L-2005-239, Changes to Master Trust Agreement

Changes to Master Trust Agreement

ML053220181
Person / Time
Site:	Seabrook
Issue date:	11/15/2005
From:	Stall J Florida Power & Light Co
To:	Document Control Desk, Office of Nuclear Reactor Regulation
References
L-2005-239
Download: ML053220181 (205)

Text

0t Florida Power & Light Company, P.0. Box 14000, Juno Beach, FL 33408-0420 FPL November 15, 2005 L-2005-239 10 CFR 50.75 U.S. Nuclear Regulatory Commission Attn: Document Control Desk Washington, DC 20555 Re: Seabrook Station Docket No. 50-443 Changes to Master Trust Aareement The purpose of this letter is to advise the Nuclear Regulatory Commission (NRC) of certain changes that FPL Energy Seabrook, LLC (FPL Energy Seabrook) will be making to the Amended and Restated Seabrook Nuclear Decommissioning Financing Fund Master Trust Agreement (the Trust Agreement), as amended and restated on October 31, 2002. The proposed changes are explained below.

As background, by NRC Order dated October 25, 2002, and by NRC License Amendment No. 86 to Seabrook Facility Operating License NPF-86 effective October 1, 2002, the NRC authorized the transfer of the Operating License for Seabrook Station to FPL Energy Seabrook. Both the Order and the License Amendment imposed conditions on FPL Energy Seabrook regarding the Seabrook nuclear decommissioning trust. Seabrook Operating License Condition C(3)b.(iv) required the Seabrook decommissioning trust agreement to provide that FPL Energy Seabrook cannot amend the agreement in any material respect without 30 days prior written notification to the Director, Office of Nuclear Reactor Regulation. The Trust Agreement contains this restriction.

FPL Energy Seabrook is now proposing to make changes to the Trust Agreement. FPL Energy Seabrook is proposing to change the trustee for the Trust Agreement to Mellon Trust of Delaware, National Association. Mellon Trust is an indirect wholly-owned subsidiary of Mellon Financial Corporation. The financial qualifications of Mellon Financial Corporation are described in its 2004 annual report, a copy of which is enclosed (Enclosure 1). FPL Energy Seabrook is also proposing other minor changes to the Trust Agreement. Such changes are illustrated in a blacklined version of the revised trust document, a copy of which is enclosed herewith (Enclosure 2). A clean copy of the revised Trust Agreement is also enclosed (Enclosure 3).

n AODF an FPL Group company

Seabrook Station Docket No. 50-443 L-2005-239 Page 2of2 FPL Energy Seabrook plans to close this transaction on December 31, 2005. Should you have any questions concerning the proposed changes to the Trust Agreement, please contact Mitchell Ross, Associate General Counsel, at 561-691-7126.

Sincerely yours, J.A. Stall Senior Vice President, Nuclear and Chief Nuclear Officer Enclosures cc: NRC Regional Administrator - Region I Office Senior Resident Inspector - Seabrook Station Eileen McKenna

ENCLOSURE 1 MELLON FINANCIAL CORPORATION 2004 FINANCIAL ANNUAL REPORT

@ Mellon FR MELLON FINANCIAL CORPORATION 2004 FINANCIAL ANNUAL REPORT

Mellon Financial Corporation 2004 Financial Annual Report Table of Contents Page Financial Review Financial Summary 2 Management's Discussion and Analysis of Financial Condition and Results of Operations:

Results of Operations 3 Overview 3 Sunmmary of financial results 5 Noninterest revenue 8 Net interest revenue 15 Operating expense 18 Business sectors 20 Capital 33 Corporate Risk Management 36 Credit risk 36 Market and liquidity risk 42 Off-balance-sheet arrangements 47 Recent Accounting Pronouncements and Developments 50 Fourth Quarter 2004 Review 51 Selected Quarterly Data (unaudited) 52 Critical Accounting Policies 55 Cautionary Statement 58 Report of Management on Internal Control Over Financial Reporting 61 Report of Independent Registered Public Accounting Firm 62 Financial Statements and Notes Consolidated Income Statement 63 Consolidated Balance Sheet 65 Consolidated Statement of Cash Flows 66 Consolidated Statement of Changes in Shareholders' Equity 67 Notes to Financial Statements 68 Report of Independent Registered Public Accounting Firm 112 Corporate Information Inside back cover

Mellon Financial Corporation (and its subsidiaries)

FINANCIAL

SUMMARY

dollaramounts in millions, exceptper shareamounts or unless otherwise noted) 2004 2003 2002 2001 2000 Year ended Dec. 31 Total fee and other revenue S 4,056 $ 3,607 S 3,600 S 2,765 S 2,924 Gains on sales of securities 8 62 59 - -

Net interest revenue 458 570 611 574 550 Provision for credit losses (11) 7 172 (4) 8 Total operating expense 3,376 3,236 3,101 2,669 2,283 Provision for income taxes 357 313 327 239 427 Income from continuing operations before cumulative effect of accounting change $ 800 S 683 S 670 S 435 S 756 Cumulative effect of accounting change, net of tax - (7) (a) - - -

Income from continuing operations S 800 S 676 S 670 S 435 S 756 Income (loss) from discontinued operations, net of tax (4) 25 12 883 251 Net income S 796 S 701 S 682 S 1,318 S 1,007 Per common share - diluted:

Income from continuing operations before cumulative effect of accounting change S 1.89 S 1.59 S 1.53 S .91 S 1.52 Cumulative effect of accounting change (.01) - -

Continuing operations S 1.89 $ 1.58 S 1.53 .91 $ 1.52 Discontinued operations (.01) .05 .02 1.85 .51 Net income S 1.88 S 1.63 $ 1.55 S 2.76 S 2.03 Selected key data - continuing operations Return on equity (b)(c) 20.9% 19.4% 20.0% 11.6%/. 19A%

Return on assets (b)(c) 236% 2.04% 2.04% 1.33% 2.49%

Fee revenue as a percentage of fee and net interest revenue (FIE) (d) 90% 86% 85% 83% 84%

Pre-tax operating margin (FIE) (c) 27% 25% 24% 21% 35%

Assets under management at year-end (in billions) S 707 S 657 S 581 $ 592 $ 530 Assets under administration or custody at year-end (in billions) S 3,340 $ 2,835 S 2,269 $ 2,076 S 2,267 S&P 500 Index -year-end 1212 1112 880 1148 1320 S&P 500 Index - daily average 1131 965 994 1194 1427 Dividends paid per common share S .70 $ .57 5 .49 S .82 S .86 Dividends paid on common stock S 297 $ 243 S 213 5 388 S 421 Closingconmmonstockpricepershareatyear-end S 31.11 $ 32.11 $ 26.11 S 37.62 $ 49.19 Market capitalization at year-end S 13,171 $ 13,712 S 11,248 S 16,798 $ 23,941 Average common shares and equivalents outstanding - diluted (in thousands) 424,287 430,718 439,189 477,712 496,825 Capital ratios at year-end Total shareholders' equity to assets 11.05% 10.89% 9.37% 9.79% 8.24%

Tangible shareholders' equity to assets 4.72 4A44 3.57 4.85 5.70 Adjusted tangible shareholders' equity to assets (e) 6.24 5.94 4.87 5.84 6.25 Tier I capital (6 10.54 8.55 7.87 8.81 7.23 Total (Tier I plus Tier 11) capital (0 16A7 13.46 12.48 13.65 11.74 Leverage capital (t) 7.87 7.92 6.55 6.31 7.11 Average balances Loans S 7,307 S 7,704 $ 9,445 S 9,843 $ 10,693 Total interest-arning assets 22,672 22,680 22,931 23,529 21,741 Total assets 34,003 33,877 33,695 45,475 46,744 Deposits 20,350 19,493 19,010 17,560 16,469 Notes and debentures 4,270 4,304 4,238 3,751 3,478 Junior subordinated debentures 1,024 1,010 987 974 991 Total shareholders' equity 3,832 3,522 3,356 3,735 3,904 (a) Fora discussion of the 2003 cumulative effect of a change in accountingprinckple. see Note 2 of Notes to FinancialStatements.

(b) Continuing returnsfor2003 are before the cumulative effect of a change in accountingprinciple. Return on equity on a net income basiswas 20.8°/.

in 2004, 19.9% in 2003, 20.3% in 2002, 35.3% in 2001 and 25.8% in 2000. Return on assets on a net income basis was 2.34% in 2004, 2.070. in 2003. 2.03% in 2002. 2.90% in 2001 and 2.15% in 2000. Return on assets, on a continuing operationsbasis. was calculatedexcluding both the resultsand assets of thefixed income tradingbusiness and Australia businesses even though thepriorperiodbalancesheet was not restatedfor discontinuedoperations.

(c) Ratiosfor theyears2000 and 2001 include the impact of the amortizationofgoodwill.

(d) Seepage 8for the definition offee revenue.

(e) Seepage 33for the definition of this ratio.

(f) Includes discontinuedoperations.

Note: Throughoat this repor all caculadtons are based on unrouindednnbers FTh denotes presentationon efully texable eqiavlent basis In additon to reclessflcionsreladto discontinuedoperations, other reclassificationshave been made to priorperiods to place them on a basiscomparable with currentperiodpresentation.

2 MELLON FINANCIAL CORPORATION

MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS Overview

• Because most of our businesses are fee-based, they offer stable, lower risk earnings and do Mellon Financial Corporation is a global financial not require as much capital as traditional services company that strives to meet or exceed the banking for growth.

expectations of our clients, which are corporations, institutions and high net worth individuals primarily We pursue our long-term financial goals by focusing in the United States and Europe. In this annual on organic revenue growth, expense management, report, Mellon Financial Corporation and its exceptional quality service, successful integration of subsidiaries are also referred to as "Mellon," "the acquisitions and disciplined capital management.

Corporation," "we" or "our."

Our specific objectives include:

Mellon's strategy is to build an attractive mix of fee-based businesses; to leverage technology and sales

• a revenue growth rate exceeding the growth across these businesses; to provide consistent low rate of U.S. financial assets over economic risk earnings; and to aggressively manage capital for cycles; high returns. The strategy is designed to deliver

• positive operating leverage over an economic sustainable high quality revenue and earnings per cycle; share growth as well as superior total returns for

• investment spending aligned with revenue shareholders. Our goal is to be the best performing trends; financial services company. Our long-term financial

• tangible common equity ratio of 4.25% to goals are to achieve long-term earnings per share 4.75%;

growth of 11% to 14% and returns on common

• disciplined acquisition criteria and execution; shareholders' equity in excess of 20%, on a and continuing operations basis.

• use of excess capital to support reinvestment, acquisitions, dividends and share repurchases We have chosen to be in certain core businesses - while maintaining appropriately strong capital institutional asset management, mutual funds, ratios.

private wealth management, asset servicing, human resources & investor solutions, and treasury services Our success in achieving our goals and objectives is

- that we believe are compatible with our strategy influenced by economic and market drivers. Three and goals. Our reasons follow. key drivers have impacted our domestic results in the past:

• Demand for our products and services is likely to be driven by many existing market and

• growth in financial assets as measured by the demographic trends (such as the increasing U.S. Federal Reserve; need of an aging work force for retirement

• growth in nominal U.S. Gross Domestic savings, greater wealth in the United States, Product (GDP); and pension reform in the United Kingdom and

• changes in the S&P 500 Index.

Continental Europe, corporate outsourcing of non-core functions, the use of technology to Since 1945, these measures grew at an average rate deliver high quality, efficient services, and an of 7% to 8%. From 1997 to 2000, they exceeded increasing emphasis on financially stable and these long-term averages, and Mellon enjoyed reliable service providers).

strong revenue growth (see table below). Since

• Many of our products complement one 2000, however, these measures have been below another. their long-term averages, directly impacting our

• We leverage sales, distribution and technology results. Similar drivers impact our businesses across our businesses for greater efficiency, outside the U.S.

which benefits our clients and Mellon.

MELLON FINANCIAL CORPORATION 3

RESULTS OF OPERATIONS Specifically, the growth rate of financial assets How we reportedresults impacts Mellon's asset management and asset servicing businesses and, less so, our human Mellon's financial results, as well as our levels of resources & investor solutions (HR&IS) business. assets under management, administration and custody, are impacted by the translation of financial Fee revenue in these businesses is determined, in results denominated in foreign currencies to the U.S.

part, on the level of financial assets under Dollar. Mellon is primarily impacted by activities management, custody or administration. (The denominated in the British Pound, and to a lesser growth rate of our financial assets includes extent the Canadian Dollar and the Euro. If the U.S.

appreciation or depreciation of existing assets and Dollar depreciates versus these currencies, the net flows of new assets.) translation impact is a higher level of net interest revenue, fee revenue, operating expense and assets Nominal GDP, particularly the component that managed, administered and under custody. If the measures corporate discretionary spending, impacts U.S. Dollar appreciates, the translated levels of net revenues in outsourcing-related activities in our interest revenue, fee revenue, operating expense and asset servicing and HR&IS businesses, as well as assets managed, administered and under custody consulting activities within HR&IS. This is because will be lower. Throughout this report the translation selling these services depends, in part, on our impact of foreign currencies will be referred to as corporate clients' discretionary spending. "the effect of foreign exchange rates."

Finally, although our asset management businesses Foreign currency exchange rates for one U.S. Dollar manage a wide range of equity assets, the S&P 500 2004 2003 2002 Index has so far been the most representative index Spot rate at Dec. 31:

British Pound 0.5183 0.5585 0.6214 for estimating the sensitivity of our domestic Canadian Dollar 1.2015 1.2903 1.5783 revenues to changes in equity market levels. Local Euro 0.7341 0.7931 0.9559 market indices, such as the Financial Times Stock Year average rate:

Exchange (FTSE), are representative indices for British Pound 0.5460 0.6122 0.6663 estimating the sensitivity to equity market Canadian Dollar 1.3014 1.4006 1.5699 Euro 0.8052 0.8852 1.0608 movements of our non-U.S. asset management revenues.

Certain amounts are presented on a fully taxable Growth rates (a) Long- 1997 - 2000 - 2003 - equivalent (FTE) basis. We believe that this tenn (b) 2000 2003 2004 presentation provides comparability of amounts Growth rate of arising from both taxable and tax-exempt sources financial assets 8% 9% -% 2% (c) and is consistent with industry practice. The Nominal GDP (d) 7% 6% 4% 7% adjustment to an FTE basis has no impact on net S&P 500 Index 7% 11% (6)% 9%

income.

Mellon core sector revenue growth (e) N/M 11% 2% 3% This 2004 Financial Annual Report provides a (a) Compoundedannualgrowth rates. detailed review of our results on a consolidated (b) Since 1945. basis, based on the line items of the Consolidated (c) PeriodendedSept. 30, 2004, annualized Income Statement, as well as by the performance of (d) Unroundedrates were 6.9%4 5.7% 3.9% and6.66%

(e) Forcomparabilitypurposes, excludes impact of the individual business sectors. All information is acquisitionsand divestitures andtheformation of the reported on a continuing operations basis, before the ABNAAMO Mellon globalcustodyjoint venture. Revenue cumulative effect of a change in accounting growth rates were 17% 8% and 4%for the periods principle recorded in the first quarter of 2003, unless presented calculatedin accordancewith generally accepted accountingprinciples. Core sector information is otherwise noted. For a discussion of the change in presented as an indicatorof organic trends. accounting principle, see Note 2 of Notes to NIM- Not meaningful. Financial Statements. For a description of discontinued operations, see Note 4 of Notes to 4 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS Financial Statements. Throughout this report, all

• Income totaling $683 million, or $1.59 per calculations are based on unrounded numbers. share, in 2003, compared with $670 million, or $1.53 per share, in 2002; and Summary of financial results

• Return on equity of 19.4% in 2003 compared with 20.0% in 2002.

2004 compared with 2003 Mellon completed several acquisitions in 2004. The Consolidated net income for 2004 totaled most significant were the following.

$796 million, or $1.88 per share, including a loss from discontinued operations of $4 million, or $.01 EvaluationAssociates CapitalMarkets per share. This compared with consolidated net income of $701 million, or $1.63 per share, in 2003, In August 2004, we acquired Evaluation Associates which included income from discontinued Capital Markets (EACM), a Norwalk, CT-based operations of $25 million or $.05 per share and a asset manager that serves clients worldwide.

charge for the cumulative effect of a change in EACM, which has been in business since 1984, has accounting principle of $7 million after-tax, or $.01 approximately $5 billion in assets under per share. This charge is discussed further in Note 2 management. In its fund-of-hedge-funds strategies of Notes to Financial Statements. with managed assets of approximately $3 billion, it invests in relative value, event-driven and Results from continuing operations for 2004, and directional strategies. In its manager of managers before the cumulative effect of a change in strategies, where it manages approximately accounting principle in 2003, were: $2 billion in assets, it selects and oversees diversified teams of long-only equity and fixed

• Income totaling $800 million, or $1.89 per income money managers. The results of EACM are share in 2004 compared with $683 million, or reported in the Institutional Asset Management

$1.59 per share, in 2003; and sector.

• Return on equity of 20.9% in 2004 compared with 19.4% in 2003. Remaining 70% ofParetoPartners In April 2004, Mellon increased its quarterly In September 2004, we acquired the 70% of Pareto common stock dividend by 13% to $.18 per common Partners that we did not previously own. We share. acquired Pareto's currency management business, which manages $40 billion in assets and Pareto's 2003 compared with 2002 fixed income asset management business, which manages $2 billion in assets, as well as the New Consolidated net income for 2003 totaled York-based core/core plus and high-yield fixed

$701 million, or $1.63 per share, including income income asset management business, with from discontinued operations of $25 million, or $.05 approximately $3 billion under management. In a per share, and a charge for the cumulative effect of a subsequent transaction that closed in October 2004, change in accounting principle of $7 million after- the New York-based core/core plus and high-yield tax, or $.01 per share. This compared with fixed income asset management business was sold to consolidated net income of $682 million, or $1.55 MacKay Shields LLC, a unit of New York Life per share, in 2002, which included income from Insurance. The results of Pareto, which had discontinued operations of $12 million or $.02 per previously been recorded using the equity method of share. accounting, are now reported on a fully consolidated basis in the Institutional Asset Management sector.

Results from continuing operations for 2003, before the cumulative effect of a change in accounting principle, and for 2002, were:

MELLON FINANCIAL CORPORATION 5

RESULTS OF OPERATIONS Supplemental Information - Reconciliationof

• a $50 million pre-tax charge recorded in the ReportedRevenue and Expense Amounts to Certain third quarter of 2003 primarily related to Non-GAAP Revenue andExpense Amounts streamlining the organizational structure of the HR&IS sector.

Throughout this Financial Annual Report, certain measures, which are noted, exclude: We believe these measures are usefuil to the investment community in analyzing the financial

• a $93 million pre-tax gain from the sale of results and trends of ongoing operations. We approximately 35% of Mellon's indirect believe they facilitate the comparisons with other investment in Shinsei Bank and a $19 million financial institutions and are among the bases on pre-tax charge associated with the writedown which our management monitors financial of small non-strategic businesses that Mellon performance. See the table below for a is in the process of exiting, recorded in the reconciliation of revenue and expense amounts first quarter of 2004; presented in accordance with Generally Accepted

• a $24 million pre-tax space consolidation Accounting Principles (GAAP) to adjusted non-charge recorded in the second quarter of 2004 GAAP revenue and expense amounts, which related to vacating 10 leased locations in exclude these items.

London and moving into Mellon's new European headquarters;

• a $17 million pre-tax occupancy expense reduction recorded in the fourth quarter of 2004 related to the reduction of a sublease loss reserve following the execution of a new lease on our headquarters building at One Mellon Center in Pittsburgh; and Supplemental Information 2004 2003 Reported Adjusted Reported Adjusted (in millions) amounts Adjustments amounts amounts Adjustments amounts Noninterest revenue:

Fee and other revenue $4,056 S(93) (a) $3,963 $3,607 S $3,607 Gain on sales of securities 8 _ 8 62 - 62 Total noninterest revenue 4,064 (93) 3,971 3,669 - 3,669 Net interest revenue 458 - 458 570 - 570 Provisionforcreditlosses (11) - (11) 7 - 7 Net interest revenue after provision for credit losses 469 - 469 563 - 563 Operating expense:

Staff expense 1,977 - 1,977 1,883 (29) 1,854 Net occupancy expense 284 (6) (1) 278 265 - 265 Equipment expense 209 - 209 226 (18) 208 Other expense 906 (20) (b)(c) 886 862 _ 859 Total operating expense $3,376 $(26) S3,350 $3,236 $(50) (d) $3,186 (a) Reflects the $93 million gainfrom the sale of approximately 35% of Mellon's indirect investment in Shinsei Bank.

(b) Reflects the $24 million charge related to vacating 10 leasedlocationsin London andmoving into our new European headquarters (S23 million in net occupancy expense and $1 million in otherexpense), partially offset by the $17million subleaseloss reserve reduction relatedto Mellon's leased headquartersbuilding in Pittsburgh (c) Reflects the $19 million charge in other expense associatedwith a writedown ofsmall non-strategicbusinesses that Mellon is in the process ofexiting.

(d) Reflects the $50 million chargeprimarily relatedto streamlining the organizationalstructure of the HR&IS sector.

Note: Reportedamounts include severance expense of$14 million in 2004 comparedwith $52 million in 2003. which includes the S29 million recordedin 2003 shown in the table above.

6 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS Discontinuedoperations - 2004, 2003 and2002 Because fee revenue comprises the majority of our total revenue, we discuss fee revenue in greater All information in this Financial Annual Report is detail by type in the following sections. There, we reported on a continuing operations basis, before the note the more specific drivers of such revenue and cumulative effect of a change in accounting the factors (including the impact of the economic principle recorded in the first quarter of 2003, unless and market drivers noted in the Overview) that otherwise noted. For a discussion of discontinued caused the various types of fee revenue to be higher operations, see Note 4 of Notes to Financial or lower in 2004 compared with 2003. The business Statements. sectors discussion beginning on page 20 combines, for each sector, all types of fee revenue generated Revenue overview directly by that sector as well as fee revenue transferred between sectors under revenue transfer The vast majority of Mellon's revenue consists of agreements, with net interest revenue generated fee revenue, given our mix of businesses. Net directly by or allocated to that sector. This interest revenue and gains on the sale of securities discussion of revenue by business sector is comprise the balance. The percentages of fee and fundamental to an understanding of Mellon's results net interest revenue noted below are calculated as it represents the principal manner in which excluding gains on the sales of securities to provide management reviews the performance of our comparability to years when no gains were recorded. businesses compared with performance in prior periods, with operating plans and with the Fee revenue. In 2004, as we continued to performance of our competitors.

emphasize our fee-based businesses, fee revenue comprised 90% of total fee and net interest revenue, on a fully taxable equivalent basis, compared with 86% in 2003.

Fee Revenue Group Sector Primary Types of Fee Revenue Asset Management Institutional Asset Management

• Investment management Mutual Funds Private Wealth Management Corporate & Institutional Asset Servicing a Institutional trust and custody Services

• Securities lending

• Foreign exchange trading Other (a)

Human Resources & Investor

• Consulting Solutions

• Outsourcing

• Shareholder services Treasury Services

• Cash management

• Financing-related Other Activity

• Financing-related (b)

• Equity investment

• Other (a) Includes expense reimbursementsfrom joint ventures.

(b) Includes returnsfrom corporate-ownedlife insurance, gains (losses) on lease residualsandfees generated from securitizedconsumer loanportfolios.

MELLON FINANCIAL CORPORATION 7

RESULTS OF OPERATIONS Net interest revenue has continued to decline both S&P 500 Index 2004 compared in absolute terms and as a percentage of total fee with 2003 and net interest revenue, representing 10% of that 2004 2003 2002 Percentage Year-end 1212 1112 880 9%

total, on a fully-taxable equivalent basis, in 2004 Daily average 1131 965 994 17%

compared with 14% in 2003. Net interest revenue is generated from loans to relationship customers in Fee revenue the Private Wealth Management and Treasury Services sectors and from investing deposits generated in our Treasury Services, Asset Servicing, Fee revenue totaled $4.056 billion in 2004, an Private Wealth Management and Human Resources increase of $449 million, or 12%, from

& Investor Solutions sectors. For more information, $3.607 billion in 2003. In the first quarter of 2004, we recorded a pre-tax gain of $93 million as equity see page 15.

investment revenue from the sale of approximately Gains on the sales of securities. Mellon 35% of our indirect non-venture capital investment recognized gains on the sales of securities available in Shinsei Bank. Excluding this gain, fee revenue for sale in 2004, 2003 and 2002. increased 10% compared with 2003. This increase primarily resulted from higher trust and investment fee revenue, equity investment revenue and foreign Noninterest revenue exchange trading revenue. The effect of foreign currency exchange rates accounted for Noninterest revenue (dollaramounts in millions, approximately $47 million of the increase in fee unless otherwise noted) 2004 2003 2002 revenue in 2004 compared with 2003 and is Trust and investment fee primarily reflected in trust and investment fee revenue: revenue. Also, the impact of acquisitions accounted Investment management $1,617 $1,413 $1,414 for approximately $40 million of the increase in Hurnan resources &

investor solutions 918 944 1,020 total fee revenue. Trust and investment fee revenue Institutional trust and custody 503 437 453 increased $251 million, or 9°/0, primarily because of Securities lending revenue 76 69 75 improved equity markets, higher institutional trust Total trust and investment and custody revenue, a $57 million increase in fee revenue 3,114 2,863 2,962 performance fees, the effect of foreign exchange Cash management revenue 308 309 273 rates and the impact of acquisitions, partially offset Foreign exchange trading revenue 185 147 146 Financing-related revenue 138 141 147 by a decrease in HRIS revenue. A more detailed Equity investment revenue 160 (6) (28) discussion of fee revenue, by type, follows.

Otherrevenue(a) 151 153 100 Total fee and other revenue $4,056 $3,607 $3,600 Investment managementfee revenue Gains on the sales of securities 8 62 59 Total noninterest revenue $4,064 S3,669 $3,659 Investment management fee revenue is dependent on the overall level and mix of assets under Fee revenue as a percentage of fee and net interest revenue management and the management fees, expressed in (FTE) 90% 86% 85% basis points (one-hundredth of one percent) charged for managing those assets. The overall level of Market value of assets under assets under management for a given period is management at year-end (in billions) S 707 S 657 $ 581 determined by:

Market value of assets under administration or custody at

• the beginning level of assets under year-end (in billions) $3,340 $2,835 $2,269 management; (a) Includes expense reimbursementsfromjoint ventures of

• the net flows of new assets during the period

$74 million, $71 million and $30million.

Note: Foranalticalpurposes,the term 'fee revenue, " as resulting from new business wins and existing utilizedthroughout thisFinancialAnnualReport, is defined as client enrichments reduced by withdrawals; totalnoninterestrevenue (including equity investment revenue) and less gains on the sales of securities.

8 MELLON FnNANCIAL CORPORATION

RESULTS OF OPERATIONS

• the impact of market price appreciation or from what might be estimated using that depreciation on all assets and the impact of measurement because:

any acquisitions or divestitures.

• Institutional Asset Management records The mix of assets under management is determined investment management revenue based on principally by client asset allocation decisions quarter-end levels of assets under among equities, fixed income and money market or management; other alternatives. The mix is further defined by

• Mutual Funds typically record investment whether those assets are to be managed actively to management revenue based on daily levels of generate absolute returns or passively to match an assets under management; and indexed return.

• Private Wealth Management records investment management revenue based on Equity assets under management and alternative prior months' levels of assets under investments typically generate the highest management.

management fees, followed by fixed income and money market investments. Actively managed The actual impact will also vary with changes in assets typically generate higher management fees asset mix, the timing of net flows, the relationship of than indexed or passively managed assets of the other benchmarks used versus the S&P 500 and same type because it is more expensive to actively FTSE indices and other factors.

manage assets, which is generally a factor of more research and transactions. Also, our investment Investment management fee revenue - by Business Sector managers often have the opportunity to earn (in millions) 2004 2003 2002 performance fees when the investment performance Institutional Asset Management of their products exceeds various benchmarks. Institutional clients !5 396 S 314 S 295 Performance fees 127 70 47 Mutual funds 173 129 121 Management fees are typically subject to fee Private clients 44 36 31 schedules based on the overall level of assets Total 5 740 $ 549 S 494 managed for a single client or by individual asset Mutual Funds class and style. This is most prevalent for Mutual funds 5 507 $ 524 S 583 Private clients 21 16 10 institutional assets, where amounts we manage for Institutional clients 14 13 11I individual clients are typically large. Total 5 542 $ 553 S 604 Private Wealth Management A key economic driver of growth in investment Private clients 5 299 $ 274 $ 276 management fee revenue in any given period is the Mutual funds s 12 2 Total 5 300 S 275 S 277 growth rate of financial assets as measured by the Human Resources & Investor U.S. Federal Reserve. This measure encompasses Solutions both net flows and market appreciation or Mutual funds (a) 5 35 $ 36 $ 39 depreciation. The S&P 500 Index is also an Total investment important driver of investment management fees, management fee revenue !51,617 $1,413 $1,414 particularly fees for equity assets under (a) Earnedfrom mutualfund investments in employee benefit plans administeredin this sector.

management. Mellon estimates that a sustained (one year) 100 point change in the S&P 500 Index, and Investment management fee revenue of an equivalent movement in the FTSE, when applied $1.617 billion increased $204 million, or 14%, in to our mix of assets under management, would result 2004 compared with 2003 as higher institutional in a change of approximately $40 million to

$50 million annually in investment management revenue, performance fees and mutual funds revenue in the Institutional Asset Management sector and fees, excluding performance fees. Note that there is higher revenue in the Private Wealth Management a corresponding change in incentive expense with a sector was partially offset by lower mutual fund change in investment management fees. For any management fees in the Mutual Fund sector.

given reporting period, the actual impact may vary Investment management fees in Institutional Asset MELLON FINANCLAL CORPORATION 9

RESULTS OF OPERATIONS Management totaled $740 million, an increase of Market value of assets under management at year-end

$191 million, or 35%, in 2004 compared with 2003, (dollar amounts in billions) 2004 2003 2002 primarily resulting from improved equity markets, a Institutional S443 $403 S326 Mutual funds 200 197 207

$57 million increase in performance fees, net Private clients 64 57 48 inflows and the effect of foreign exchange rates and Total market value of assets acquisitions. under management S707 $657 $581 As shown in the following table, assets under S&P 500 Index -year-end 1212 1112 880 management in the Institutional Asset Management S&P 500 Index - daily average 1131 965 994 sector increased $55 billion in 2004, including

$29 billion from market appreciation and $26 billion Composition of assets under management at year-end 2004 2003 2002 from net inflows, primarily from net new business.

Equity funds 39% 36% 31%

Money market funds 21 25 33 Changes In market value of assets under management for 2004 - by Fixed income funds 20 20 21 Business Sector Institutional Private Securities lending cash Asset Mutual Wealth collateral 12 10 7 fin billions) Management Funds Management Total Overlay and alternative Market value of investments 8 9 8 assets under Total 100% 1000/o 100 0/h management at Dec. 31, 2003 $445 3165 S47 S657 Net inflows The largest category of investment management fees (outflows): are fees from mutual funds, which generate fees in Long-term IS 1 - 16 Money market I1 (14) -( the four business sectors shown on page 9.

Total net Managed mutual fund fees totaled $716 million in inflows (outflows) 26 (13) - 13 Net market 2004, an increase of $26 million, or 4%, compared appreciation (a) 29 4 1 34 with 2003, primarily due to improved equity markets Acquisitions and net long-term inflows, which more than offset (divestitures), net - 1 2 3 the impact of lower average money market and fixed Market value of assets under income funds. Investment management fees from management at managed mutual funds are based on the daily Dec. 31, 2004 $500 (b) £157 S50 $707 average net assets of each fund and the basis point (a) Also includes the effect of changes inforeign exchangerates.

(b) Includes securities lendingassets advisedby InstitutionalAsset management fee paid by that fund. The average net Management of $87 billion. Revenue earnedon these assets is assets of proprietary mutual funds managed declined reportedas Securities lending revenue on the income statement $10 billion in 2004 compared with 2003, as shown andin the Asset Servicing sector.

in the table below. This resulted from outflows of At Dec. 31, 2004, the market value of Mellon's lower basis point fee generating institutional money assets under management was $707 billion, a market funds and fixed income funds partially offset

$50 billion, or 8%, increase from $657 billion at by an increase in higher basis point fee generating Dec. 31, 2003. The increase primarily resulted from average equity funds during the year, driven by the the improved year-end equity markets and net new higher daily average S&P 500 Index, and net business. Net market appreciation totaled inflows.

$34 billion, and net long-term inflows totaled Managed mutual fund fee revenue (a)

$16 billion in 2004. 2002 (in millions) 2004 2003 Equity funds S314 £234 £252 Moneymarketfinds 224 271 310 Fixed income funds 128 147 143 Nonproprietary 50 38 39 Total managed mutual finds $716 $690 $744 (a) Net ofmutual fundfees waived andfund expense reimbursements of $43 million in 2004, and$40 million in both 2003 and 2002.

10 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS Average assets of proprietary mutual funds reimbursements. Outsourcing and benefit plan (in billions) 2004 2003 2002 administration revenue and shareholder services Equityfunds $ 51 S 39 S 41 revenue were relatively unchanged in 2004 Moneymarketfunds 92 111 130 Fixed income funds 23 26 26 compared with 2003.

Total average proprietary mutual find assets managed 5166 $176 $197 Institutionaltrust and custody revenue Basis points generated on average proprietary mutual funds Institutional trust and custody fees depend on:

2004 2003 2002 Equity funds 62 bp 60 bp 61 bp

• the volume of transactions in our clients' Money market funds 24 24 24 accounts; Fixed income funds 55 56 55

• the types of ancillary services we provide, Total proprietary managed mutual funds 40 bp 37 bp 36 bp such as performance analytics; and

• the level of assets administered and under Human Resources & Investor Solutions (IR&IS)fee custody.

revenue Institutional trust and custody fees also include professional and license fees for software products HR&IS fee revenue is generated from consulting, offered by Eagle Investment Systems that are outsourcing and shareholder services.

dependent on discretionary spending decisions by investment managers. Institutional trust and custody

• Consulting fee revenue is somewhat fee revenue of $503 million in 2004 increased dependent on discretionary corporate

$66 million, or 15%, compared with 2003, primarily spending on the design and implementation of resulting from net new business, improved market retirement, health and welfare benefits, conditions and the effect of foreign exchange rates.

compensation programs and other project work. As shown in the following table, assets under

• Clients are generally billed on an hourly administration or custody totaled $3.340 trillion at basis at rates that vary based upon staff Dec. 31, 2004, an increase of $505 billion, or 18%,

level and experience. compared with $2.835 trillion at Dec. 31, 2003.

• Consultant utilization, a key revenue This increase resulted from market appreciation, net driver, is a function of work levels and new business conversions of approximately headcount. $190 billion and the effect of foreign exchange

• Outsourcing and benefit plan administration rates.

fees are influenced by number of employees serviced, plan participant counts, volume of Market value of assets under administration transactions processed, project work and the or custody at year-end market value of benefit plan assets under (dollaramounts in billions) 2004 2003 2002 administration. Market value of assets under

• Shareholder services consist of a diverse array administration or custody (a) $3,340 $2,835 $2,269 of products to corporations and shareholders S&P 500 Index-year-end 1212 1112 880 including stock transfer and recordkeeping (a) Includes the assets underadministrationor custody by services, investment plan services, CIBC Mellon Global Securities Services, ajointventure demutualizations, corporate actions and between Mellon andthe CanadianImperialBank of unclaimed property services. Commerce, of $512 billion at Dec. 31, 2004, $439 billion at Dec. 31, 2003 and$322 billion at Dec. 31, 2002. Also includes the assets ofABNAMRO Mellon Global HR&IS fee revenue totaled $918 million in 2004, a SecuritiesServices B. V., ajoint venture between Mellon decrease of $26 million, or 3%, from 2003 primarily andABNAMRO, of$422 billion atDec. 31, 2004, resulting from lower consulting revenue from $299 billion at Dec. 31, 2003 and$221 billion at Dec. 31, 2002.

retirement and health and welfare services, as well as a $5 million decrease in out-of-pocket expense MELLON FINANCIAL CORPORATION 11

RESULTS OF OPERATIONS Securities lending revenue Foreignexchange tradingrevenue Securities lending revenue depends on the: Foreign exchange trading revenues are directly influenced by the volume of client transactions and

• pool of assets under custody available for the spread realized on those transactions as more lending; fully described under Asset Servicing on page 28.

