Economic activity remained weak in France and Italy throughout 2014, while Spain achieved a positive growth rate in 2014. Germany’s economy slowed down around mid-year, likely due to concerns about the impact of tighter sanctions against Russia as a result of an escalation of the conflict in Ukraine.

Faced with the prospect of inflation sliding significantly below target, the European Central Bank (ECB) introduced negative deposit rates and launched an asset-backed security (ABS) and covered-bond purchase program in June. Later, the ECB announced a program of asset purchases (quantitative easing). The ECB also carried out a comprehensive assessment of the largest banks in the eurozone, consisting of an asset quality review and stress tests. The results of this assessment, which also marked the formal starting point of the Single Supervisory Mechanism as an

important pillar of the European Banking Union, should help strengthen confidence in the European banking system.

Contrary to most European countries, Switzerland experienced another year of solid growth in 2014, supported by robust domestic demand and a strong housing market on the back of low interest rates. Nevertheless, inflation remained well below the Swiss National Bank’s target of 2% during 2014.

Emerging economies posted highly inconsistent economic activity, with some countries benefiting from improving growth in advanced economies, while others were negatively impacted by weakening consumer and investor confidence, as well as falling commodity prices. Russia slipped into a recession in late-2014, as a result of international sanctions stemming from the Ukraine conflict, and plunging oil prices. Weak commodity prices also slowed growth in Brazil. China’s economy still grew solidly in 2014, despite the onset of a recession in its real estate market, which was the key catalyst for the global decline in prices for basic materials and commodities. Financial markets in the emerging world experienced volatility in 2014, given slowing growth, a strong US dollar and concerns about the impact of a pending normalization of US monetary policy, as well as geopolitical uncertainties.

Economic and market outlook for 2015

Overall, we expect lower oil prices as well as favorable financial and monetary policy conditions to give momentum to a global economic recovery in 2015. Global growth should pick up slightly in 2015, underpinned by an acceleration in the US and modest recoveries in Japan and Europe. The eurozone should benefit from a weaker euro and lower oil prices, although the strength of the recovery may prove uneven across the region and sensitive to local political climate. The pace of UK economic growth should remain solid, while the Swiss economy is facing the challenge of a stronger currency and is expected to slow as a result. Among emerging economies, China’s growth is expected to slip just below 7%, if the real estate recession in the country persists. A modest upturn in global trade should benefit net exports in Asian emerging countries, while Russia’s economy is likely to continue experiencing the impacts of international sanctions and low oil prices.

Industry drivers

The operating environment for the financial services industry remained demanding over the course of 2014, reflecting challenging market conditions, continued headwinds due to the expansion of the regulatory requirements, and a subdued macroeconomic and market environment, among other reasons. All of these put pressure on revenue growth.

Far-reaching regulatory reform proposals close to finalization

During 2014, regulators and legislators continued to require financial services firms to become simpler, more transparent and more resilient. Against this backdrop, far-reaching regulatory initiatives, such as MiFID II/MiFIR and the Bank Recovery and Resolution Directive in the European Union (EU), and cross-border requirements for securities-based swap dealers in the US, were progressed substantially or finalized. Additionally, further steps were taken toward finalizing the Basel III capital and liquidity framework, with the Basel Committee on Banking Supervision (BCBS) issuing global standards related to the calculation of the leverage ratio denominator and the final framework for the Net Stable Funding Ratio to address banks’ long-term liquidity risks.

Regulators also addressed TBTF by taking actions intended to ensure that large, global financial services institutions can be resolved without causing a systemic disruption to the financial system or requiring capital support from the taxpayer. The Financial Stability Board (FSB) proposed to introduce global standards for “total loss absorbing capacity” (TLAC). With this requirement, the FSB aims to ensure that global systemically important banks have adequate loss-absorbing capacity to enable an orderly wind-down. The FSB proposed that a minimum Pillar 1 TLAC requirement be set within the range of 16% to 20% of risk-weighted assets (RWA) and at least twice the Basel III tier 1 leverage ratio requirement. To support cross-border resolution, the FSB, jointly with the industry, also developed a resolution stay protocol. This protocol imposes a stay on cross-default and early termination rights under standard derivatives contracts of the International Swaps and Derivatives Association (ISDA) between banks should one of them become subject to resolution action in its jurisdiction. The underlying purpose of this agreement is to give regulators sufficient time to facilitate an orderly resolution of a troubled bank. Eighteen major banks, including UBS, have adopted the protocol.

Spotlight lingers on bank capitalization and balance sheets

In order to further increase trust in the banking sector, regulators focused on the quality of banks’ balance sheets and the calculation of embedded risks, as well as increasing capital requirements, such as the enhanced leverage ratio requirements for US top-tier bank holding companies.

The ECB conducted a comprehensive review of balance sheets and risk profiles of 130 European banks. The review consisted of three elements: (i) a quantitative and qualitative supervisory assessment of key risks, including liquidity, leverage and funding; (ii) a review of the banks’ asset quality, including the accuracy of asset and collateral valuations and adequacy of related provisions, aiming to enhance the transparency of banks’ exposures and (iii) a stress test to examine the resilience of banks’ balance sheets to

stress scenarios. In this review, banks were measured against a capital threshold of 8% based on Capital Requirements Directive IV definitions. The comprehensive assessment identified a capital shortfall of EUR 25 billion for 25 banks at the end of 2013. Twelve of those 25 banks covered their shortfall during 2014, and the remaining banks were given up to nine months to close the identified gap. The comprehensive assessment also showed that in a severe scenario, as defined by the ECB, the banks’ median CET1 capital ratio decreased by approximately four percentage points from 12.4% to 8.3%. UBS Luxembourg SA was reviewed by the ECB and passed the comprehensive assessment successfully.

Similar stress testing exercises were conducted in the UK and the US. The Bank of England concluded that the resilience of the banking system in the UK had improved significantly since the capital shortfall assessment in 2013. The Bank of England’s stress test results, and banks’ capital plans, indicated that the banking system has the capacity to maintain its core functions in a stress scenario, and that no system-wide macro-prudential actions were needed. The Federal Reserve’s Comprehensive Capital Analysis and Review (CCAR) showed that US firms had substantially increased their capital since the first tests in 2009, with the aggregate tier 1 common equity ratio more than doubling from 5.5% to 11.6%.

Further to the above reviews, policymakers focused increasingly on transparency with regard to the risks that banks hold on their balance sheets. As a result, attention shifted to unweighted capital ratios and to the way banks calculate the risks on their balance sheets. In this context, the BCBS revised the standardized approach to calculating credit risk, such as by relying less on external credit ratings and the scope of national discretion or by strengthening the link between the standardized and the internal risk-based approach.