• borrowing demand for specific securities Foreign exchange trading revenue totaled within that pool by broker-dealers; $185 million in 2004, up $38 million, or 27%,

• spread earned on reinvestment of cash posted compared with 2003. This increase primarily by the borrower as collateral; and resulted from increased customer flows and higher

• percentage sharing of that earned spread with levels of market volatility in key exchange rates, as custody clients who own the securities. well as costs incurred in 2003 associated with hedging specific customer-driven option contracts Securities lending revenue totaled $76 million in during a period of market volatility.

2004 compared with $69 million in 2003. The increase was primarily due to higher volumes Financing-relatedrevenue partially offset by lower overall spreads. The average level of securities on loan totaled Financing-related revenue primarily includes:

$88 billion in 2004 compared with $65 billion in returns from corporate-owned life insurance; gains 2003. The fee split with clients was relatively stable or losses on securitizations; letters of credit and from 2003 to 2004. acceptance fees; loan commitment fees; and gains or losses on loan sales and lease residuals. Financing-Cash management revenue related revenue totaled $138 million in 2004, a

$3 million, or 2%, decrease compared with Cash management fee revenue primarily represents $141 million in 2003. This decrease primarily revenue from corporate and institutional customers resulted from lower loan commitment fees and for a wide range of cash management services as lower fee revenue from a referral arrangement with described under Treasury Services on page 30. This an asset-backed commercial paper entity, partially type of revenue is typically dependent on the offset by higher gains on lease residuals.

volume of items processed and the manner in which the customer chooses to pay for those services. Equity investment revenue Cash management fee revenue does not include revenue from customers providing compensating Equity investment revenue includes realized and deposit balances in lieu of paying fees for all or a unrealized gains and losses on venture capital and portion of services provided. The earnings on these non-venture capital investments. For a discussion of compensating deposit balances are reported as net our accounting policies relating to venture capital interest revenue. Cash management fee revenue of investments, see pages 55 and 56.

$308 million decreased $1 million compared with 2003 as the impact of lower processing volumes was Revenue from non-venture capital investments offset by the mid-July 2003 change in the manner in includes equity income from certain investments which the Department of the Treasury, a major cash accounted for under the equity method of management customer, pays for certain cash accounting and gains (losses) from other equity management and merchant card services. Cash investments. The following table shows the management revenue, which was previously components of equity investment revenue.

recorded as net interest revenue because it was paid by the Department of the Treasury via compensating balance earnings, totaled $21 million through mid-July 2003. Including the revenue earned from the Department of the Treasury, cash management revenue would have been $330 million in 2003.

12 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS Equity investment revenue - gain (loss) markets could result in further valuation changes in (in millions) 2004 2003 2002 the future.

Total venture capital activity (a) S 59 S (7) S(55)

Equity income and gains on the sale of other equity investments 101 1 27 Equity income and gains on the sale of other equity Total equity investment investments totaled $101 million in 2004 including revenue $160 S (6) S(28) the $93 million gain on the sale of a portion of (a) See table onpage 32forfurtherdetails. Mellon's indirect non-venture capital investment in Shinsei Bank. Mellon is a partner in two Gains from venture capital activity totaled partnerships that hold an indirect investment in

$59 million in 2004 compared with a $7 million loss Tokyo-based Shinsei Bank, Limited, which in 2003 and a $55 million loss in 2002. The conducted an initial public offering on Feb. 19,

$59 million gain in 2004 resulted fromn 2004. Approximately 35% of the common stock held by the two partnerships was disposed of during

• realized gains of $27 million and valuation the first quarter of 2004, resulting in a gain of adjustments of $3 million on private and $93 million for Mellon. Our remaining book value publicly held direct investments recorded of this investment, which is denominated in yen and across all industry sectors, primarily in the hedged by yen-denominated debt, is $53 million.

second half of 2004; and Equity income from certain other non-venture

• realized gains of $32 million from third party capital investments accounted for under the equity indirect fund distributions, in part from the method of accounting and gains from other equity growth and buyout sector, plus $5 million of investments totaled $8 million in 2004 compared valuation adjustments, partially offset by with a gain of $1 million in 2003.

$8 million of management fees.

Other revenue The $7 million loss in 2003 from venture capital activity primarily resulted from negative fair value Other revenue totaled $151 million in 2004, adjustments and management fees resulting in a loss compared with $153 million in 2003, and included of $10 million for third party indirect funds, $74 million and $71 million, respectively, of partially offset by net positive fair value adjustments expense reimbursements from joint ventures, for for private and publicly held direct investments of expenses incurred by Mellon on behalf of the joint

$3 million. The negative fair value adjustments of ventures.

the third party indirect funds were recorded across all industry sectors and were partially offset by Gains on sales ofsecurities realized gains recorded in the fourth quarter of 2003, primarily in the technology sector. The positive fair The $8 million of gains on the sales of securities in value adjustments in the private and publicly held 2004 primarily resulted from the sale of direct investments were across all industry sectors, $106 million of preferred stock received as partial partially offset by net realized losses from sales of consideration for the disposition of commercial companies in the technology sector. loans and commitments in late 2001. The

$62 million of gains on the sales of securities in For the activity of Mellon's venture capital 2003 resulted from the sale of mortgage-backed investments portfolio, see the table on page 32. For securities in the securities available for sale a description of the rating categories and for a portfolio which were at risk of prepayment due to further discussion of the factors used in the lower interest rates.

valuation process of venture capital investments, see pages 55 and 56 of this report. At Dec. 31,2004, approximately 52% of the direct investment portfolio was risk-rated as "superior" or "meets expectations," the two best risk-ratings, compared with approximately 60 0%at Dec. 31,2003.

Changing economic conditions and broader equity MELLON FINANCiAL CORPORATION 13

RESULTS OF OPERATIONS Supplemental information -joint ventures revenue. This reduction resulted primarily from the loss of revenues from former Unifi Network Mellon accounts for its interests in joint ventures customers who had indicated their decision to under the equity method of accounting, with its terminate business prior to the closing of the share of the equity income from all joint ventures acquisition in 2002.

recorded primarily as trust and investment fee revenue. Mellon's portions of gross joint venture Investment management fee revenue was essentially fee revenue and expense are not included in our unchanged compared with 2002 as the impact of a reported fee revenue and operating expense. The lower average S&P 500 Index was offset by higher following table presents the components of gross performance fees, net new business flows and the joint venture net income for informational purposes favorable effect of foreign exchange rates.

to show the trend of growth for our 5 00/oowned Institutional trust and custody fees were impacted by joint ventures that are part of the Asset Servicing a $26 million reduction from the Dec. 31, 2002 sector. formation of the ABN AMRO Mellon Global Securities Services B.V. global custody joint Gross joint ventures condensed income statement venture. The reduction more than offset increased (n millions) 2004 2003 2002 revenue from higher assets under administration and Asset Servicing joint ventures (a): custody due to new business conversions and market Trust and investment revenue $320 $280 $187 Foreign exchange trading appreciation. Cash management revenue increased revenue 42 30 18 $36 million, although $15 million of the increase Other revenue 61 50 22 represented a change in the method of payment by Total revenue 423 360 227 the Department of the Treasury. That change also Total expenses 328 294 185 increased other revenue by $23 million. Taking into Income before taxes 95 66 42 account the formation of the ABN AMRO Mellon Provision for income taxes 33 24 14 joint venture, the change due to the Department of Netincome(a) $ 62 $ 42 $ 28 the Treasury payment methodology and the effect of foreign exchange rates of $30 million, fee revenue Equity income -joint ventures:

was down approximately 1% in 2003 compared with Mellon's share of net income 2002.

for Asset Servicing joint venturesS 32 $ 22 S 14 Mellon's share of net income in joint ventures in other core business sectors $ 5 $ 8 S 4 Total equity income for all jointventures(b) $ 37 S 30 $ 18 (a) The 50o ownedjoint venures - ABNAMRO Mellon Global Securities Services B. V., CIBC Mellon Global Securities Services Company, CIBCMellon Trust Company and Russell/lMellon - arepart of the Asset Servicing sector.

(b) Using the equity method of accounting.

Fee revenue - 2003 comparedwith 2002 Fee revenue of $3.607 billion in 2003 increased

$7 million from $3.600 billion in 2002. This was principally due to an increase in other fee revenue resulting from a $41 million increase in expense reimbursements from joint ventures, an increase in cash management fee revenue resulting from the U.S. Treasury payment methodology change and improved equity investment revenue. These increases were offset by a reduction in HR&IS 14 MELLON FIN4ANCLAL CORPORATION

RESULTS OF OPERATIONS Net Interest revenue increase in interest rates and allows for tactical investment securities decisions.

Net interest revenue includes the interest spread on interest-earning assets, loan fees, and revenue or 2003 comparedwith 2002 expense on derivative instruments used for interest rate risk management purposes. The majority of Net interest revenue on a fully taxable equivalent Mellon's net interest revenue is earned from basis totaled $586 million in 2003, a decrease of investing deposits generated in our Treasury $37 million, or 6%, from $623 million in 2002, Services, Asset Servicing, Private Wealth while the net interest margin decreased by 15 basis Management and Human Resources & Investor points to 2.64%. The decrease in net interest Solutions sectors in high quality, short duration revenue primarily resulted from the change in the investment securities and money market manner in which the Department of the Treasury investments. The balance is earned principally from paid for certain cash management and merchant card loans to relationship customers in the Private services which totaled $38 million in 2003, and a Wealth Management and Treasury Services sectors. $16 million reduction due to the December 2002 Average interest-earning assets, as shown in the formation of the ABN AMRQ Mellon joint venture.

table on pages 16 and 17, were up slightly in 2004 Excluding the revenue earned from the Department compared with 2003, as lower levels of trading of the Treasury that was recorded as net interest account securities and loans were offset by higher revenue in the first half of 2003 and all of 2002, and levels of securities and money market instruments. the impact of the ABN AMRO Mellon joint venture, Net interest revenue on a fully taxable equivalent net interest revenue in 2003 would have been nearly basis totaled $474 million in 2004, down unchanged from 2002.

$112 million, or 19%, compared with $586 million in 2003. The net interest margin was 2.09% in 2004, down 55 basis points compared with 2.64% in 2003.

The decrease in net interest revenue in 2004 compared with the prior year was due in part to lower yields on investment securities and the lower level of loans. Also contributing to the decrease was the mid-July 2003 change in the manner in which the Department of the Treasury pays for certain cash management and merchant card services. Through mid-July 2003, such revenue was recorded as net interest revenue because it was paid via compensating balance earnings. Subsequently, this revenue was recorded as cash management fee revenue and other revenue. Excluding the revenue earned from the Department of the Treasury, net interest revenue would have been $542 million in 2003. For an analysis of the changes in volumes and rates affecting net interest revenue, see the following two pages.

For 2005, quarterly net interest revenue, on a fully taxable equivalent basis, is expected to be at the mid to upper end of a $115 million to $120 million range during the first half and rise gradually above this range in the second half of the year. This expectation assumes a gradual and measured MELLON FINANCL. CORPORATION 15

RESULTS OF OPERATIONS CONSOLIDATED BALANCE SHEET - AVERAGE BALANCES AND INTEREST YIELDS/RATES 2004 Average Average ylelds/

(dollar amounts in millions) balance Interest rates Assets Interest-earning assets:

Interest-bearing deposits with banks (primarily foreign banks) S 2,425 S 73 3.02%

Federal funds sold and securities under resale agreements 713 11 155 Other money market investments 153 3 1.93 Trading account securities 275 6 2.14 Securities:

U.S. Treasury and agency securities (a) 9,766 35S 3.66 Obligations of states and political subdivisions (a) 607 43 7.17 Other (a) 1,45S 72 4.94 Loans, net ofunearned discount 7,307 312 4.27 Funds allocated to discontinued operations - - -

Total interest-earning assets (b) 22,764 S878 3.87 Cash and due from banks 2,565 Premises and equipment 482 Other assets of discontinued operations Other assets 6,182 Reserve for loan losses (98)

Total assets (a) $34,035 Liabilities and Interest-bearing liabilities:

shareholders' Deposits in domestic offices:

equity Demand, money market and other savings accounts S 7,826 S 76 0.97%

Savings certificates 229 5 243 Other time deposits 325 5 1.53 Deposits in foreign offices 4.973 S7 1.75 Total interest-bearing deposits 13,353 173 1.30 Federal funds purchased and securities under repurchase agreements 1,266 13 1.03 U.S. Treasury tax and loan demand notes and term federal funds purchased 315 4 1.18 Commercial paper 17 - 1.04 Other funds borrowed 187 16 8.67 Notes and debentures (with original maturities over one year) 4,270 143 3.34 Junior subordinated debentures (c) 1,024 55 5.33 Trust-preferred securities (c)

Funds allocated from discontinued operations - -

Total interest-bearing liabilities 26,432 S404 1.9S Total noninterest-bearing deposits 6997 (e)

Other liabilities of discontinued operations Other liabilities (a) 2,753 Total liabilities 30,12 Shareholders' equity (a) 3,353 Total liabilities and shareholders' equity (a) 534,035 Rates Yield on total interest-earning assets 8878 3.87%

Cost of fimds supporting interest-earning assets 404 1.78 Net interest income/margin 09:

Taxable equivalent basis S474 2.09%

Without taxable equivalent increments 458 2.02 Fereiga and domestic Foreign interest-earning assets S 2,755 S IS 0.64%

components Domestic interest-earning assets 1.949 456 2.29 Consolidated interest-earning assets s22,7e4 8474 2.09%

(a) Amounts andyields exclude adjustmentsforfair value and the related deferred tax effect required by SFAS No. 115.

(b) Yields on interest-earning assets include the impact of interest earnedon balances maintained by the Department of the Treasury in returnfor services provided including the amounts shown in Note 19 of Notes to Financial Statements.

(c) Trust-preferred securities were deconsolidated at Dec. 31, 2003 as discussed in Note 15 of Notes to Financial Statements. Beginning in 2004, averages are relected asjunior subordinated debentures. The average rates were fmpacted by thefair market value ofthe underlying interest rate swaps.

(d) In the second quarter of2003, Mellon began to include hedge results with trust-preferred securities, which previously had been included with notes and debentures. The average ratepaidon trust-preferredsecurities, including the hedge results wouldhave been 5.08%, 5.50% and 6.88%for 2003- 2001, while the ratepaidon notes anddebentures. excluding the hedge rsts4 wouldhave been 3.16%, 3.77% and S.1%for 2003- 2001.

(e) Noninterest-bearing deposits include S6.919 billion M8.319 billion 58.674 billion and S7.217 billion of domestic deposits, and 578 million, 530 million, 529 million and 523 million offoreign deposits in 2004, 2003, 2002 and 2001.

(0 Calculated on a continuing operations basisfor the impact ofthe sale ofthefired income trading business and certain Australian businesses even though the priorperiod balance sheet is not restatedfor discontinued operations in accordance with generally accepted accountingprinciples.

Note: Interest and average yields/rates were calculated on a taxable equivalent basis, at tax rates approximating35%, using dollar amounts in thousands and actual number ofdays in the years, and are before the effect ofreserve requirements. Loanfees, as well as nonaccrual loans and their related income effect, have been included in the calculation of average yields/rates.

16 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS 2003 2002 2001 2000 Average Average Average Average Avenge yields/ Average yields/ Average yields/ Average yields/

balance Interest rates balance Interest rates balance Interest rates balance Interest rates S 2,247 S 59 2.65% S 1,870 S 62 3.33% S 2,493 S 96 3.85% 5 1,054 S 60 5.68%

658 8 1.20 462 8 1.80 1,179 46 3.90 964 62 6.42 151 3 1.83 116 3 2.22 166 8 4.82 86 5 5.81 722 13 1.87 744 8 1.11 436 16 3.67 310 19 6.01 9,772 419 4.29 7,715 387 5.02 8,002 488 6.10 6,273 411 6.55 537 37 6.86 400 28 6.87 265 18 6.79 149 9 6.27 789 80 10.12 1,814 120 6.63 1,032 78 7.56 87 7 8.36 7,704 331 4.30 9,445 448 4.74 9,843 655 6.65 10,693 834 7.80

- I - 184 4 2.01 - - - 2.304 128 5.56 22,580 $950 4.21 22,750 $1,068 4.70 23,416 $1,405 6.00 21,920 $1,535 7.00 2,264 2,857 2,773 2,680 693 721 615 448

- 206 12,683 16,408 8,357 7,135 6,070 5,730 (117) (140) (194) (270)

S33,777 S33,529 S45,363 $46,916 S 6,377 S 63 0.98% S 5,885 S 86 IA5% S 5,716 S 147 2.57% S 5,834 5 248 4.25%

237 5 2.32 244 7 3.00 212 8 3.77 210 10 4.76 351 5 1.47 770 15 1.95 924 39 4.22 1,099 61 5.55 4.179 58 1.38 3.408 63 1.85 3.,468 122 3.52 3.014 149 4.94 11,144 131 1.17 10,307 171 1.66 10,320 316 3.06 10,157 468 4.61 1,716 16 0.95 1,985 30 1.51 1,652 65 3.93 1,696 104 6.13 430 5 1.05 588 9 1.63 265 11 4.16 494 30 6.01 18 - 0.66 41 1 1.58 489 18 3.68 127 8 6.34 585 25 4.33 615 20 3.19 423 29 6.86 837 54 6.45 4,304 129 3.01 (d) 4,238 135 3.19 (a) 3,751 191 5.09 (d) 3,478 237 6.83 1,010 58 5.76 (d) 987 79 8.00 (a) 974 79 8.11 (a) 991 79 7.93

- - - - - 1 1595 114 7.15 - -

19,207 5364 1.90 18,761 S 445 2.37 19,469 S 823 4.23 17,780 S 980 5.51 8,349 (e) 8,703 (e) 7,240 (e) 6,312

- 206 12,683 16,408 2,764 2,611 2,310 2,400 30,320 30,281 41,702 42,900 3,457 3,248 3,661 4,016 S33,777 S33,529 $45,363 $46,916

$950 4.21% S1,068 4.70% $1,405 6.00/ $1,535 7.00%/

364 1.57 445 1.91 823 3.51 980 4.47

$586 2.64% S 623 2.79%/ S 582 2.49%/ S 555 2.53%

570 2.57 611 2.74 574 2.46 550 2.51 S 2,742 S 24 0.89% S 2,797 S 28 0.9/8 S 3,658 S 29 0.79%.

19,838 562 2.89 19,953 595 3.05 19,758 553 2.81 S22,580 $586 2.64% 522,750 S 623 2.79% S23,416 S 582 2.49%,

MELLON FINANCIAL CORPORATION 17

RESULTS OF OPERATIONS Operating expense headquarters, recorded primarily as occupancy expense in the table above; and Operating expense

• the fourth quarter 2004 $17 million occupancy (dollar amounts in millions) 2004 2003 2002 expense reduction related to the reduction of a Staff expense: sublease loss reserve following the execution Compensation S1,28S $1,309 $1,298 Incentive (a) 415 343 384 of a new lease on our Pittsburgh headquarters Employee benefits (b) 274 231 148 building at One Mellon Center through Total staff expense S1,977 $1,883 $1,830 November 2028. The execution of the new Professional, legal and other lease will reduce the cost associated with the purchased services 449 431 391 occupancy of the headquarters building in Net occupancy expense 284 265 245 future years.

Equipment expense 209 226 214 Business development 103 108 131 Communications expense 106 106 110 Expenses in 2003 included the third quarter 2003 Amortization of intangible assets 21 18 14 charge of $50 million primarily related to Other expense 227 199 166 streamlining the organizational structure of the Total operating HR&IS sector, recorded as severance expense expense $3,376 $3,236 $3,101 ($29 million), software and fixed asset writedowns

($18 million included in equipment expense in the Total staff expense as a percentage of total revenue table above) and other expense ($3 million). See (FIE) 43% 44% 42% page 6 for a reconciliation of reported revenue and Employees at year-end 19,400 20,600 22,000 expense amounts presented in accordance with (a) Effective Jan. 1, 2003, Mellon began recordingan expense GAAP to adjusted non-GAAP revenue and expense for the estimatedfairvalue of stock options using the amounts, which exclude these items.

prospective method under transitionalguidanceprovided in Statement ofFinancialAccounting Standards(SFAS)

No. 148, "Accountingfor Stock-Based Compensation- Excluding these charges, operating expense Transition andDisclosure." Stock option expense totaled increased 5%, due primarily to an increase in staff approximately $18 million in 2004 and $3 million in 2003. expense from higher incentive ($72 million) and See RecentAccountingPronouncementsandDevelopments on page 50for a discussion of expectedfrture stock option employee benefits expense ($43 million), partially expense resultingfrom the issuanceof SFAS No. 123 offset by lower severance expense ($9 million).

(revised2004) "Share-BasedPayment " Operating expense was also impacted by the effect (b) Includes pension expense of $12 million in 2004 compared of foreign exchange rates which accounted for with pension creditsof $28 million in 2003 and $97 million approximately $43 million of the increase in total in 2002.

operating expense, including approximately

$19 million in staff expense, as well as the impact of Summaiy acquisitions of approximately $25 million.

Operating expense totaled $3.376 billion, an Staff expense increase of $140 million, or 4%, compared with 2003. Expenses in 2004 included:

Given Mellon's mix of fee-based businesses and their dependence on high quality talent, staff

• a first quarter 2004 charge of $19 million, expense comprised approximately 59% of total included in other expense in the table above, operating expense in 2004. Staff expense is associated with the writedown of small non-comprised of:

strategic businesses that Mellon is in the process of exiting (These businesses are part of our Other Activity sector and are no longer

• compensation expense

• base salary expense, primarily driven by part of our Core Business sectors);

• a second quarter 2004 charge of $24 million headcount related to vacating 10 leased locations in

• the cost of temporaries and overtime London and moving into our new European

• severance expense; 18 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS

• incentive expense Non-staff expenses

• additional compensation earned under a wide range of sales commission plans and Non-staff expenses include certain expenses that incentive plans designed to reward a vary with the levels of business activity, combination of individual, line of productivity initiatives undertaken, changes in business and corporate performance business strategy and changes in the mix of versus goals business. These expenses include:

• stock option expense, beginning in 2003; and

• professional legal and other purchased

• employee benefits expense services;

• primarily health and welfare benefits,

• business development (travel, entertainment payroll taxes and retirement benefits. and advertising);

• communications expense Staff expense increased $94 million, or 5%, (telecommunications, postage and delivery);

primarily due to higher incentive and employee and benefit expense. Compensation expense decreased

• other expense (government assessments,

$21 million, or 2%, primarily resulting from lower forms and supplies, operational errors, etc.).

severance expense, which totaled $14 million in 2004 compared with $52 million in 2003. These expenses totaled $1,399 million in 2004, a Excluding the impact of severance expense, base $46 million, or 3%, increase from $1,353 million in salary expense (including temporaries and overtime) 2003, reflecting increased expense incurred in increased $17 million, or 1%, as the impact of support of business growth, as well as the impact of July 1, 2004 merit increases, higher temporaries foreign exchange rates and acquisitions.

expense and the effect of foreign exchange rates and acquisitions was primarily offset by a headcount 2003 comparedwith 2002 reduction of 1,200. At Dec. 31, 2004, we had completely utilized the $52 million severance Operating expense for 2003 totaled $3.236 billion, accrual recorded in 2003. The increase in incentive an increase of $135 million, or 4%, compared with expense in 2004 compared with 2003 reflects fee- $3. l01 billion in 2002. This increase was due to:

based business growth, including a higher level of significantly higher employee benefits expense, performance fees, and a $15 million increase in primarily due to a $69 million lower pension credit; stock option expense. Employee benefits expense higher expenses for purchased services, insurance, increased $43 million primarily due to $12 million rent and depreciation; as well as the $18 million of pension expense in 2004 compared with a charge for software and fixed asset writedowns in

$28 million pension credit in 2003. the HR&IS sector discussed above. The increase in total operating expenses was partially offset by Mellon currently expects that the net periodic pension lower advertising, travel and entertainment, and cost of $12 million pre-tax in 2004 will increase to forms and supplies expense.

approximately $36 million pre-tax for the year 2005, assuming current currency exchange rates. This Income taxes projection reflects a decrease in the discount rate to 6.00% from 6.25% and an unchanged assumed rate of The provision for income taxes from continuing increase for compensation of 3.25%, as well as an operations totaled $357 million in 2004, compared unchanged expected return on assets of 8.50 0/h. The with $313 million in 2003 and $327 million in 2002.

return on plan assets in 2004 for the funded plans was Mellon's effective tax rate on income from approximately 11.5%. Accounting for pensions is continuing operations for 2004 was 30.9%

considered to be a critical accounting policy and is compared with 31.4% in 2003 and 32.8% in 2002.

discussed on pages 57, 72,93, and 94. The effective tax rate in 2004 was lower than the federal statutory rate as a result of the favorable resolution of certain federal and state income tax issues. It is currently anticipated that the effective MELLON FINANCuL CORPORATION 19

RESULTS OF OPERATIONS tax rate will be approximately 34.5% in 2005. For sensitivity and maturity characteristics of additional information, see Note 21 of Notes to assets and liabilities. Under this funds Financial Statements. transfer pricing system, Corporate Treasury compensates deposit-generating business lines Business sectors and charges asset-generating business lines.

In addition, included in this system is a funds Mellon's business sectors reflect our management credit for allocated common equity and loan structure, the characteristics of our products and loss reserves. Net interest revenue as services, and the classes of customers to which those reflected in the financial results of the products and services are delivered. Our lines of business sectors represents the net spread business serve two distinct major classes of clients: earned on their assets, liabilities and capital.

• Corporations and institutions

• In order to maintain consistent management

• High net worth individuals reporting across the business sectors, internal rate schedules have been established for the Lines of business that offer similar or related provision of services by one Mellon area to products and services to common or similar client another. These policies serve as the principal decision makers have been aggregated into six core guideline for charging costs of services, business sectors. These sectors are divided into two whether the charges occur within the same overall reportable groups: legal entity or across legal entities.

Asset Management Group

• A charge related to corporate overhead is reflected in the results of the business sectors.

• Institutional Asset Management Corporate overhead is allocated to the

• Mutual Funds business sectors based primarily on allocated

• Private Wealth Management common equity but also using other measures where appropriate. Included as corporate Corporate & Institutional Services Group overhead are costs related to the executive offices, the holding company of Mellon

• Asset Servicing Financial Corporation, executive

• Human Resources & Investor Solutions compensation plans and corporate activities

• Treasury Services provided by our shared services departments.

In addition, Other Activity consists of all activities

• We allocate capital to the business sectors to not aggregated into the core business sectors. reflect management's assessment of credit risk, operating risk, market risk and strategic The results of our core business sectors are risk using internal risk models and, where presented and analyzed on an internal management appropriate, regulatory guidelines generally reporting basis. consistent with the proposed Basel accord.

The capital allocations may not be

• Fee revenue is generated directly by each representative of the capital levels that would sector, as well as transferred between sectors be required if these sectors were nonaffiliated under revenue transfer agreements. business units.

• Net interest revenue is generated directly by or is allocated to each sector. Mellon employs a funds transfer pricing system under which Corporate Treasury buys and sells funds internally across all business sectors using internal transfer rates that reflect the interest 20 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS

• The accounting policies of the business Following is a discussion of Mellon's six core sectors are the same as those described in business sectors and Other Activity. In the tables Note 1 of Notes to Financial Statements that follow, the income statement amounts are except: presented in millions and are on an FTE basis, and the assets under management, administration or

• other fee revenue, net interest revenue and custody are period-end market values and are income taxes differ from the amounts presented in billions. Where applicable and when shown in the Consolidated Income possible, revenue and expense growth rates are Statement because amounts presented in reported excluding the estimated impact of Business Sectors are on a fully taxable acquisitions, divestitures or the formation ofjoint equivalent basis (FIT); and ventures to improve period-to-period comparability.

The operations of acquired businesses are integrated

• credit quality expense (revenue) for the with the existing business sectors soon after most core sectors is presented on a net charge- acquisitions are completed. As a result of the off (recovery) basis. integration of staff support functions, management of customer relationships, operating processes and In the first quarter of 2004, Mellon revised the financial impact of funding the acquisitions, we prospectively our capital allocations to the core cannot accurately determine the impact of business sectors to better reflect the economic acquisitions on income before taxes and therefore do capital required for these businesses. The increase in not report it.

allocated capital was approximately $100 million.

Effective January 2004, we reclassified the results of the small non-strategic businesses that we are exiting to the Other Activity sector. We also revised prospectively expense allocations to the core business sectors to better reflect the business drivers of those expenses. The impact on any single sector was not material and in the aggregate was unchanged. In addition, Business Sector information is reported on a continuing operations basis for all periods presented. For a discussion of discontinued operations, see Note 4 of Notes to Financial Statements.

MILEON FINANCIAL CORPORATION 21

RESULTS OF OPERATIONS Business Business Products and Services Clients Groups Sectors Asset Institutional

• Mellon Institutional Asset Management (MIAM), Predominately institutional Management Asset consists of a number of asset management companies investors (corporations, Management offering a broad range of equity, fixed income, hedge financial institutions, and liquidity management products featuring a wide public plan sponsors, spectrum of investment styles and asset classes, ranging foundations/endowments, from active growth equity strategies to emerging insurance companies, and markets to fixed income and asset allocation solutions. Taft Hartley plans) reached Most of these strategies are available on a separate through direct sales, account and pooled fund basis. consultant relationships and

• Mellon Global Investments (MGI), distributor of sub-advisory relationships, investment management products internationally. although funds are also sold to individuals via intermediaries through MG1.

Mutual

• All products and services associated with the Products are sold through Funds Dreyfus/Founders complex of mutual funds. intermediaries (brokers,

• Products manufactured and distributed in this sector financial institutions and include mutual funds (e.g., equity, fixed income and insurance companies) and money market), separately managed accounts and directly to individuals.

annuities.

Private

• Investment management, wealth management and High net worth individuals, Wealth comprehensive banking services. families, family offices, Management

• Operates from more than 60 locations in 15 states. charitable gift programs, endowments, foundations, professionals and entrepreneurs.

Corporate & Asset

• Institutional trust and custody and related services such Corporate and public Institutional Servicing as securities lending, investment management retirement funds, Services backoffice outsourcing, performance measurement, foundations and benefits disbursements, transition management, fund endowments and global administration, Web-based investment management financial institutions software and foreign exchange and derivative products. including banks,

• As a global service provider, we distribute these broker/dealers, investment products through the franchise's sales organization managers, insurance along with Mellon's joint venture partners - CIBC companies and mutual Mellon, ABN AMRO Mellon and Russell/Mellon. funds.

• Mellon European Funds Services is U.K-based and provides transfer agency and fund accounting services.

• Eagle Investment Systems provides Internet-based investment manager software solutions.

Human

• Consulting, outsourcing and administrative services to Corporate and institutional Resources & design, build and operate end-to-end solutions in clients for retirement plans, Investor human resources and shareholder services that leverage employee benefits, Solutions scalable operations and technology. compensation and

• Shareholder services consist of a diverse array of employee plan products to shareholders and corporations including administration and stock transfer and recordkeeping services, investment shareholder services.

plan services, demutualizations, corporate actions and unclaimed property services.

Treasury

• Global cash management, credit products for large Large corporations, banks, Services corporations, insurance premium financing, commercial brokers, insurance real estate lending, corporate finance, securities companies and government underwriting and trading and the activities of Mellon I" agencies.

Business Bank. National Association, in California.

_

Other All activities not aggregated in our core business sectors. For Activity further information, see discussion beginning on page 31.

22 MELLON FILANCIAL CORPORATION

RESULTS OF OPERAllONS Busluess sectors Institutional Private Total Asset Wealth Asset (dollaramounts in millions, averages in Manaeement Mutual Funds Manasement Manamnettt billions;presented on anME basis) 2004 2003 2002 2004 2003 2002 2004 2003 2002 2004 2003 2002 Revenue:

Trust and investment fee revenue s$c0 $595 s 536 s483 S493 $549 $313 S294 $305 S1,596 $1,382 $1,390 Otber fee revenue 19 17 12 (2) - (6) 12 14 15 29 31 21 Net interestrevenue (expense) (iS) (17) (28) (5) (4) 7 212 223 209 192 202 188 Total revenue 804 595 520 476 489 550 537 531 529 1,817 1,615 1,599 Credit quality expense - - - - - - I I - 1 1 -

Operating expense 572 471 442 309 320 338 316 293 278 1,197 1,084 1,058 hIcome from contnuing operations before taxes andcumulativeeffectofaccountingchange 232 124 78 167 169 212 220 237 251 619 530 541 Incometaxes 79 44 30 57 60 85 75 84 89 211 188 204 Income from continuing operations before cunmlative effect ofaccounting change 153 80 48 110 109 127 145 153 162 408 342 337 Cumulative effect of accounting change (a) - - - - - - - - - - - -

Income fromcontinuigoperations 153 80 48 110 109 127 145 153 162 408 342 337 Income from discontinued operations after-tax (a) - - - - - - - - - - -

Net income 5153 S 80 S 48 S110 $109 $127 $145 S153 $162 $ 408 S 342 S 337 Average loans - S - S - S - S - S - S 34 $2.9 $2.7 $3.4$2.9$2.7 Average ssets(b) S14 11.3 S1.2 s$06 s0.7 $0.7 s6.2 s5.5 S5.0 $ a2 S 7.5 S 6.9 Average deposits S - $ - S - S - $ - S - S 5.3 $4.6 s4.4 S5.3 S4.6 S4.4 Averagecomonequty s0.6 $0.5 S 0.2 s0.2 S0.2 $0.4 S0.5 $0.4 s0.2 S 1.3 S 1.1 S 0.8 Average Tier I prefhred equity 5 0.3 S 0.3 S - S 0.1 S0.1 $ - 0.2 $0.2 $ - S 0.6 $ 0.6 S -

Returnoncommon equsty(c) 27% 18% 23% 51% 47% 31% 30% 36% 77% 32% 31% 41%

P-taxOperatingnurgin(c) 29% 21% 15% 35% 35% 38%/ 41% 45% 48% 34% 33% 34%

Percentage of core sectorrevenue 19% 14% 12% 11% 12% 13% 12% 13% 13% 42% 39% 38°K Percentageofcoresectorincowebefore taxes 21% 13% 6% 15% 17% 19°. 20% 24% 22% 56% 54% 47Y.

Business sectors Total Corporate Asset Human Resources & Treasury & Institutional (dollar amounts in millions. averages in Servicine Investor Solutions Services Services billions;presented on an FTE basis) 2004 2003 2002 2004 2003 2002 2004 2003 2002 2004 2003 2002 Revenue:

Trustandinvestmentfeerevenue $552 $493 s507 $949 S 980 $1,058 S 9 $ 9 S 8 51,510 $1,482 $1,573 Otherfeerevenue 220 192 162 4 (1) 3 365 367 345 589 558 510 Net interest revenue (expense) 69 82 95 19 3 (25) 302 399 440 390 484 510 Total revenue 841 767 764 972 982 1,036 676 775 793 2,489 2,524 2,593 Credit quality expense - - - - - - - 6 6 - 6 6 Operating expense 662 612 572 916 1,019 983 425 430 429 2,03 2,061 1,984 Income (loss) from continuing operations before taxes (benefits) and cunmlative effect of accounting change 179 155 192 56 (37) 53 251 339 358 486 457 603 Incometaxes(benefits) 62 55 67 19 (16) 17 86 120 127 167 159 211 Income (loss) from continuing operations before cumulativeeffectofaccountingcbange 117 100 125 37 (21) 36 165 219 231 319 298 392 Cumalative effect of accounting change (a) - - - - - - - - -

lncome(loss)fromcontinuingoperations 117 100 125 37 (21) 36 165 219 231 319 298 392 Income from discontinued operations after-tax (a) - - _ - - - - - - - -

Net income(oss) $117 $100 $125 S 37 S (21) S 36 $165 $ 219 S 231 S 319 S 298 S 392 Average loans $ .1 S - S - 5 - S -S - S 2.9 $ 3.5 S 5.3 s3.0 S 3.5 S 5.3 Average assets(b) s 7.2 s5.8 S4.7 S1.5 S 1.8 S 1.4 S9.4 $10.9 $11.2 S 18. S 18.5 S 17.3 Average deposits SS S 4.2 S 3.4 S *.8 S0.4 S 0.1 S 7.9 S 9.3 S 9.8 $ 14.5 S 13.9 S 13.3 Average cmon equity S 0.6 $ 0.6 S 0.5 5 .4 S 0.4 S 0.3 $ 0.9 $ 1.1 S 1.0 s 1.9 S 2.1 $ 1.

Average Tier l prefenred equity $0.1 S 0.1 S - S 0.2 S0.2 S - $ 0.1 S 0.1 $ 0.2 S 04 S0.4 S 0.2 Returnon conmnoequity(c) 20% 18% 26% 10% (5)/ 13% 17% 20% 23% 16% 14% 22%

Pre- xoperatingtargnm(c) 21% 20% 25% 6% (4r% 5% 37% 44% 45% 20% 18% 23%

Percentage ofcore ectorrevenue 19% 18% 18% 23% 24% 25% 16% 19% 19% 58% 61% 62Y%

Percentage ofcore sector income before taxes 16% 16% 17% 5% (4)% 5% 23% 34% 31% 44% 46% 53%

(a) The cumulative effect ofaccounting change in 2003 andIncome iom discontinued operations in the years 2004, 2003 and 2002 have not been allocated to any of Mellon 's reportablesectors.

(b) W7here average deposits are greaterthan average loans, average assets include an allocation ofinvesrtne securitiesequal b the dtferece.

(c) On a continuingoperationsbasis.

Note: Priorperiodrsector datareflects immaterialreclassificationras a resultoftminor changesmade to be consistent with currentperiodpresentation.

MELLON FINANCIAL CORPORATION 23

RESULTS OF OPERATIONS Business sectors Total Core Consolidated (dollar amounts an millions. averages in Sectors Other Activity Results billions:presented on an FIE basis) 2004 2003 2002 2004 2003 2002 2004 2003 2002 Revenue:

Trast and investment fee revenue $3,106 S2,864 S2,963 s a S (I) S (l) S3,114 S2,863 S2,962 Otherfeerevenue (a) 618 589 531 374 260 208 992 849 739 Net interest revenue (expense) (b) 52 686 698 (108) (100) (75) 474 586 623 Total revenue 4,306 4,139 4,192 274 159 132 4,580 4,298 4,324 Credit quality expense (revenue) 1 7 6 (12) - 166 (11) 7 172 Operating expense 3,200 3,145 3,042 176 91 59 3,376 3,236 3,101 Income (kow) from continuing operations before taxes (benefits) and cumulative effect of accounting change 1,105 987 1,l44 110 68 (93) 1,215 1,055 1,051 Incometaxes (benefits) (c) 373 347 415 37 25 (34) 415 372 381 Income (loss) from continuing operations before cumulative effect of accoumting change 727 640 729 73 43 (59) S00 683 670 Cumulative effect of accounting change (d) - - - - (7) - - (7) -

Income (oss) from continuing operations 727 640 729 73 36 (59) 300 676 670 Income foss) from discontinued operations after-tax (dJ - - - - - (4) 25 12 Netincomef(oss) s 727 s 640 s 729 S 73 s36 S(59) $ 796 $ 701 S 682 Averageloans s 6.4 S 6.4 s 8.0 s0.9 S 1.3 s 1.4 s 7.3 S7.7 S 9.4 Average asseta(e) S 26.3 s 26.0 s 24.2 S 7.6 S7.4 S8.6 S 34.0 s 33.9 S 33.7 Average deposits s 19.3 $ 18.5 S 17.7 s 0.6 s 1.0 s 1.3 s 20.4 s 19.5 S 19.0 Averagecommonequity s 3.2 $ 3.2 s 2.6 s 0.6 S0.3 S0.8 5 3.8 s 3.5 S 3.4 Average Tier I preferred equity $ 1.3 $ 1.0 s 0.2 s - S - s 0. s L1.0 1.0 .5 1.0 Return on common equity (6 23% 20% 28% N/M N/M N/M 21% 19%/ 20%

Pre-tax operating margin (t) 26% 24% 27% N/M N/M N/M 27% 25% 24%

(a) Consolidatedresults include FIE impact of 542 million in 2004, 543 million in 2003 and 542 million in 2002.

(b) Consolidatedresults include FTE impact of 516 million in 2004, 516 million in 2003 and 512 million in 2002.

(c) Consolidatedresults include FTE impact of S58 million in 2004, S59 million in 2003 and $54 million in 2002.

(d) The cumulative effect of accounting change in 2003 and incomefrom discontinuedoperations in the years 2004, 2003 and 2002 have not been allocated to any of Mellon's reportablesectors.

(e) Where average deposits are greaterthan average loans, average assets include an allocation of investment securities equal to the difference. Consolidated averageassets include average assets of discontinued operationsof 5.l billionfor 2004, 5.5 billionfor 2003 and 5.9 billionfor 2002.

aI On a continuing operations basis.

Note: Priorperiods sector data reflects immaterialreclassifications as a result of minor changes made to be consistent with currentperiodjpresentation.

NIM- Not meaningful.

24 MELLON FINANCIAL CORPORATION

RESULTS OF OPERAllONS Asset Management Group managed assets typically generate higher management fees than indexed or passively Asset Management Group managed assets of the same type. In addition, Selected data 2004 2003 2002 performance fees may be generated by the Percentage of core sector performance of the managed funds exceeding peer revenue 42% 39% 38%

Percentage of core sector or equity market benchmarks. Expenses in this income before taxes 56% 54%/. 47P/ sector are mainly driven by staffing costs and Return on equity 32% 31% 41% incentives. Incentives are directly associated with Pre-tax operating margin 34% 33% 34%/. the performance of the individual asset management Assets under management, companies and new business generation. As (in billions) S707 $657 S581 discussed in Note 4 of Notes to Financial Statements, the results of certain Australian InstitutionalAsset Management businesses that provide comprehensive multi-manager defined contribution services and (income statementdollar consulting and administration services, have been amounts in millions, asset dollar amounts in billions) 2004 2003 2002 removed from this sector and accounted for as Institutional clients S523 $384 $342 discontinued operations. Prior periods have been Mutual finds 173 129 121 reclassified.

Private clients 44 36 31 Total investment management Revenue for this sector increased $209 million, or revenue S740 $549 $494 Institutional trust and custody 35%, compared with 2003, largely as a result of a revenue 9 10 4 $191 million increase in investment management Transfer revenue (a) 51 36 38 fees. The increase in investment management fee Total trust and investment revenue mainly resulted from improved equity fee revenue $800 $595 $536 markets, a $57 million increase in performance fees, Other fee revenue 19 17 12 Net interest revenue (expense) (15) (lI (28) net inflows, as shown on the table on page 10 and Total revenue 804 595 520 the effect of foreign exchange rates and acquisitions.

Operating expense 5f72 A442 471 Assets under management for this sector, before Income before taxes $232 $124 S 78 amounts subadvised for other sectors, were Return on common equity 27% 18% 23% $500 billion at Dec. 31, 2004, a 12% increase Pre-taxoperatingmargin 29% 21% 15% compared with $445 billion at Dec. 31,2003, Assets under management (b) $500 $445 $358 reflecting improvement in the equity markets and Plus: subadvised for other net inflows of $26 billion primarily from net new Mellon sectors 26 21 IS business. Operating expense increased 21%

$526 $466 S373 compared with 2003, primarily as a result of higher Assets under administration incentive expense and the effect of foreign exchange orcustody $8 $ 10 S 6 rates. Reflecting the effect of positive operating (a) Consists largely ofsub-advisory and distributionfees leverage, income before taxes increased creditedto the InstitutionalAsset Management sector by $108 million, or 86%, in 2004 over 2003.

the Mutual Funds sector.

(b) Includes $87 billion, $66 billionand $45 billion of securities lending assets advised by InstitutionalAsset 2003 comparedwith 2002 Management. Howeverfees earnedon these assets are shown as securitieslendingfees in the Asset Servicing Revenue for this sector increased $75 million, or sector. 15%, compared with 2002, primarily resulting from an increase in investment management fees, which The results of the Institutional Asset Management included a $23 million increase in performance fees sector are mainly driven by the period-end levels of and the effect of foreign exchange rates. The assets managed as well as the mix of those assets, as increase in investment management fee revenue shown in the table on page 10. Managed equity largely resulted from market appreciation in assets assets typically generate higher percentage fees than managed and net long-term inflows. Assets under money market and bond assets. Also, actively management for this sector, before amounts MELLON FINANCIAL CORPORATION 25

RESULTS OF OPERATIONS subadvised for other sectors, were $445 billion at Revenue for this sector decreased $ 13 million, or Dec. 31,2003, a 24% increase compared with 3% compared with 2003 as a result of lower average

$358 billion at Dec. 31,2002. This reflected levels of institutional money market funds, partially improvement in the equity markets and net long- offset by an increase in revenue from separately term inflows of $21 billion primarily from net new managed accounts and the improved equity markets.

business. Operating expense increased 7% As shown on the table on page 11, the average level compared with 2002, primarily resulting from higher of proprietary money market funds managed in 2004 incentive expense and the effect of foreign exchange was $19 billion lower than the average level in rates. Reflecting the effect of positive operating 2003. Assets under management for this sector, leverage, income before taxes increased 59% in before amounts subadvised by other sectors, were 2003 over 2002. $157 billion at Dec. 31, 2004, down $8 billion, or 4%, from $165 billion at Dec.31, 2003. Operating Mutual Funds expense decreased 3% compared with 2003 as a result of lower base staff, purchased services and (income statement dollar occupancy expenses. Income before taxes decreased amounts in millions, asset $2 million, or 1%, in 2004 compared with 2003.

dollaramounts in billions) 2004 2003 2002 Mutual fund revenue S507 S524 S583 2003 comparedwith 2002 Private clients 21 16 10 Institutional clients 14 _13 11 Total investment management Revenue for this sector decreased $61 million, or revenue S542 S553 $604 11 %, compared with 2002 as a result of lower Institutional trust and custody average levels of institutional money market funds, revenue (4) (a) 4 partially offset by an increase in revenue from Transfer revenue (b) (59) (56) (59)

Total trust and investment separately managed accounts. The decrease in fee revenue S483 $493 S549 investment management fee revenue mainly resulted Other fee revenue (2) (6) from net outflows of institutional money market Net interest revenue (expense) (5L) (4) 7 funds, as well as lower equity fund management Total revenue 476 489 550 fees. (The average level of equity funds managed in Operating expense 309 320 Income before taxes S167 S169 S212 2003 was $2 billion lower than the average level in Return on common equity 51% 47% 31% 2002). Assets under management for this sector, Pre-tax operating margin 35% 35% 38% before amounts subadvised by other sectors, were

$165 billion at Dec. 31, 2003, down $16 billion, or Assets under management S157 $165 $181 Less: subadvised by other 9%, from $181 billion at Dec. 31,2002. Operating Mellon sectors _J24) 22) (17) expense decreased 6% compared with 2002, S133 $143 S164 primarily due to lower staff, incentive and (a) Administrationfeespaidto thirdparries in excess of advertising expenses. Income before taxes amounts collected. decreased $43 million, or 20%, in 2003 compared (b) Consistsofsub-advisory and distributionfees creditedto with 2002.

other sectors.

The results of the Mutual Fund sector are driven by average asset levels and the mix of assets managed.

Generally, actively managed equity funds generate higher fees than fixed-income funds, index funds and money market funds. In addition, results are impacted by sales of fee-based products such as fixed and variable annuities and separately managed accounts. Expenses are impacted by incentive expense for sales of long-term funds and fee-based products, incentive expense related to asset levels of money market funds and the cost of advertising and marketing new and existing products.

26 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS Private WStealth Management reflecting equity market appreciation. The decrease in net interest revenue resulted, in part, from (income statement dollar narrower spreads earned on deposits. Operating amounts in millions, asset expense increased 7% mainly resulting from higher dollar amounts in billions) 2004 2003 2002 staff and incentive expense driven by increases in Investment management new business production and acquisitions. Income revenue - private clients S299 S274 $276 Investment management before taxes decreased $17 million, or 7%,

revenue - mutual fund revenue I I I compared with 2003.

Institutional trust and custody revenue 9 9 11 2003 comparedwith 2002 Transfer revenue 4 10 17 Total trust and investment fee revenue S313 $294 $305 Revenue in this sector increased I% compared with Other fee revenue 12 14 15 2002, reflecting higher net interest revenue, as a Net interest revenue 212 223 209 result of increased loan and deposit levels, partially Total revenue 537 531 529 offset by lower trust and investment management Credit quality expense I I -

Operating expense 316 293 278 fee revenue. Investment management revenue was Income before taxes S220 $237 S251 lower mainly because of a decline in the average Return on common equity 30% 36% 77% market level experienced over the course of 2003 Pre-tax operating margin 41% 45% 48% compared with the prior year, and due to the decline in fees from separately managed accounts. The Total client assets at beginning ofyear S 75 S 66 $ 74 market appreciation that occurred in the latter half Assets under management net of 2003, and the resulting increase in the level of inflows (outflows) - (I) I managed assets, did not have a full year impact on Assets under administration fees. Client assets were $75 billion at Dec. 31, or custody net inflows - 3 1 2003, an increase of 14% from Dec. 31, 2002, Acquisitions 2 1 1 Transfers (2) 1 1 reflecting equity market appreciation and net Market appreciation inflows of assets under administration or custody.

(depreciation) 3 5 (12) Operating expense increased 6% mainly resulting Total client assets at end of from higher staff and incentive expense and higher year(a) S 78 $ 75 S 66 occupancy expense as a result of the build-out of (a) Includes assets under management, before amounts subadvisedfor othersectors, of$50 billion, $47 billion and wealth offices. Income before taxes decreased

$42 billion. $14 million, or 6%, compared with 2002.

The results of the Private Wealth Management Corporate & Institutional Services Group sector are driven by the level of assets managed and custodied as well as the mix of those assets and the Corporate & Institutional Services Group level of activity in client accounts. Net interest Selected data 2004 2003 2002 revenue is determined by the level and spread of Percentage of core sector revenue 58% 61% 62%

loans and deposits. Expenses of this sector are Percentage of core sector driven mainly by staff expense in the investment income before taxes 44% 46% 53%

management, sales, service and support groups. Return on equity 16% 14% 22%

Pre-tax operating margin 20% 18% 23%

Assets under administration Revenue in this sector increased 1% compared with or custody (in billions) $3,306 $2,802 S2,245 2003, reflecting higher trust and investment management fee revenue, partially offset by lower net interest revenue. Investment management revenue was higher due to the improved equity markets, acquisitions and new business, partially offset by a decline in separately managed account fees. Client assets were $78 billion at Dec. 31, 2004, an increase of 4% from Dec. 31,2003, MELLON FINANCIAL CORPORATION 27

RESULTS OF OPERATIONS Asset Servicing market values of global assets and related transaction volumes.

(income statement dollar amounts in millions, asset Revenue in this sector increased 10% compared dollar amounts in billions) 2004 2003 2002 with 2003, mainly as a result of higher institutional Institutional trust and custody trust and custody revenue, reflecting net new revenue S 478 $ 422 S 434 Securities lending revenue (a) 76 69 75 business, improved markets and the effect of foreign Transfer revenue (2) 2 (2) exchange rates. Higher foreign exchange trading Total trust and investment and securities lending revenue also contributed to fee revenue S 552 S 493 S 507 the increase. These increases more than offset Other fee revenue (b) 220 192 162 Net interest revenue 69 82 95 lower net interest revenue due, in part, to narrower Total revenue 841 767 764 spreads. Operating expense increased 8%,

Operating expense 662 612 572 reflecting higher staff expense and expenses in Income before taxes S 179 S 155 S 192 support of new business growth and development Return on common equity 20% 18% 26% around new products and enhancements to existing Pre-tax operating margin 21% 20% 25%

products, as well as the effect of foreign exchange Assets under administration or rates. Income before taxes increased $24 million, or custody $3,199 $2,688 $2,129 15%, compared with 2003. Assets under (a) Securities lending assets are includedin assets under administration or custody for this sector were management in the InstitutionalAsset Management sector. $3.199 trillion at Dec. 31, 2004, an increase of Fees on those assets are recordedabove as securities $511 billion, or 19%, compared with Dec. 31, 2003, lending revenue.

(b) Primarilyconsists offoreign exchange trading revenue of resulting from market appreciation, net new

$183 million, S148 million and $144 million, respectively. business conversions of approximately $190 billion and the effect of foreign exchange rates.

The results of the Asset Servicing Sector are driven by a number of factors which include the level of 2003 comparedwith 2002 transaction activity and extent of services provided including custody, accounting, administration, daily The results for this sector in 2003 compared with valuations, performance measurement, securities 2002 were impacted by the December 2002 lending, foreign exchange trading and investment formation of the ABN AMRO Mellon global manager backoffice outsourcing, as well as the custody joint venture which is accounted for under market value of assets under administration and the equity method of accounting. Excluding the custody. Market interest rates impact both securities impact of equity accounting for the joint venture, lending revenue and the earnings on client cash revenue increased 7%, mainly resulting from higher balances. Foreign exchange trading revenues are institutional trust and custody fee revenue, reflecting directly influenced by the volume of client net new business, improved markets and the effect transactions and the spread realized on such of foreign exchange rates, as well as higher expense transactions, and indirectly influenced by other reimbursements from joint ventures, higher foreign factors including market volatility in major exchange trading revenue and higher net interest currencies, the level of cross-border assets held in revenue. This more than offset lower revenue from custody for clients, and the level and nature of Eagle Investment Systems and lower securities underlying cross-border investment and other lending revenue. Operating expense, excluding the transactions undertaken by corporate and impact of the newly formed joint venture, increased institutional clients. Eagle Investment Systems fee 15%, mainly in support of new business growth and revenue is dependent on investment manager development around enhancements to new products discretionary spending for license and development and existing products and higher severance expense, fees and professional services. Sector expenses are as well as the effect of foreign exchange rates.

principally driven by staffing levels and technology Income before taxes decreased 19% compared with investments necessary to process transaction 2002. Assets under administration or custody for volumes. Fees paid to subcustodians are driven by this sector were $2.688 trillion at Dec. 31, 2003, an increase of $559 billion, or 26%, compared with 28 MELLON FINANCIAL CORPORA'ION

-

RESULTS OF OPERATIONS Dec. 31, 2002, resulting from market appreciation, Shareholder services revenues include earnings net new business and the effect of foreign exchange related to customer balances maintained in an rates. agency capacity. Client balances held in an agency capacity and not reflected on Mellon's balance sheet Human Resources & Investor Solutions totaled $445 million at Dec. 31, 2004. Earnings on these balances are classified as trust and investment (income statement dollar fees. Earnings on client deposit balances reflected amounts in millions, asset on our balance sheet are classified as net interest dollaramounts in billions) 2004 2003 2002 revenue.

Human resources & investor solutions revenue S916 S 944 S1,020 Investment management - Sector expenses are driven by staff, equipment and mutual funds (a) 35 36 39 space required to support the services provided by Transfer revenue _(2) - (I the sector. In 2003, a charge of $47 million was Total trust and investment recorded for severance ($29 million), software and fee revenue S949 S 980 $1,058 Other fee revenue 4 (1) 3 fixed asset write-downs ($15 million) and other Net interest revenue (expense) 19 3 (25) expenses ($3 million) resulting from initiatives to Total revenue 972 982 1,036 streamline the organizational structure of the Operating expense 916 1.019 983 HR&IS sector. An additional $3 million was Income (loss) before taxes S 56 S (37) S 53 recorded in the Other Activity sector.

Return on common equity 10% (5)% 13%

Pre-tax operating margin 6% (4)% 5%

Income before taxes for this sector compared with Assets under administration 2003 increased $93 million, including the orcustody $107 S 114 S 116 $47 million streamlining charge recorded in 2003.

(a) Earnedfrom mutualfund investments in employee benefit Excluding this charge, income before taxes plans administeredin this sector. increased $46 million, as a 6% reduction in expense more than offset a 1% decrease in revenue. The The Human Resources & Investor Solutions lower revenue was primarily the result of lower (HR&IS) sector is organized around consolidated consulting revenue from retirement and health and lines of business and the Mellon brand for welfare services, as well as a $5 million decrease in retirement, employee benefits, human resources out-of-pocket expense reimbursements.

outsourcing and investor solutions. Outsourcing and benefit plan administration revenue and shareholder services revenue were relatively HR&IS consulting fee revenue is somewhat unchanged in 2004 compared with 2003. Net dependent on discretionary corporate spending on interest revenue increased due to higher deposit the design and implementation of retirement, health levels. The 6% decrease in operating expense and welfare benefits, compensation programs and reflects the positive impact of the expense reduction other project work. Clients are generally billed on an initiatives.

hourly basis at rates that vary based upon staff level and experience. 2003 comparedwith 2002 Outsourcing and benefit plan administration fees are Revenue for this sector compared with 2002 influenced by: decreased 5%, reflecting the loss of revenues from former Unifi Network customers who had indicated

• number of employees serviced; their decision to terminate business prior to the

• plan participant counts; closing of the acquisition in 2002 and lower

• volume of transactions processed; volumes due to fewer benefit plan participants and

• project work; and transactions. This was partially offset by higher net

• market value of benefit plan assets under interest revenue. Operating expenses for 2003 administration. increased $36 million, or 4%, compared with 2002, resulting from the $47 million charge discussed above. Excluding these expenses, operating expense MELLON FINANCIAL CORPORATION 29

RESULTS OF OPERATIONS decreased $ 1I million, or 1%, reflecting the positive The results are further impacted by the risk profile impact of the expense reduction initiatives. The that Mellon will accept and, in the case of Mellon I" 9 percentage point decrease in the pre-tax operating Business Bank, its ability to gather significant levels margin in 2003 compared with 2002 was largely a of deposits.

result of the lower revenue from Unifi and the

$47 million charge recorded in 2003. This sector Securities underwriting results are driven by the reported a loss before taxes in 2003 of $37 million, a general volatility of the bond and fixed income

$90 million decrease compared with income of markets and Mellon's ability to generate new

$53 million in 2002. underwritings.

Treasury Services In accordance with our management accounting reporting practices, credit quality expense for the (dollar amounts in millions) 2004 2003 2002 core sectors reflects net credit losses, not the Fee revenue: provision for credit losses. When a determination is Cash management revenue S301 S303 S266 made that a lending arrangement does not meet our Other fee revenue 64 64 79 relationship strategy criteria, it is moved to Other Institutional trust and custody revenue (a) 2 1 1 Activity and managed under an exit strategy. Any Transfer revenue (a) 7 8 7 subsequent credit quality expense (revenue) is Total fee revenue S374 $376 $353 reported in Other Activity and not in Treasury Net interest revenue 302 399 440 Services.

Total revenue 676 775 793 Credit quality expense - 6 6 Operating expense 425 430 429 Revenue for this sector decreased $99 million, or Income before taxes S251 S339 S358 13%, in 2004 compared with 2003, primarily Return on common equity 17% 20% 23% reflecting lower net interest revenue from the Pre-tax operating margin 37% 44% 45% continued reduction of loans and lower levels of (a) Included in trust and investment fee revenue. deposits. Operating expense decreased $5 million, or 1%, and credit quality expense decreased The results of the Treasury Services sector's global $6 million in 2004. Income before taxes decreased cash management results are driven by transaction $88 million, or 26%, compared with 2003.

activity including:

2003 compared with 2002

• automated clearinghouse, wire transfer and telecash; Revenue for this sector decreased $18 million, or

• remittance processing services, primarily 2%, in 2003 compared with 2002, due to lower net wholesale/custom and retail lockbox; and interest revenue as a result of the reduction in large

• ancillary processing services for check corporate loans, partially offset by higher cash clearing, imaging and storage activities. management fee revenue, reflecting higher volumes of electronic services. Operating expense was The other significant driver is net interest revenue relatively unchanged, resulting in a $19 million, or earned from the deposit balances generated by 5%, decrease in income before taxes compared with activity across the business operations. 2002.

The results of the Treasury Services sector's lending lines of business - large corporate, AFCO, real estate finance, and Mellon 1't Business Bank - are driven by:

• the level of commitments and fees applicable to these commitments; and

• the level of outstanding loans and the spreads on these loans.

30 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS OtherActivity Average common equity represents capital in excess of that required for the core business sectors, as well Other Activity - income (loss) from continuing operations as capital required for the investments of Mellon before taxes (benefits) Ventures and business exits.

(in millions) 2004 2003 2002 Business exits activity S 28 S 53 S(72)

Venture capital activity 18 (49) (93)

In accordance with our management accounting Corporate activity/other 64 64 72 reporting practices, credit quality expense (revenue)

Total - Other Activity S110 S 68 S(93) in Other Activity represents our provision for credit losses in excess of net charge-offs recorded in the Other Activity includes business exits activity; the core business sectors. Credit quality expense results of Mellon Ventures, our venture capital (revenue) for the core business sectors is presented group; and business activities or utilities, including on a net charge-off (recovery) basis and totaled Corporate Treasury, that are not separate lines of SI million in 2004. Our credit strategy is to exit all business or have not been fully allocated for credit relationships for which a broad fee-based management reporting purposes to the core business relationship resulting from the cross-sale of our fee-sectors. Business exits consist of the results of large based services does not exist. The loans and leases ticket leasing, which is in a runoff mode; several transferred to business exits include:

small non-strategic businesses; the merchant card business; and certain lending relationships that are

• Mellon's large ticket lease portfolio, which part of Mellon's business exits strategy. was principally transaction-based;

• selected types of other transaction-based loans Revenue in the Other Activity sector primarily (leveraged loans and project financings); and reflects:

• loans to companies where a broad fee-based relationship does not exist.

• net interest revenue of business exits activity;

• earnings on capital above that required for the We will not renew these credit relationships when core business sectors; the respective contractual commitment periods end.

• gains (losses) from the sale of securities and We may consider selling remaining commitments on other assets; and a case-by-case basis as opportunities arise.

• gains (losses) and funding costs of Mellon Ventures' portfolio. The Other Activity sector recorded pre-tax income of $ 10 million in 2004, compared with pre-tax Operating expense includes: income of $68 million in 2003 and a pre-tax loss of

$93 million in 2002.

• various direct expenses for items not Other activity in 2004 included:

attributable to the operations of a business sector,

• a net credit for the net corporate level

• the $93 million gain from the sale of a portion (income) expense amounts allocated from of Mellon's indirect non-venture capital investment in Shinsei Bank, Other Activity to the core business sectors; and

• the $19 million charge for the writedown of

• the expenses of Mellon Ventures. small non-strategic businesses we are in the process of exiting; Assets in Other Activity include assets of the

• the $24 million charge for the London space activities discussed below that Mellon intends to consolidation; exit, the investments of Mellon Ventures and assets

• the $17 million occupancy expense reduction of certain areas not identified with the core business resulting from the reversal of a sublease loss sectors. This sector also includes assets and reserve following the execution of a new lease liabilities recorded in Corporate Treasury and not on the Pittsburgh corporate headquarters; allocated to a particular line of business.

MELLON FINANCIAL CORPORATION 31

RESULTS OF OPERATIONS

• $59 million of net gains from venture capital Venture capital Investment portfolio - gain (loss) activities; (in millions) 2004 2003 2002 Private and publicly held

• $8 million of gains from the sale of securities; direct investments and Realized gains/(losses) S 27 $ - S 2

• a $12 million negative provision for credit Unrealized gainsl(losses) 3 3 (57) losses. Total 30 3 (55)

Third party indirect funds Realized gains/(losses) 32 2 10 2003 comparedwith 2002 Unrealized gainsl(losses) 5 (5) (4)

Management fees (8) (7) (6)

The Other Activity sector recorded pre-tax income Total 29 (10) of $68 million in 2003, compared with a pre-tax loss Total venture capital equity of $93 million in 2002. Other activity in 2003 investment revenue - gain (loss) S 59 S (7) S (55) included $62 million of gains from the sale of Venture capital investment portfolio - activity mortgage-backed securities. Other Activity also Life to included losses from venture capital investments of (in millions) 2004 2003 date

$7 million. Other Activity in 2002 included:

$166 million of credit quality expense; losses of Direct investments:

Carrying value at end of

$55 million from venture capital investments; and period (a) S378 $415 $378

$59 million of gains from the sale of mortgage- Cost at end of period 425 500 425 backed securities.

Cash disbursements 48 46 965 Cash receipts 117 14 335 Venture capitalinvestments Unfunded commitments 4 - -

We regard the accounting policies related to venture Indirect investments:

capital investments to be critical to the presentation Carrying value at end of of Mellon's financial condition. These policies period 208 202 208 require us to make numerous complex and Cost at end of period 229 228 229 subjective estimates and valuation assumptions Cash disbursements 57 52 485 relating to amounts which are inherently uncertain. Cash receipts 81 38 258 These policies are discussed on pages 55 and 56.

Unfunded commitments 118 175 -

Our venture capital investments include direct Total active investments:

investments in both publicly traded and privately Carrying value at end of held companies and indirect investments in private period (b) S586 equity funds in which we hold a limited partnership Cost at end of period 654 (a) Al Dec. 31. 2004, there were 66 actively managed investments interest. As shown in the following table, our total with an averageoriginal cost basis of$6 million. Direct venture capital portfolio had a carrying value of investments include $36 million of venture capitaldirect

$586 million at Dec. 31, 2004, or 90% of the mezanine investments in theform ofsubordinateddebt.

original cost basis of active investments. The (b) In 2004 Maellon confirmed that Mellon Ventures will not make new,direct investments except in supportof the existing

$586 million was comprised of $13 million of portfolio. Mellon Ventures will continue to providefollow-on investments in public companies, $365 million of investments with the objective of maximizing the return on the investments in privately owned companies and existing portfolio. Commitments are discussed in Note 26 of Notes to FinancialStatements.

$208 million of investments in private equity funds.

32 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS Capital Capital data at year-end (dollar amounts in millions except per share amounts; Mellon is committed to maintaining its capital ratios common shares in thousands) 2004 2003 2002 above the regulatory definition of "well capitalized." Total shareholders' equity S 4,102 S 3,702 S 3,395 In addition, we strive to maintain a minimum Total shareholders' equity to tangible shareholders' equity to assets ratio (as assets ratio 11.05% 10.89% 9.37%

defined below) in a range of 4.25% to 4.75%.

Mellon considers internally generated tangible Tangible shareholders' equity S 1,636 S 1,408 S 1,216 Tangible shareholders' equity capital to be available for the following: to assets ratio (a) 4.72% 4.44% 3.57%

Adjusted tangible shareholders'

• to support business growth; equity (b) S 2,196 S 1,913 $ 1,681

• acquisitions; Adjusted tangible shareholders' equity to assets ratio (c) 6.24% 5.94% 4.87%

• dividends to shareholders; and

• share repurchases. Tier I capital ratio (d) 10.54% 8.55% 7.87%

Total (Tier I plus Tier 11)

Mellon expects the majority of its internal capital capital ratio (d) 16.47% 13.46% 12.48%

Leverage capital ratio (d) 7.87% 7.92% 6.55%

generation, net of dividends, to be available for acquisitions or, to the extent such acquisitions are Book value per common share S 9.69 S 8.67 S 7.88 not pending, for the repurchase of common stock, all Tangible book value per subject to maintaining its commitment to remain common share S 3.86 S 3.30 S 2.82 well capitalized, as discussed under "Regulatory Adjusted tangible book value per common share S 5.19 S 4.48 S 3.90 capital" below.

Closing common stock price Our capital ratios increased at Dec. 31, 2004 pershare S 31.11 S 32.11 S 26.11 compared with Dec. 31, 2003, reflecting the impact Market capitalization S13,171 513,712 $11,248 of earnings retention which more than offset the Common shares outstanding 423,354 427,032 430,782 (a) Shareholders' equity less goodwill andintangibles divided impact of a larger balance sheet. by total assets less goodwill and intangibleassets.

(b) Shareholders' equityplus minority interest less goodwill The improvement in our risk-based capital ratios and intangiblesplus the expected tax benefits relatedto tax resulted from a lower level of risk-adjusted assets deductible goodwvill andintangible assets, which totaled and earnings retention, partially offset by a higher $550 million, $492 million and$448 million, respectively.

Minority interest totaled$10 million, $13 million and level of goodwill and other intangibles. The $17 million, respectively.

increase in goodwill and other intangibles resulted (c) Shareholders' equityplus minority interest less goodwill from acquisitions and the effect of foreign exchange and intangible assets divided by total assets less goodwill rates. For a list of acquisitions that impacted and intangibleassets. The amount ofgoodwill and intangibleassets subtractedfromshareholders' equity and goodwill, see Note 10 of Notes to Financial total assets is net of expected tax benefits.

Statements. The lower level of risk-adjusted assets (d) Includes discontinuedoperations.

resulted in part from a reduction in the impact of the guarantee provided to the ABN AMRO Mellon In October 2002, Mellon's Board of Directors custody joint venture for principal based securities authorized a share repurchase program of up to lending activity. At Dec. 31, 2004, that guarantee 25 million shares of common stock. During 2004, decreased our Tier I and Total capital ratios by 8.4 million common shares were repurchased by approximately 25 basis points and 40 basis points, Mellon under this publicly announced program. At respectively, compared with approximately Dec. 31, 2004, an additional 9.5 million common 135 basis points and 215 basis points, respectively, shares were available for repurchase under this at Dec. 31, 2003. program, which does not have an expiration date.

Share reissuances, primarily for employee benefit plan purposes, totaled 4.9 million common shares in 2004.

MELLON FINANCIAL CORPORATION 33

RESULTS OF OPERATIONS Share repurchases during 2004 Total shares In May 2004, the Board of Governors of the Federal repurchased Reserve System (the Board) issued a Notice of Average as part of Total price a publicly Proposed Rulemaking that would apply quantitative (common shares shares per announced limits to the amount of trust-preferred securities in thousands) repurchased share (a) plan included in Tier I capital. The Board is proposing First quarter 2004 4,650 532.63 4,550 that trust-preferred securities, aggregated with other Second quarter 2004 1,578 29.48 1,500 restricted core capital elements, not exceed 25% of Third quarter 2004 1,349 28.34 1,300 Fourth quarter 2004: core capital elements, net of goodwill. For October 2004 101 27.50 100 internationally active bank holding companies, the November 2004 900 29.69 900 Board is further restricting the inclusion of trust-December 2004 preferred securities to 15% of core capital elements,

-

Fourth quarter 2004 1,001 = $29.47 = 1,000 net of goodwill. The Board proposal also indicated Total 2004 8,578 (b) S31.01 8,350 that trust-preferred securities in excess ofpreviously (a) Amounts include commissions paid, which were not mentioned limits can be included in Tier II capital, significant. Totalpurchaseprice in thefourth quarterof 2004 was $29 million. subject to additional limitations. These quantitative (b) Includes 228 thousandshares, at apurchasepriceof limits would become effective after a three-year

$7 million, purchasedfrom employees in connection with transition period. Mellon currently has $993 million the employees 'payment of taxes upon the vesting of of trust-preferred securities that are included in restrictedstock.