Increased focus on costs to compensate for subdued revenues

In 2014, raising income levels remained a challenging task for the financial services industry. Growth constraints imposed by the expansion of regulatory requirements were compounded by demanding market conditions and various uncertainties arising from, among other things, political tensions in Eastern Europe and the Middle East and policy divergence among major central

banks. These factors reduced investors’ risk appetites, leading to subdued volumes and increased volatility. In addition, the continued low-interest rate environment and flat yield curves added pressure on net interest margins and revenues.

As a result of this unfavorable revenue environment, and also to offset rising regulatory costs, the industry further intensified its efforts to increase operational efficiency and realign cost structures to match subdued revenue levels.

Continued need to update digital capabilities

In 2014, the financial industry progressed in adapting to the rapidly changing digital reality. However, constant innovation is necessary in this area, in order to meet evolving client expectations with regard to personalization, convenience and transparency, and to master the challenge of new market participants and the latest trends in financial technology services and products, such as digital currencies, mobile payments and robo-advisory services. It is equally important to anticipate the rise of non-traditional financing options, such as crowd funding and peer-to-peer funding. The established financial industry has therefore intensified its efforts to enhance its digital capabilities to address these challenges, for example by introducing more sophisticated and customized online services, or by more closely embedding social media into its client-facing activities, in order to further strengthen individual customer relationships.

A further challenge for the financial services industry, also resulting from increased digitalization, is cyber-crime. The risks associated with cyber-crime not only commanded increased awareness and investment from the financial services industry, but also attracted close attention from regulators in 2014. A number of regulators in the US, notably the Federal Reserve, the Federal Deposit Insurance Corporation (FDIC), the Office of the Comptroller of the Currency (OCC) and the Securities and Exchange Commission (SEC), have been delving into the topic to identify cyber-security risks inherent in financial institutions and to assess the financial industry’s current practices and overall resilience. Furthermore, the US Congress has taken a keen interest in cyber-security and the financial industry may see additional legislation in this area as a result. The EU, for its part, has made the mitigation of cyber-risk a priority in its work program for 2015, which is also likely to be followed by new legislation.

improved by approximately 10 basis points. In aggregate, UBS did not experience negative revenues in its trading businesses in connection with the SNB announcement.

However, the portion of our operating income denominated in non-Swiss franc currencies is greater than the portion of operating expenses denominated in non-Swiss franc currencies. Therefore, appreciation of the Swiss franc against other currencies generally has an adverse effect on our earnings in the absence of any mitigating actions.

In addition to the estimated effects from changes in foreign currency exchange rates, our equity and capital are affected by changes in interest rates. In particular, the calculation of our net defined benefit assets and liabilities is sensitive to the assumptions applied. Specifically, the changes in applicable discount rate and interest rate related assumptions for our Swiss pension plan during January and February would have reduced our equity and fully applied Swiss SRB CET1 capital by around CHF 0.7 billion. Also, the persistently low interest rate environment would continue to have an adverse effect on our replication portfolios, and our net interest income would further decrease.

Furthermore, the stronger Swiss franc may have a negative impact on the Swiss economy, which, given its reliance on exports, could impact some of the counterparties within our domestic lending portfolio and lead to an increase in the level of credit loss expenses in future periods. p

Regulation and supervision in Switzerland

The Swiss Federal Law on Banks and Savings Banks of 8 November 1934, as amended (Banking Act), and the related Swiss Federal Ordinance on Banks and Savings Banks of 17 May 1972, as amended (Banking Ordinance), impose certain requirements on UBS as a group under provisions on consolidated supervision of financial groups and conglomerates. These requirements include provisions on capital, liquidity, risk concentration and organizational requirements.

UBS AG, which is currently UBS Group AG’s only subsidiary, is a fully licensed Swiss bank and securities dealer under the Banking Act. We may engage in a full range of financial services activities in Switzerland and abroad, including retail banking, commercial banking, investment banking and asset management. The Banking Act, Banking Ordinance and the Financial Market Supervision Act of 22 June 2007, as amended, establish a framework for supervision by FINMA, empowering it to issue its own ordinances and circulars, which contribute to shaping the Swiss legal and regulatory framework for banks.

Swiss banks have to comply with the Basel III accord, as implemented by Switzerland. Furthermore, the Swiss Parliament amended the legal framework for banks to address the lessons learned from the financial crisis and, in particular, the too big to fail issue. The amended sections are applicable to the largest Swiss banks, including UBS, due to our size, complexity, organization and business activities, as well as our importance to the financial system. These provisions contain specific, more stringent, capital and liquidity requirements and provisions to ensure that systemically relevant functions can be maintained in case of insolvency. In addition, and in line with global requirements, we are required to produce and update recovery plans and resolution planning materials aimed at increasing the firm’s resilience in the case of a crisis, and to provide FINMA and other regulators with information on how the firm could be resolved in the event of an unsuccessful recovery. During 2014, UBS has made significant progress in improving its resolvability via changes to its legal structure.

The Federal Act of 10 October 1997 on the Prevention of Money Laundering in the Financial Sector defines a common standard for due diligence obligations to prevent money laundering for the whole financial sector.

The legal basis for the investment funds business in Switzerland is the Swiss Federal Act on Collective Investment Schemes (Collective Investment Schemes Act) of 23 June 2006, which came into force on 1 January 2007. FINMA, as supervisory authority for investment funds in Switzerland, is responsible for the authorization and supervision of the institutions and investment funds subject to its control.

As a securities broker and issuer of shares listed in Switzerland, we are governed by the Federal Act on Stock Exchanges and Securities Trading of 24 March 1995. FINMA is the competent supervisory authority with respect to securities broking.

FINMA fulfills its statutory supervisory responsibilities through licensing, regulation, monitoring and enforcement. Generally, prudential supervision in Switzerland is based on a division of tasks between FINMA and authorized audit firms. Under this two-tier supervisory system, FINMA has responsibility for overall supervision and enforcement measures while the authorized audit firms carry out official duties on behalf of FINMA. The responsibilities of external auditors encompass the audit of financial statements, the risk-based assessment of banks’ compliance with prudential requirements and on-site audits.

FINMA is the resolution authority for Swiss banks and securities dealers. FINMA may open resolution or insolvency proceedings if it determines that a bank has reached the point of impending insolvency. Under Swiss law, all assets and liabilities of a bank fall into the FINMA resolution proceedings, irrespective of where they are located. Statutory FINMA resolution tools include transferring activities of the bank to a bridge entity or the conversion of debt into equity. Any such measure would need to comply with statutory safeguards, including the requirement to ensure creditors are not worse off than in liquidation and the equal treatment of creditors.