Tier I capital. For a description of the statutory business trusts that hold Mellon's trust-preferred Regulatory capital securities, see Note 15 of Notes to Financial Statements. WVe are currently reviewing the impact Mellon and its banking subsidiaries are subject to of this proposal and intend to maintain our capital various regulatory capital requirements administered ratios above the well-capitalized guidelines.

by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain In June 2004, the BASEL Committee on Banking mandatory-and possibly additional discretionary-Supervision released its revised capital framework actions by regulators that, if undertaken, could have (BASEL II). BASEL II is more reflective of the a direct material effect on Mellon's financial results.

underlying risks in banking and provides incentives Under capital adequacy guidelines and the for improved risk management. BASEL II aligns regulatory framework for prompt corrective action, capital requirements more closely to the risk of Mellon and its banking subsidiaries must meet credit loss and introduces a proposed new capital specific capital guidelines that involve quantitative charge for operational risk exposure. U.S.

measures of Mellon's and its banking subsidiaries' regulatory agencies are expected to issue a Notice of assets, liabilities and certain off-balance-sheet items, Proposed Rule Making, related to BASEL II, by as calculated under regulatory accounting practices.

mid-2005 and publish final rules by the second The capital amounts and classification also are quarter of 2006. The new rules are expected to subject to qualitative judgments by the regulators become effective in January 2007, subject to about components, risk weightings and other factors.

transitional arrangements, and become fully effective in January 2008. The U.S. regulatory For a banking institution to qualify as "well agencies expect that BASEL II will apply to only a capitalized," its Tier I, Total (Tier I plus Tier II) and small number of large internationally active U.S.

Leverage Capital ratios must be at least 6%, 10%

banking organizations. Mellon is not required to and 5%, respectively. All of Mellon's banking adopt the new framework, but has formed a working subsidiaries qualified as well capitalized at Dec. 31, group that is analyzing its potential impact on our 2004 and 2003. Mellon intends to maintain the risk-based capital.

ratios of its banking subsidiaries above the well-capitalized levels. By maintaining ratios above the regulatory well-capitalized guidelines, Mellon's banking subsidiaries receive the benefit of lower FDIC deposit insurance assessments.

34 MELLON FINANCIAL CORPORATION

RESULTS OF OPERATIONS Risk-based and leverage capital ratios at year-end (a) Risk-based and leverage capital ratios for largest banking (dollar amounts in millions) 2004 2003 subsidiaries at year-end (a)

Tier I capital: Mellon Mellon Trust of Common shareholders' equity (b) S 4,123 S 3,695 (dollaramounts Bank. N.A. New Encland Trust-preferred securities 993 993 in millions) 2004 2003 2004 2003 Minority interest 10 13 Amount:

Goodwill and certain other intangibles (2,461) (2,274) Tier I capital S 2,049 S 2,026 S 380 S 349 Other (47) (57) Total qualifying Total Tier I capital 2,618 2,370 capital 2,801 2,668 384 352 Tier 11 capital 1,474 1,362 Risk-adjusted Total qualifying capital S 4,092 S 3,732 assets 18,819 21,134 2,140 1,885 Risk-adjusted assets: Average assets-On-balance-sheet $16,773 S16,088 leverage capital Off-balance-sheet 8,072 11,637 basis 24,228 19,767 6,103 5,488 Ratios:

Total risk-adjusted assets $24,845 $27,725 Tier I capital Average assets - leverage capital basis S33,271 $29,911 ratio (b) 10.89% 9.59% 17.74% 18.50%

Tier I capital ratio (c) 10.54% 8.55% Total capital Total capital ratio (c) 16.47 13.46 ratio (b) 14.88 12.62 17.96 18.67 Leverage capital ratio (c)(d) 7.87 7.92 Leverage capital (a) Includes discontinuedoperations. ratio (b) 8.46 10.25 6.22 6.35 (b) In accordancewith regulatoryguidelines, the $21 million (a) Includes discontinuedoperations.

of net unrealizedlosses at Dec. 31, 2004. and S7 million of (b) As defined by the Office ofthe Comptroller of the net unrealizedgains at Dec. 31, 2003, net of tax, on assets Currency. The requiredminimum Tier I, Total and classifiedas availableforsale, and cash flow hedges have Leverage capital ratiosare41%, 8% and 3%, respectively.

been excluded. For a banking institution to qualifyas well capitalized, its (c) Mfinimum Tier 1, Total and Leverage capitalratios are4%A Tier! TotalandLeverage capital ratiosmust be at least 8% and 3%?as defined by the FederalReserve Board. 6%. 10% and 5%. respectively.

(d) Tier I capitalto average total assets (as definedfor regulatorypurposes), net of the loan loss reserve, goodwill and certainother intangibles.

MELLON FINANCIAL CORPORAT[ON 35

-

CORPORATE RISK MANAGEMENT Risk overview credit and foreign and other guarantees, commercial letters of credit, custodian securities lent with The understanding, identification and mitigation of indemnification against broker default of return of risk are essential elements for the successful securities, and liquidity support provided to Three management of Mellon. The primary risk exposures Rivers Funding Corp. (TRFC).

are:

The objective of the credit risk management process Type of risk Description is to reduce the risk of loss if a customer fails to Credit Default risk on the balance sheet for perform according to the terms of a transaction. Our loans, commitments, corporate and management maintains a comprehensive centralized bank owned life insurance, process through which Mellon establishes receivables and other assets where accountability and exposure limits, extends new realization of the value of the asset is loans, monitors credit quality, actively manages dependent upon a counterparty's problem credits and disposes of nonperforming ability to perform. assets.

Operational Risk of loss resulting from inadequate or failed internal We manage both on- and off-balance-sheet credit processes, people and systems or risk by maintaining and adhering to written credit from external non-credit or market policies, which specify general underwriting criteria events. as well as underwriting standards for specific Market Risk of potential valuation changes industries and control credit exposure by borrower, in foreign exchange and other counterparty, degree of risk, industry, country and derivative positions and in fixed aggregate portfolio management. These measures income instruments, as well as are adopted by Mellon's Risk Management venture capital and other equity Department in conjunction with our lending units investments. Includes interest rate and are regularly updated to reflect the evaluation of risk. developments in economic, political and operating Liquidity The possibility that Mellon will be environments that could affect lending risks. We unable to fund present and future may adjust credit exposure to individual industries financial obligations. or customers through loan sales, syndications, Strategic Risk arising from adverse business participations, credit default swaps and the use of decisions or the improper master netting agreements. In addition, credit risk to implementation of such decisions. the large corporate market is being managed by Reputation Risk arising from negative public generally lending only to investment grade or opinion resulting from failures of equivalent customers that have existing relationships process, failures of strategy and with our non-credit fee-based businesses.

failures of corporate governance.

Most credit extensions are approved independently We control and monitor these risks with policies, by senior credit officers of Mellon's Risk procedures, training and various levels of Management Department and officers of our lending managerial oversight. Because of the nature of our departments. Smaller loans are underwritten business, external factors beyond our control may, at according to pre-approved credit standards.

times, result in losses to Mellon or our customers. Required approvals are determined by the dollar amount and risk characteristics of the credit Credit risk extension. Collateral obtained, if any, for the credit facilities provided is based on industry practice as Credit risk exists in financial instruments both on well as the credit assessment of the customer. The and off the balance sheet. Financial instruments type and amount of collateral vary, but generally such as loans and leases are on the balance sheet. includes marketable securities; inventory; property, Off-balance-sheet credit exposures include plant and equipment; other assets; and/or income-commitments to extend credit, standby letters of producing commercial properties with appraised 36 MELION FINANCIAL CORPORATION

CORPORATE RISK MANAGEMENT values that exceed the contractual amount of the detected, credit recovery or other specialists become credit facilities by pre-approved ratios. involved to minimize exposure to potential future credit losses. The Credit Review division of Mellon continually assesses the risk of its credit Mellon's Audit and Risk Review Department facilities, and assigns a numerical risk rating to provides an independent assessment of credit substantially all commercial extensions of credit, ratings, credit quality and the credit management excluding insurance premium finance loans. Our process. Mellon's Board of Directors is kept lending officers have the primary responsibility for informed of credit activity through a series of monitoring their portfolios, identifying emerging periodic reports.

problem loans and recommending changes in risk ratings. To anticipate or detect problems, lending For a further discussion of the credit risk associated units and credit management use processes designed with off-balance-sheet financial instruments and both for specific customers and for industries that derivative instruments used for trading and risk could be affected by adverse market or economic management purposes, see Notes 26 and 27 of Notes conditions. When signs of credit deterioration are to Financial Statements.

Composition of loan portfolio Composition of loan portfolio at year-end (in millions) 2004 2003 2002 2001 2000 Domestic loans and leases:

Commercial and financial S2,190 (a) $2,757 S3,807 $3,618 S 4,994 Commercial real estate 1,916 2,131 2,227 2,536 2,178 Personal (b) 1,993 1,714 1,290 1,124 1,401 Lease finance assets (c) 456 505 556 637 644 Total domestic loans and leases 6,555 7,107 7,880 7,915 9,217 International loans and leases 199 360 558 625 1,009 Total loans and leases, net of unearned discount S6,754 (d) 57,467 S8,438 $8,540 S10,226 (a) Previously included venture capitaldirect meanine investments in theform ofsubordinateddebt. At Dec. 31, 2004, these investments totaled$36 million and were reclassifiedto Other assets on the balancesheet. Priorperiodsare not reclassifled.

(b) Primarilyconsists of securedpersonalcredit lines and mortgagesfor customers in the Private Wealth Management sector.

(c) Represents large ticket lease assets that will continue to run-off through repayments, possible sales and no new originations.

(d) Includes $3.515 billion of loans to Private Wealth Management customers and $934 million of loans to Mfellon I' Business Bank-NationalAssociation customers.

Note: There were no concentrationsof loans to borrowersengagedin similar activities, other than those shown in this table, that exceeded 10%1o of total loans at year-end.

Consistent with our credit strategy, the loan Commercialandfinancial portfolio decreased $713 million, or 10%, at Dec. 31, 2004, compared with Dec. 31, 2003, The domestic commercial and financial loan primarily reflecting lower levels of commercial and portfolio primarily consists of loans to corporate financial loans, commercial real estate and borrowers in the financial services, communications, international loans and leases partially offset by transportation and warehousing, manufacturing, higher levels of personal loans. At Dec. 31, 2004, service, wholesale and retail trade industries.

the composition of the loan portfolio was 70% Numerous risk factors impact this portfolio, commercial and 30% personal. including industry-specific risks, such as:

• the economy;

• new technology; MELLON FINANCIAL CORPORATiON 37

CORPORATE RISK MANAGEMENT

• competition; Foreignoutstandings

• labor rates; and

• cyclicality; Foreign outstandings include loans, acceptances, interest-bearing deposits with other banks, other and customer-specific factors such as: interest-bearing investments and related accrued interest. Country distributions are based on the

• cash flow; location of the obligor. Short term interest-bearing

• credit structure; deposits with banks represent approximately 90% of

• operating controls; and our foreign outstandings. Foreign assets are subject

• asset quality. to the general risks of conducting business in each foreign country, including economic uncertainty and The decrease at Dec. 31, 2004 compared to Dec. 31, government regulations. In addition, foreign assets 2003, primarily resulted from the securitization of may be impacted by changes in demand or pricing approximately $800 million of insurance premium resulting from movements in exchange rates or other finance loans in 2004, partially offset by the factors. The following table presents the foreign maturation of a $300 million revolving outstandings in any country where such outstandings securitization program. exceed .75% of our total assets.

Foreign outstandings at year-end Commercialreal estate (dollaramounts in millions) 2004 2003 2002 Greater than 1% of total The commercial real estate loan portfolio consists of assets:

commercial mortgages, which generally are secured United Kingdom S1,334 $1,431 $892 Between .75% and 1%:

by nonresidential and multifamily residential Ireland <.75% $274 <.75%

properties, and commercial construction loans Canada <.75% <.75% S313 generally with maturities of 60 months or less.

Commercial real estate loans carry many of the Nonperforming assets same customer and industry risks as the commercial and financial portfolio, as well as Nonperforming assets are assets for which revenue contractor/subcontractor performance risk in the recognition has been suspended or is restricted.

case of commercial construction loans and cash flow Nonperforming assets include both nonperforming risk based on project economics. loans and acquired property, primarily other real estate owned (OREO) acquired in connection with Large corporatecommercial andfinancialexposure the collection effort on loans. Nonperforming loans include both nonaccrual and restructured loans.

At year-end, approximately 68% of the loans and Past-due commercial loans are those that are 97% of the unfunded loan commitments to our large contractually past due 90 days or more but are not corporate commercial and financial customers had on nonaccrual status because they are well secured an investment grade credit rating. Investment grade and in the process of collection. Past-due personal loans and commitments are those where the loans, excluding mortgages, are generally not customer has: classified as nonaccrual but are charged off on a formula basis upon reaching various stages of

• a Moody's long-term rating of Baa3 or better delinquency. Additional information regarding and/or, Mellon's practices for placing assets on nonaccrual

• a Standard & Poor's long-term rating of BBB- status is presented in Note 1 of Notes to Financial or better; or Statements.

• if unrated, an equivalent rating using our internal risk ratings.

38 MELLON FINANCiAL CORPORATION

CORPORATE RISK MANAGEMENT Nonperforming assets at year-end Change In nonperforming loans for the year ended Dec. 31, (dollar amounts in millions) 2004 2003 2002 2001 2000 2004 Commercial Lease Nonaccrual loans: and finance Total Commercial and financial S10 S49 S54 $42 $159 (in millions) financial Personal assets 2004 2003 Personal 4 2 3 2 5 Nonpcrforming loans Commercial real estate - - - I I at beginning of ycar S 49 S2 S - S 51 S 57 Lease finance assets 15 - - 14 - Additions 11 2 15 28 31 Total nonperforming Reductions from sales - - - (23) loans (a)(b) 29 51 57 59 165 Reductions from payments (a) (47) - - (47) (9)

Acquired property Credit losses from sales - - - (2)

Real estate acquired - 1 2 2 7 Credit losses - other (3) (3) (3)

Other assets acquired - - - I - Nonperforming loans at Total acquired property - 1 2 3 7 endofyear SIt S4 S15 S29 $51 Total nonperforming (a) Includes interest appliedto principal.

assets $29 $52 S59 $62 $172 A loan is considered impaired, as defined by SFAS Nonperforming loans as a No. 114, "Accounting by Creditors for Impairment percentage of total loans .43% .69% .68% .69% 1.61%

Nonperforming assets as a of a Loan," when, based upon current information percentage of Tier I and events, it is probable that we will be unable to capital plus the reserve collect all principal and interest amounts due for loan losses 1.08% 2.09% 2.66% 2.30%4.97% according to the contractual terms of the loan (a) Includes $9 million, $13 million, $1 million, $16 million agreement. Additional information regarding and $56 million, respectively, ofloans with both principal and interestless than 90 days past due but placedon impairment is presented in Note I of Notes to nonaccrualstatus by management discretion. Financial Statements.

(b) There were no internationalnonperforming loans at Dec. 31. 2004, 2003. 2002 or 2001. Impaired loans (in millions) 2004 2003 2002 Nonperforrning loans decreased $22 million from Impaired loans at year-end (a) S 7 S41 $54 Dec. 31, 2003 as repayments more than offset Average impaired loans for the year 18 46 91 additions. Repayments in 2004 included a Interest revenue recognized on

$36 million loan to a California-based electric and impaired loans (b) 5 1 5 natural gas utility company that emerged from (a) Includes $6 million, $3 million, and $39 million of Chapter 11 bankruptcy protection and fully repaid impaired loans with a relatedimpairment reserve of all amounts due. Additions resulted primarily from $1 million, $2 million, and $2 million at Dec. 31. 2004, a $15 million lease to a low-fare airline. Most of the Dec. 31, 2003, andDec. 31. 2002, respectively.

(b) A It income was recognized using the cash basis method of other additions during 2004 were repaid during the income recognition.

year. The $29 million balance of total nonperforming loans at Dec. 31,2004 was Foregone interest on nonperforming loans was comprised of the $15 million lease to the low-fare $1 million at Dec. 31, 2004, $2 million at Dec. 31, airline, a loan of $6 million to a cable television 2003, 2002 and 2001, and $20 million at Dec. 31, operator and $8 million of various smaller loans. 2000 (including discontinued operations).

MELLON FINANCIAL CORPORATION 39

CORPORATE RISK MANAGEMENT Past-due loans totaled $5 million at Dec. 31, 2004; reviewed for potential loss content. The unallocated

$2 million at Dec. 31, 2003; $3 million at Dec. 31, reserve at Dec. 31, 2004 reflects uncertainty about 2002; $1 million at Dec. 31, 2001 and $3 million at customers sensitive to increases in oil prices and Dec. 31, 2000. These are loans that were 90 days or decreasing travel such as automotive, airlines and more past due as to principal or interest that are not chemicals, as well as certain real estate, cable, classified as nonaccrual because the loans were well telecom and pharmaceutical customers. The secured and in the process of collection. At Dec. 31, decrease in the reserves for unfunded commitments 2004, loans that were 30-59 days and 60-89 days or at Dec. 31, 2004 from Dec. 31, 2003 is primarily more past due as to principal and interest totaled related to the lower levels of unfunded

$12 million and $1 million, respectively. commitments.

Provision and reserve for credit exposure Mellon's management concluded that, at Dec. 31, 2004, the overall reserve level was appropriate to Mellon's accounting policies regarding the reserve recognize inherent losses in the loan portfolio. The for credit exposure are regarded as critical Audit Committee of the Board of Directors accounting policies in that they involve significant reviewed and concurred.

management valuation judgments. These policies are discussed on pages 56 and 57. The net provision for credit losses totaled a negative

$1 I million in 2004 compared with a positive The allocation of the reserve for credit exposure is $7 million in 2003 and $172 million in 2002. Net presented below. This allocation is judgmental, and credit recoveries totaled $1 million in 2004 the entire reserve is available to absorb credit losses compared with losses of $8 million in 2003 and regardless of the type of loss. $130 million in 2002. The large provision for credit losses and high level of net credit related losses in Reserve for credit exposure at year-end 2002 primarily related to customers that had been (in millions) 2004 2003 associated with allegations of accounting Reserve for loan losses: irregularities, downgrades of shared national credits Base reserves: and higher estimated inherent probable losses on Commercial and financial S 36 S 48 Commercial real estate 9 13 commitments. The level of credit losses and Personal 5 6 recoveries relative to outstanding loans can vary Lease assets 15 12 from period to period as a result of the size and Total domestic base reserve 65 79 number of individual credits that may require International 2 9 charge-off and the effects of changing economic Total base reserve 67 88 conditions.

Impairment/judgmental 6 2 Unallocated 25 13 Reserve for unfunded commitments Total loan loss reserve S 98 S103 (dollaramounts in millions) 2004 2003 2002 2001 2000 Reserve for unfunded commitments: Reserve at beginning Commitments S 57 $ 61 ofyear S75 S52 $42 S18 $16 Letters of credit and bankers acceptances 10 14 Loss on sale of Total unfunded commitments reserve S 67 S 75 commitments - (3) (7)

Provision for credit losses (8) 26 28 Total reserve for credit exposure $165 $178 Transfer (to) from loan loss reserve (a) - - (11) 24 2 Reserve at end of year S67 S75 S52 $42 S18 The decrease in the total base reserve at Dec. 31, Reserve for unfunded 2004 compared with Dec. 31, 2003 is related to a commitments as a continuing decline in loan volume in the large percentage of unfunded corporate, real estate and international portfolios. commitments at year-end A7% .44% .25% .16% .06%

The increase in the impairnent/judgmental reserve (a) Resultsfromfunding loans and loan repayments. See Note (a) is related to a judgmental reserve on a on loan loss reserve activity table below.

nonperforming leasing credit, which has been 40 MELLON FINANCIAL CORPORATION

CORPORATE RISK MANAGEMENT Loan loss reserve activity (dollaramounts in millions) 2004 2003 2002 2001 2000 Reserve at beginning of year S103 $127 S 96 S254 S271 Credit losses:

Domestic:

Commercial and financial (1) (3) (87) (25) (20)

Commercial real estate _() - -

Personal (2) (1) (2) (1) (1)

Lease finance assets - - (7) (14)

Total domestic (3) (4) (97) (40) (21)

International (1) (2) - (15)

Total credit losses (4) (6) (97) (55) (21)

Recoveries:

Domestic:

Commercial and financial 2 14 9 1 1 Commercial real estate - I I -

Personal 2 2 1 Lease finance assets - - 2 -

Total domestic 4 17 13 1 1 International I - - I 12 Total recoveries 5 17 13 2 13 Net credit (losses) recoveries:

Domestic:

Commercial and financial I 11 (78) (24) (19)

Commercial real estate - I - -

Personal - I (1) (1) (1)

Lease finance assets - (5) (14)

Total domestic 1 13 (84) (39) (20)

International - (2) - (14) 12 Sub-total - net credit (losses) recoveries I 11 (84) (53) (8)

Credit losses on loans transferred to held for sale - (16) (39) (29) (15)

Total net credit (losses) recoveries 1 (5) (123) (82) (23)

Provision for credit losses (3) (19) 144 (4) 8 Securitizations (3) - (2) (1) -

Dispositionslacquisitions - - I (47)

Transfer (to) from reserve for unfunded commitments (a) - - 11 (24) (2)

Reserve at end ofyear S 98 $103 S 127 S 96 $254 Reserve for loan losses as a percentage of total loans (at year-end) 1.45% 1.37% 1.51% 1.12% 2.49%

Net credit losses (recoveries) to average loans (.01)% .07% 1.30% .84% .21%

(a) Transfers to the reservefor unfunded commitments resultfrom loan repayments, which increases the level of unfunded commitments.

Transfersfrom the reservefor unfunded commitments resultfromfundinga loan, which decreases the level of unfunded commitments.

MELLON FINANCIAL CORPORATION 41

CORPORATE RISK MANAGEMENT Market and liquidity risk Selected average balances (in millions) 2004 2003 The Finance Committee of Mellon is responsible for Assets:

Money market investments S 3,291 $ 3,056 overseeing the management of market risk, which Trading account securities 275 722 includes interest rate and currency risk for both Securities 11,799 11,198 asset/liability management and trading activities, Loans 7,307 7,704 and liquidity risk pursuant to policies and limits Total interest-earning assets 22,672 22,680 which are established by the Committee and Noninterest-eaming assets 11,429 11,314 reviewed annually with a committee of our Board of Reserve for loan losses (98) (117)

Directors. Our Finance Committee is comprised of Total assets S34,003 $33,877 senior officers from the following areas:

Funds supporting total assets:

Core funds S31,444 $29,991

• Executive Management Group; Purchased funds 2.559 3,886

• Finance; Funds supporting total assets S34,003 S33,877

• Risk Management;

• Foreign Exchange; Average interest-earning assets were virtually

• Global Exposure Management; unchanged in 2004 compared with 2003 as lower

• Financial Markets; levels of trading account securities and loans were

• Securities Lending; and offset by a higher level of securities and money

• Corporate Strategy. market investments. The decrease in trading account securities resulted from the sale of a fixed Market and liquidity risk includes a consideration of income trading business in December 2003. The both on-balance-sheet and off-balance-sheet lower level of loans was due to the continued activities, including the use of derivatives. The use reduction of commercial loans. The increase in of derivatives for asset/liability management average securities was due to purchases of floating purposes is discussed under "Interest rate sensitivity rate and other short duration mortgage-backed analysis." The use of derivatives for trading securities. The increase in average money market purposes is discussed under Trading Activities. Off- investments was primarily due to higher levels of balance-sheet arrangements which may involve custody deposits.

credit, market, liquidity or operating risk are discussed under "Off-balance-sheet arrangements" Core funds, considered to be the most stable sources at the end of this discussion of overall corporate of funding, are defined principally as:

risk.

• institutional money market deposits and other Asset/liability management deposit sweeps;

• individual money market and other savings Asset/liability management activities address deposits; management of assets and liabilities from an interest

• savings certificates; rate risk, currency risk and liquidity management

• demand deposits; perspective, including the use of derivatives.

• shareholders' equity;

• notes and debentures with original maturities over one year,

• junior subordinated debentures; and

• other liabilities.

Core funds primarily support core assets, consisting of loans, net of the reserve, and noninterest-earning assets. Average core assets decreased $263 million in 2004 from the prior year, reflecting the lower level of loans partially offset by a higher level of 42 MELLON FINANCIAL CORPORATION

CORPORATE RISK MANAGEMENT noninterest-eaming assets. Core funds averaged prevailing credit market conditions; current debt 169% of core assets in 2004 compared with 159% in ratings and the ratings outlook; and commitments to 2003. The increase in the proportion of average extend credit. The simulation analysis has shown core funds to average total funds supporting total adequate liquidity under both scenarios. The stress assets in 2004, compared with 2003, was primarily simulation is reviewed and updated to ensure current due to higher levels of custody, cash management applicability with changes in our balance sheet and and private wealth deposits. changes in the marketplace.

Purchased funds are defined as: We manage our liquidity position with the objective of maintaining the ability to fund commitments and

• funds acquired in the wholesale money to repay liabilities in accordance with their terms, markets including deposits in foreign offices even during periods of market or financial stress.

(excluding cash management and sub- Through active liquidity management, we seek to custodial sweep deposits); ensure that changes in funding requirements can be

• federal funds purchased and securities under accommodated without materially impacting net repurchase agreements; income. Core demand and time deposits, gathered

• negotiable certificates of deposit; from our private wealth management and corporate

• other time deposits; and institutional services businesses, are used in

• term federal funds purchased and U.S. conjunction with long-term debt to provide stable Treasury tax and loan demand notes; sources of funding. Purchased funds, acquired from

• commercial paper; a variety of sources and customers in worldwide

• short-term bank notes; and financial markets, are used to supplement the core sources of funding. Liquid assets, in the form of

• other funds borrowed.

money market investments and portfolio securities Average purchased funds decreased S1.327 billion held available for sale, are also utilized to meet short-term requirements for cash. Liquidity is in 2004 from 2003, primarily due to a decrease in federal funds purchased and securities under managed on both a consolidated basis and at the Mellon Financial Corporation (Parent Corporation) repurchase agreements, other funds borrowed, and level.

funds acquired in wholesale money markets.

Average purchased funds as a percentage of total average assets totaled 8% in 2004 compared with The Parent Corporation has access to the following principal sources of liquidity: dividend and interest 11 % in 2003.

payments from its subsidiaries, the commercial paper market, a revolving credit agreement with Liquidity and dividends Mellon Bank, N.A., and access to the capital markets. The ability of national bank subsidiaries to Mellon uses several key primary and secondary pay dividends to the Parent Corporation is subject to measures to assess the adequacy of our liquidity certain regulatory limitations, as discussed in position. The balance sheet is managed to ensure Note 24 of Notes to Financial Statements. Under that these measures are maintained within approved the more restrictive limitation, Mellon's national limits. Each of these measures is monitored on a bank subsidiaries can, without prior regulatory periodic basis, giving consideration to our expected approval, declare dividends subsequent to Dec. 31, requirements for funds and anticipated market 2004, of up to approximately $196 million, less any conditions. Quarterly, the Finance Committee dividends declared and plus or minus net profits or reviews a liquidity stress simulation that evaluates losses, as defined, earned between Jan. 1, 2005, and how the liquidity position at that time might be the date of any such dividend declaration. To impacted under adverse funding conditions. The comply with regulatory guidelines, Mellon and its stress simulation is prepared under a gradual erosion subsidiary banks continually evaluate the level of scenario and under a crisis scenario. All deposits cash dividends in relation to their respective and borrowed funds are categorized by their sensitivity to potential credit concerns. In addition, operating income, capital needs, asset quality and overall financial condition. See Note 30 of Notes to the effect of other factors are considered including:

MELLON FINANCIAL CORPORATION 43

- -

CORPORATE RISK MANAGEMENT Financial Statements for the Parent Corporation's condensed financial statements. In the second quarter of 2004, we increased our annual common stock dividend to $.72 per common The Parent Corporation has a $200 million share, an increase of 13% from the previous annual revolving credit agreement with Mellon Bank, N.A., rate. We paid $297 million of common stock Mellon's primary bank subsidiary, that expires in dividends in 2004, compared with $243 million in June 2005. The agreement was executed at market 2003. The common dividend payout ratio, on a net terms. Under this agreement any borrowings are to income basis, was 37% in 2004 on a dividend of be collateralized with eligible assets of our non-bank $.70 per share compared with 35% in 2003 on a subsidiaries. There were no borrowings under this dividend of $.57 per share. Based upon shares facility during 2004 or at Dec. 31, 2004. The outstanding at Dec. 31,2004, and the current revolving credit facility contains Tier I ratio and quarterly common stock dividend rate of $.18 per double leverage ratio covenants, as discussed in share, the annual dividend requirement in 2005 is Note 13 of Notes to Financial Statements. The expected to be approximately $305 million.

Parent Corporation also has the ability to access the capital markets with $1.45 billion of unused As shown in the consolidated statement of cash capacity to issue debt, equity and junior flows, cash and due from banks increased by subordinated debentures under a shelf registration $173 million during 2004 to $2.775 billion at statement. At Dec. 31, 2004, the Parent Corporation Dec. 31, 2004. The increase resulted from had $555 million of unencumbered liquid assets. $2.449 billion of net cash provided by financing activities and $845 million of net cash provided by Mellon's ability to access the capital markets was operating activities, partially offset by $3.201 billion demonstrated in 2004 through the issuance of senior of net cash used in investing activities. Net cash notes by the Parent Corporation and subordinated provided by financing activities primarily resulted notes by Mellon Bank, N.A. In March 2004, Mellon from a higher level of deposits and the net proceeds issued $300 million of 3.25% senior notes maturing from issuance of longer-term debt, partially offset in April 2009. In November 2004, Mellon Bank, by dividends paid on common stock, repurchases of N.A. issued $300 million of 4.75% subordinated common stock and repayments of longer-term debt.

notes maturing in December 2014. Access to the Net cash used in investing activities primarily capital markets is partially dependent on Mellon's resulted from a higher level of securities available and Mellon Bank, N.A.'s credit ratings, which are for sale and a higher level of federal funds sold shown in the following table. partially offset by the sales and securitizations of loans.

Debt ratings at Dec. 31, 2004 Standard

& Interest rate sensitivity analysis Poor's Moody's Fitch Mellon Financial Corporation:

Commercial paper A-i P-I Fl+

The object of interest rate risk management is to Senior debt A+ Al AA- manage the effect of interest rate fluctuations on net Subordinated debt A A2 A+ interest revenue and the net present value of our Mellon Bank, NA.: assets, liabilities and derivative instruments. We Long-tern deposits AA- Aa3 AA use simulation models as the primary means to Subordinated debt A+ Al A+

estimate the impact of these changes. Interest rate risk is measured using the following simulation Contractual maturities of Mellon's long-term debt models:

totaled approximately $205 million in 2004.

Contractual maturities will total approximately

• net interest revenue simulation; and

$650 million in 2005, of which $300 million is for

• portfolio equity simulation the Parent Corporation obligations and $350 million for obligations of Mellon Bank, N.A. For additional information, including maturity dates, on our notes and debentures, see Note 14 of Notes to Financial Statements.

44 MELLON FINANCIAL CORPORATION

CORPORATE RISK MANAGEMENT Our simulation models use the consolidated balance Interest rate simulation sensitivity analysis sheet and derivative positions as of year-end Simulated increase (decrease) adjusted for committed positions not settled as of in the next 12 months Net Earnings Return that date. The models also incorporate assumptions interest per on about the volumes and characteristics of new assets revenue share equity and liabilities and the behavior of existing assets and Movement in interest rates liabilities. These assumptions include but are not from Dec. 31, 2004 rates:

limited to: the composition of the balance sheet, Up 50 bp (1.5)% S(0.01) (12) bp Up 100 bp (1.4) (0.01) (11) prepayment speeds on mortgage-backed securities, Up 200 bp (1.9) (0.01) (15) repricing of interest earning assets and interest-bearing liabilities and capital and other financing Down 50 bp (2.5)% 5(0.02) (20) bp plans. Down 100 bp (3.4) (0.03) (27)

We have established the following guidelines for The anticipated impact on net interest revenue under assuming interest rate risk: the various scenarios did not exceed our guidelines for assuming interest rate risk at both Dec. 31,2004

• Net interest revenue simulation-Given a +/- and Dec. 31, 2003.

200 basis point change in short term interest rates and a +/- 165 basis point change in long- Managinginterest rate risk with derivative term rates over a six month period, the instruments estimated one year total net interest revenue may not change by more than 10% from the We maintain an overall interest rate risk rates unchanged results. management strategy that incorporates the use of derivative instruments. These instruments minimize

• Portfolio equity simulation-Portfolio equity is significant unplanned fluctuations in earnings the net present value of our existing assets, caused by interest rate volatility. Our goal is to liabilities and derivative instruments. Given a manage interest rate sensitivity by modifying the

+/- 200 basis point immediate parallel shift in repricing or maturity characteristics of certain interest rates, portfolio equity may not change balance sheet assets and liabilities so that net by more than 20% of total shareholders' interest revenue is not significantly affected by equity. movements in interest rates.

The following table illustrates the simulation Derivatives are used as part of our overall analysis of the impact of a 50, 100 and 200 basis asset/liability management process to augment the point shift upward or 50 and 100 basis point shift management of interest rate exposure. Interest rate downward in short-term interest rates on net interest swaps-including callable and basis swaps-intercst revenue, earnings per share and return on equity. rate caps and floors, financial futures, forwards, and Given the historically low interest rate environment financial options have been approved by the Board that existed at Dec. 31, 2004, the impact of a of Directors for this purpose. By policy, we will not 200 basis point downward shift is not shown in the enter into any new derivative contracts that would table. This analysis was prepared using the levels of cause Mellon to exceed its established interest rate all interest-earning assets, supporting funds and risk limits. For a discussion of these instruments, derivative instruments used for interest rate risk see Note 27 of Notes to Financial Statements.

management at Dec. 31, 2004. The impact of the rate movements was developed by simulating the effect of rates changing in a gradual fashion over a six-month period from the Dcc. 31, 2004, levels and remaining at those levels thereafter. Financial market conditions and management's response to events may cause actual results to differ from simulated results.

MELLON FINANCIAL CORPORATION 45

CORPORATE RISK MANAGEMENT The following table presents the gross notional Mellon Bank, N.A. in 2004. The notional amounts amounts and weighted-average maturities of should be viewed in the context of our overall derivative instruments used to manage interest rate interest rate risk management activities to assess the risk, identified by the underlying interest rate- impact on net interest revenue. The interest sensitive instruments. The gross notional amount of received and interest paid are recorded on an accrual interest rate swaps used to manage interest rate risk basis in the interest revenue and interest expense increased by $364 million at Dec. 31,2004 accounts associated with the underlying liabilities compared with Dec. 31, 2003. This increase and assets. The net differential resulted in interest primarily resulted from entering into instruments in revenue of $139 million in 2004, compared with conjunction with the issuance of senior notes by the $142 million in 2003 and $94 million in 2002.

Parent Corporation and subordinated notes by Interest rate swaps used to Weighted- Weighted-Average manage interest rate risk Dec.31, Average Interest Rate Dec. 31, (notionalamounts in millions) 2004 Maturity Received Paid 2003 Receive fixed instruments associated with long-term debt and junior subordinated debentures S3,050 8 yrs, 9 mos. 5.57% 2.50% S2,700 Receive fixed instruments associated with deposits 31 6 yrs.,7 mos. 4.25% 2.21% 10 Pay fixed instruments associated with loans 3 3 mos. 259% 5.15% 10 Total notional amount S3,084 S2,720 Fairvalue hedges Hedges of net investment in foreign operations Mellon enters into interest rate swaps designated as We use five-year yen-denominated debt to hedge fair value hedges, to convert portions of its fixed our remaining investment in Tokyo-based Shinsei rate junior subordinated debentures to floating rate Bank The purpose of this hedge is to protect securities, its fixed rate long-term debt to floating against adverse movements in exchange rates.

rate debt and, to a small degree, certain fixed rate loans to variable rate loans. The fixed rate liability Trading activities instruments are changed to variable rate instruments by entering into receive fixed/pay variable swaps, Mellon has established trading limits and related and the fixed rate asset instruments are changed to monitoring procedures to control trading risk.

variable rate instruments by entering into pay These limits are approved by the Finance Committee fixed/receive variable swaps. No ineffectiveness and reviewed by a committee of the Board of was recorded for 2004,2003 and 2002. Directors. All limits are monitored for adherence by Risk Management Department and departmental Cashflow hedges compliance staff. Exceptions to limits are reported timely to the Finance Committee.