As UBS Group is considered a Swiss systemically relevant bank, we are subject to more rigorous supervision than most other banks. We are directly supervised by the FINMA group “Supervision of UBS,” which is supported by teams specifically monitoring investment banking activities, risk management and legal matters as well as solvency and capital aspects. FINMA’s supervisory tools include meetings with management at the group and divisional level, reporting requirements encompassing control and business areas, on-site reviews in Switzerland and abroad, and exchanges with internal audit and host supervisors in other jurisdictions. In recent years, FINMA has implemented the recommendations issued by the Financial Stability Board and the Basel Committee on Banking Supervision, and complemented the Supervisory College, established in 1998 with the UK Financial Services Authority (FSA) and the Federal Reserve Bank of New York (FRBNY) to promote supervisory cooperation and coordination, with a General Supervisory College – including more than a dozen of UBS’s host regulatory agencies – and a Crisis Management College, which is also attended by representatives from the Swiss National Bank (SNB) and the Bank of England.

The SNB contributes to the stability of the financial system through macro-prudential measures and monetary policy, while also providing liquidity to the banking system. It does not exercise any banking supervision authority and is not responsible for enforcing banking legislation, but works together with FINMA, in particular with respect to regulation of Swiss systemically relevant banks. The SNB may also carry out its own enquiries and request information directly from the banks. In addition, the SNB is tasked by Parliament with the designation of Swiss systemically relevant banks and their systemically relevant functions in Switzerland. Currently, UBS, Credit Suisse, Zürcher Kantonalbank and Raiffeisen are required to comply with specific Swiss rules for systemically relevant banks.

Regulation and supervision in the US

Our operations in the US are subject to a variety of regulatory regimes. UBS maintains branches and representative offices in several states, including Connecticut, Illinois, New York, California and Florida. These branches are licensed either by the Office of the Comptroller of the Currency (OCC) or the state banking authority of the state in which the branch is located. The representative offices are licensed as loan production offices by the OCC. Each US branch and representative office is subject to regulation and supervision, including on-site examination by its federal banking authority or its licensing state and by the Federal Reserve. We are subject to oversight regulation and supervision by the Federal Reserve under various laws because we maintain branches in the US. These include the International Banking Act of 1978, the Federal Reserve Act of 1913 and the Bank Holding Company Act of 1956 (BHCA), each as amended, and related regulations. On 10 April 2000, UBS was designated a financial holding company

under the BHCA, as amended by the Gramm-Leach-Bliley Act of 1999. Financial holding companies may engage in a broader spectrum of activities than holding companies of US banks or foreign banking organizations that are not financial holding companies. These activities include expanded authority to underwrite and deal in securities and commodities and to make merchant banking investments in commercial and real estate entities.

We also maintain state and federally-chartered trust companies and a Federal Deposit Insurance Corporation (FDIC)-insured depository institution subsidiary, which are licensed and regulated by state regulators or the OCC. Only the deposits of UBS Bank USA, headquartered in the state of Utah, are insured by the FDIC. The regulation of our US branches and subsidiaries imposes activity and prudential restrictions on the business and operations of those branches and subsidiaries, including limits on extensions of credit to a single borrower and on transactions with affiliates.

To maintain our financial holding company status, (i) the Group, our federally-chartered trust company (Federal Trust Company) subsidiary and UBS Bank USA are required to meet certain capital ratios, (ii) our US branches, our Federal Trust Company, and UBS Bank USA are required to maintain certain examination ratings, and (iii) UBS Bank USA is required to maintain a rating of at least “satisfactory” under the Community Reinvestment Act of 1977.

The licensing authority of each state-licensed US branch may, in certain circumstances, take possession of the business and property of UBS located in the state of the UBS offices it licenses. Such circumstances generally include violations of law, unsafe business practices and insolvency. As long as we maintain one or more federal branches licensed by the OCC, the OCC also has the authority to take possession of all the US operations of UBS under broadly similar circumstances, as well as in the event that a judgment against a federally licensed branch remains unsatisfied. This federal power may pre-empt the state insolvency regimes that would otherwise be applicable to our state-licensed branches. As a result, if the OCC exercised its authority over the US branches of UBS pursuant to federal law in the event of a UBS insolvency, all US assets of UBS would generally be applied first to satisfy creditors of these US branches as a group, and then made available for application pursuant to any Swiss insolvency proceeding.

A major focus of US governmental policy relating to financial institutions in recent years has been combating money laundering and terrorist financing. Regulations applicable to UBS and our subsidiaries require the maintenance of effective policies, procedures and controls to detect, prevent and report money laundering and terrorist financing, and to verify the identity of our clients. As a result, failure to maintain and implement adequate programs to prevent money laundering and terrorist financing could result in significant legal and reputational risk.

In the US, UBS Financial Services Inc. and UBS Securities LLC, as well as our other US-registered broker-dealer subsidiaries, are subject to laws and regulations that cover all aspects of the securities

and futures business, including sales and trading practices, use and safekeeping of clients’ funds and securities, capital requirements, record-keeping, financing of clients’ purchases of securities and other assets, and the conduct of directors, officers and employees. These entities are regulated by a number of different government agencies and self-regulatory organizations, including the Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA). Each entity is also regulated by some or all of the following: the New York Stock Exchange (NYSE), the Municipal Securities Rulemaking Board, the US Department of the Treasury, the Commodities Futures Trading Commission (CFTC) and other exchanges of which it may be a member, depending on the specific nature of the respective broker-dealer’s business. In addition, the US states and territories have local securities commissions that regulate and monitor activities in the interest of investor protection. These regulators have a variety of sanctions available, including the authority to conduct administrative proceedings that can result in censure, fines, the issuance of cease-and-desist orders or the suspension or expulsion of the broker-dealer or its directors, officers or employees.

UBS Global Asset Management (Americas) Inc. and our other US-registered investment adviser entities, are subject to regulations that cover all aspects of the investment advisory business and are regulated primarily by the SEC. Some of these entities are also registered as commodity trading advisers (CTA) and/or commodity pool operators (CPO) and in connection with their activities as CTA and/or CPO are regulated by the CFTC. To the extent these entities manage plan assets of employee benefit plans subject to the Employee Retirement Income Security Act of 1974, their activities are subject to regulation by the US Department of Labor.

Regulation and supervision in the UK

Our operations in the UK are mainly regulated by two bodies: the Prudential Regulation Authority (PRA), newly established as an affiliated authority of the Bank of England, and the Financial Conduct Authority (FCA). The PRA’s main objective relating to the banking sector is to promote the safety and soundness of UK-regulated financial firms. The FCA is responsible for securing an appropriate degree of consumer protection, protecting the integrity of the UK financial system and promoting effective competition in the interest of consumers.

The PRA and FCA operate a risk-based approach to supervision and have a wide variety of supervisory tools available to them, including regular risk assessments, on-site inspections (which may relate to an industry-wide theme or be firm-specific) and the ability to commission reports by skilled persons, who may be the firm’s auditors, information technology specialists, lawyers or other consultants as appropriate. The UK regulators also have a wide set of sanctions at their disposal, which may be imposed under the Financial Services and Markets Act (FSMA).

Some of our subsidiaries and affiliates are also regulated by the London Stock Exchange and other UK securities and commodities exchanges of which they are a member. We are also subject to the requirements of the UK Panel on Takeovers and Mergers, where relevant.

Financial services regulation in the UK is conducted in accordance with EU directives which require, among other things, compliance with certain capital and liquidity adequacy standards, client protection requirements and conduct of business rules (such as the Markets in Financial Instruments Directive I). These directives apply throughout the EU and are reflected in the regulatory regimes of the various member states.

Key developments in Switzerland

Swiss Federal Council publishes concept for new article on immigration

In February 2014, Swiss cantons and voters accepted an initiative against “mass immigration” and the Swiss Federal Council published its concept for implementing the new article of the Federal Constitution on immigration in June. Key elements of the concept are quantitative limits and quotas, defined by the Federal Council on an annual basis, becoming effective as of February 2017. The Federal Council drafted an implementation law in February 2015. The Federal Council will start its negotiations with the European Union (EU) on the amendment of the Swiss-EU bilateral agreement on the free movement of persons. The extent to which UBS could be impacted, such as in its recruitment of foreign nationals to work in Switzerland or due to effects on Swiss corporate clients and the Swiss economy, will depend on the final implementation of the initiative in Swiss law and the outcome of negotiations with the EU.

Swiss Federal Council issues drafts of Federal Financial Services Act and Financial Institutions Act

In June 2014, the Swiss Federal Council issued drafts of a Federal Financial Services Act (FFSA) and Financial Institutions Act (FinIA). The FFSA would govern the relationship between financial intermediaries and their clients for all financial products and includes provisions on matters such as (i) the provision of financial services subject to the obligation to publish a prospectus, (ii) the obligation to provide clients with a simple, comprehensible basic information sheet, (iii) the distribution of the corresponding code of conduct at points of sale (i.e., the obligations to provide information and conduct research) and (iv) legal enforcement. According to the Federal Council, the FFSA would support the creation of uniform competitive conditions for financial intermediaries and improve client protection. With the FinIA, the Federal Council proposes to provide for the supervision of all financial service providers that operate an asset management business under a single law. The published draft of the FinIA would (i) require licensing of managers of individual client assets and managers of Swiss occupational benefits schemes and (ii) require the introduction of a tax compliance rule that requires new assets to be inspected before acceptance. The latter requirement applies to all countries that have not signed an agreement for the automatic exchange of

information with Switzerland. The Federal Council initiated a consultation that ran until 17 October 2014 for both items of legislation. The nature and extent of the impact on UBS will remain difficult to assess until the Federal Council presents its final draft to the Swiss Parliament, which is expected to take place in 2015.

Swiss Federal Council submits Financial Market Infrastructure Act

In September 2014, the Swiss Federal Council submitted to the Swiss parliament the Financial Market Infrastructure Act (FMIA). The FMIA would make substantial changes to the regulation of financial market infrastructure in Switzerland and would implement the G20 commitments on OTC derivatives in Switzerland, including (i) mandating clearing via a central counterparty, (ii) transaction reporting to a trade repository, (iii) risk mitigation measures and (iv) mandatory trading of derivatives on a stock exchange or another trading facility once this has also been introduced in partner states, such as the EU, the US and APAC jurisdictions. FMIA would also (i) introduce new licensing requirements for stock exchanges, multilateral trading facilities, central counterparties, central depositaries, trade repositories and payment systems, (ii) impose transparency requirements for multilateral and organized trading facilities and (iii) establish a basis for regulating high-frequency trading, should this be deemed necessary. FMIA is intended to make Swiss regulation of OTC derivatives equivalent to the European Market Infrastructure Regulation and to achieve compliance with international standards. An equivalence determination by the EU would allow Swiss companies to benefit from intra-group exemptions provided by EU regulation and otherwise provide a more level playing field with EU peers. Without such exemptions, costly clearing and margin requirements would apply.

FINMA publishes leverage ratio and revised disclosure circulars, and further guidance on RWA calculations

In November 2014, the Swiss Financial Market Supervisory Authority (FINMA) published a new circular on the leverage ratio and a revised circular on disclosure. The new FINMA Circular “Leverage ratio – banks” covers the calculation rules for the leverage ratio in Switzerland. For Swiss systemically relevant banks (SRB), the new circular revises the way the leverage ratio denominator (LRD) is calculated in order to be aligned with the rules issued by the Bank for International Settlements (BIS) in January 2014. This change became effective on 1 January 2015. We are using a

one-year transition period, under which the existing Swiss SRB definition may still be used, but we are required to disclose both leverage ratios (based on existing Swiss SRB rules as well as on the BIS Basel III rules) starting with our first quarter 2015 reporting. The current minimum leverage ratio requirement as a percentage of the risk-based capital ratio requirement (excluding the counter-cyclical buffer requirement) remains unchanged for Swiss SRB.

The Basel III rules also require disclosure of the leverage ratio and liquidity coverage ratio (LCR) as of 2015. These disclosure requirements are included in the revised FINMA Circular “Disclosure – banks,” which came into force on 1 January 2015.

During 2012, FINMA began requiring banks using the internal ratings-based (IRB) approach to apply a bank-specific IRB multiplier when calculating risk-weighted assets (RWA) for owner-occupied Swiss residential mortgages. This multiplier is applied to new and renewed mortgages. The entire owner-occupied Swiss residential mortgage portfolio is subject to this multiplier, which is being phased in through 2019. FINMA has notified us that the RWA increase will be extended to Swiss income-producing residential and commercial real estate from the first quarter of 2015, with a phased implementation through 2019. FINMA also announced that the RWA levels of other asset classes are to be reviewed. We understand these reviews to be in anticipation of the Basel Committee on Banking Supervision (BCBS) expected prudential reforms (e.g., reduction in the variability of capital ratios or capital floors).