At Dec. 31, 2004 and 2003, there were no outstanding cash flow hedges. Ineffectiveness of The financial risk associated with trading positions less than $1 million was recorded for 2003 and is managed by assigning position limits and stop-2002. loss guidance amounts to individual activities. We use a value-at-risk methodology to estimate the potential gain or loss in a portfolio of trading positions that is associated with a price movement 46 MELLON FINANCIAL CORPORATION

CORPORATE RISK MANAGEMENT of given probability over a specified time frame. and for managing our risks in certain trading Position limits are assigned to each family of portfolios and as part of our proprietary trading financial instruments eligible for trading such that activities. All of these instruments are carried at the aggregate value-at-risk in these activities at any market value with realized and unrealized gains and point in time will not exceed a specified limit given losses included in foreign exchange trading revenue a significant market movement. The extent of and other revenue. For a description and table of market movement deemed to be significant is based derivative instruments used for trading activities, see upon an analysis of the historical volatility of Note 27 of Notes to Financial Statements.

individual instruments that would cover 95% of likely daily market movements. The loss analysis Credit risk includes the derivative instruments used for trading activities as well as the financial assets and Mellon's hedging and trading derivative products liabilities that are classified as trading positions on are subject to credit risk. We enter into netting the balance sheet. Using our methodology, which agreements to reduce credit risk. Netting considers such factors as changes in currency agreements generally permit us to net gains and exchange rates, interest rates, spreads and related losses on derivative contracts with the same volatility, the aggregate average value-at-risk for counterparty. For a discussion of gross credit risk trading activities and credit default swaps was and the corresponding netting impact of derivative approximately $5 million for the 60 business-day instruments, see Note 27 of Notes to Financial period ending Dec. 31, 2004, compared with Statements.

$4 million for the 60 business-day period ending Dec. 31, 2003. The average daily value-at-risk for Off-balance-sheet arrangements trading activities in 2004 was approximately

$5 million. Guaranteesandindemnities Trading activities are generally limited to products In the normal course of business, Mellon offers and markets in which liquidity is sufficient to allow standby letters of credit and foreign and other positions to be closed quickly and without adversely guarantees to customers as well as other guarantees affecting market prices, which limits loss potential in support of certain joint ventures and subsidiaries.

below that assumed for a full-day adverse movement. Loss potential is further constrained in Standby letters of credit and foreign and other that it is highly unusual for all trading areas to be guarantees totaled $1.3 billion at Dcc. 31, 2004, a exposed to maximum limits at the same time and decrease of $24 million compared with Dec. 31, extremely rare for significant adverse market 2003. Standby letters of credit and foreign and movements to occur in all markets simultaneously. other guarantees are used by the customer as a credit Stop-loss guidance is used when a certain threshold enhancement and typically expire without being of loss is sustained. If stop-loss guidance amounts drawn upon. We generated $10 million of fee are approached, open positions may be liquidated to revenue in both 2004 and 2003 related to the letters avoid further risk to earnings. The use of stop-loss of credit and foreign guarantees. There is cash flow guidance in tandem with position limits reduces the only when standby letters of credit are drawn upon.

likelihood that potential trading losses would reach We believe the market risk associated with these imprudent levels in relation to earnings. instruments is minimal. The decreasing trend in standby letters of credit and foreign and other Derivativeinstruments usedfor tradingpurposes guarantees over the past several years is a result of our strategy to reduce credit risk.

Mellon enters into various foreign exchange and interest rate derivative contracts for trading Mellon Bank, N.A., and ABN AMRO Bank N.V.

purposes. Trading activities primarily involve entered into a joint venture to provide global providing various derivative products to customers securities services with operations commencing in to assist them in managing foreign currency January 2003. Each of the two partners signed a exchange risk, interest rate risk and equity price risk statutory declaration under Dutch law as of Dec. 31, MELLON FINANCIAL CORPORATION 47

CORPORATE RISK MANAGEMENT 2002 to be jointly and severally liable with the joint as the referral agent and refers transactions to venture to parties that have a provable contractual TRFC, as well as providing all administrative debt or damage claim. The benefit of this services. Loans or other assets are not transferred declaration is potentially available to all creditors from the Bank to TRFC. TRFC sold subordinated and customers of the joint venture with valid legal notes to an unrelated third party in 2003, and as a claims if thejoint venture defaults. The guarantee result of that sale, Mellon is not the "primary totaled approximately S 19 billion at both Dec. 31, beneficiary" of TRFC, as defined by FIN 46 2004 and Dec. 31, 2003 primarily relating to Revised. Fee revenue of $2 million was received securities lending activity. This potential exposure from this entity in 2004 compared with $5 million in assumes that there are no capital or assets of the 2003. At Dec. 31, 2004, TRFC's receivables and joint venture to satisfy such claims and that there is commercial paper outstanding each totaled no level of contribution by ABN AMRO Bank N.V., $623 million compared with $822 million at which has a S&P long-term credit rating of AA- and Dec. 31, 2003. A letter of credit provided by the a Moody's senior debt rating of Aa3. Bank in support of TRFC's commercial paper totaled $50 million at Dec. 31, 2004, compared with A securities lending transaction is a fully $67 million at Dec. 31, 2003. Mellon's maximum collateralized transaction in which the owner of a loss exposure related to TRFC, which is required to security agrees to lend the security through an agent be disclosed under FIN 46, is the full amount of (Mellon) to a borrower, usually a broker/dealer or liquidity facility, or $623 million, at Dec. 31, 2004.

bank, on an open, overnight or term basis, under the However, the probability of this loss scenario is terms of a prearranged contract, which generally remote as it would mean that all of TRFC's matures in less than 90 days. We recorded receivables were wholly uncollectible. For S76 million of fee revenue from securities lending additional information about TRFC, see the TRFC transactions in 2004 compared with $69 million in discussion in Note 7 of Notes to Financial 2003. Securities are lent with and without Statements.

indemnification against broker default. Custodian securities lent with indemnification against broker Retained interests default of return of securities totaled $84 billion at Dec. 31,2004, a $S17billion increase compared with From time to time, Mellon will securitize certain Dec. 31, 2003, reflecting growth in this line of loans. We retain servicing responsibilities as well business. Market risk can also arise in securities as subordinated interests in loan securitizations, lending transactions. These risks are controlled specifically insurance premium finance loans, through policies limiting the level of risk that can be automobile loans and home equity lines of credit undertaken. loans (HELOC). All securitized loans were removed from the balance sheet upon securitization.

For additional information regarding these off- The investors and the securitization trusts have no balance-sheet contracts, as well as other guarantees recourse to Mellon for failure of debtors to pay and indemnities, see Note 26 of Notes to Financial when due. Our retained interests, which totaled Statements. $33 million at Dec. 31, 2004, are subordinate to investor's interests. Their value is subject to credit, Our primary banking subsidiary, Mellon Bank, N.A. prepayment and interest rate risks on the transferred (the Bank) has a referral relationship with Three assets. We generated $30 million of servicing fee Rivers Funding Corp. (TRFC), a special purpose revenue and gains on the securitizations in 2004 entity that issues commercial paper. TRFC is compared with $31 million in 2003, primarily from owned by an independent third party and is not a insurance premium finance loans. For fair value, subsidiary of either the Bank or Mellon. Its weighted-average life, cash flows received from and financial results are not included in the financial paid to securitized trusts, and risk exposure, see the statements of the Bank or Mellon. TRFC was Loan securitizations discussion contained in Note 7 formed in 1990 and can issue up to $5 billion of of Notes to Financial Statements.

commercial paper to make loans secured by, and to purchase, pools of receivables. The Bank operates 48 MELLON FINANCIAL CORPORATION

CORPORATE RISK MANAGEMENT Contractual obligations Mellon is contractually obligated to make future payments according to various contracts. The following table presents the expected future payments of our significant contractual obligations.

Contractual obligations at Dec. 31, 2004 Payrnents due (in millions) Total < I year 1-3 yrs. 3-5 yrs. 5+ yrs.

Long-term debt (a) $4,495 $653 S1,258 S550 $2,034 Junior subordinated debentures (b) 1,031 - - 1,031 Operating leases (c) 1,720 185 346 278 911 Purchase obligations (d) 261 122 97 30 12 Acquisition obligations (e) 29 13 16 -

Other long-term liabilities (Di 35 35 - -

Total $7,571 $1,008 $1,717 S858 $3,988 Contractual obligations at Dec. 31, 2003 (in millions)

Long-term debt (a) $4,064 $205 $ 948 S1,208 $1,703 Junior subordinated debentures (b) 1,031 - - - 1,031 Operating leases (c) 1,301 189 326 281 505 Purchase obligations (d) 270 135 104 24 7 Acquisition obligations (e) 42 13 29 -

Other long-term liabilities (D 24 24 - -

Total $6,732 $566 $1,407 $1,513 $3,246 (a) See Note 14 ofNotes to FinancialStatementsfor more information. Does not include interest.

(b) See Note 15 ofNotes to FinancialStatementsfor more information.

(c) See Note 9 of Notes to FinancialStatementsfor more information.

(d) Purchaseobligationsaredefined as expendituresforpurchasesofgoods or services that are enforceable and legally binding and specifies all signifcant terms.

(e) Includes deferredconsiderationforthe purchaseof Standish Mellon and the obligation to purchasethe 30% minority interest of Afellon FinancialServicesAssetAfanagementS.A. Forpurposesof this table apurchaseprice of $4 million Was usedforthis payment obligation. See Note 3 of Notes to FinancialStatementsfor more information.

69 Represents contributionstofunded defined benefit pension plans. Formore information on ourpensionplans see Note 23 of Notes to FinancialStatements.

MELLON FINANCIAL CORPORATION 49

RECENT ACCOUNTING PRONOUNCEMENTS AND DEVELOPMENTS SFASNo. 123 (Revised 2004) FASB Exposure Draft, Fair Value Measurements In December 2004, the FASB issued SFAS No. 123 In June 2004, the FASB issued an Exposure Draft (Revised 2004), "Share-Based Payment." This on measuring fair value. This draft would require statement is a revision of FASB Statement No. 123 new disclosures, limit the application of "blockage and an amendment of FASB Statement No. 95. discounts" for valuing large holdings of stock, and SFAS No. 123 (Revised 2004) is effective July 1, clarify fair-value principles for all assets and 2005 and requires companies to recognize in the liabilities. The proposal creates a framework for income statement the grant-date fair value of stock measuring and disclosing fair values for use in options. Mellon had previously adopted the fair complying with standards requiring those value recognition provisions of SFAS No. 123, on a measurements. The new proposal would be prospective basis, for all awards granted, modified effective for 2006. Mellon does not expect this or settled after Jan 1, 2003. However, SFAS proposal to have a material impact on its results of No. 123 (Revised 2004) requires that the fair value operations or financial condition.

of all nonvested awards at the effective date of the standard be expensed. Consequently, beginning in EITFIssue No. 03-1 the third quarter of 2005, Mellon will begin to recognize stock option expense for all nonvested In November 2003, the Emerging Issues Task Force awards granted prior to Jan. 1, 2003. Based on reached consensus on EITF Issue No. 03-1, "The options granted and not yet vested at Dec. 31,2004, Meaning of Other-Than-Temporary Impairment and stock option expense under the current provisions of Its Application to Certain Investments." EITF Issue SFAS 123 would have been approximately No. 03-1 requires tabular disclosure of the amount

$29 million, $27 million and $11 million pre-tax in of unrealized losses and the related fair value of 2005, 2006 and 2007, respectively. However, under investments with unrealized losses aggregated for SFAS 123 (Revised 2004), stock option expense for each category of investment that is disclosed in nonvested grants outstanding at Dec. 31, 2004 will accordance with SFAS No. 115. In addition, it be approximately $14 million in the first half of requires sufficient narrative disclosure to allow 2005 and approximately $18 million in the second financial statement users to understand both the half of 2005, for a total of $32 million. Stock option aggregated tabular information and the positive and expense under SFAS 123 (Revised 2004) is negative information considered in reaching the expected to total approximately $33 million and conclusion that the impairments are not other-than-

$17 million pre-tax in 2006 and 2007, respectively. temporary. In March 2004, the Task Force reached The increase under SFAS 123 (Revised 2004) is a consensus regarding the use of more detailed primarily due to expense on nonvested ShareSuccess criteria to evaluate whether an investment is options which were granted prior to 2003. impaired and whether an impairment is other-than-temporary. This was to be effective July 1, 2004: In SFAS No. 153 September 2004, the FASB delayed effectiveness of the new criteria. We will continue to monitor In December 2004, the FASB issued SFAS No. 153, developments on this subject and evaluate the "Exchanges of Nonmonetary Assets, an amendment impact on Mellon of any new guidance. For of APB Opinion No. 29." This statement requires required disclosures, see Note 6 of Notes to nonmonetary exchanges to be accounted for at fair Financial Statements.

value, recognizing any gain or loss, if the transactions meet a commercial-substance criterion Adoption ofnewv accountingstandards and fair value is determinable. This Statement is effective for nonmonetary transactions occurring in For a discussion of the adoption of new accounting July 2005 and thereafter. Mellon does not expect standards, see Note 2 of Notes to Financial this Statement to have a material impact on its Statements.

results of operations or financial condition.

50 MELLON FINANCIAL CORPORATION

FOURTH QUARTER 2004 REVIEW Net income for the fourth quarter of 2004 was decrease primarily resulted from lower yields on

$192 million, or $.46 per share, compared with investment securities combined with moderately

$184 million, or $.43 per share, in the fourth quarter higher funding costs, and to a lesser extent, the of 2003. Net income from continuing operations continued reduction in loans.

totaled $198 million, or $.47 per share, in the fourth quarter of 2004 compared with $186 million, or $.44 Operating expense of $897 million increased per share, in the fourth quarter of 2003. Continuing $51 million, or 6%, compared with the fourth operations returned 19.8% on equity in the fourth quarter of 2003, principally reflecting higher staff quarter of 2004 compared with 20.5% in the fourth expense, higher professional, legal and other quarter of 2003. purchased services, and higher other expenses, partially offset by lower occupancy expense. Staff Fee revenue totaled 90% of fee and net interest expense in the fourth quarter of 2004 increased revenue, on a fully taxable equivalent basis, in the $37 million, or 8%, compared with the fourth fourth quarter of 2004, compared with 89% in the quarter of 2003, primarily due to: higher fourth quarter of 2003. Fee revenue increased to compensation expense reflecting the impact of S1.060 billion in the fourth quarter of 2004, an July 1, 2004 merit increases ($12 million); higher increase of 8% from $985 million in the fourth incentive expense; higher employee benefits quarter of 2003, primarily due to increases in trust expense due to higher pension expense; higher and investment fee revenue and equity investment expense for temporary services; and higher revenue. Trust and investment fee revenue severance expense; partially offset by the impact of increased $55 million, or 7%, primarily due to a lower headcount. Non-staff expenses increased higher investment management fee revenue and $14 million, or 4%, compared with the fourth higher institutional trust and custody revenue. The quarter of 2003. The fourth quarter of 2004 increase in investment management fee revenue included an $11 million loss associated with the resulted from improved equity markets, net inflows, trade execution of securities as well as expense acquisitions, the effect of foreign exchange rates and increases in support of business growth, the effect of an increase in performance fees. The higher foreign exchange rates and acquisitions. In the institutional trust and custody revenue resulted from fourth quarter of 2004, we executed a new lease on net new business, improved market conditions and our Corporate headquarters building at One Mellon the effect of foreign exchange rates. The increase in Center in Pittsburgh, through November 2028. As a equity investment revenue reflects higher net gains result of the favorable terms of the new lease, a from venture capital activities. Assets under reserve for sublease losses was reduced by management increased 8% in 2004 to $707 billion at $17 million and is reflected in net occupancy Dec. 31,2004, primarily due to net market expense.

appreciation of $34 billion, including the effect of foreign exchange rates, and long-term inflows of There was a negative provision for credit losses of

$16 billion. $4 million in the fourth quarter of 2004 compared with no net provision for credit losses in the fourth Net interest revenue on a fully taxable equivalent quarter of 2003. Net credit related recoveries basis of$118 million decreased $6 million totaled $1 million in the fourth quarter of 2004 compared with the fourth quarter of 2003. This compared Kvith net credit related losses of S3 million in the fourth quarter of 2003.

MELLON FINANCIAL CORPORATION 51

- -

SELECTED QUARTERLY DATA (unaudited)

Quarter ended 2004 2003 (dollaramounts in millions, Dec. Sept. June March Dec. Sept. June March except per share amounts) 31 30 30 31 31 30 30 31 Consolidated Income statement Totalfeeandotherrevenue S1,060 S 941 S 974 S 1,081 S 985 S 913 S 861 S 848 Gains on sales of securities - - 8 - 12 18 21 11 Net interest revenue 115 111 118 114 120 134 162 154 Provision for credit losses (4) - - (7) - - 3 4 Total operating expense 897 799 840 840 846 844 783 763 Income from continuing operations before income taxes and cumulative effect of accounting change 282 253 260 362 271 221 258 246 Provision for income taxes 84 71 84 118 85 68 81 79 Income from continuing operations before cumulative effect of accounting change 198 182 176 244 186 153 177 167 Cumulative effect of accounting change, net of tax - - - - - - (7)

Income from continuing operations 198 182 176 244 186 153 177 160 Income (loss) from discontinued operations, net of tax (6) 1 - 1 (2) 28 (2) 1 Net income S 192 S 183 S 176 S 245 S 184 $ 181 S 175 S 161 Basic earninus per share:

Income from continuing operations before cumulative effect of accounting change S .48 S A3 S .42 S .58 S .44 S .36 S .41 S .39 Cumulative effect of accounting change - - - - - - - (.02)

Continuing operations .48 .43 A2 .58 .44 .36 .41 .37 Discontinued operations (.02) S .01 - - (.01) .07 - -

Net income S .46 S .44 S .42 S .58 S .43 S .43 S .41 S .37 Diluted earnines per share:

Income from continuing operations before cumulative effect of accounting change S .47 S .43 S A2 S .57 S .44 S .36 S .40 S .39 Cumulative effect of accounting change - - - - - - COO Continuing operations .47 .43 A2 .57 .44 .36 .40 .38 Discontinued operations (.01) - - (.01) .06 - -

Net income S .46 S .43 S A2 S .57 S A3 5 .42 $ Al S .37 Average balances Money market investments S 4,157 S 3,310 S 2,703 S 2,986 S 3,270 S 3,066 $ 2,765 S 3,122 Trading account securities 248 229 268 356 622 693 761 814 Securities 12.743 11,780 11.647 11,013 10.532 10.882 11.655 11.740 Total money market investments and securities 17,148 15,319 14,618 14,355 14,424 14,641 15,181 15,676 Loans 7.205 7.047 7.491 7,489 7.276 7.425 7.915 8.21 Total interest-earning assets 24,353 22,366 22,109 21,844 21,700 22,066 23,096 23,888 Total assets 35,951 33,447 33,377 33,222 32,504 33,449 34,339 35,250 Deposits 22,083 20,295 19,776 19,227 18,378 19,185 19,067 21,376 Notesanddebentures 4,389 4,254 4,242 4,196 4,243 4,234 4,312 4,428 Juniorsubordinateddebentures 1,047 1,010 1,011 1,026 - - - -

Trust-preferred securities (a) - - - - 991 999 1,040 1,009 Total shareholders' equity 3,983 3,822 3,753 3,769 3,603 3,519 3,554 3,412 Net interest margin (FTE) (b) 1.94% 2.03% 2.23% 2.17% 2.30% 2.52% 2.96% 2.75%

Annualizedreturnonequity(b) 19.8% 18.9% 18.9% 26.0% 20.5% 17.2% 20.0% 19.8%

Annualized return onassets (b) 2.19% 2.16% 2.13% 2.96% 2.29% 1.83% 2.10% 1.95%

• Does not foot due to rounding.

- continued -

52 MELLON FINANCIAL CORPORATION

SELECTED QUARTERLY DATA (unaudited)

Quarter ended 2004 2003 Dec. Sept. June March Dec. Sept. June March 31 30 30 31 31 30 30 31 Common stock data (c)

Market price per share range:

High S31.62 S 29.50 S 32.75 S34.13 S 33.83 S 33.65 S 29.08 $28.11 Low 26.47 26.90 27.06 30.09 27.70 26.81 20.95 19.89 Average 29.43 28.10 29.84 32.48 30.56 30.63 26.17 23.09 Periodendclose 31.11 27.69 29.33 31.29 32.11 30.14 27.75 21.26 Dividends per share .18 .18 .18 .16 .16 .14 .14 .13 Market capitalization (d) 13,171 11,728 12,436 13.282 13.712 12.967 11.950 9.173 (a) Trust-preferredsecurities 'ere deconsolidatedatDec. 31,2003. SeeNote 15 ofNotes to FinancialStatementsfor afurtherdiscussion.

(b) Presentedon a continuingoperationsbasis excluding the cumulative effect ofa change in accountingprinciple in thefirst quarterof2003.

Net interest marginand return on assets, on a continuingoperations basis, were calculated excluding both the results and assetsof thefixed income tradingbusinessand certainAustralianbusinesses even though the priorperiod balancesheet w asnotrestatedfordiscontinued operations.

(c) AtDec. 31, 2004, there were 21.148shareholdersregisteredwith ourstock transfer agent compared with 22,35) atyear-end2003 and 23,020 atyear-end2002. In addition, there were approximately 20,014 Afellon employees at Dec. 31, 20044. who participatedin the AMellon 401(k) Retirement Savings Plan, comparedwith 20,643 atyear-end2003 and21,525 atyear-end2002. All shares of fellon Financial Corporationcommon stock held by the Planfor its participantsare registeredin the name ofAMellon Bank, N.A., as trustee.

(d) At periodend. in millions.

Fourth quarter2004 compared with thefourth Second quarterof2004 compared with the second quarterof2003 quarterof2003 See discussion on page 51 of this report. Consolidated net income totaled $176 million, or

$.42 per share, in the second quarter of 2004, Third quarterof2004 compared with the third compared with $175 million, or $.41 per share, in quarterof2003 the second quarter of 2003. Second quarter 2004 income from continuing operations totaled Consolidated net income totaled $183 million, or $176 million, or $.42 per share, compared with

$.43 per share, in the third quarter of 2004, $177 million, or $.40 per share, in the second compared with $181 million, or $.42 per share, in quarter of 2003. The results for the second quarter the third quarter of 2003. Third quarter 2004 of 2004 included a $24 million pre-tax charge income from continuing operations totaled related to vacating 10 leased locations in London S182 million, or S.43 per share. This compares with and moving into our new European headquarters.

$153 million, or $.36 per share, in the third quarter Fee revenue increased $113 million compared with of 2003. The results of the third quarter of 2003 the second quarter of 2003, primarily due to included a $50 million pre-tax charge, with increases in trust and investment fee revenue, equity

$47 million related to streamlining the investment revenue and foreign exchange trading organizational structure of the HR&IS sector and revenue, including the effect of foreign currency

$3 million in the Other Activity sector. Fee revenue exchange rates. Continuing operations returned increased $28 million in the third quarter of 2004 18.9% on equity in the second quarter of 2004, compared with the third quarter of 2003, primarily compared with 20.0% in the second quarter of 2003.

due to increases in trust and investment fee revenue and equity investment revenue, including the effect of foreign currency exchange rates. Continuing operations returned 18.9% on equity in the third quarter of 2004, compared with 17.2% in the third quarter of 2003.

MELLON FINANCIAL CORPORATION 53

SELECTED QUARTERLY DATA (unaudited)

Firstquarterof2004 compared with thefirst quarterof2003 Consolidated net income totaled $245 million, or

$.57 per share, in the first quarter of 2004, compared with net income of$ 161 million, or $.37 per share, in the first quarter of 2003. First quarter 2004 income from continuing operations totaled

$244 million, or S.57 per share. This compared with income from continuing operations of $167 million, or $.39 per share, before the cumulative effect of a change in accounting principle, in the first quarter of 2003. The results for the first quarter of 2004 included a pre-tax gain of $93 million from the sale of approximately 35% of Mellon's indirect investment in Tokyo-based Shinsci Bank, as a result of its initial public offering. Partially offsetting the gain was a pre-tax charge of$ 19 million associated with a ,writedown of small non-strategic businesses that we are exiting. Excluding the Shinsei gain, fee revenue increased $140 million, compared with the first quarter of 2003 primarily resulting from higher trust and investment revenue, foreign exchange trading revenue and the impact of foreign currency exchange rates. There was a negative provision for credit losses of $7 million in the first quarter of 2004 compared with a positive provision of

$4 million in the first quarter of 2003. Continuing operations returned 26.0% on equity in the first quarter of 2004, compared with 19.8% in the first quarter of 2003.

54 MELLON FINANCIAL CORPORATION

CRITICAL ACCOUNTING POLICIES Note I of Notes to Financial Statements includes effectiveness of the portfolio company's Mellon's significant accounting policies. Certain of management team in implementing its business plan these policies are considered to be critical to the and its ability to adapt to a changing marketplace.

presentation of Mellon's financial statements, In addition, external factors such as the overall since they require us to make numerous complex economy, competitors and the industry sector in and subjective estimates and assumptions relating to which the company operates are considered. The amounts which are inherently uncertain. These analysis of these and any other relevant factors policies, which were reviewed with the Audit requires significant judgment on the part of Committee of the Board of Directors, include management, and certain of the information that accounting policies related to valuing venture would be useful in analysis may be limited.

capital investments, establishing the reserve for credit exposure, and accounting for pensions. In General partners of private equity funds generally addition to the discussions in Note 1, the accounting use fair value assessment practices that are similar policies for venture capital investments and the to those used by Mellon as well as judgment in reserve for credit exposure are discussed further assessing the fair value of equity investments. As below. Also discussed below is the expected net part of its quarterly review of the fair values periodic pension expense for 2005 and its sensitivity reported by the fund's general partner, Mellon's to changes in assumptions. For a discussion of our management assesses each fund manager's ability to accounting policies relating to pensions, see provide ongoing support and guidance to the pages 93 and 94 of this report. portfolio companies as well as their ability to perform an effective assessment of the fair value of Venture capitalinvestments their fund's portfolio of investments. Since most of Mellon's indirect investments in private equity The carrying value of all venture capital investments funds represent only a small limited partnership represents their current estimated fair values, with percentage ownership in the individual private changes in fair value recognized in equity equity funds, access to detailed information on investment revenue in noninterest revenue. Direct individual fund portfolio investments is limited.

investments and indirect investments in private Valuation estimates provided by the fund managers equity funds are included in other assets. are reviewed and analyzed with available measurement data. Also, investments in private Each quarter, a complete review of the fair value of equity funds are regarded as long-term investments each direct venture capital investment is performed that are subject to substantial restrictions on and its risk-rating of "superior," "meets transferability.

expectations," "below expectations," "declining" or "new investment not yet rateable" is updated. The All direct investment valuations are reviewed by the fair value of direct investments in public companies Mellon Ventures Board of Directors quarterly and is estimated using a valuation methodology based on indirect investment valuations are reviewed semi-the stocks' publicly quoted prices. Due to the annually. Adjustments of the carrying values and volatility of equity markets, volume of trading the fair value determination process are also audited compared to Mellon's holdings, economic and other by Mellon's Audit and Risk Review Department and factors, the amounts ultimately realized from the reviewed quarterly with the Audit Committee of the liquidation of an investment may vary greatly. The Board of Directors.

fair value of direct investments in privately owned companies is estimated by management by In summary, management's quarterly estimates of evaluating several factors and utilizing available fair values are based on several factors including:

information, which includes market comparables, current and subsequent financings, willingness of

• available information about companies; co-investors or others to provide financial support,

• current economic conditions; sustainable economic performance and growth,

• willingness of co-investors or others to product marketability, scalability, actual provide financial support; performance versus business plans and the

• available market comparables; MELLON FINANCIAL CORPORATION 55

CRITICAL ACCOUNTING POLICIES

• product marketability; reflective of the underlying credit losses being

• scalability; estimated.

• legal restrictions;

• effectiveness of the companies' A key element of the methodology for determining management teams; the level of the reserve for credit exposure is

• actual performance versus business plans; and Mellon's credit risk evaluation process, which

• other factors. assigns a numerical risk rating to substantially all extensions of credit in our commercial, real estate, The fair value estimates could differ significantly and international portfolios. The Customer Risk among parties using different assumptions or Rating evaluates a borrower's expected ability to judgments. Accordingly, the fair value estimates meet its obligations, through analysis of its financial may not necessarily represent amounts that will statements and projections, cash flow, management, ultimately be realized. and other customer risk factors. The Facility Risk Rating defines the risk of a specific credit facility by Provisionandreserveforcredit exposure overlaying the Customer Risk Rating with an analysis of factors such as loan structure and Mellon's banking subsidiaries maintain a reserve for collateral.

loan losses that is intended to adjust the value of their loans for inherent credit losses. The banking In accordance with SFAS No. 5, "Accounting for subsidiaries also maintain a reserve for unfunded Contingencies," we provide a base reserve for commitments, namely loan commitments, letters of commercial facilities which are not impaired. Base credit and bankers acceptances, that is reported as a rates are used to calculate the base reserve liability on Mellon's consolidated balance sheet. requirements for the portfolio utilizing an internal Provision to expense is recorded for each reserve. category credit risk rating system to define pools of Transfers between the reserves can occur in similar risk, and apply an appropriate estimate of conjunction with funding a loan and thereby inherent losses to asset totals in each pool. These decreasing unfunded commitments or conversely rates are compared with the results of studies that repaying a loan and thereby increasing unfunded are conducted to calculate actual historical loss commitments. The level of the reserve for unfunded experience and adjusted if appropriate. Base reserve commitments is determined following a rates increase accompanyingly with credit risk, as methodology similar to that used for the reserve for measured by the numerical ratings, in order to loan losses. Mellon refers to the combined balance reflect the higher expected loss experience for each of the reserve for loan losses and the reserve for of these similarly risk-rated pools. Separate base unfunded commitments as the "reserve for credit rates are applied to certain types of collateralized exposure." facilities to reflect lower loss experience. Base rates are applied to all non-impaired commercial loan The reserve for credit exposure is maintained at a balances.

level that, in management's judgment, is sufficient to absorb losses inherent in both the loan portfolio In accordance with SFAS No. 114, "Accounting by and in unfunded commitments as of the balance Creditors for Impairment of a Loan," any required sheet date. The reserve is not specifically associated impairment reserves are included in the reserve for with individual loans or portfolio segments and is loan losses. Using Mellon's credit risk therefore available to absorb credit losses arising classification criteria, loan impairment on specific from any portfolio segment. We review the loans, for which principal and interest is not appropriateness of each reserve at least quarterly expected to be collected when contractually due, is and have developed a methodology designed to measured based on observable market prices, the provide a procedural discipline in assessing the present value of expected future cash flows appropriateness of the reserves. Our estimate of discounted at the loan's effective interest rate, or the each reserve component is based on certain fair value of the collateral if the loan is collateral observable data that we believe are the most dependent with consideration being given to Mellon's collection strategy. There are no base 56 MELLON FINANCIAL CORPORAllON

CRITICAL ACCOUNTING POLICIES reserves carried on loans classified as impaired. Net periodicpension cost andits sensitivities to Leasing credits, which are not subject to the SFAS changes in asswnptions No. 114, follow the same criteria as impaired loans but the reserves are classified as judgmental. Mellon follows SFAS No. 87, "Employers' Accounting for Pensions," to calculate and record its The methodology for determining the reserve for net periodic benefit cost (credit) for pensions. The unfunded commitments parallels the reserve for loan net periodic benefit cost (credit) is based primarily losses. We incorporate an estimate of probability of on three assumptions:

drawdown, correlated to the credit risk rating of the commitment. An estimate of the probability of

• discount rate for plan liabilities; drawdown is applied to the commitment amount and

• expected return on plan assets; and then the base rates used for outstanding loans of the

• rate of compensation increase.

same credit risk rating are applied.

Pre-tax net pension cost of $12 million was recorded In addition, we maintain an unallocated reserve in 2004, compared with net pension credits of against losses inherent in the portfolio, which have $28 million in 2003 and $97 million in 2002. A net not yet been specifically identified in Mellon's periodic pension benefit cost of approximately credit risk rating process, and thus not yet reflected $36 million pre-tax is expected to be recorded for in the base and impairment reserves. This can be the year 2005, assuming current currency exchange due to delays in obtaining information regarding rates. The assumptions used to calculate the borrower or industry developments, or difficulty in estimated net periodic benefit cost for 2005 and its immediately identifying increases in risk factors. estimated sensitivities to a 50 bp change in Given ongoing changes in portfolio volume, assumptions are as follows:

composition, and concentrations, the historical loss experience used to establish the inherent loss Net periodic benefit cost Estimated sensitivities estimates may not be perfectly applicable to the to a 50 bp increase current portfolio. Due to the dynamic nature of Assumptions or decrease in these conditions, management continually reviews (dollar amounts for assumed rates in millions) 2005 Increase (a) Decrease (a) and revises collectibility assumptions and reserve levels. Discount rate 6.0% S(18) S18 Mellon's reserve for credit exposure is solely an Expected return on assets 8.5% S(I0) $10 estimate based on our judgment. Due to the Rate of compensation significance of ourjudgment used to calculate increase 3.25% S 7 $ (7)

Mellon's reserves, actual losses incurred could be (a) Bracketed amounts indicate a reduction in the pension higher or lower than the estimated reserves. When cost.

losses on specific loans or commitments are identified, we charge off the portion deemed uncollectible. For purposes of illustrating the potential sensitivity to changes in credit risk ratings of loans and unfunded commitments, we modeled the estimated level of the reserve for credit exposure assuming that credit risk ratings both improved by one grade and deteriorated by one grade for 25% of the loan balances in each risk rating category. This modeling resulted in a revised estimated reserve range for credit exposure of approximately

$149 million and $206 million, respectively, compared with the actual reserve of $165 million, discussed on page 40 of this report.