Swiss Federal Council mandates the Brunetti group to develop Swiss financial market strategy

In December 2014, senior experts representing the private sector, authorities and academia (the Brunetti group) appointed by the Swiss Federal Council and mandated to further develop the strategy of Switzerland’s Financial market, published its final report. The Brunetti group made recommendations with regard to (i) safeguarding systemic stability/TBTF, (ii) preserving market access, (iii) improving the tax environment and (iv) efficient organization of regulatory processes. The Brunetti group stated that the Swiss TBTF approach compares favorably with the approaches of other countries and therefore no reorientation of the prevailing regulatory model is necessary. Although an international comparative analysis has confirmed that the Swiss regulatory model is, in principle, suitable to address the TBTF problem, the Brunetti group argued that certain adjustments in the model are necessary to eliminate the implicit government guarantee in the long term. The Brunetti group’s work on the TBTF regime served as the basis for the Swiss Federal Council’s review report on the Swiss TBTF law that was presented to the Swiss parliament in February 2015. In its report, the Swiss Federal Council confirmed the findings of the Brunetti group and mandated the Federal Department of Finance to set up a working group with representatives of FINMA and SNB that is expected to submit proposals to the Swiss government by the end of 2015. The Brunetti group also emphasized the importance of Swiss financial services providers’ access to foreign markets with a view to maintaining the competitiveness of the

Swiss financial center. Following a recommendation made by the Brunetti group, the Swiss Federal Council submitted a draft law on 17 December 2014 for consultation, proposing to move towards a “paying agent” principle for Swiss withholding tax. The Brunetti group also analyzed the Swiss regulatory and supervisory processes and proposed various improvements, including that the institutionalized dialogue among governmental authorities, market participants and research be expanded.

Key developments in the European Union

EC proposes structural measures to improve resilience of EU credit institutions

In January 2014, the European Commission (EC) proposed a regulation on “Structural measures improving the resilience of EU credit institutions.” It includes two main measures: (i) a ban on proprietary trading and investments in hedge funds and (ii) an additional potential separation of certain trading activities, including market-making, “risky securitization” and complex derivatives, which will not be mandatory, but rather based on supervisory discretion. Overall, there is a material degree of supervisory discretion in the application of the proposed requirements, particularly in relation to the separation of trading and investment banking activities. Potential derogations from the separation requirements are available for jurisdictions with equivalent legislation. The European Parliament and Council of the EU are currently reviewing the EC proposal. While neither has yet finalized its position, changes to the proposals during the political negotiations are likely. In light of this, it is unclear at this stage whether, and to what extent, UBS branches and entities, in particular UBS AG London branch and UBS Limited, will be impacted.

EU remuneration rules under Capital Requirements Directive come into effect

Also at the beginning of 2014, EU-wide remuneration rules came into effect under Capital Requirements Directive IV (CRD IV). The rules include provisions on the amount and form of variable remuneration that may be paid to employees identified as material risk takers, as defined by the European Banking Authority (EBA). A key element of the rules is the introduction of a maximum ratio of 1:1 for variable to fixed remuneration (bonus cap). The cap may be increased to 2:1 with shareholders’ consent. These restrictions apply to material risk takers at all banks active in the EU, including UBS. As a non-EU headquartered firm, UBS is required to apply these restrictions to material risk takers employed by EU subsidiaries or branches, but not globally. Further regulatory attention to the topic of remuneration is expected. The EBA is due to review the Committee of European Banking Supervisors’ guidelines on remuneration in the first half of 2015.

Economic and Financial Affairs Council (ECOFIN) agreement on EU-FTT postponed to 2015

Despite the commitment made by the 11 participating EU member states, no agreement on the EU Financial Transaction Tax was

reached in 2014. There is still divergence among participating member states on the design of the EU-FTT, including the rate, scope, possible exemptions, territorial application and collection mechanism. A statement issued at the December 2014 ECOFIN meeting said that the 11 participating member states will continue to work on reaching agreement in the first half of 2015, with the aim of introducing an EU-FTT in January 2016. The tax would be based on equities and certain derivatives, but no agreement on the definition has yet been reached.

MiFID II and MiFIR enter into force

In July 2014, the EU Markets in Financial Instruments Directive II and Regulation package (MiFID II/MiFIR) entered into force. The majority of the requirements relating to investor protection, trading issues and third country market access will apply to firms only from January 2017, although there are transitional provisions in several areas. However, level 2 legislation on MiFID II/MiFIR has been under discussion since May 2014, when the European Securities and Markets Authority (ESMA) published a consultation paper on its proposed technical advice to the European Commission on delegated acts, as well as a first discussion paper on proposed draft Regulatory Technical Standards (RTS) and Implementing Technical Standards (ITS) under MiFID II/MiFIR. The papers covered categories of investor protection, transparency, data publication, market data reporting, microstructural issues (including algorithmic and high-frequency trading), requirements applying to trading venues, commodity derivatives, portfolio compression and post-trade issues. In mid-December 2014, ESMA issued its final report on the technical advice taking into account industry feedback received in the summer consultation, and asked for further views on the RTS through a related follow-up consultation paper. A further Level 2 consultation was issued in 2015. MiFID II/MiFIR will affect many areas of UBS’s business, including the Investment Bank, Wealth Management and Global Asset Management. An assessment of the potential impact and the development of implementation measures are ongoing.

UK PRA publishes Policy Statement and Supervisory Statement on its approach to supervising international banks

In September 2014, the Prudential Regulation Authority (PRA) published a Policy Statement and Supervisory Statement. In summary, the PRA’s approach, which applies to both existing and new branches, is centered on an assessment of (i) the equivalence of the home state’s supervision of the whole firm, (ii) the branch’s UK activities and (iii) the level of assurance the PRA gains from the home state supervisor (HSS) over resolution. Where the PRA is satisfied on these matters, it will also need to have a clear and agreed division of prudential supervisory responsibilities with the HSS. Where the PRA is not satisfied, it will consider the most appropriate course of action, which could include refusing authorization of a new branch or cancelling authorization of an existing branch (requiring the non-European Economic Area (EEA) firm to exit the UK market or to establish a UK subsidiary). For existing

non-EEA branches, the PRA will focus its supervision on understanding whether the branch undertakes critical economic functions and on working with the HSS to gain adequate assurance that these functions could be resolved in line with the PRA’s objectives. The PRA policy is applicable to UBS Limited and UBS AG London Branch and could have implications for the nature of business and the legal structure of UBS’s UK operations. However, additional guidance from the PRA will be required to more accurately assess the impact.

Operational start of SSM – milestone in the implementation of the EBU

The implementation of the European Banking Union (EBU) passed a milestone with the operational start of the Single Supervisory Mechanism (SSM) on 4 November 2014. Now the ECB directly supervises 120 significant banks in the eurozone, representing 82% of total banking assets in the euro area. UBS Luxembourg SA is one of the banks in the SSM. Prior to the start of the SSM, the ECB had published the results of a comprehensive assessment on 26 October 2014. UBS Luxembourg SA successfully passed the comprehensive assessment. The SSM is one of the two pillars of the EU banking union, along with the Single Resolution Mechanism (SRM). Key elements of the SRM include the establishment of a Single Resolution Board (SRB) and a Single Resolution Fund (SRF). Significant banks that are subject to direct ECB supervision under the SSM and cross-border banks would be resolved by the SRB. The SRM entered into force on 1 January 2015, at which time the SRB became fully operational, while the resolution function of the SRM and the bail-in tool will apply as of 1 January 2016, in line with the EU Bank Recovery and Resolution Directive (BRRD). UBS Luxembourg SA would be subject to resolution by the Single Resolution Board should a resolution become necessary.

BRRD comes into force in the EU

Another important development was the finalization of the BRRD that came into force in July 2014. The BRRD seeks to achieve a harmonized approach to the recovery and resolution of banks in the EU and broadly covers measures relating to recovery and resolution planning, early intervention powers for authorities and resolution tools should a bank fail or be deemed likely to fail. The majority of the BRRD applies from 1 January 2015 and the bail-in tool will apply from 1 January 2016. UBS’s EU subsidiaries will be subject to the requirements of the BRRD, while EU member states have the right to apply the provisions of the BRRD to UBS’s EU-based branches in certain circumstances. The overall impact is difficult to assess at this stage, as the EU resolution authorities have broad discretion in setting some of the key requirements of the BRRD, and many technical standards and guidelines are yet to be finalized.

Key developments in the US

SEC approves final rule on cross-border requirements for securities-based swap dealers

In June 2014, the Securities and Exchange Commission (SEC) approved a final rule addressing certain cross-border requirements for securities-based swap dealers, including definitions of certain key terms, activities that count toward determining whether an entity is required to register, procedures for substituted compliance applications and an anti-fraud rule. The SEC expects to address other aspects of its 2013 proposed framework for cross-border application of its securities-based swap rules in future rulemakings. No deadline for registering as a securities-based swap dealer was contained in the final rule. We anticipate registering UBS AG as a securities-based swap dealer when registration requirements become effective.

FDIC and Federal Reserve feedback on 2013 resolution plans of first-wave filers

In August 2014, the Federal Deposit Insurance Corporation (FDIC) and the Federal Reserve provided feedback on the 2013 resolution plans of first-wave filers (11 large and complex banking organizations, including UBS, that initially filed resolution plans in 2012). The reviews identified shortcomings that will need to be addressed in the 2015 submissions, including assumptions that the agencies regard as unrealistic or inadequately supported, and the failure to make changes in firm structure and practices that would enhance the prospects for orderly resolution. The agencies also indicated that the first-wave filers must make significant progress in addressing the agencies’ concerns before they file their 2015 resolution plans. If a first-wave filer is unable to address the regulators’ concerns, the agencies may find that a plan is not “credible” as required by Dodd-Frank and may take a number of actions, including imposing more stringent capital, leverage, liquidity or other requirements, restricting its US activities or the growth of its US operations, or requiring it to divest assets and operations that affect its resolvability.

CFTC cross-border rules sustained

In September 2014, a US district court granted summary judgment to the CFTC on the basis that the CFTC’s cross-border interpretative guidance and policy statement was not reviewable, as it has not been applied in practice. The CFTC’s cross-border interpretation and policy statement have significant extraterritorial effect and create both uncertainty and significant implementation issues for swap dealers, including UBS. Subsequently, the CFTC extended no-action relief regarding transaction-level requirements: for non-US swap dealers entering into swaps with most non-US persons until 30 September 2015, unless the CFTC decides to take action earlier; for reporting of transactions with non-US persons until 1 December 2015; and for certain inter-affiliate transactions until 31 December 2015.

Federal Reserve, FDIC and OCC impose a liquidity coverage ratio on large banks

In September 2014, the Federal Reserve, the FDIC and the Office

of the Comptroller of the Currency (OCC) issued a rule imposing a liquidity coverage ratio on large banks. Under the final rule, a large bank will be required to continuously maintain enough high-quality liquid assets to cover 100% of its total net cash outflows over a 30-day period of financial stress. The rule will apply to foreign banks that have US bank holding company subsidiaries and similar requirements are expected for foreign banks that do not have a US bank holding company, such as UBS.

Federal Reserve, FDIC and OCC adopt final SLR for banks

Separately, the Federal Reserve, the FDIC and the OCC adopted a final supplementary leverage ratio (SLR) for banks that are subject to the advanced approaches risk-based capital rules. This SLR rule revises the way the denominator of the SLR is calculated in order to align it with BIS rules issued in January 2014. Certain required public disclosures must be made starting in the first quarter of 2015, and the minimum SLR requirements will be effective from 1 January 2018. Earlier in 2014, US regulators approved a final enhanced supplementary leverage ratio requirement for US top-tier bank holding companies (BHC), with more than USD 700 billion in consolidated assets or USD 10 trillion in assets under custody, currently the eight largest US banks. Under this rule, BHCs are required to maintain a Tier 1 capital leverage buffer of at least 2% above the Basel III minimum supplementary leverage ratio requirement of 3%, for a total of 5% (6% for insured depository institutions). UBS is not subject to this requirement.

Federal Reserve issues final rule on due date for large BHC’s capital plans and stress test results

In October 2014, the Federal Reserve issued a final rule adjusting the due date for large BHCs to submit capital plans and stress test results from 5 January to 5 April, beginning with the 2016 cycle. The final rule also adopts, with some adjustments, the limitation on a BHC’s ability to make capital distributions to the extent that its actual net capital issuances are less than the amount indicated in its capital plan. The rule reaffirmed that an intermediate holding company (IHC) formed in anticipation of the IHC rule, such as that of UBS, would not be subject to risk-based capital, liquidity and risk management standards until 1 July 2016, the capital plan rule until the 2017 cycle, and the stress testing rule and Comprehensive Capital Analysis and Review (CCAR) process until the 2018 cycle.

Far-reaching regulatory reform proposals close to completion on the international level

OECD presents a standard for tax information exchange

In February 2014, following a G20 mandate, the Organization for Economic Cooperation and Development (OECD) presented a new single global Standard for Automatic Exchange of Financial Account Information in Tax Matters, the Common Reporting Standard (CRS). In July 2014, the OECD released the full CRS, including the Model Competent Authority Agreement, a commentary, and a CRS schema. The CRS obliges countries and

jurisdictions to obtain all financial information from their financial institutions and exchange that information automatically with other jurisdictions, on an annual basis, subject to appropriate safeguards including certain confidentiality requirements and the requirement that information may be used exclusively for the tax purposes foreseen.

At the Global Forum meeting in October 2014, all OECD and G20 countries as well as a majority of financial centers endorsed the new OECD/G20 standard. 58 jurisdictions (early adopters) committed to launch the first automatic exchanges in 2017 and 35 jurisdictions committed to start in 2018.