MELLON FINANCIAL CORPORATION 57

CAUTIONARY STATEMENT This Financial Annual Report contains and financial instruments; and statements concerning incorporates by reference statements relating to off-balance sheet arrangements.

future results of the Corporation that are considered "forward-looking statements." These statements, These forward-looking statements, and other which may be expressed in a variety of ways, forward-looking statements contained in other including the use of future or present tense public disclosures of the Corporation which make language, relate to, among other things: long-term reference to the cautionary factors contained in this financial goals; the Corporation's business model Report, are based on assumptions that involve risks and objectives; the impact on investment and uncertainties and that are subject to change management fees of changes in the Standard & based on various important factors (some of which Poor's 500 Index and the FTSE; potential future are beyond the Corporation's control). Actual venture capital losses, possible changes in the value results may differ materially from those expressed of the portfolio and amounts that may be realized; or implied as a result of these risks and quarterly net interest revenue; changes in occupancy uncertainties, including, but not limited to:

expense; net periodic pension cost in 2005, cash contributions to funded defined benefit pension Changes in politicaland economic conditions.

plans in 2005, benefit payments for funded defined Changes in political and economic conditions can benefit pension plans and estimated sensitivities to affect the Corporation's opportunities to sell its changes in assumptions; expected tax rate; products and services. If conditions cause intentions as to renewal of credit relationships; customers to become more cautious, the intentions as to capital ratios of the Corporation and Corporation's revenues could be adversely affected.

its banking subsidiaries and maintaining a minimum Conversely, the Corporation will likely have greater tangible shareholders' equity to assets ratio; uses of opportunities during periods of economic growth internal capital generation; credit exposure reserve and political optimism. These same factors can appropriateness; the Corporation's liquidity similarly affect companies in the Corporation's management and interest rate risk management venture capital investment portfolio.

objectives; maturities of debt; simulation of changes in interest rates; the value-at-risk for trading Relevant benchmarks to estimate fixure chances in activities; market risk associated with standby letters investment management fees. This report presents of credit and foreign and other guarantees; possible estimates as to the effect sustained changes in the losses related to Three Rivers Funding Corporation Standard & Poor's 500 Index, and an equivalent (TRFC); the values of retained interests; expected movement in the FTSE, would have on the future payments of contractual obligations; expected Corporation's investment management fees, stock option expense; the effects of recent excluding performance fees. The S&P 500 Index accounting changes; annual occupancy expense; and the FTSE were chosen for purposes of such amounts of contingent and deferred consideration estimates because they are widely recognized payable for acquisitions; expected divestitures; measures and the Corporation has been able to expected maturities of securities; collection of establish a degree of correlation between the indices principal and interest on temporarily impaired and the Corporation's investment management fees securities; the values of retained interests and over prior periods. While the Corporation believes estimated sensitivities to changes in assumptions; these indices are the best industry benchmarks for projected losses on securitized HELOC, insurance purposes of these estimates, the diversity of the premium finance and jumbo residential mortgage Corporation's equity assets under management is loans; amounts of rental payments; estimated such that the Corporation's current and future equity amortization expense; impact of repatriating asset mix will not be fully reflected in these or any earnings; realization of deferred tax assets; the other similar industry measures. Accordingly, the accumulated benefit obligation of defined benefit actual impact on investment management fees from plans; expected long-term rates of return; expected a change in the S&P 500 Index and the FTSE may benefit payments; postretirement benefit costs; vary from the Corporation's estimates.

litigation results; the estimated fair value of 58 MELLON FINANCIAL CORPORATION

CAUTIONARY STATEMENT Eauiit andfixed-income market fluctuations. As Levels of tax-free income The level of the price levels in the equity and fixed-income markets Corporation's tax-exempt income can affect the increase or decrease, the Corporation's opportunities Corporation's effective tax rate.

to sell its products and services, to invest and to manage financial assets may change. Because Technological change. Technology is a very certain of the Corporation's fee revenue is based on important component of many of the Corporation's the value of assets under management or custody, products and services as well as being critically fluctuations in market valuations will affect revenue. important to the Corporation's internal operating processes. A faster rate of technological change can Changes in the mix ofassets under management require the Corporation to invest more in technology Because management fees can vary by asset class, to remain competitive and thus lead to higher revenues can be affected by the types of assets that expenses. On the other hand, technological change at a given time are most attractive to customers. creates the opportunity for product differentiation and higher revenues as well as reduced costs. There The effects of the adoption of new accounting is a risk to the Corporation if its competitors are able standards. The adoption of new accounting to use technology to develop more marketable standards could affect the Corporation's income products and/or services at lower prices than the statement, balance sheet, statement of cash flows or Corporation can offer.

statement of changes in shareholders' equity. New standards could cause reported amounts to increase Success in the timely development of new products or decrease or impact the comparability of current andservices. The Corporation operates in a highly and prior period results. competitive environment in all of the markets it serves. The timely development of new products Customers' sensitivity to increasesin oil prices and and services can represent a competitive advantage decreasingtravel Higher oil prices and decreasing leading to increased revenues while the inability to travel could impact the ability of borrowers whose do so can have the opposite effect.

businesses are sensitive to these factors to repay extensions of credit. Competitive product andpricingpressureswithin the Corporation'smarkets. Competitive product Corporateandpersonalcustomers' bankruptcies. and pricing pressures can affect the Corporation's An increase in corporate and personal customers' ability to sell its products and services and can bankruptcies can require higher credit loss impact the prices the Corporation is able to charge.

provisions and higher charges against the reserve for Demand for the Corporation's products and services, credit exposure negatively impacting net income and price levels and activities of competitors will affect various capital ratios. the Corporation's revenues.

Operationalrisk- Operational risk is the risk of C'ustomerspending andsaving habits. The (direct or indirect) loss resulting from inadequate or Corporation benefits from the savings of customers failed internal processes, people and systems, or that are invested in mutual funds, defined from external events. It is the potential for loss that contribution plans and other products offered or arises from problems with operating processes, serviced by the Corporation. Changes in the rate of human error or omission, breaches in internal savings or preferred investment styles may affect the controls, fraud or unforeseen catastrophes. Corporation's revenues.

Inflation. Inflation, disinflation or deflation can Interest rate fluctuations. Interest rate fluctuations, impact a variety of economic measures and market the levels of market interest rates, the shape of the values that are important to the Corporation's yield curve, the direction of interest rate changes financial performance including interest rates, and fluctuations in the interest rate spreads between equity and fixed-income market values, the different fixed income investments can affect the Corporation's expense levels and prices for the Corporation's cost of funds, its net interest revenue Corporation's products and services. and any other revenue that has a sensitivity to MELLON FINANCIAL CORPORATION 59

CAUTIONARY STATEMENT interest rates. Interest rate fluctuations can also challenge the Corporation to adapt quickly and impact the demand for different investment products effectively.

offered by the Corporation. In general, the Corporation attempts to mitigate the effects of either Success in gainingregulatoryapprovals when significant increases or decreases in interest rates on required The Corporation operates in a highly its income statement. regulated environment, both within and outside the United States. If regulatory approval is required for Monetar fluctuations. Changes in monetary and an activity, product, service, acquisition or credit conditions and their effect on the economy disposition and approval cannot be obtained on a and the financial markets may impact the timely basis, the Corporation could miss the Corporation in a variety of ways. opportunity and the particular benefits it presented.

Currenoc rate fluctuations. The Corporation sells The uncertaintiesinherent in the litigationprocess.

its products and services in a number of countries At any given time, the Corporation is subject to throughout the world and, as a result, is exposed to various pending and threatened legal actions and movements in foreign currency exchange rates. The proceedings. The Corporation evaluates the risks of Corporation enters into various derivative these actions and proceedings within the context of transactions in accordance with the Corporation's current judicial decisions and legislative and policies, to offset to the extent possible the impact regulatory interpretations. A trier of fact, either a of the rate fluctuations. judge or jury, could decide a case contrary to the Corporation's evaluation of the relevant facts or law, Acquisitions and integrationsof acquired and a court or regulatory agency could act to change businesses. Acquisitions of businesses or lines of existing law on a particular issue.

business are an active part of the Corporation's business strategy and use of excess capital. Any The effects of recent and any further terroristacts acquisition presents execution risk. There can be no and the results of the war on terrorism. Terrorist assurance that the operational or financial acts could have a significant impact on economic performance of an acquired business will be as activity and could cause the Corporation's customers expected, that any desired synergies will occur or not to purchase, or delay purchasing, the that an acquired business will be successfully Corporation's products and services. In addition, the assimilated into the Corporation. Corporation has in place business continuity and disaster recovery plans. Terrorists acts could, Changes in lass The Corporation operates in a however, cause damage to the Corporation's highly regulated environment, both within and facilities or could cause delays or disruptions to its outside the United States. Many laws and many operations. The Corporation's vendors and regulatory agencies, both domestic and foreign, counterparties could be similarly affected.

impact its operations. Changes in law could affect the competitive environment in which the There are other risks and uncertainties detailed Corporation operates, broaden or narrow the scope elsewhere or incorporated by reference in this of permitted activities of it and its competitors, Financial Annual Report and in subsequent reports facilitate or retard consolidation, impose higher filed by the Corporation with the Securities and costs or operating burdens and challenge the Exchange Commission pursuant to the Securities Corporation to adapt quickly and effectively to such Exchange Act of 1934. All statements speak only as changes. of the date on which such statements are made, and the Corporation undertakes no obligation to update Changes in fiscal. monetary regulatorv, trade and any statement to reflect events or circumstances tax polices andlaws. Changes in these policies and after the date on which such statement is made or to laws could affect the products and services the reflect the occurrence of unanticipated events.

Corporation offers and therefore its revenues, as well as impose additional costs and expenses, such as higher taxes. Also, any significant changes will 60 MELLON FINANCIAL CORPORATION

REPORT OF MANAGEMENT ON INTERNAL CONTROL OVER FINANCIAL REPORTING Management of the Corporation is responsible for establishing and maintaining adequate internal control over financial reporting for the Corporation, as such term is defined in Rule 13a-1 5(f) under the Securities Exchange Act of 1934.

The Corporation's management, including the principal executive officer and principal financial officer, has assessed the effectiveness of the Corporation's internal control over financial reporting as of December 31, 2004.

In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control - IntegratedFramework. Based upon such assessment, management believes that, as of December 31, 2004, the Corporation's internal control over financial reporting is effective based upon those criteria.

KPMG LLP, the registered public accounting firm that audited the financial statements included in this Financial Annual Report under "Financial Statements and Notes," has issued a report with respect to management's assessment of the effectiveness of the Corporation's internal control over financial reporting. This report appears on page 62.

MELLON FINANCIAL CORPORATION 61

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The Board of Directors and Shareholders of Mellon Financial Corporation:

We have audited management's assessment, included in the accompanying Report of Management on Internal Control Over Financial Reporting, that Mellon Financial Corporation maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Mellon Financial Corporation's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management's assessment and an opinion on the effectiveness of the Corporation's internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.

Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, management's assessment that Mellon Financial Corporation maintained effective internal control over financial reporting as of December 31, 2004 is fairly stated, in all material respects, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion, Mellon Financial Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).

WVe have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Mellon Financial Corporation and subsidiaries as of December 31, 2004 and 2003 and the related consolidated statements of income, changes in shareholders' equity, and cash flows for each of the years in the three-year period ended December 31, 2004; and our report dated February 18, 2005 expressed an unqualified opinion on those consolidated financial statements.

/sf KPMG LLP Pittsburgh, Pennsylvania February 18, 2005 62 MELLON FINANCIAL CORPORATION

CONSOLIDATED INCOME STATEMENT Mellon Financial Corporation (and its subsidiaries)

Year ended Dec. 31, (in millions) 2004 2003 2002 Noninterest revenue Trust and investment fee revenue:

Investment management S1,617 $1,413 S1,414 Human resources & investor solutions 918 944 1,020 Institutional trust and custody 503 437 453 Securities lending revenue 76 69 75 Total trust and investment fee revenue 3,114 2,863 2,962 Cash management revenue 308 309 273 Foreign exchange trading revenue 185 147 146 Financing-related revenue 138 141 147 Equity investment revenue 160 (6) (28)

Other revenue 151 153 100 Total fee and other revenue 4,056 3,607 3,600 Gains on sales of securities 8 62 59 Total noninterest revenue 4,064 3,669 3,659 Net interest revenue Interest revenue 862 934 1,056 Interest expense 404 364 445 Net interest revenue 458 570 611 Provision for credit losses (11) 7 172 Net interest revenue after provision for credit losses 469 563 439 Operating expense Staff expense 1,977 1,883 1,830 Professional, legal and other purchased services 449 431 391 Net occupancy expense 284 265 245 Equipment expense 209 226 214 Business development 103 108 131 Communications expense 106 106 110 Amortization of intangible assets 21 18 14 Other expense 227 199 166 Total operating expense 3,376 3,236 3,101 Income Income from continuing operations before income taxes and cumulative effect of accounting change 1,157 996 997 Provision for income taxes 357 313 327 Income from continuing operations before cumulative effect of accounting change 800 683 670 Cumulative effect of accounting change, net of tax - (7)

Income from continuing operations 800 676 670 Discontinued operations:

Income (loss) from operations (net of tax expense (credit) of S(5), S(4) and $-) (9) (7)

Net gain on disposals (net of tax expense (credit) ofS3, S(13) and $8) 5 32 12 Income (loss) from discontinued operations (net of tax expense (credit) of S(2), S(17) and S8) (4) 25 12 Net income S 796 $ 701 S 682

-continued-MELLON FINANCIAL CORPORATION 63

CONSOLIDATED INCOME STATEMENT (continued)

Mellon Financial Corporation (and its subsidiaries)

Year ended Dec. 31, (share amounts in thousands) 2004 2003 2002 Earnings per Basic:

share (a) Income from continuing operations before cumulative effect of accounting change S 1.91 S 1.60 S 1.54 Cumulative effect of accounting change - (.02)

Continuing operations 1.91 1.58 1.54 Discontinued operations (.01) .06 .02 Net income S 1.90 S 1.64 S 1.56 Diluted:

Income from continuing operations before cumulative effect of accounting change S 1.89 $ 1.59 S 1.53 Cumulative effect of accounting change - (.01)

Continuing operations 1.89 1.58 1.53 Discontinued operations (.01) .05 .02 Net income S 1.88 $ 1.63 S 1.55 Shares Basic average shares outstanding 419,610 426,182 436,253 outstanding Common stock equivalents fb) 4.677 4.536 2.936 Diluted average shares outstanding 424,287 430,718 439,189 (a) Calculatedbased on unroundednumbers.

(b) Options to purchasesharesof common stock of 29,514 shares in 2004, 26,972 shares in 2003 and21,919 shares in 2002 were not included in the computation of diluted earningsper common sharebecause the options' exercise prices were greater than the average market prices ofthe common shares in each year.

See accompanyingNotes to FinancialStatements.

64 MELLON FINANCIAL CORPORATION

CONSOLIDATED BALANCE SHEET Mellon Financial Corporation (and its subsidiaries)

Dec. 31, (dollar amounts in millions) 2004 2003 Assets Cash and due from banks S 2,775 S 2,602 Interest-bearing deposits with banks 2,709 2,775 Federal funds sold and securities under resale agreements 1,850 703 Other money market investments 114 216 Trading account securities 262 266 Securities available for sale 13,376 10,690 Investment securities (approximate fair value ofS217 and $308) 211 297 Loans, net of unearned discount of S28 and $30 6,754 7,467 Reserve for loan losses (98) (103)

Net loans 6,656 7,364 Premises and equipment 688 668 Goodwill 2,321 2,194 Other intangibles 145 100 Assets of discontinued operations 40 187 Other assets 5,968 5,921 Total assets S37,115 $33,983 Liabilities Noninterest-bearing deposits in domestic offices S 7,371 S 7,310 Interest-bearing deposits in domestic offices 10,170 8,099 Interest-bearing deposits in foreign offices 6,050 5A434 Total deposits 23,591 20,843 Federal funds purchased and securities under repurchase agreements 704 754 Term federal funds purchased and U.S. Treasury tax and loan demand notes 52 152 Commercial paper 6 10 Other funds borrowed 153 168 Reserve for unfunded commitments 67 75 Other liabilities 2,801 2,861 Notes and debentures (with original maturities over one year) 4,567 4,209 Junior subordinated deferrable interest debentures held by trusts that issued guaranteed capital debt securities 1,057 1,057 Liabilities of discontinued operations 15 152 Total liabilities 33,013 30,281 Shareholders' Common stock-S.50 par value equity Authorized-800,000,000 shares Issued 588,661,920 shares 294 294 Additional paid-in capital 1,931 1,901 Retained earnings 6,397 5,934 Accumulated unrealized gain, net of tax 49 26 Treasury stock of 165,308,079 and 161,629,563 shares, at cost (4.569) (4,453)

Total shareholders' equity 4,102 3,702 Total liabilities and shareholders' equity S37,115 $33,983 See accompanying Notes to FinancialStatements.

MELLON FINANCIAL CORPORAllON 65

CONSOLIDATED STATEMENT OF CASH FLOWS Mellon Financial Corporation (and its subsidiaries)

Year ended Dec. 31, (in millions) 2004 2003 2002 Cash flows from Net income S 796 S 701 $ 682 operating activities Income from discontinued operations (4) 25 12 Net income from continuing operations 800 676 670 Adjustments to reconcile net income to net cash provided by operating activities:

Cumulative effect of accounting change - 7 -

Depreciation and other amortization 165 165 150 Deferred income tax (benefit) expense 238 155 (43)

Provision for credit losses (11) 7 172 Net gains on sales of securities (8) (62) (59)

Gain on sale of portion of indirect investment in Shinsci Bank (93)

Pension expense (credit) 12 (28) (97)

Net decrease in trading account securities 4 14 57 Net change in accruals and other (284) (52) (266)

Net cash provided by continuing operations 823 882 584 Net effect of discontinued operations 22 (16) (567)

Net cash provided by operating activities 845 866 17 Cash flows from Net (increase) decrease in term deposits and other investing activities money market investments 168 (1,060) 2,334 Net (increase) decrease in federal funds sold and securities under resale agreements (1,147) 1,526 (1,303)

Purchases of securities available for sale (9,446) (14,309) (14,795)

Proceeds from sales of securities available for sale 2,347 2,200 3,322 Proceeds from maturities of securities available for sale 4,337 12,422 9,341 Purchases of investment securities - (9) (4)

Proceeds from maturities of investment securities 86 236 243 Net principal (advances) repayments of loans to customers (107) 681 (1,195)

Loan portfolio purchases (19) (116) (21)

Proceeds from the sales and securitizations of loans 828 389 1,182 Proceeds from the sale of portion of indirect investment in Shinsei Bank 120 - -

Purchases of premises and equipment/capitalized software (185) (133) (209)

Net cash disbursed in acquisitions (228) (33) (412)

Net increase (decrease) from other investing activities 45 (203) (260)

Net cash provided by (used in) investing activities (3,201) 1.591 (1,777)

Cash flows from Net increase (decrease) in deposits 2,748 (1,814) 1,942 financing activities Net increase (decrease) in federal funds purchased and securities under repurchase agreements (50) 21 (92)

Net increase (decrease) in other funds borrowed (114) (94) 24 Net increase (decrease) in commercial paper (4)

Repayments of longer-term debt (205) (603)I (409)

Net proceeds from issuance of longer-term debt 595 357 693 Dividends paid on common stock (297) (243) (213)

Proceeds from issuance of common stock 42 40 51 Repurchase of common stock (266) -

(257) -

(698)

Net cash provided by (used in) financing activities 2,449 (2,592) 1,299 Effect of foreign currency exchange rates 80 9 12 Change in cash and Net increase (decrease) in cash and due from banks 173 (126) (449) due from banks Cash and due from banks at becinnine of year 2.602 2.728 3.177 Cash and due from banks at end of year S 2,775 S 2,602 S 2,728 Supplemental Interest paid S (398) S (385) S (455) disclosures Income taxes paid (a) (282) (275) (873)

Income taxes refunded (a) 58 106 14 (a) Includes discontinuedoperations.

See accompanying Notes to FinancialStatements.

66 MELLON FINANCIAL CORPORATION

-

CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY Mellon Financial Corporation (and its subsidiaries)

Accumulated Total Additional unrealized share-Common paid-in Retained gain (loss), Treasury holders' (in millions, except per share amounts) stock capital earnings net of tax stock equity Balance at Dec. 31,2001 S294 S1,870 S5,087 S 30 $(3,799) S3,482 Comprehensive results:

Net income - - 682 -

Other comprehensive results, net of tax - 682

- - - 36 - 36 Reclassification adjustment - - - (25) - (25)

Total comprehensive results - - 682 11 - 693 Dividends on common stock at $0.49 per share - - (213) - - (213)

Repurchase of common stock - - - - (698) (698)

Stock awards and options exercised - 15 (37) - 87 65 Common stock issued under the 401(k)

Retirement Savings Plan - I (1) - 33 33 Common stock issued under the Employee Stock Purchase Plan - (4) - 27 23 Common stock issued under Direct Stock Purchase and Dividend Reinvestment Plan - - - - 10 10 Balanceat Dec. 31,2002 S294 $1,886 S5,514 S 41 $(4,340) S3,395 Comprehensive Net income results: - - 701 - 701 Other comprehensive results, net of tax - - - 44 - 44 Reclassification adjustment - - - (59) (59)

Total comprehensive results - 701 (15) 686 Dividends on common stock at SO.57 per share - (243) - - (243)

Repurchase of common stock - - - - (257) (257)

Stock awards and options exercised - 13 (35) - 75 53 Common stock issued under the 401 (k) Retirement Savings Plan - I (1) - 36 36 Common stock issued under the Employee Stock Purchase Plan - (1) - 12 11 Common stock issued under Direct Stock Purchase and Dividend Reinvestment Plan - ( () - 11 10 Common stock issued in connection with The Arden Group, Inc. acquisition - I - - 10 11 Balance at Dec. 31,2003 $294 $1,901 $5,934 $ 26 $ (4,453) S3,702 Comprehensive results:

Net Income - - 796 - 796 Other comprehensive results, net of tax - - - 22 - 22 Reclassification adjustment - - - I - I Total comprehensive results - - 796 23 - 819 Dividends on common stock at 50.70 per share - - (297)

Repurchase of common stock

- - (297)

- - - - (266) (266)

Stock awards and options exercised - 28 (33) - 93 88 Common stock issued under the 401(k)

Retirement Savings Plan - 1 (2) - 35 34 Common stock issued under the Employee Stock Purchase Plan - - - - 7 7 Common stock issued under Direct Stock Purchase and Dividend Reinvestment Plan - I (1) - 13 13 Common stock issued in connection with The Arden Group, Inc. acquisition - - - 2 2 Balance at Dec. 31, 2004 S294 S1,931 $6,397 $ 49 S(4,569) 54,102 See accompanying Notes to FinancialStatements.

MELLON FINANCIAL CORPORATION 67

NOTES TO FINANCIAL STATEMENTS

1. Accounting policies owned life insurance. Financial data for the Parent Corporation, the financing subsidiary and the single Basis ofpresentation member company are combined for financial reporting purposes because of the limited function The accounting and financial reporting policies of of these entities and the unconditional guarantee by Mellon Financial Corporation (Mellon), a global Mellon of their obligations.

financial services company, conform to U.S.

generally accepted accounting principles (GAAP) We consider the underlying facts and circumstances and prevailing industry practices. The preparation of individual transactions when assessing the of financial statements requires management to appropriateness of consolidating a variable interest make estimates and assumptions that affect the entity (VIE). Mellon's assessment focuses on its reported amounts of certain assets and liabilities, the ability to influence or control a VIE as well as the disclosure of contingent assets and liabilities, and dispersion of risk and rewards attributable to a VIE.

the reported amounts of related revenue and In cases where Mellon transfers financial assets in a expense. Actual results could differ from these securitization to a VIE, the VIE must represent a estimates. qualifying special purpose entity (QSPE) or we would continue to consolidate the transferred In addition to reclassifications related to financial assets. QSPE status is achieved when all discontinued operations, other reclassifications have conditions specified in SFAS No. 140, "Accounting been made to prior periods to place them on a basis for Transfers and Servicing of Financial Assets and comparable with current period presentation. Extinguishments of Liabilities," are met. Those conditions focus on whether the entity is The consolidated financial statements of Mellon demonstrably distinct from Mellon, limited to only include the accounts of Mellon and its majority- permitted activities, limited on what assets the owned subsidiaries. Investments, other than venture QSPE may hold, and limited on sales or other capital, in companies 20% to 50% owned are carried dispositions of assets. We also obtain the required on the equity basis. Mellon's share of earnings of true-sale opinions from outside counsel on all nonconsolidated equity investments are reflected in securitizations. We have determined that all of our noninterest revenue as equity investment or trust and securitization trusts are QSPEs.

investment fee revenue, as appropriate, in the period earned. Investments, other than venture capital, in Nature of operations companies less than 20% owned are carried at cost.

Intracorporate balances and transactions are not Mellon is a global financial services company reflected in the consolidated financial statements. providing a broad range of financial products and services in domestic and selected international The income statement and balance sheet include markets. Through our six core business sectors results of acquired businesses, accounted for under (Institutional Asset Management, Mutual Funds, the purchase method of accounting pursuant to Private Wealth Management, Asset Servicing, SFAS No. 141 "Business Combinations," and equity Human Resources & Investor Solutions and investments from the dates of acquisition. We Treasury Services), we serve two distinct major record any contingent purchase payments when the classes of customers - corporations and institutions amounts are resolved and become payable. and high net worth individuals. For corporations and institutions, we provide the following services:

The Parent Corporation financial statements in Note 30 of Notes to Financial Statements include

• investment management; the accounts of the Parent Corporation; those of a

• trust and custody; wholly owned financing subsidiary that functions as

• foreign exchange; a financing entity for Mellon and its subsidiaries by

• securities lending; issuing commercial paper and other debt guaranteed

• performance analytics; by Mellon; and MIPA, LLC, a single member

• fund administration; company, created to hold and administer corporate 68 MELLON FINANCIAL CORPORAlTON

NOTES TO FINANCIAL STATEMENTS

• outsourcing solutions for investment Securities available for sale are stated at fair value.

managers; Unrealized gains or losses on assets classified as

• retirement and employee benefits consulting; available for sale, net of tax, are recorded as an

• outsourcing solutions for benefit plans; addition to or deduction from other comprehensive

• comprehensive end-to-end human resources results. Investment securities are stated at cost, outsourcing solutions; adjusted for amortization of premium and accretion

• shareholder services; of discount on a level yield basis. Gains and losses

• treasury management; and on sales of securities available for sale are reported

• banking services. in the income statement. The cost of securities sold is determined on a specific identification basis.

For individuals, we provide mutual funds and wealth management. Mellon's asset management Venture capitalinvestments businesses, which include The Dreyfus Corporation, Founders Asset Management LLC and Standish Venture capital investments, which include both Mellon Asset Management Company LLC in the direct investments in companies and investments in United States and Newton Investment Management private equity funds, are reported at estimated fair in Europe, as well as a number of additional values. Changes in estimated fair values and gains investment management boutiques, provide and losses from sales are recognized in equity investment products in many asset classes and investment revenue. The fair value estimates of the investment styles. Although Mellon's largest investments are based upon available information domestic subsidiaries primarily are headquartered in and may not necessarily represent amounts that will the Northeast and mid-Atlantic regions, most of its ultimately be realized, which depend on future products and services are offered globally. Our events and circumstances. The valuation procedures customer base is well diversified and primarily applied to direct investments include market prices, domestic with a growing international presence. if available, consideration of economic and market conditions, current and projected financial Tradingaccount securities, securities availablefor performance of the investee company, and the sale and investment securities investee company's management team. The valuation procedures applied to private equity fund Securities are classified in the trading account investments include consideration of economic and securities portfolio, the securities available for sale market conditions and an evaluation of the private portfolio or the investment securities portfolio when equity manager's valuation techniques. Direct they arc purchased. Securities are classified as venture capital investments include both equity and trading account securities when the intent is profit mezzanine investments. Direct investments and maximization through market appreciation and indirect investments in private equity funds are resale. Securities are classified as available for sale included in other assets. Mellon's policy regarding when we intend to hold the securities for an venture capital investments has been identified as a indefinite period of time or when the securities may "critical accounting policy" as it is regarded to be be used for tactical asset/liability purposes and may critical to the presentation of our financial be sold from time to time to effectively manage statements since it requires management to make interest rate exposure, prepayment risk and liquidity numerous complex and subjective estimates and needs. Securities are classified as investment valuation assumptions relating to amounts which are securities when we intend to hold them until inherently uncertain.

maturity.

Loans Trading account securities are stated at fair value.

Trading revenue includes both realized and Loans are reported net of any unearned discount.

unrealized gains and losses. The liability incurred Interest revenue on nondiscounted loans is on short-sale transactions, representing the recognized based on the principal amount obligation to deliver securities, is included in other outstanding. Interest revenue on discounted loans is funds borrowed at fair value. recognized based on methods that approximate a MELLON FINANCIAL CORPORATION 69

NOTES TO FINANCIAL STATEMENTS level yield. Loan origination and upfront terms of the loan agreement. We review all loans of commitment fees, as well as certain direct loan $1 million or greater, or in the case of certain origination and commitment costs, are deferred and banking subsidiaries loans that are greater than amortized as a yield adjustment over the lives of the $250 thousand, where there is a significant credit related loans. Deferred fees and costs are netted concern for potential impairment. An impairment against outstanding loan balances. Loans held for reserve is then measured on the loans which meet sale are carried at the lower of aggregate cost or fair the definition of an impaired loan per SFAS value. No. 114. Personal nonaccrual loans are not tested for impairment because they are included in large Unearned revenue on direct financing leases is groups of smaller-balance homogeneous loans that, accreted over the lives of the leases in decreasing by definition along with leases, are excluded from amounts to provide a constant rate of return on the the scope of SFAS No. 114.

net investment in the leases. Revenue on leveraged leases is recognized on a basis to achieve a constant Impaired loans are required to be measured based yield on the outstanding investment in the lease, net upon the loan's market price, the present value of of the related deferred tax liability, in the years in expected future cash flows, discounted at the loan's which the net investment is positive. Gains on sales initial effective interest rate, or at fair value of the of lease residuals are recognized in financing-related collateral if the loan is collateral dependent. If the revenue. loan valuation is less than the recorded value of the loan, an impairment reserve is established for the Commercial loans, including commercial leases, difference. The impairment reserve is established generally are placed on nonaccrual status when by either an allocation of the reserve for credit either principal or interest is past due 90 days or losses or by a provision for credit losses.

more, unless the loan is well secured and in the Impairment reserves are not needed when the process of collection. We also place commercial recorded investment in an impaired loan is less than loans on nonaccrual status when the collection of the loan valuation.

principal or interest becomes doubtful. Residential mortgage loans generally are placed on nonaccrual Loan securitizations status when, in ourjudgment, collection is in doubt or the loans are 180 days or more delinquent. Insurance premium finance receivables are sold in Personal loans, other than residential mortgages, and securitizations. In prior years, automobile loans, certain secured commercial loans are charged off home equity lines of credit, home equity installment upon reaching various stages of delinquency loans and jumbo residential mortgages were also depending upon the loan type, or upon the death or sold in securitizations. Mellon retains servicing bankruptcy of the borrower. When a loan is placed assets, cash reserve accounts and/or interest-only on nonaccrual status, previously accrued and strips, all of which are considered retained interests uncollected interest is reversed against current in securitized receivables. The gain or loss on the period interest revenue. Interest receipts on sale of the receivables depends in part on the nonaccrual and impaired loans are recognized as previous carrying amount of the financial assets interest revenue or are applied to principal when we involved in the transfer, which is allocated between believe the ultimate collectibility of principal is in the assets sold and the retained interests based on doubt. Nonaccrual loans generally are restored to an their relative fair values at the date of transfer. Fair accrual basis when principal and interest payments values are obtained by using quoted market prices if become current or when the loan becomes well available.

secured and is in the process of collection.

When quoted market prices are not available for A loan is considered to be impaired, as defined by retained interests, Mellon estimates fair values SFAS No. 114, "Accounting by Creditors for based on the present value of expected cash flows, Impairment of a Loan," when it is probable that which are estimated using our best estimates of Mellon will be unable to collect all principal and various key assumptions such as credit losses, interest amounts due according to the contractual prepayment speeds and discount rates commensurate 70 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS with the risks involved. Servicing assets are as the reserve for loan losses, as well as an estimate amortized in proportion to estimated net servicing of the probability of drawdown, correlated to the fee revenue and are periodically reviewed for credit risk rating of the commitment.

impairment. The servicing revenue is recognized in financing-related revenue. Interest-only strips are Acquiredpropert recorded as securities available for sale with mark-to-market adjustments recorded as adjustments to Property acquired in connection with loan other comprehensive results. Declines in carrying settlements, including real estate acquired, is stated value which are determined to be other-than- at the lower of estimated fair value less estimated temporary are immediately charged as a loss on costs to sell or the carrying amount of the loan.

securities. Acquired property is reported in other assets.

Reservefor loan losses andreservefor unfunded Premisesandequipment commitments Premises and equipment are stated at cost, less The reserve for loan losses, shown as a valuation accumulated depreciation and amortization.

allowance to loans, and the liability reserve for Depreciation and amortization are calculated over unfunded commitments are referred to as Mellon's the estimated useful lives of the assets, limited in the reserve for credit exposure. The accounting policy case of leasehold improvements to the lease term, for the determination of the adequacy of the reserve using the straight-line method.

has been identified as a "critical accounting policy" as it requires us to make numerous complex and Mellon capitalizes costs relating to acquired subjective estimates and assumptions relating to software and internal-use software development amounts which are inherently uncertain. projects that provide new or significantly improved functionality. We capitalize projects that are The reserve for loan losses is maintained to absorb expected to result in longer term operational losses inherent in the loan portfolio as of the balance benefits, such as replacement systems or new sheet date based on ourjudgment. The reserve applications that result in significantly increased determination methodology is designed to provide operational efficiencies or incremental revenues.

procedural discipline in assessing the appropriateness of the reserve. This methodology is Identified intangible assets andgoodwill based substantially upon risk-weighted historical experience in the portfolio, but also includes loan- Identified intangible assets with estimable lives are by-loan reviews as well as a review by portfolio. amortized in a pattern consistent with the assets' Qualitative factors that influence inherent losses and identifiable cash flows or using a straight-line are considered in the establishment of reserves method over their remaining estimated benefit include: periods if the pattern of cash flows is not estimable.

Intangible assets with estimable lives are reviewed

• historical experience; for possible impairment when events or changed

• strategies for management of circumstances may affect the underlying basis of the nonperforming loans; asset. Goodwill and intangibles with indefinite lives

• portfolio volume, quality, maturity and are assessed at least annually for impairment, composition; generally based on discounted cash flows.

• current economic conditions; and

• other current factors. Income taxes Credit losses are charged against the reserve. Deferred taxes are recognized for the expected Recoveries are added to the reserve. future tax consequences of existing differences between the financial reporting and tax reporting The methodology for determining the liability for bases of assets and liabilities using enacted tax laws unfunded commitments considers the same factors MELLON FINANCIAL CORPORATION 71

NOTES TO FINANCIAL STATEMENTS and rates. Mellon files a consolidated federal Pensions income tax return.

Mellon provides pension benefits to substantially Foreigncurrency translation all of its salaried employees through its noncontributory, defined benefit pension plans.

Assets and liabilities denominated in foreign Employees are provided benefits that are based upon currencies are translated to U.S. dollars at the rate of the employees' years of service and compensation.

exchange on the balance sheet date. Revenue and The prepaid pension benefit is reported in other expense accounts are translated monthly at month- assets. The unfunded pension liability is recorded in end rates of exchange. Transaction gains and losses other liabilities. Net periodic expense or benefit are included in the income statement. Translation credits are recognized in staff expense. Mellon's gains and losses on investments in foreign entities accounting policy regarding pensions has been with functional currencies that are not the U.S. identified as a "critical accounting policy" as it is dollar are recorded as foreign currency translation regarded to be critical to the presentation of our adjustments in other comprehensive results. financial statements since it requires management to make numerous complex and subjective Fee revenue assumptions relating to amounts which are inherently uncertain. For further discussion of our Trust and investment fees are reported net of fees pension accounting policy, see pages 93 and 94 of waived and expense reimbursements to certain this report.

mutual funds. Investment management performance fees earned under a contractual formula are Severance recognized in the period in which the performance fees are earned and become determinable. Fees on Mellon provides displacement benefits through the standby letters of credit are recognized over the Mellon Financial Corporation Displacement commitment term in fee revenue, while fees on Program to eligible employees displaced from their commercial letters of credit, because of their short- jobs for business reasons not related to individual term nature, are recognized when received in fee performance. Basic displacement benefits are based revenue. on the employee's years of continuous benefited service. Extended displacement benefits are based Mellon recognizes fee revenue earned under its on salary grade and are available to eligible outsourcing contracts, which generally have a three- displaced employees who have not commenced to five-year contractual term, as services are other employment prior to exhausting their basic provided. We recognize revenue from non- displacement benefits pay. Displacement expense is refundable, up-front implementation fees using a recorded when management commits to an action straight-line method, commencing in the period the that will result in displacement and the amount of ongoing services are performed through the the liability can be reasonably estimated.

expected term of the contractual relationship.

Incremental direct set-up costs of implementation, Derivative instruments usedfor risk management up to the related implementation fee or minimum fee purposes revenue amount, are deferred and amortized over the same period that the related implementation fees are Mellon enters into derivative instruments to manage recognized. If a client terminates an outsourcing its sensitivity to interest rate, currency and credit contract prematurely, the unamortized deferred risk. This is accomplished by using these incremental direct set-up costs and the unamortized instruments to offset the inherent price, interest rate deferred up-front implementation fees related to that or currency risk of specific balance sheet assets or contract are recognized in the period the contract is liabilities. Qualifying instruments are designated as terminated. Consulting fee revenue is recognized as hedges on the trade date. All derivative instruments the services are provided. Fees for other services are recognized on the balance sheet at their fair generally are recognized over the periods in which values. The fair value of contracts in a gain position the related services are provided. is reported on the balance sheet in other assets and 72 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS the fair value of contracts in a loss position is foreign currency hedges to specific assets and reported in other liabilities. In cases where liabilities on the balance sheet or to specific firm counterparty netting agreements exist, only the net commitments or forecasted transactions. A formal gain or loss on all eligible contracts with such assessment, both at the inception of the hedge and counterparty is reported on the balance sheet. on an ongoing quarterly basis, is performed to Derivatives designated as a hedge of changes in the determine whether the derivative instruments that fair value of an asset or liability or of a firm are used in hedging transactions have been highly commitment attributable to a specified risk are effective in offsetting changes in fair values or cash considered to be fair value hedges. Derivatives flows of hedged items and whether they are designated as a hedge of a forecasted transaction or expected to continue to be highly effective in future of the variability of cash flows to be received or periods.

paid related to an asset or liability are considered to be cash flow hedges. Derivatives can also be When it is determined that a derivative instrument is designated as foreign currency, fair value and cash not highly effective as a hedge, hedge accounting is flow hedges, and as hedges of a net investment in a discontinued. Hedge accounting is also foreign operation. discontinued when:

Changes in the fair value of a derivative that is

• the derivative instrument expires, is sold, highly effective and qualifies as a fair value hedge, terminated or exercised; along with the loss or gain on the hedged asset or

• is no longer designated as a hedge instrument liability that is attributable to the hedged risk because it is unlikely that a forecasted (including losses or gains on firm commitments), are transaction will occur; recorded in current period earnings. Changes in the

• a hedged firm commitment no longer meets fair value of a derivative that is highly effective and the definition of a firm commitment; or qualifies as a cash flow hedge are recorded in other

• management determines that designation of comprehensive results, and reclassified into earnings the derivative as a hedge instrument is no in the same period or periods as the hedged item longer appropriate.

affects earnings. Changes in the fair value of derivatives that are highly effective and qualify as When hedge accounting is discontinued, the foreign currency hedges are recorded in either derivative instrument will be either terminated, current period earnings or other comprehensive continue to be carried on the balance sheet at fair results, depending on whether the hedge transaction value or redesignated as the hedging instrument in meets the criteria for a fair value or a cash flow either a cash flow or fair value hedge, if the hedge. If, however, a derivative or non-derivative relationship meets all applicable hedging criteria.

financial instrument that may result in foreign Any asset or liability that was previously recorded currency transaction gains or losses is used as a as a result of recognizing the value of a firm hedge of a net investment in a foreign operation, the commitment will be removed from the balance sheet changes in fair value of the derivative or the foreign and recognized as a gain or loss in current period currency transaction, to the extent the hedge is earnings. Any gains or losses that were recorded in effective, are recorded as foreign currency other comprehensive results from hedging a translation adjustments within other comprehensive forecasted transaction will be recognized results. Changes in the fair value of derivatives that immediately in current period earnings, if it is do not qualify as hedges are recorded in current probable that the forecasted transaction will not period earnings. occur.

Mellon formally documents all relationships For further discussion of hedging activity during between hedging instruments and hedged items, as 2002 through 2004, see the "Fair value hedges,"

well as its risk management objective and strategy "Cash flow hedges" and "Hedges of net investment for undertaking various hedge transactions. This in foreign operations" sections on page 46 of this process includes linking all derivative instruments report. The information in those sections is that are designated as fair value, cash flow, or MELLON FINANCIAL CORPORATION 73

NOTES TO FINANCIAL STATEMENTS incorporated by reference into these Notes to under those plans had an exercise price equal to the Financial Statements. market value of the underlying common stock on the date of grant. Effective Jan. 1, 2003, we adopted the Derivative instruments usedfor trading activities fair value recognition provisions of SFAS No. 123, "Accounting for Stock-Based Compensation,"

We enter into various derivative instruments to prospectively for all employee awards granted, accommodate our customers and for our proprietary modified, or settled after Jan. 1, 2003. During 2004, trading activities. Derivative instruments that are options totaling 6,438,664 were granted with a based on specific market indices are also used to weighted-average fair value of $6.43. Stock option manage risk in other portfolios, such as start-up expense was determined by using the Black-Scholes mutual fund investments. In addition, we enter into option pricing model and totaled $13 million after-credit default swaps, which allow the transfer of tax in 2004 and $2 million after-tax in 2003.

credit risk from one party to another for a fee.

These swaps, which do not qualify as hedges for As required to be disclosed by SFAS No. 148, accounting purposes, are used to hedge credit risk "Accounting for Stock-Based Compensation -

associated with commercial lending activities. Transition and Disclosure, an amendment of SFAS Realized and unrealized changes in the fair value of No. 123," the following table illustrates the derivative instruments used for trading activities are pro forma effect on income and earnings per share if recognized in the income statement in foreign the fair value based method had been applied to all exchange trading revenue and other revenue in the awards in each period. Awards under our plans period in which the changes occur. The fair value of generally vest over periods of three or more years.

contracts used for proprietary trading activities is Therefore, the cost related to stock-based employee reported as other assets or other liabilities. In cases compensation included in the determination of net where counterparty netting agreements exist, only income for 2004 is far less than that which would the net gain or loss on all eligible contracts with have been recognized if the fair value based method such counterparty is reported on the balance sheet. had been applied to all awards granted in prior periods.

Statement of cashflows Pro forma income from continuing operations For the purpose of reporting cash flows, Mellon has (in millions, except per defined cash and cash equivalents as cash and due share amounts) 2004 2003 (a) 2002 Income as reported S 800 S 683 S 670 from banks. Cash flows from assets and liabilities Add: Stock-based employee that have an original maturity date of three months compensation expense, using or less generally are reported on a net basis. Cash prospective method, included flows from assets and liabilities that have an original in reported net income, net of maturity date greater than three months generally tax (6) 32 18 16 Deduct: Total stock-based are reported on a gross basis. Cash flows from employee compensation hedging activities are classified in the same category expense, using retroactive as the items hedged. restatement method, determined under fair value based method for all awards, net of tax (1) (55) (52) (56)

Proforma cost of stock options Pro forma income S 777 S 649 $ 630 Earnings per share:

Mellon maintains several stock-based employee Basic - as reported S1.91 $1.60 $1.54 compensation plans, which are described in Note 23 Basic - pro forma $1.85 $1.52 S1.44 of Notes to Financial Statements. Prior to 2003, we Diluted - as reported $1.89 $1.59 S1.53 accounted for those plans under the recognition and Diluted - pro forma $1.83 $1.51 $1.44 measurement provisions of APB Opinion No. 25, (a) Before the cumulative effect ofa change in accounting "Accounting for Stock Issued to Employees," and principlerecorded in thefirst quarterof 2003.

(b) Reported andproforma results include compensation related Interpretations. No stock-based employee expensefor restrictedstock awards, net of tax, of compensation cost for stock options was reflected in $19 millionfor 2004, $16 millionfor 2003 and $16 million net income prior to 2003, as all options granted for 2002.

74 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS The Black-Scholes option pricing model requires the consolidated by its primary beneficiary. The use of subjective assumptions which can materially primary beneficiary is the party that holds variable affect fair value estimates. Therefore, this model interests that expose it to a majority of the entity's does not necessarily provide a reliable single expected losses and/or residual returns.

measure of the fair value of Mellon's stock options or Employee Stock Purchase Plan (ESPP) shares. Our primary banking subsidiary, Mellon Bank, N.A.

The fair value of each stock option granted in 2004, (the Bank) has a referral relationship with Three 2003 and 2002 and ESPP shares in 2002 was Rivers Funding Corporation (TRFC), a special estimated on the date of the grant using the purpose entity that issues commercial paper. TRFC following weighted-average assumptions: is owned by an independent third party and is not a subsidiary of either the Bank or Mellon. Its 2004 2003 2002 financial results are not included in the financial Expected dividend yields 23% 2.1% 1.7% statements of the Bank or Mellon. TRFC sold Risk-free interest rates 3.8% 3.4% 3.4%

Expected volatility 22% 27% 33% subordinated notes to an unrelated third party in Expected lives of 2003, and as a result of that sale, Mellon is not the options 5.5 yr. 5.5 yr. 5.7 yr. "primary beneficiary" of TRFC, as defined by FIN 46 Revised. For more information on TRFC,

2. Adoption of new accounting standards see Note 7 of Notes to Financial Statements.

FIN 46 andFIN 46 Revised CGunulative effect of a change in accounting principle In January 2003, the FASB issued Interpretation No.46 (FIN 46), "Consolidation of Variable Interest On Jan. 1, 2003, Mellon adopted SFAS No. 143, Entities." The application of this Interpretation was "Accounting for Asset Retirement Obligations."

immediate for variable interest entities (VIEs) SFAS No. 143 requires an entity to record a liability created after Jan. 31, 2003. In December 2003, the for an obligation associated with the retirement of FASB issued Interpretation No. 46, revised an asset and for certain lease transaction obligations December 2003 (FIN 46 Revised), "Consolidation at the time the liability is incurred by capitalizing of Variable Interest Entities." This Interpretation the cost and depreciating it over the remaining addresses consolidation by business enterprises of useful life of that asset. The initial application of VIEs. A VIE is a corporation, limited liability SFAS No. 143 was reported as a cumulative effect company, partnership, trust or other legal structure of a change in accounting principle in the income that is used to conduct activities or hold assets that, statement. Mellon recognized a one-time after-tax by design, cannot support its financial activities charge of $7 million; or $.01 per share (pre-tax cost without additional subordinated financial support of $ 1I million), in the first quarter of 2003, for the from other parties or whose equity investors, if any, establishment of a liability for obligations to restore do not have: leased facilities, principally outside the U.S., to their original condition at the end of the leases. The

• the ability to make decisions about its annual ongoing impact of this accounting standard, activities through voting or similar rights; based on leases presently in effect, is an increase in

• the obligation to absorb the expected losses of occupancy expense of approximately $2 million pre-the entity; or tax. The pro forma effect on prior periods of the

• the right to receive the expected residual adoption of this statement would not have been returns of the entity. material to either the income statement or balance sheet.

An entity is also considered a VIE if its equity investors have voting rights that are not proportionate to their economic interests and the activities of the entity are conducted on behalf of an equity investor with a disproportionately small voting interest. FIN 46 Revised requires a VIE to be MELLON FINANCIAL CORPORATnON 75

NOTES TO FINANCIAL STATEMENTS

3. Contingent and deferred consideration present value of this obligation was recorded as related to acquisitions additional goodwill in the fourth quarter of 2002.

Mellon completed the following acquisitions during Mellon owns 70% of Mellon Financial Services 2004, for a total cost of $208 million, paid in cash. Asset Management S.A., a Brazilian institutional Goodwill and intangibles related to these asset management and asset servicing company.

acquisitions total 5183 million: The minority interest owners have attempted to exercise certain "put" rights, which obligate our InstitutionalAsset Management subsidiary to purchase the remaining 30% of the

• 70% of Pareto Partners that we did not company. The purchase price, as defined, is based previously own on the levels of assets under management and

• Evaluation Associates Capital Markets administration, among other things. The minority interest owners and Mellon disagree on the Alutual Funds computation of the purchase price. This dispute is

• Bear Steams funds in binding arbitration. We offered $4 million for the remaining 30% of the company and the minority Private Wfealth Management interest owners made an initial request of

• Safeco Trust Company $42 million.

• Paragon Asset Management Company

• The Providence Group 4. Discontinued operations HumanResources & Investor Solutions In the fourth quarter of 2004, we adopted

• Talking People Limited discontinued operations accounting for certain businesses in Australia. Mellon sold its business Treasury Services providing comprehensive multi-manager defined

• SourceNet Solutions, Inc. contribution services to the intermediary market, as it was deemed that this business had insufficient Additional consideration for prior acquisitions of scale to compete in the marketplace. In addition,

$27 million was paid in 2004 including a deferred Mellon's Australian consulting and administration consideration cash payment of S12.5 million for business is expected to be sold in 2005. The nature Standish Mellon, discussed below, and of significant changes to the superannuation industry in Australia has led us to reconsider the approximately $2 million paid with Mellon's common stock. appropriateness of continuing this business. In 2004, these businesses generated $34 million of We record contingent purchase payments when revenue, primarily trust and investment fee revenue, amounts are determinable and become issuable. and $33 million of operating expenses for $1 million Amounts generally become determinable, and of pre-tax income. In addition, a pre-tax net loss of issuable when an acquisition reaches a certain level $18 million was recorded resulting from the sale of of performance. At Dec. 31, 2004, we are the defined contribution services business and from potentially obligated to pay contingent additional recording a goodwill and intangible impairment loss consideration of a maximum expected amount of and other expenses for the consulting and approximately $123 million for all acquisitions, over administration business not yet sold at year-end.

the next 6 years. None of the potential contingent These businesses had been primarily included in the additional consideration was recorded as goodwill at Institutional Asset Management sector.

Dec. 31, 2004. In addition, we are obligated to pay deferred consideration in equal annual installments In the fourth quarter of 2003, Mellon adopted of $12.5 million for a total of $50 million, for the discontinued operations accounting for the fixed Standish Mellon acquisition. The second income trading business of Mellon Investor installment was paid in 2004 with a remaining Services, which was sold to Bonds Direct Securities obligation of $25 million. The $47 million net LLC, a majority owned subsidiary of Jefferies Group, Inc., in December 2003. As part of Mellon's 76 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS streamlining of the organizational structure of the resolution of sale-related issues that were uncertain HR&IS sector, it was decided that this business was at the time of the dispositions, and favorable no longer consistent with the sector's strategic customer retention.

objectives. Securities and other assets not purchased by Bonds Direct Securities totaled All information in these Financial Statements and

$187 million at Dec. 31, 2003 and were sold in Notes reflects continuing operations, before the 2004. In 2003 this business generated $4 million of cumulative effect of a change in accounting net interest revenue, $12 million of securities ptinciple recorded in the first quarter of 2003, unless trading gains and $18 million of operating expenses, otherwise noted.

for a $2 million pre-tax loss. A gain of less than

$1 million was recorded on this transaction. Discontinued operations assets and liabilities (a)

Dec.31, Dec. 31, In accordance with generally accepted accounting (in millions) 2004 2003 principles, reflected as discontinued operations in Trading account assets S - $155 Other assets 40 (b) 32 all income statements presented are: Total assets $40 5187

• the results of the Australian defined Other borrowed funds S 1 5151 contribution services business and consulting Other liabilities 14 1 and administration businesses; Total liabilities $Is $152

• the results of the fixed income trading (a) Revenuefrom discontinuedoperationstotaled$35 million business; and in 2004, $49 million in 2003 and$117million in 2002.

(b) Includes $13 million of goodwill.

• residual activity from the lines of business servicing retail consumer and small

5. Cash and due from banks business/middle market customers that were exited in 2001 and 2002. Cash and due from banks includes reserve balances that Mellon's subsidiary banks are required to Because the lines of business included in maintain with a Federal Reserve bank. These discontinued operations were discrete lines of required reserves are based primarily on deposits business serving classes of customers no longer outstanding and were $270 million at Dec. 31, 2004 served by Mellon's continuing lines of business, the and $233 million at Dec. 31, 2003. These balances disposition of these businesses has no material averaged $211 million in 2004 and $193 million in impact on continuing operations going forward.

2003.

The after-tax losses from operations of $9 million in

6. Securities 2004 and $7 million in 2003 primarily resulted from the Australian businesses. The after-tax gain on Gross realized gains were $9 million, $62 million disposals of $5 million in 2004 resulted from the and $59 million on sales of securities available for favorable resolution of liability estimates made at sale in 2004, 2003 and 2002. Gross realized losses the time of the sale of the discontinued businesses on sales were $1 million in 2004 and less than other than the Australian businesses discussed

$1 million in 2003 and 2002. After-tax net gains on above, partially offset by a $2 million after-tax loss the sales of securities were $6 million, $40 million on the sale of the Australian defined contribution and $38 million in 2004,2003 and 2002. At services business in the fourth quarter of 2004. The Dec. 31, 2004, and Dec. 31, 2003, securities issued after-tax gain of $32 million in 2003 primarily by the U.S. Government and its agencies and U.S.

related to an income tax benefit of $20 million based Government sponsored agencies (shown in the on the determination of the tax deductibility of a tables below) exceeded 10% of shareholders' equity.

consolidated loss, relating to the sale of Dreyfus Also, at Dcc. 31, 2004 securities issued by MASTR Brokerage Services, as well as the favorable Adjustment Rate Mortgages Trust (included in other resolution of estimates made at the time of the sale mortgage-backed securities in the table below) of other discontinued businesses. The after-tax gain exceeded 10% of shareholders' equity, with a book of $12 million in 2002 primarily resulted from the MELLON FINANCIAL CORPORATION 77

-

NOTES TO FINANCIAL STATEMENTS value of $501 million and a fair value of

$496 million at Dec. 31, 2004.

Securities available for sale Dec. 31, 2004 Dec. 31, 2003 Amortized Gross unrealized Fair Amortized Gross unrealized Fair (in millions) cost Gains Losses value cost Gains Losses value Securities available for sale:

U.S. Treasury S 371 S - S - S 371 S 471 S - S - S 471 Other U.S. agency 1,335 1 15 1,321 5 1 - 6 Obligations of states and political subdivisions 743 16 2 757 547 13 3 557 Mortgage-backed securities:

Federal agencies 8,437 41 61 8,417 8,772 62 63 8,771 Other 2,486 1 14 2,473 743 2 3 742 Total mortgage-backed securities 10,923 42 75 10,890 9,515 64 66 9,513 Other 37 - - 37 145 - 2 143 Total securities available for sale $13,409 $59 $92 513,376 S10,683 S78 S71 S10,690 Contractual maturity distribution of securities available for sale at Dec. 31, 2004 Obligations Total of states Mortgaze-backed securities (dollaramounts U.S. Other and political Federal Other available in millions) Treasury U.S. agency subdivisions agencies Other securities for sale Within one year Amortized cost S369 S I - - - S 6 S 376 Fairvalue $369 S I - - - S 6 S 376 Yield 2.14% 1.63% - - - 10.02% 2.26%

I to 5 years Amortized cost S 2 $ 884 $ 4 - - $26 $ 916 Fair value $ 2 S 873 S 4 - - $26 $ 905 Yield 2.30% 3.18% 3.51% - - 3.69% 3.18%

5 to IOyears Amortizedcost - S 450 S 39 - - S 4 S 493 Fairvalue - S 447 S 40 - - S 4 S 491 Yield - 3.88% 7.09% - - 4.86% 4.14%

Over 10 years Amortized cost - - $700 - - S I S 701 Fairvalue - - $713 - - S I S 714 Yield - - 7.16% - - 5.69% 7.16%

Mortgage-backed securities Amortized cost - - - $8,437 $2,486 - $10,923 Fairvalue - - - S8,417 $2,473 - S10,890 Yield - - - 3.81% 3.36% - 3.70%

Total amortized cost S371 $1,335 $743 $8,437 $2,486 $37 S13,409 Total fairvalue $371 $1,321 $757 S8,417 S2,473 $37 13,376 Total yield 2.14% 3.42% 7.14% 3.81% 3.36% 6.13% 3.83%

Weighted average contractual years to maturity .61 4.96 15.71 - (a) - (a) 4.65 (a) The average expected lives of "Federalagenciesmortgage-backed" and "Other mortgage-backed"securitieswere approximately 3.3 years and2.0y)'ears, respectively, atDec. 31, 2004.

Note: Expected maturities may differfrom contractualmaturities because borrowersmat have the right to call orprepay obligations with or without call or prepaymentpenalties. Rates arecalculatedon a taxable equivalent basis using a 35%/ofederal income tax rate.

78 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS Investment securities Dec. 31. 2004 Dec. 31. 2003 (held to maturity) Amortized Gross unrealized Fair Amortized Gross unrealized Fair (in millions) cost Gains Losses value cost Gains Losses value Mortgage-backed securities:

Federalagencies S162 S6 S- S168 $243 Sli $- $254 Other I - - 1 1 - - 1 Total mortgage-backed securities 163 6 - 169 244 11 - 255 Stock of Federal Reserve Bank 47 - - 47 53 - - 53 Other securities I - - I - -

Total investment securities S211 S6 S- $217 $297 SIl S- $308 Contractual maturity distribution of investment securities (held to maturity) at Dec. 31, 2004 Mortgage-backed Stock of Total (dollaramounts Federal Federal Other investment in millions) agencies Other Reserve Bank (a) securities securities 5 to I0 years Amortized cost - - SI S I Fair value - - SI S I Yield - - N/M N/M Over 10 years Amortized cost - - S47 - S 47 Fairvalue - - S47 - S 47 Yield - 6.00% - 6.00%

Mortgage-backed securities Amortized cost $162 $1 - - S163 Fair value $168 $1 - S169 Yield 5.69% 3.60% - - 5.67%

Total amortized cost $162 $1 S47 Si S211 Total fairvalue $168 $1 S47 SI S217 Total yield 5.69% 3.60% 6.00% N/M 5.75%

Weighted average contractual years to maturity - - (b) - 8.96 (a) No statedmaturity.

(b) The average expected lives of "Federalagencies mortgage-backed" and "Other mortgage-backed"securitieswere approximately 2.9years and 4.1 years, respectively, at Dec. 31, 2004.

Note: Expected maturities may differfrom contractualmaturities because borrowersmare have the right to call orprepays obligationswith or without call orprepaymentpenalties. Rates are calculatedon a taxable equivalent basis using a 35%ofederal income tax rate.

NI/M - Not meaningful Pledgedassets collateral received from or provided to third parties under resale or repurchase agreements can be sold Securities available for sale, investment securities, or repledged by the bolder of the collateral. The fair trading account securities and loans with book value of collateral received totaled S277 million and values of $13.2 billion at Dec. 31, 2004 and the fair value of collateral provided totaled

$8.4 billion at Dec. 31, 2003 were pledged to secure $271 million, under these agreements at Dec. 31, public and trust deposits, repurchase agreements and 2004. The fair value of collateral either received for other purposes. Securities purchased under from or provided to a third party is continually agreements to resell and securities sold under monitored and additional collateral is obtained from, agreements to repurchase are treated as or requested to be returned to, Mellon as deemed collateralized financing transactions and are appropriate.

recorded at the amounts at which the securities were acquired or sold plus accrued interest. The MELLON FINANCIAL CORPORATION 79

NOTES TO FINANCIAL STATEMENTS Temporarily impairedsecurities by investment category and length of time that the individual securities have been in a continuous The following table shows gross unrealized losses unrealized loss position.

and fair values of Mellon's investments, aggregated Temporarily impaired Less than 12 months 12 months or more Total securities at Dec. 31, 2004 Fair Unrealized Fair Unrealized Fair Unrealized (in millions) value losses value losses value losses OtherU.S.agency SI,115 $15 S - 5- SI,115 $15 Obligations of states and political subdivisions 48 1 51 1 99 2 Mortgage-backed securities:

Federal agencies 3,756 57 118 4 3,874 61 Other 1.570 13 89 1 1.659 14 Total temporarily impaired securities $6,489 S86 S258 $6 $6,747 $92 The unrealized loss of $92 million was entirely For details of nonperforming and past-due loans at related to interest rates. Nearly all of the securities Dec. 31, 2004 and 2003, see the amounts in the with unrealized losses are AAA rated or carry 2004 and 2003 columns of the "Nonperforming government agency guarantees. Approximately assets at year-end" table on page 39 and the first 93% of these 653 investments have been in a sentence on page 40. The information in those continuous unrealized loss position for less than columns is incorporated by reference into these 12 months. Management believes the collection of Notes to Financial Statements. For details on the contractual principal and interest is probable and impaired loans at Dec. 31, 2004, 2003 and 2002, see therefore all unrealized losses are considered to be the amounts in the "Impaired loans" table on temporary. As showvn on pages 78 and 79, page 39. The information in that table is unrealized gains totaled $65 million in the available- incorporated by reference into these Notes to for-sale and investment portfolios at Dec. 31,2004. Financial Statements. There was no foregone interest on restructured loans in 2004, 2003 and At Dec. 31, 2004, Mellon had approximately 2002.

$132 million of investments that were accounted for under the cost method of accounting. These Loan securifizations investments are reflected in other assets on the balance sheet and include our indirect interest in In 2004, Mellon securitized insurance premium Shinsei Bank, Community Reinvestment Act (CRA) finance loans which totaled $800 million, and housing partnerships as well as a number of recognizing a net pre-tax gain of $3 million that was investments in trade or clearing associations. They recorded in financing-related revenue.

are tested for impairment at least semi-annually.

In 2003, we securitized insurance premium finance

7. Loans loans, which at Dec. 31, 2003 exchange rates, totaled $154 million (or Canadian dollar For details of loans outstanding at Dec. 31, 2004 and 200 million), recognizing a net pre-tax gain of 2003, see the 2004 and 2003 columns of the $2 million that was recorded in financing-related "Composition of loan portfolio at year-end" table on revenue.

page 37. The information in those columns is incorporated by reference into these Notes to In 2002, we securitized $440 million of insurance Financial Statements. premium finance loans in a three year revolver and

$512 million ofjumbo residential mortgage loans.

80 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS In 2002, we recognized a net pre-tax gain of return for which they contracted. The investors and

$I million on the securitization of the insurance the securitization trusts have no recourse to premium finance loans and a net pre-tax gain of Mellon's other assets for failure of debtors to pay

$2 million on the securitization ofjumbo residential when due. Our retained interests are subordinate to mortgage loans. These gains were recorded in investor's interests. Their value is subject to credit, financing-related revenue. prepayment, and interest rate risks on the transferred financial assets.

Mellon has retained servicing responsibilities and retained subordinated interests in home equity lines Key economic assumptions used in measuring the of credit (HELOC) and insurance premium retained interests on the date of securitization in financing securitizations as well as servicing 2004 for the insurance premium finance loans were responsibilities for home equity installment loans as follows: a monthly prepayment rate of 2%; a (HEIL) and jumbo residential mortgages weighed average life of .3 years; expected annual securitizations. We receive annual servicing fees of credit losses of .4%; and residual cash flowvs 0.25% or 0.375% for mortgage loans, 0.5% for discounted at 12%.

HELOC and insurance premium finance loans, and 0.41% for the HEIL loans, of the outstanding At Dec. 31, 2004, key economic assumptions used balance. We receive excess servicing fees after the in measuring the retained interests in securitizations investors in the securitization trust have received the are reflected in the following table and paragraph:

Assumptions Jumbo residential Insurance premium HIELOC loans Automobile loans mortgage loans (a) finance loans Dec. 31, Dec. 31, Dec. 31, Dec. 31, (dollaramounts in millions) 2004 2003 2004 2003 2004 2003 2004 2003 Carrying amountlfair value of retained interests S3 $14 S- $2 S6 S9 S30 S30 Weighted-average life (in years) 1.0 1.5 - .6 2.6 4.4 .3 .3 Prepayment speed assumption (annual rate) 40% 46% -% 62% 24% 24% 2% 2%

Expected credit losses (annual rate) .1% .1% -% 3.65% - - .4% .4%

Residual cash flows discount rate (annual) 9% 9% -% 10% N/A N/A 12% 12%

(a) The fairvalue of the servicing assets related to thejumbo residentialmortgage securitizations was $14 million at both Dec. 31, 2004 and Dec. 31, 2003.

N/A - Not applicable The current fair values of the retained interests are may not be linear. Also, the effect of a variation in sensitive to changes in the assumptions shown in the a particular assumption on the fair value of the table above. The sensitivity to an immediate retained interest is calculated without changing any adverse change of 10% to 20% in those assumptions other assumption; in reality, changes in one factor would result in a less than $3 million decrease in may result in changes in another (for example, as each of the fair values. with jumbo residential mortgages, increases in the market interest rates may result in lower These sensitivities are hypothetical and should be prepayments and increased credit losses), which used with caution. Changes in fair value based on might magnify or counteract the sensitivities.

different variations in assumptions generally cannot be extrapolated because the relationship of the change in assumption to the change in fair value MELLON FINANCIAL CORPORATION 81

NOTES TO FINANCIAL STATEMENTS Actual and projected static pool credit losses at Cash flows received from and paid to securitized trusts Dec. 31, 2004, for the securitized HELOC loans are Year ended Dec. 31,

.28%. Credit losses on the insurance premium (in millions) 2004 2003 2002 Proceeds from new finance and jumbo residential mortgage loans have securitizations S 800 S 136 S 952 been and are expected to be minimal. Static pool Proceeds from collections losses are calculated by summing the actual and reinvested in prior projected future credit losses and dividing them by securitizations 3,111 3,614 3,276 the original balance of each pool of assets. Servicing fees received 16 31 50 Other cash flows received on retained interests (a) 37 37 34 Servicing advances - - 2 Repayment of servicing advances - - 2 (a) Represents totalcashflows receivedfrom retainedinterests by AMellon other than servicingfees. Other cashflows include,for example, all cashflowsfrom interest-only strips and cash above the minimum requiredlevel in cash collateralaccounts.

Asset quality data Principal amount of Total principal loans 90 days or amounts of loans more past due Net credit losses Dec. 31, Dec.31, Dec.31, (in millions) 2004 2003 2004 2003 2004 2003 2002 Loans held in portfolio S 575 $1,009 S 5 S I $- SI SI Loans securitized (a) 3,196 3,580 10 26 2 5 7 Total loans managed or securitized (a) $3,771 $4,589 S15 S27 52 $6 S8 (a) Excludes interest-onlystripsandservicing rights (orother retainedinterests)heldfor securittsedassets.

Referral arrangementswith Three Rivers Funding Every transaction in TRFC is structured to provide Corp. (TRFC), an asset-backedcommercialpaper substantial loss protection and minimize credit risk.

entity Transactions are overcollateralized with customer receivables and structured to the equivalent of an Mellon's primary banking subsidiary, Mellon Bank, investment grade credit rating before consideration NA. (the Bank) has a referral relationship with of any liquidity or credit support by the Bank. By TRFC, a special purpose entity that issues agreement, liquidity support is provided by the Bank commercial paper. TRFC is owned by an up to the full amount of commercial paper independent third party and is not a subsidiary of outstanding. Such liquidity is provided through either the Bank or Mellon. Its financial results are transaction specific funding agreements for not included in the financial statements of the Bank individual sales of receivables from third parties.

or Mellon. TRFC sold subordinated notes to an The Bank is obligated to provide liquidity support if unrelated third party in 2003, and as a result of that collections on receivable pools are not sufficient to sale, Mellon is not the "primary beneficiary" of cover associated commercial paper that has matured TRFC, as defined by FIN 46 Revised. TRFC was and the receivables related to maturing commercial formed in 1990 and can issue up to $5 billion of paper or proceeds from the issuance of commercial commercial paper to make loans secured by, and to paper are insufficient to pay maturing commercial purchase, pools of receivables. The Bank operates paper related to a specific third party seller (not the as a referral agent and refers transactions to TRFC Bank). An obligation to make purchases under the as well as providing all administrative services. funding agreements continues as long as TRFC is not bankrupt and the amount of the purchase does 82 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS not exceed the available liquidity commitment. loss exposure related to TRFC, which is required to Liquidity support is also provided in the event of be disclosed under FIN 46, is the full amount of the noncredit-related operational reasons, or if there liquidity facility, or $623 million, at Dec. 31, 2004.

were to be a systemic issue with the commercial However, the probability of this loss scenario is paper market that would prevent the rollover of remote as it would mean that all of TRFC's commercial paper. Finally, the Bank has also receivables were wholly uncollectible. Since provided a letter of credit for TRFC in support of TRFC's formation in 1990, the Bank has not been the commercial paper issued. The maximum required to fund under any liquidity support or exposure for the letter of credit is the lesser of under the letter of credit. In addition, the Bank has

$400 million or 8% of the outstanding commercial never purchased a receivable from TRFC or paper. A drawing under the letter of credit would recorded a credit loss related to its relationship with occur only after the first loss credit enhancement, TRFC.

provided by a third party seller (not the Bank), built into each transaction is completely exhausted and 8. Reserve for credit exposure there are not sufficient funds available from the liquidity providers to repay maturing commercial For details of the reserve for credit exposure, see the paper. The facilities that provide liquidity and 2004, 2003 and 2002 columns of the "Reserve for credit support to TRFC are included in the Off- unfunded commitments" table on page 40 and the balance-sheet financial instruments with contract "Loan loss reserve activity" table on page 41. The amounts that represent credit risk table in Note 26 of information in those columns is incorporated by Notes to Financial Statements. The estimated reference into these Notes to Financial Statements.

liability for losses related to these arrangements, if any, is included in the reserve for unfunded 9. Premises and equipment commitments.

Premises and equipment Dec. 31, Fee revenue of $2 million was received from this (in millions) 2004 2003 entity in 2004 compared with $5 million in 2003, for Land S 24 S 24 the services and the liquidity and credit support Buildings 256 261 Equipment 906 855 facilities. Liquidity facility fees are determined by Leasehold improvements (a) 319 263 the structure of the transaction and the underlying Subtotal 1,505 1,403 credit risk. The calculation of the liquidity fee Accumulated depreciation and under each funding agreement is based on the amortization (817) (735) outstanding amount of the commercial paper Total premises and associated with each transaction in TRFC. Pricing equipment (b) S 688 S 668 (c) on the TRFC letter of credit is based on the same (a) Includes $8 million at Dec. 31. 2004 and2003. relatedto the adoptionof SFAS No. 143. "AccountingforAsset criteria used by the Bank for standby letters of credit Retirement Obligations."

of similar risk characteristics. The calculation of the (b) Includes $175 million at Dec. 31. 2004 and $177 million at letter of credit fee is based on the aggregate amount Dec. 31, 2003 net book valuesforpurchasedand internally of TRFC commercial paper outstanding reduced by developed capitalizedsoftware. which is recordedas equipment. Amortization expense of this software totaled the amount of commercial paper outstanding in $52 million, $47 million and $39 millionfor2004. 2003 connection with those transactions structured to the and2002.

equivalent of a "AA" rating or higher. Fee revenue (c) Includes capitalleasesforpremisesandequipment at a net is recognized in the month the fees are earned. book value of less than $1 million at Dec. 31, 2003.

At Dec. 31, 2004, TRFC's receivables and Rental expense was $153 million, $173 million and commercial paper outstanding each totaled $163 million, net of related sublease revenue of

$623 million, compared with $822 million at $24 million, $22 million and $24 million, in 2004, Dec 31, 2003. A letter of credit provided by the 2003 and 2002. Depreciation and amortization Bank in support of TRFC's commercial paper expense totaled $144 million, $146 million and totaled $50 million at Dec. 31, 2004, compared with $136 million in 2004,2003 and 2002. Maintenance,

$67 million at Dec. 31, 2003. Mellon's maximum MELLON FINANCIAL CORPORATiON 83

NOTES TO FINANCIAL STATEMENTS repairs and utilities expenses totaled $120 million,

• Institutional Asset Management

$116 million and $108 million in 2004, 2003 and

• Remaining 70% interest in Pareto Partners 2002. ($45 million)

• Evaluation Associates Capital Markets In the fourth quarter of 2004, Mellon executed a ($36 million);

new lease on its Corporate headquarters building at One Mellon Center in Pittsburgh, through 2028. As

• Private Wealth Management of Dec. 31, 2004, Mellon and its subsidiaries are

• The Providence Group ($10 million) obligated under noncancelable leases with

• Safeco Trust Company ($4 million) expiration dates through 2028. A summary of the

• Paragon Asset Management Company future minimum rental payments under

($2 million);

noncancelable leases, net of related sublease revenue totaling $120 million, is as follows:

• HR&IS 2005-$185 million; 2006-$178 million; 2007-

• Talking People Limited ($1 million); and

$168 million; 2008-$171 million; 2009-

$107 million; and 2010 through 2028-$91 1 million.