Upon the OECD revealing the full global standard in July 2014, the EU signaled that it will align its legislation with the new international standard. In October, a political agreement was reached on amending Directive 2011/16/EU on administrative cooperation in the field of direct taxation (DAC), followed by its full endorsement. The revised DAC reproduces the OECD standard at EU level, with first exchange of information expected to take place in 2017, in line with the early adopters. Austria was given one additional year of transition for implementation. The DAC entered into force on 5 January 2015 and will be applicable from 1 January 2016 (except in Austria).

In May 2014, the Swiss Federal Council endorsed the OECD Declaration on Automatic Exchange and in October of that year, the Swiss Federal Council approved the mandates for negotiations on introducing the automatic exchange of information with the EU, the United States and other countries and entered into negotiations with the European Commission. Switzerland committed to launch the first automatic exchanges in 2018, one year after the early adopters. In November 2014, the Federal Council approved a declaration on Switzerland joining the OECD Multilateral Competent Authority Agreement (MCAA), which sets out the conditions for the annual exchange of account information between the competent authorities of two countries, in accordance with the OECD standard. In January 2015, the Swiss Federal Council launched a consultation on the introduction of the automatic exchange of information. The consultation package includes a federal draft law for the implementation of the automatic exchange of information, the ratification of the OECD/Council of Europe administrative assistance convention and the ratification of the MCAA. The consultation runs until 21 April 2015.

BCBS review of risk-based capital framework

The Basel Committee on Banking Supervision (BCBS) issued a discussion paper in 2013 on “The regulatory framework: balancing risk sensitivity, simplicity and comparability” with a number of proposals on how to reform the Basel risk-based capital framework. In 2014, the BCBS published proposals to address excessive variability in risk-weighted asset calculations with the objective of improving consistency and comparability in bank capital ratios.

In October 2014, the BCBS consulted on a revised standardized approach for measuring operational risk capital. With this, the BCBS aims to address certain weaknesses identified in the

existing approaches and to streamline the framework. In November 2014, the BCBS published its report on “Reducing excessive variability in banks’ regulatory capital ratios,” giving an overview of its priorities and next steps. The report addresses three areas: (i) policy measures, which aim to develop prudential proposals to improve the standardized, non-modelled approaches for calculating regulatory capital that will also provide the basis for the use of floors and benchmarks; (ii) disclosure requirements related to risk weights by amending Pillar 3 of the Basel framework and (iii) monitoring in order to ensure proper implementation of risk-weighted asset variability through Hypothetical Portfolio Exercises (HPEs) under the Committee’s Regulatory Consistency Assessment Program (RCAP). In its report the BCBS outlines its objective to finalize key pillars of its framework by the end of 2015, i.e., the standardized approach requirements for credit risk, market risk and operational risk, the capital floor framework, and internal model requirements for credit risk and market risk. In addition, the BCBS confirmed that it is continuing to undertake a longer-term review of the structure of the regulatory capital framework considering whether a more fundamental reform is necessary.

In December 2014, the BCBS published three consultations. One consultation covers the BCBS proposals for revising the standardized approach to credit risk, such as by relying less on external credit ratings, reducing the scope of national discretion or by strengthening the link between the standardized and the IRB approach. One of the key aspects of the current proposal is that the corporate and bank exposures would be based on a limited number of drivers and no longer risk-weighted by reference to their external credit ratings. The second consultation outlines the design of the capital floor framework, which would be based on revised standardized approaches for credit, market and operational risk. The calibration of the floor is outside the scope of the consultation. The third proposal covers the outstanding issues in terms of the fundamental review of the trading book, and sets out a limited set of revisions to the earlier BCBS’s consultation on a proposed market risk framework, which was published for consultation in October 2013.

FSB proposes standards on TLAC

With regard to addressing TBTF, an important development was the publication for consultation of the proposed standards on Total Loss-Absorbing Capacity (TLAC) by the Financial Stability Board (FSB) in November 2014. These standards aim to build up adequate loss-absorbing capacity for global systemically important banks to ensure that an orderly wind-down is possible. The FSB proposes that a minimum Pillar 1 TLAC requirement be set within the range of 16% to 20% of RWA and at least twice the Basel III tier 1 leverage ratio requirement.

BCBS issues revised Pillar 3 disclosure requirements

In January 2015, the BCBS issued revised Pillar 3 disclosure requirements that aim to improve comparability and consistency of disclosures. To this end, the BCBS introduced harmonized templates. These include prescriptive, fixed-form templates for

quantitative information that is considered essential for the analysis of a bank’s regulatory capital requirements, as well as templates with a more flexible format for information that is considered meaningful to the market but not central to the analysis of a bank’s regulatory capital adequacy. In addition, banks may accompany the disclosure requirements in each template with a qualitative commentary that explains a bank’s particular circumstances and risk profile. According to the BCBS timeline, banks will be required to publish their first Pillar 3 reports under the revised framework concurrently with their year-end 2016 financial reports. Under the

new requirements, we will be mapping the financial statements into regulatory risk categories and we will present semiannually and annually comprehensive sets of standardized disclosure tables. Amendments to our Pillar 3 reporting will further include the quarterly disclosure of a RWA flow statement in a granularity similar to the one we have so far been disclosing annually. The standardized tables are designed to improve the comparability between banks and are expected to require implementation investment.

Our strategic transformation

EDTF | In 2011, we laid out three critical objectives for UBS: executing our strategy, delivering for our clients and unlocking our growth potential. We accelerated the execution of our strategy in 2012 and have since made substantial progress focusing our activities on a set of highly synergistic, less capital and balance sheet-intensive businesses dedicated to serving clients and well-positioned to maximize value for shareholders. We have reached our targeted Basel III CET1 capital ratio of 13%, significantly reduced risk-weighted assets and costs, while simultaneously growing our business and enhancing our competitive positioning. We have successfully grown our unrivaled wealth management businesses and transformed our Investment Bank to focus on its traditional strengths in advisory, research, equities, foreign exchange and precious metals. At our Investor Update on 6 May 2014, we provided information on the progress of executing our strategy. By the end of 2014, we completed our strategic transformation process. Through the continued successful execution of our strategy, we believe we can sustain and grow our business and maintain a prudent capital position. While our strategy remains unchanged going forward, we updated and extended several of our annual performance targets, which are outlined in the table at the end of this section.

Achieving greater effectiveness and efficiency is imperative for the success of our strategy. We remain fully committed to achieving the cost reductions announced at the 2014 Investor Update,

with a net cost reduction target of CHF 1.4 billion versus full-year 2013 by the end of 2015, including CHF 1.0 billion in Corporate Center – Core Functions and CHF 0.4 billion in Corporate Center – Non-Core and Legacy Portfolio. After that, we target additional net cost reductions of CHF 0.7 billion as we exit our Non-core and Legacy Portfolio.

Our commitment to a prudent capital position is based on maintaining a fully applied CET1 capital ratio of at least 13% and a post-stress fully applied CET1 capital ratio of at least 10%. From 2014 onwards, our deferred contingent capital plan awards will qualify as additional tier 1 capital under Basel III requirements. Through our compensation programs, we intend to build approximately CHF 2.5 billion in additional tier 1 capital over the next five years, which will eventually replace the high-trigger loss-absorbing capital recognized as tier 2 capital. Additional tier 1 capital is an important component of our future capital structure and we have also started building additional tier 1 capital through external issuance from UBS Group AG. An optimized capital structure enables us to meet regulatory requirements while targeting optimal shareholder returns.

As discussed further above, we continue to adapt our legal structure to improve UBS’s resolvability in response to evolving too big to fail (TBTF) requirements in Switzerland and other countries in which UBS operates. The changes to our legal structure do not affect our strategy, our business and the way we serve our clients. p

Delivering attractive shareholder returns

We are committed to delivering sustainable performance and attractive returns to shareholders. We have delivered progressive capital returns in 2011, 2012 and 2013. In 2014, we achieved our capital ratio target of a fully applied CET1 capital ratio of at least 13% and met our objective of maintaining a post-stress fully applied CET1 capital ratio of at least 10%. Subject to maintaining our CET1 capital ratio target and our objective for the post-stress CET1 capital ratio, we are targeting a total payout ratio of at least 50% of net profit attributable to UBS shareholders.

In line with our dividend policy, we propose a 100% increase in our ordinary dividend to CHF 0.50 per share for the financial year 2014, which will be paid out of capital contribution reserves. The ex-dividend date is expected to be 11 May 2015. In addition, following the successful completion of the squeeze-out procedure, we expect to pay a supplementary capital return of CHF 0.25 per share to be paid to shareholders of UBS Group AG. This supplementary capital return is separate and in addition to the proposed ordinary dividend described above and will also be paid out of capital contribution reserves.

Our annual performance targets

The table below outlines our annual performance targets for the Group, the business divisions and the Corporate Center for 2015 and beyond. These performance targets are based on adjusted results that exclude items that management believes are not

representative of the underlying performance of our businesses, and assume constant foreign currency translation rates, unless otherwise indicated.

Performance measures

Key performance indicators

EDTF | Our key performance indicator (KPI) framework focuses on key drivers of total shareholder return, measured by the dividend yield and price appreciation of our shares. Our senior management reviews the KPI framework on a regular basis by considering prevailing strategy, business conditions and the environment in which we operate. The KPIs are disclosed consistently in our quarterly and annual reporting to facilitate comparison of our performance over the reporting periods.

The Group and business divisions are managed based on this KPI framework, which emphasizes risk awareness, effective risk and capital management, sustainable profitability and client focus. Both Group and business division KPIs are taken into account in determining variable compensation. p

EDTF | In addition to KPIs, we disclose our performance targets. These performance targets, which are defined in order to track the achievement of our strategic plan, are based on our KPIs as well as on additional balance sheet and capital management performance measures. p

Changes to our key performance indicators in 2014

EDTF | In 2014, we made certain changes to our KPI framework to further enhance its relevance by reclassifying certain KPIs to “Additional information,” or redefining them to focus on our specific wealth management or retail businesses.

“Return on risk-weighted assets, gross (%)” for the Group is now reported as “Additional information” rather than as a KPI, as we consider this metric less meaningful and relevant than other existing KPIs in measuring Group performance. We also report our “Swiss SRB Basel III common equity tier 1 (CET1) capital ratio (%) (phase-in)” as “Additional information” rather than as a KPI. Our Swiss SRB Basel III CET1 capital ratio on a fully applied basis remains a KPI. At the Group level, we replaced the KPI “Net new money growth (%)” with “Net new money growth for combined wealth management businesses (%),” focusing on net new money generated only by our wealth management businesses, by excluding net new money from Global Asset Management and Retail & Corporate from this measure.

“Recurring income as a % of income (%)” is no longer a Wealth Management Americas KPI, but is instead reported as “Additional information,” consistent with the way this metric is reported in Wealth Management.

We replaced our Retail & Corporate KPI “Net new business volume growth (%)” with “Net new business volume growth for retail business (%),” excluding our corporate and institutional business from this measure as its net new business volume is volatile by nature and therefore provides limited insight. The revised measure better reflects management’s view on our business. As “Additional information,” we also show “Business volume for retail business (CHF billion)” and “Net new business volume for retail business (CHF billion).” “Impaired loan portfolio as a % of total loan portfolio, gross (%)” is no longer a Retail & Corporate KPI, but is instead reported as “Additional information.”

Additionally, we replaced the KPI “Net new money growth (%)” for Global Asset Management with “Net new money growth excluding money market flows (%).” Money market flows are volatile by nature, and metrics excluding these flows therefore provide more focused insight. p

New key performance indicators in 2015

EDTF | In 2015, return on tangible equity (RoTE) will replace return on equity (RoE) as a KPI. RoE will continue to be reported as “Additional information.” In addition, net margin on invested assets for Wealth Management, Wealth Management Americas and Global Asset Management will become a KPI. We will continue to report gross margin on invested assets as a KPI for these business divisions. p

Client / invested assets reporting

We report two distinct metrics for client funds:

Of the two, invested assets is a more important measure.

Net new money in a reported period is the amount of invested assets that are entrusted to us by new or existing clients less those withdrawn by existing clients or clients who terminated their relationship with us. Interest and dividend income from invested assets is not counted as net new money inflow. However, in Wealth

Management Americas we also show net new money including interest and dividend income in line with historical reporting practice in the US market. The Investment Bank does not track invested assets or net new money.

When products are managed in one business division and sold by another, they are counted in both the investment management unit and the distribution unit. This results in double-counting within our total invested assets, as both units provide an independent service to their client, add value and generate revenues. Most double-counting arises when mutual funds are managed by Global Asset Management and sold by Wealth Management and Wealth Management Americas. The business divisions involved count these funds as invested assets. This approach is in line with both finance industry practices and our open architecture strategy, and allows us to accurately reflect the performance of each individual business. Overall, CHF 173 billion of invested assets were double-counted as of 31 December 2014 (CHF 156 billion as of 31 December 2013).

Seasonal characteristics

Our main businesses may show seasonal patterns. The Investment Bank’s revenues have been affected in some years by the seasonal characteristics of general financial market activity and deal flows in investment banking. Other business divisions may also be impacted by seasonal components, such as lower client activity levels related to the summer and end-of-year holiday seasons, annual income tax payments (which are concentrated in the second quarter in the US) and asset withdrawals that tend to occur in the fourth quarter.