• Treasury Services

10. Goodwill and intangible assets

• SourceNet Solutions, Inc. ($24 million).

The increase in goodwill was primarily due to In addition, a goodwill impairment loss of acquisitions and the effect of foreign exchange rates $8 million was recorded in other expense on a small on non-U.S. dollar-denominated goodwill in Newton non-strategic business that we exited. No charges Management Limited. Goodwill was impacted by for goodwill impairment were recognized in 2003 or the completion of the following acquisitions this 2002.

year, by sector Goodwill Institutional Private Asset Mutual Wealth Asset Treasury Other (in millions) Management Funds Management Servicing HR&IS Services Activity Total Balance at Dec.31,2003 S737 S242 $335 $275 $413 $192 S - $2,194 Goodwill from acquisitions 81 - 16 - 1 24 - 122 Impairment losses - - - - - (8) (8)

Other (a) 30 - 14 - (6) - 8 46 Discontinued operations (N) (33) - - - - - - (33)

BalanceatDec.31,2004 $815 $242 $365 $275 $408 $216 S- $2,321 (a) Other changes in goodwill include the effect offoreign exchange rates on non-US. dollardenominatedgoodwill purchaseprice adjustments and certain other reclass/ications,as well as the reclassificationof the goodwill of a small non-strategic businessfrom the HR&IS sector to the Other Activity sector.

(b) Reflects the goodwvil of the discontinuedbusinesses in Australia which includes an impairmentwritedown of$ I million and a reduction due to sales of S9 million.

84 MELLON FINANCiAL CORPORATION

-

NOTES TO FINANCIAL STATEMENTS Acquiredintangible assets Acquired intangible assets Dec. 31. 2004 Dec. 31. 2003 Remaining weighted-Gross average Gross carrying Accumulated amortization carrying Accumulated (dollaramounts in millions) amount amortization period amount amortization Subject to amortization:

Customerbase $104 S(22) 7yrs. $ 49 S(12)

Technology based 45 (14) 7 yrs. 45 (10)

Premium on deposits 35 (27) 3 yrs. 35 (24)

Other 12 (8) 6 yrs. 12 (5)

Total subjectto amortization (a) $196 S(71) 7yrs. $141 S(51)

Not subject to amortization:

Investment management contractual relationships 20 N/A N/A 10 N/A Total acquired intangible assets S216 S(71) N/A S151 $(51)

(a) Includes theforeign exchange effects on non-US, dollar-denominatedintangible assets.

N/A - Not applicable.

During 2004, the gross carrying amount of During 2004, intangible assets not subject to intangible assets subject to amortization increased amortization increased $10 million due to the Bear by $55 million due primarily to the acquisitions of Stearns funds acquisition.

the remaining 70% of Pareto Partners and Evaluation Associates Capital Markets and the Mellon adopted the provisions of SFAS No. 142, effect of foreign exchange rates on a weaker U.S. "Goodwill and Other Intangible Assets," as of dollar, partially offset by a less than $1 million Jan. 1, 2002. SFAS No. 142 requires that goodwill impairment writedown related to discontinued and intangible assets with indefinite useful lives no operations for the businesses in Australia. longer be amortized, but instead are tested for Approximately $55 million, with a weighted- impairment at least annually. Goodwill and average amortization of 9 years, was assigned to the intangible assets with indefinite useful lives customer base intangibles. We amortize intangible acquired in business combinations completed before assets over their estimated useful lives. July 1, 2001, were amortized through the end of Amortization expense totaled $21 million in 2004, 2001.

$18 million in 2003 and $14 million in 2002.

At Dec. 31,2004, $1.458 billion of goodwill and Based upon the current level of intangible assets, the acquired intangible assets is tax deductible and estimated annual amortization expense for 2005 $1.008 billion is non-tax deductible.

through 2010 is as follows:

Estimated amortization Year expense (in millions) 2005 $24 2006 22 2007 21 2008 18 2009 13 2010 10 MELLON FINANCIAL CORPORATION 85

. - - .

NOTES TO FINANCIAL STATEMENTS

11. Other assets 13. Revolving credit agreement Other assets Dec. 31, In 2004, the Parent Corporation signed a one-year (in millions) 2004 2003 $200 million revolving credit agreement with Corporatelbank-o-Amed life insurance S1,831 $1,699 Mellon Bank, N.A., Mellon's primary bank Receivables related to foreign exchange and derivative subsidiary. It serves as a support facility for instruments (a) 1,006 1,117 commercial paper and for general corporate Prepaid pension assets 1,050 1,010 purposes and expires in June 2005. The credit Equity investments and mezzanine facility has several restrictions, including a financings 654 (b) 663 minimum 6% consolidated Tier I ratio and a 1.30 Equity in joint ventures and other investments (c) 313 337 maximum double leverage limitation. At Dec. 31, Other prepaid expenses 142 144 2004, Mellon was in compliance with all of the Receivables and other assets 972 951 restrictions. In addition, any borrowings are to be Total other assets $5,968 $5,921 collateralized with eligible assets of non-bank (a) Reflects credit risk associatedwith interest rateswaps used subsidiaries of the Corporation. No borrowings to manage interestrate risk and derivatives usedfor were made under this facility in 2004 or any facility tradingactivities. Creditrisk associatedwith these in 2003. In addition, a foreign subsidiary of Mellon instruments resultsfrom mark-to-marketgains and interest receivables and is calculated after consideringmaster signed a $1 million credit agreement with a foreign nettingagreements, which aregenerally applicableto financial institution in 2004. There were no derivative instruments usedfor both trading activities and outstanding borrowings under this facility at riskmanagementpurposes. Dec. 31, 2004. Commitment fees totaled less than (b) Beginning in 2004, includes 536 million of venture capital direct me~anine investments in theform of subordinated

$1 million in 2004,2003 and 2002. There were no debt that hadpreviously been included in commercial and other credit facilities issued to subsidiaries of financialloans. Priorperiods were not reclassified Mellon at Dec. 31,2004 or 2003.

(c) Relates to operatingjoint ventures andother investments including CIBC AMellon GlobalSecurities Services Company ABNAMRO AMellon Global Securities Services B. V., CIBC Afellon Trust Company, Russell/Afellon, Banco Brascan, various HR&ISjoint ventures, andPareto Partners(at Dec. 31, 2003).

12. Deposits The aggregate amount of time deposits in denominations of $100,000 or greater was approximately $2.0 billion at Dec. 31, 2004, and S 1.4 billion at Dec. 31,2003.

At Dec. 31, 2004, the scheduled maturities of time deposits for the years 2005 through 2009, and 2010 and thereafter are as follows: $ 1.963 billion,

$45 million, $57 million, $21 million, $17 million and $21 million, respectively.

86 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS

14. Notes and debentures (with original $248 million and $294 million. The aggregate maturities over one year) amounts of notes and debentures that mature during the five years 2005 through 2009 for Mellon Notes and debentures (with original maturities Financial Corporation (Parent Corporation) are as over one year) at year-end (a) follows: $307 million, $0 million, $410 million, (in millions) 2004 2003 $248 million and $294 million.

Parent Corporation:

3.25% Senior Notes due 2009 S 294 S 4.875% Senior Notes due 2007 410 422 15. Junior subordinated deferrable interest 5.00% Subordinated Notes due 2014 400 396 debentures held by trusts that issued 5.50% Subordinated Notes due 2018 256 251 guaranteed capital debt securities 6.00% Senior Notes due 2004 - 201 junior subordinated debentures) 6.375% Subordinated Debentures due 2010 344 343 6.375% Senior Notes due 2011 (b) 433 401 6.40% Subordinated Notes due 2011 327 331 Mellon established two statutory business trusts, 6.70% Subordinated Debentures due 2008 248 248 Mellon Capital I and Mellon Capital II, of which 7.50% Senior Notes due 2005 307 323 Mellon owns all of the common capital securities.

Mellon Bank, NA.: These trusts exist solely to issue guaranteed Medium-Term Senior Bank Notes due 2005-2007 (1.40%h to 8.55% at Dec. 31, preferred beneficial interests in Mellon's junior 2004 and at Dec.31, 2003) 111 111 subordinated deferrable interest debentures. Prior to 4.75% Subordinated Notes due 2014 295 - the adoption of FIN 46 Revised, at year-end 2003, 6.50% Subordinated Notes due 2005 257 267 for financial reporting purposes, the trusts were 7.00% Subordinated Notes due 2006 311 325 treated as subsidiaries and were consolidated into 7.375% Subordinated Notes due 2007 323 339 7.625% Subordinated Notes due 2007 251 251 Mellon's financial statements. The capital securities Total notes and debentures (with were presented as a separate line item on the original maturities over one year) $4,567 $4,209 consolidated balance sheet as "Guaranteed preferred (a) Amounts include the effect offair value hedge adjustments. beneficial interests in Mellon's junior subordinated (b) Amount was translatedfrom Sterlinginto US. dollarson a deferrable interest debentures (trust-preferred basis of US. $1.93 to £1, the rate of exchange on Dec. 31, securities)," and the retained common capital 2004, and on a basis of US. $1.79 to fl, the rate of exchange on Dec. 31, 2003. securities of the trusts were eliminated against our investment in the trusts. Distributions on the trust-At Dec. 31, 2004, the Parent Corporation had preferred securities were reported as interest

$1.45 billion of capacity to issue debt, equity and expense. The trusts have issued the trust-preferred junior subordinated debentures on an existing shelf securities and invested the net proceeds in junior registration with the Securities and Exchange subordinated deferrable interest debentures (junior Commission. In March 2004, Mellon issued subordinated debentures) issued to the trusts by

$300 million of 3.25% senior notes maturing in Mellon.

2009. In November 2004, Mellon Bank, N.A.,

issued $300 million of 4.75% subordinated notes At year-end 2003, upon the adoption of FIN 46 maturing in December 2014. Revised, the trusts were deconsolidated. As a result, the junior subordinated debentures are reported on The Mellon Bank, N.A., notes are subordinated to the consolidated balance sheet as "Junior obligations to depositors and other creditors. The subordinated deferrable interest debentures held by medium-term senior bank notes are subordinated to trusts that issued guaranteed capital debt securities."

domestic depositors and are on par with other We record interest expense on the junior unsubordinated and unsecured creditors of Mellon subordinated debentures. We also recorded in Other Bank, N.A. assets the $31 million of common capital securities issued by the trusts. The junior subordinated The aggregate amounts of notes and debentures debentures are the sole assets of the trusts.

(including the effect of fair value hedge adjustments) that mature during the five years 2005 Mellon has the right to defer payment of interest on through 2009 for Mellon are as follows: the junior subordinated debentures at any time, or

$666 million, $311 million, $993 million, from time to time, for periods not exceeding five MELLON FINANCIAL CORPORATION 87

NOTES TO FINANCIAL STATEMENTS years. If interest payments on the junior redeemed following a tax event or capital treatment subordinated debentures are deferred, the event, the greater of 100% of the principal amount distributions on the trust-preferred securities also or the sum of the present value of the first are deferred. Interest on the junior subordinated redemption price plus the present value of interest debentures and distributions on the trust-preferred payments from the redemption date to the call date securities is cumulative. Mellon, through will be paid.

guarantees and agreements, has fully and unconditionally guaranteed all of the trusts' 16. Preferred stock obligations under the trust-preferred securities. The trust-preferred securities, less the common capital Mellon has authorized 50 million shares ofpreferred securities issued by the trusts, continue to qualify as stock, none of which was issued at Dec. 31, 2004, Tier I capital. 2003 or 2002.

Junior subordinated debentures 17. Regulatory capital requirements Stated Dec. 31, (in millions) maturity 2004 2003 A discussion about Mellon's regulatory capital 7.72% Series A (a) 12/01/26 S 544 S 545 7.995% Series B 1/15/27 513 512 requirements for 2004 and 2003 is presented in the Total $1,057 $1,057 "Regulatory capital" section in the first two (a) Amounts include the effect offair value hedge adjustments. paragraphs on page 34 and the two tables on page 35 and is incorporated by reference into these Notes to The junior subordinated debentures were each Financial Statements.

issued for a face value of S515 million, pay interest semiannually, have a liquidation preference of 18. Noninterest revenue

$ 1,000.00 per security, and are reported net of issuance costs in the table above. The debentures The components of noninterest revenue for 2004, are unsecured and subordinate to all of Mellon's 2003 and 2002 are presented in the "Noninterest senior debt (as defined). The Series A and Series B revenue" table on page 8. That table, including securities are redeemable, in whole or in part, at through the "Total noninterest revenue" line, is Mellon's option on or after Dec. 1, 2006 for the incorporated by reference into these Notes to Series A and Jan. 15, 2007 for the Series B. They Financial Statements.

are also redeemable prior to those dates, in whole, within 90 days following receipt of a legal opinion that, due to a change in the tax laws or an administrative or judicial decision, there is a substantial risk that the tax deductibility of the interest could be disallowed ("tax event") or Mellon's reasonable determination that, due to a change in law or administrative or judicial decision, there is a substantial risk that Tier I capital treatment could be disallowed ("capital treatment event").

The Series A and Series B securities are redeemable at 103.86% and 103.9975% of the liquidation amounts, plus accrued distributions, during the 12-month periods beginning Dec. 1, 2006 and Jan. 15, 2007 (the call dates). The redemption prices decline for the Series A and Series B securities by approximately 39 basis points and approximately 40 basis points, during each of the following 12-month periods, until a final redemption price of 100% of the liquidation amount is set for Dec. 1, 2016 and Jan. 15, 2017, and thereafter. If the securities are 88 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS

19. Net interest revenue Net interest revenue Year ended Dec. 31, (in millions) 2004 2003 2002 Interest revenue Interest and fees on loans (loan fees ofS25, S31, and $40) S312 $308 S 429 Interest-bearing deposits with banks 73 59 62 Federal funds sold and securities under resale agreements 11 8 8 Other money market investments 3 3 3 Trading account securities 6 13 8 Securities - taxable 425 489 502 Securities - nontaxable 32 31 25 Other (a) - 23 19 Total interest revenue 862 934 1,056 Interest expense Deposits in domestic offices 86 73 108 Deposits in foreign offices 87 58 63 Federal funds purchased and securities under repurchase agreements 13 16 30 Other short-term borrowings 20 30 30 Notes and debentures 143 129 135 Junior subordinated debentures (b) 55 - -

Trust-preferred securities (b) - 58 79 Total interest expense 404 364 445 Net interest revenue 5458 S570 S 611 (a) Interestrevenue earnedforservices provided to the Departmentof the Treasury in excess of the valute ofcompensating balances duringthe period.

(b) Trust-preferredsecuritieswere deconsolidatedat Dec. 31, 2003.

20. Business sectors For details of business sectors, see pages 20, 21 and 22, the tables, through "Average Tier I preferred equity" on pages 23 and 24, as well as the first ten paragraphs in the Other Activity section beginning on page 31 through "2003 compared with 2002".

The tables and information in those paragraphs are incorporated by reference into these Notes to Financial Statements.

MELLON FINANCIAl CORPORATION 89

NOTES TO FINANCIAL STATEMENTS

21. Income taxes The tax effects of temporary differences that gave rise to significant portions of the deferred tax assets Income tax expense applicable to income from and deferred tax liabilities are as follows:

continuing operations before income taxes consists of: Deferred tax assets and liabilities Dec. 31, (in millions) 2004 2003 2002 Provision for income taxes Year ended Dec. 31, Deferred tax assets:

(in millions) 2004 2003 2002 Accrued expense not Current taxes: deductible until paid S109 S243 $337 Provision for credit losses Federal S 69 S138 $319 and write-downms on real State and local 39 12 30 estate acquired 67 69 76 Foreign 11 8 21 Occupancy expense 71 71 69 Total current tax expense 119 158 370 Unrealized loss on securities Deferred taxes: available for sale 12 - -

Federal 235 167 (38) Other 60 80 145 State and local 11 (11) (2) Total deferred tax assets 319 463 627 Foreign (8) (1) (3)

Total deferred tax Deferred tax liabilities:

expense (benefit) 238 155 (43) Lease financing revenue 438 466 481 Provision for income taxes S357 $313 $327 Depreciation and amortization 160 127 98 Salaries and benefits 103 59 54 In addition to amounts applicable to income before Unrealized gain on securities available for sale - 1 68 taxes, the following income tax (benefit) amounts Other 71 13 1 were recorded in shareholders' equity: Total deferred tax liabilities 772 666 702 Total tax (benefit) in Net deferred tax liability $453 $203 $ 75 shareholders' equity Year ended Dec. 31, (in millions) 2004 2003 2002 Mellon determined that it was not required to Compensation expense for tax purposes in excess of establish a valuation allowance for deferred tax amounts recognized for assets because it is management's assertion that the financial statement purposes S(1) $(ll) S(14) deferred tax assets are likely to be realized through a Other comprehensive results 13 (22) 8 carryback to taxable income in prior years, future Total tax (benefit) S 2 $(33) S (6) reversals of existing taxable temporary differences and, to a lesser extent, future taxable income.

The provision for income taxes was different from the amounts computed by applying the statutory We are currently evaluating whether to repatriate federal income tax rate to income from continuing earnings of certain subsidiaries under Section 965 of operations before income taxes due to the items the Internal Revenue Code. The impact of listed in the following table. repatriating those earnings is not expected to have a material impact on our financial statements.

Effective income tax rate Year ended Dec. 31, (dollaramounts in millions) 2004 2003 2002 Locations domiciled outside of the United States Federal statutory tax rate 35% 35% 35% generated foreign pre-tax earnings of approximately Tax expense computed at statutory rate $405 $348 $349 $22 million in 2004, $17 million in 2003 and Increase (decrease) resulting $54 million in 2002.

from State and local income taxes, net of federal tax benefit 33 1 18 Tax exempt income (50) (36) (34)

Other, net (31) - (6)

Provision for income taxes S357 S313 S327 Effective income tax rate 30.9% 31.4% 32.8%

90 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS

22. Comprehensive results Tax effects allocated to each component of comprehensive results Before Tax tax (expense) After-tax Accumulated unrealized (in millions) amount benefit amount gain (loss), net of tax Dec. 31, (in millions) 2004 2003 2002 Year ended Dec. 31,2002:

Foreign currency translation Foreign currency translation adjustment S (14) S 6 S (8) adjustment, net of tax Minimum pension liability (32) 11 (21)

Beginning balance S 44 $ (52) S (44)

Unrealized gain (loss) on Period change 45 96 (8) assets available for sale:

Ending balance S 89 S 44 S (52) Unrealized gain (loss)

Minimum pension liability, during the year 95 (35) 60 net of tax Less: Reclassification Beginningbalance S(25) S (21) S - adjustments (38) 13 (25)

Period change 6 (4) (21) Unrealized gain (loss) 57 (22) 35 Ending balance S (19) S (25) S(21) Unrealized gain (loss) on Unrealized gain (loss) on assets cash flow hedges 8 (3) 5 available for sale, net of tax Other comprehensive results S 19 S (8) S 11 Beginning balance S 7 S 121 S 86 Year ended Dec. 31, 2003:

Periodchange (28) (114) 35 Foreign currency translation Ending balance S (21) S 7 $121 adjustment S 141 $(45) S 96 Unrealized gain (loss) on cash Minimum pension liability (7) 3 (4) flow hedges, net of tax Unrealized gain (loss) on Beginning balance S - S (7) S (12) assets available for sale:

Period change - 7 5 Unrealized gain (loss)

Ending balance S - S - S (7) during the year (92) 37 (55)

Less: Reclassification Total accumulated unrealized adjustments (90) 31 (59) gain (loss), net of tax Beginning balance S 26 S 41 S 30 Unrealized gain (loss) (182) 68 (114)

Unrealized gain (loss) on Period change 23 (15) 11 cash flow hedges 11 (4) 7 Ending balance S49 S 26 S 41 Othercomprehensiveresults S (37) S22 $ (15)

Year ended Dec. 31,2004:

Foreign currency translation adjustment S 66 S(21) S 45 Minimum pension liability 10 (4) 6 Unrealized gain (loss) on assets available for sale:

Unrealized gain (loss) during the year (41) 12 (29)

Less: Reclassification adjustments 1 - I Unrealized gain (loss) (40) 12 (28)

Unrealized gain (loss) on cash flow hedges - - -

Other comprehensive results S 36 S(13) S 23 MELLON FINANCIAL CORPORATION 91

NOTES TO FINANCIAL STATEMENTS

23. Employee benefits The plans provide benefits that are based on the employees' years of service and compensation. In Defined Benefit Retirement Plans addition, several unfunded plans exist for certain employees or for purposes that are not addressed by Mellon's largest subsidiary and some of its smaller the funded plans.

subsidiaries sponsor trusteed, noncontributory, defined benefit pension plans. Together, these plans The following tables report the combined data of the cover substantially all salaried employees of Mellon. funded and unfunded plans.

Defined benefit retirement plans 2004 2003 (in millions) Funded Unfunded Funded Unfunded WVeighted-average assumptions used to determine benefit obligations at Dec.31 Discount rate 6.00% 6.00% 6.25% 6.25%

Rate of compensation increase 3.25 3.25 3.25 3.25 Change in projected benefit obligation Benefit obligation at beginning of year $1,167 S 150 S 996 S 139 Service cost 52 2 45 2 Interest cost 73 9 67 9 Actuarial loss 84 9 85 10 Benefits paid (41) (12) (36) (11)

Foreign currency exchange rate change 10 1 10 1 Projected benefit obligation at end of year $1,345 S 159 $1,167 S 150 Change in plan assets Fair value of plan assets at beginning of year S1,742 S - $1,430 S -

Return on plan assets 201 - 327 Employer contributions 33 - 13 Benefits paid (41) - (36)

Foreign currency exchange rate change 8 - 8 Fair value of plan assets at end of year (a) S1,943 S - $1,742 S -

Reconciliation of funded status with financial statements Funded status at Dec. 31 S 598 S(159) S 575 5(150)

Unrecognized prior service cost 20 4 24 6 Unrecognized net actuarial loss 432 35 411 30 Net amount recognized at Dec. 31 51,050 S(120) $1,010 S(114)

(a) Includes 3 million shares of Afellon FinancialCorporationcommon stock, with market values of $93 million (5% of total plan assets) at Dec. 31 2004 and $96 million (6% of totalplan assets) atDec. 31, 2003. The Mellon Bank, N.A. retirementplan received approximately $2 million of dividends from Mellon FinancialCorporation'scommon stock in both 2004 and 2003.

92 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS Defined benefit retirement plans 2004 2003 2002 (dollaramounts in millions) Funded Unfunded Funded Unfunded Funded Unfunded Weighted-average assumptions as of Jan. I Discount rate 6.25% 6.25% 6.75% 6.75% 7.5% 7.5%

Expected return on assets 8.50 - 8.50 - 10.0 Rate of compensation increase 3.25 3.25 3.50 3.50 4.0 4.0 Components of net periodic benefit cost (credit)

Service cost S 52 S 2 S 45 S2 $ 38 S3 Interest cost 73 9 67 9 62 9 Expected return on plan assets (159) - (159) - (188)

Amortization of transition asset - - (2) - (2) -

Amortization of prior service cost 3 2 4 2 4 2 Recognized net actuarial (gain) loss 26 4 1 3 (27) 2 Netperiodicbenefitcost(credit) S (5) S17 S (44) S16 S(113) S16 Defined benefit retirement plans 2004 2003 (in millions) Funded Unfunded Funded Unfunded Amounts recognized in the balance sheet consist of:

Prepaid benefit cost S1,050 S - $1,010 $ -

Accrued benefit cost (3) (150) (20) (138)

Intangible asset - 4 - 6 Accumulated other comprehensive loss 3 26 20 18 Net amount recognized at Dec. 31 S1,050 S(120) SI,010 S(114)

Additional information Increase (decrease) in minimum liability included in other comprehensive results S (17) S 8 S 2 $ 4 The accumulated benefit obligation for all funded relating to amounts which are inherently uncertain.

defined benefit pension plans was $1.201 billion at This policy is discussed below.

Dec. 31, 2004 and $ 1.058 billion at Dec. 31, 2003.

The accumulated benefit obligation for all unfunded The data above are prepared in accordance with defined benefit plans was SI 50 million at Dec. 31, SFAS No. 87, "Employers' Accounting for 2004 and $138 million at Dec. 31, 2003. Pensions." Three primary economic assumptions influence the reported values of plan liabilities and The aggregate benefit obligation and fair value of pension costs. SFAS No. 87 directs that each plan assets for the funded pension plans with benefit significant assumption used in the measurement of obligations in excess of plan assets were $55 million net periodic benefit cost (credit) shall reflect and $45 million as of Dec. 31, 2004 and Mellon's best estimate solely with respect to that

$140 million and $121 million as of Dec. 31, 2003. individual assumption. We take the following The aggregate accumulated benefit obligation and factors into consideration when establishing each fair value of plan assets for the funded pension plans assumption.

with accumulated benefit obligations in excess of plan assets were $13 million and $11 million as of The discount rate represents an estimate of the rate Dec. 31, 2004 and $67 million and $58 million as of at which retirement plan benefits could be Dec. 31, 2003. effectively settled. Mellon obtains data on several reference points when setting the discount rate Mellon considers its accounting policy regarding including current rates of return available on longer pensions to be critical to the presentation of our term high grade bonds and changes in rates that have financial statements since it requires us to make occurred over the past year. This assumption is complex and subjective estimates and assumptions sensitive to movements in market rates that have MELLON FINANCIAL CORPORATION 93

NOTES TO FINANCIAL STATEMENTS occurred since the preceding valuation date and, from time to time. This assumption is set with a therefore, is likely to change from year to year. long-term horizon and, therefore is not necessarily expected to change on an annual basis.

When setting the rate of compensation increase assumption, we take into consideration our recent Mellon's funded pension plans weighted-average experience with respect to average rates of asset allocations at Dcc. 31,2004 and 2003, by asset compensation increase, compensation survey data category are as follows:

relative to average compensation increases that other large corporations have awarded, and Weighted-average asset allocations Dec. 31, compensation increases that other large corporations 2004 2003 expect to award over the upcoming year. This Asset category assumption is somewhat sensitive to inflation and, Equity securities 69% 69%

Debt securities 29 29 therefore, may change from year to year. The Cash and other 2 2 assumed rate of compensation increase was 3.25% Total 100% 100%

at Dec. 31,2004 and 2003.

Each retirement plan is governed by fiduciaries who The assumed rate of return on plan assets represents establish investment policy for that plan. Plan assets an estimate of long-term returns available to are invested with the primary objective of satisfying investors who hold a mixture of stocks, bonds and obligations for future benefit payments. The cash equivalent securities. When setting our investment policies seek to preserve plan assets and expected return on plan assets assumption, we to maximize long-term total return on them, subject consider long-term rates of return on various asset to maintaining reasonable constraints on overall classes (both historical and forecasted, using data portfolio volatility. The investment policies are also collected from various sources generally regarded as designed to comply with applicable regulations authoritative) in the context of expected long-term (e.g., ERISA in the United States). In general, average asset allocations for its defined benefit equity securities within any plan's portfolio are pension plans. Certain asset mix benchmarks maintained in the range of 45% to 75% of total plan employed by institutional investors also serve as assets, fixed-income securities range from 20% to reference points. To develop assumed rates of 50% of plan assets and other assets (including cash return, for example, we applied a benchmark asset equivalents) are held in amounts ranging from 0% to allocation of 65% stocks, 30% bonds and 5% cash 10% of plan assets. Asset allocation within the equivalent securities, to the following long-term approved ranges varies from time to time based on rates of return on each asset class. economic conditions (both current and forecast) and the advice of professional investment advisors Expected long-term rates of return 2003 and after Prior to 2003 retained by the fiduciaries.

Stocks 10% 12%

Bonds 6% 7% Mellon expects to make cash contributions to its Cash equivalent securities 4% 4% funded defined benefit pension plans, principally outside the U.S., in the range of $28 million to Composite rate 8.5%_ 10% $35 million in 2005.

As the previous table indicates, Mellon reduced its expected returns for equities and fixed-income securities for 2003 and the future. We believe that these individual rates of return are reasonable estimates, based on long-term historical data, of the long-term returns that may be expected from each asset class, and that a 65/30/5 assumed asset mix is a reasonable long-term benchmark for Mellon's pension plans. Asset classes actually employed in the retirement plans, as well as asset allocation, vary 94 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS The following benefit payments for Mellon's funded the Board of Directors. Stock options may be and unfunded defined benefit pension plans, which granted at prices not less than the fair market value reflect expected future service as appropriate, are of the common stock on the date of grant. Options expected to be paid: may be exercised during fixed periods of time from one year to 10 years from the date of grant. In the Expected benefit payments Funded Unfunded event of a change in control of Mellon, as defined in (in millions) Plans Plans the plan, these options will become immediately 2005 S 41 SI! exercisable, unless otherwise provided in the option 2006 44 11 2007 48 12 agreement. Total outstanding grants as of Dec. 31, 2008 51 13 2004, 2003 and 2002 were 32,251,012; 29,832,514; 2009 56 12 and 25,271,345 shares. During 2004, 2003 and 2010-2014 357 65 2002, options for 6,385,015; 6,836,075; and 6,310,053 shares were granted and options for Defined ContributionRetirement Plans 1,857,950; 1,249,080; and 1,029,364 shares were exercised. The expense recorded in 2004 for these Mellon 401(k) Retirement Savings Plan options was $ 18 million pre-tax. The expense recorded in 2003 was $2 million pre-tax and there The Mellon 401 (k) Retirement Savings Plan covers was no expense recorded in 2002. At Dec. 31, 2004 most of our U.S. employees. Employees' payroll and 2003, shares available for grant were deductions contributed into retirement savings 19,398,321 and 6,760,115.

accounts are matched by Mellon's contribution of common stock, at the rate of $.65 on the dollar, up Included in the Dec. 31, 2004, 2003 and 2002 to 6% of the employee's base salary. The outstanding grants were options for 123,026; contribution rate will remain at $.65 on the dollar in 199,560; and 235,306 shares, that become 2005. In 2004, 2003 and 2002, we recognized exercisable in full near the end of their 10-year

$30 million, $31 million and $31 million of expense terms, but the exercise dates may be accelerated to related to this plan and contributed 1,001,069; an earlier date by the Human Resources Committee 1,142,283; and 931,650 shares. All shares of the Board of Directors, based on the optionee's contributed in 2004, 2003 and 2002 were issued and Mellon's performance. There was no expense from treasury stock. The plan held 13,562,670; recorded for these options in 2004, 2003 and 2002.

13,369,211 and 12,824,293 shares of Mellon's common stock at Dec. 31, 2004, 2003 and 2002. Restricted stock and deferred share awards have also been issued and are outstanding under the Plan.

Other Defined Contribution Plans These awards are discussed in the "Profit Bonus Plan, Mellon Incentive Compensation Plan and Mellon maintains a defined contribution retirement Restricted Stock Awards" section on page 98 of this plan in the United Kingdom, which covers Newton report.

Investment Management employees along with certain other non-U.S. employees. In 2004, 2003, Stock Option Plansfor Outside Directors and 2002, Mellon recognized $8 million, $7 million and $7 million of expense related to this plan. Mellon has two stock option plans that currently provide for the granting of options to non-employee Long-Term ProfitIncentive Plan members of its Boards of Directors. The Stock Option Plan for Outside Directors (2001) provides Mellon's Long-Term Profit Incentive Plan (2004) for grants of stock options to the non-employee provides for the issuance of stock options, stock directors of Mellon and members of our Advisory appreciation rights, performance units, deferred cash Board of Directors. The Stock Option Plan for incentive awards, shares of restricted stock, deferred Affiliate Boards of Directors (1999) provides for share awards and other stock-based awards to grants of stock options to the non-employee employees of Mellon and its subsidiaries, as members of those boards who are not also members approved by the Human Resources Committee of of Mellon's Board of Directors. No grants can be MELLON FINANCIAL CORPORATION 95

NOTES TO FINANCIAL STATEMENTS made to employees of Mellon under these plans. more than 10 years from the date of grant. Options The timing, amounts, recipients and other terms of for Dreyfus stock were automatically converted into the option grants are determined by the terms of the options for Mellon's common stock on the merger directors' option plans and no person or committee date. There were no outstanding grants as of has discretion over these grants. The exercise price Dec. 31, 2004 and Dec. 31,2003 and outstanding of the options is equal to the fair market value of the grants as of Dcc. 31,2002 were 50,000 shares. No common stock on the grant date. All options have a options were granted in 2004, 2003 and 2002 and no term of 10 years from the regular date of grant and further options will be granted under this plan.

become exercisable one year from the regular grant Options for 29,000 shares were exercised in 2002.

date. Directors elected during the service year are granted options on a pro rata basis to those granted Summary to the directors at the start of the service year. In the event of a change in control of Mellon, as defined in The following tables summarize stock option the directors stock option plans, all outstanding activity for the last three years for the Long-Term options granted under the directors stock option Profit Incentive Plan, the Stock Option Plans for plans will become immediately exercisable. Outside Directors and the Dreyfus Plan and the Options are also currently outstanding under the characteristics of outstanding stock options at Stock Option Plan for the Mellon Financial Group Dcc. 31, 2004. Requirements for stock option West Coast Board of Directors (1998). This plan shares can be met from either unissued or treasury was terminated in 2003. No grants were made under shares. All shares issued in 2004, 2003 and 2002 this plan in 2003 and no further grants will be made were from treasury shares.

under it.

Stock option activity Shares Average Total outstanding grants as of Dec. 31, 2004, 2003 subject exercise and 2002, were 804,506; 916,757; and 971,235 to option price Balance at Dec. 31, 2001 22,567,189 S29.07 shares. During 2004, 2003 and 2002, options for Granted 6,366,953 (a) 28.74 53,649; 59,482; and 56,900 shares were granted and Exercised (1,283,124) 13.53 options for 163,900; 113,960; and 224,760 shares Forfeited (1,358,438) 35.43 were exercised. The expense recorded in 2004 and Balance at Dec. 31,2002 26,292,580 29.42 2003 for these options was less than SI million pre- Granted 6,895,557 (a) 29.52 tax. There was no expense recorded in 2002. At Exercised (1,413,040) 12.86 Forfeited (1,025,826) 33.73 Dec. 31, 2004 and 2003, shares available for grant Balance at Dec. 31,2003 30,749,271 30.06 were 431,320 and 486,739. Granted 6,438,664 (a) 30.58 Exercised (2,021,850) 14.19 Dreyfus Stock Option Plan Forfeited (2,110,567) 33.69 Balance at Dec. 31, 2004 33,055,518 S30.90 Dreyfus had a stock option plan prior to the August (a) Using the Black-Scholes optionpricingmodel, the 1994 merger with Mellon. Options granted under weighted-averagefairvalue ofoptions grantedwas estimated at $6.43 per sharein 2004, $7.13 per share in this plan were not exercisable within two years nor 2003 and $8.82 pershare in 2002. For a discussion of the pricingassumptions, see Note I ofNotes to Financial Statements.

96 MELLON FINANCLL CORPORATION

NOTES TO FINANCIAL STATEMENTS Stock options outstanding at Dec. 31, 2004 Outstanding Exercisable A)

Average Average Average remaining exercise exercise Exercise price range Shares life (a) price Shares price

$9.69-$23.88 3,944,716 2.4 S16.70 3,638,130 $16.16

$24.46 - S24.65 3,514,942 7.6 24.46 2,342,601 24.46 S24.83 - S30.50 2,126,399 7.2 27.53 955,738 28.12

$30.57 - $30.59 5,250,407 9.0 30.57 1,748,664 30.57

$30.61 - S30.65 5,167,126 10.0 30.65 - -

$30.72 -$35.25 4,706,414 5.0 34.43 4,131,249 34.60

$35.38 - $38.63 4,125,654 6.4 38.23 3,825,644 38.25

$38.70-$50.88 4.219,860 6.1 40.84 3,898,182 41.01 33,055,518 6.8 $30.90 20,540,208 S31.43 (a) Average contractuallife remaining in years.

(b) At Dec. 31, 2003 and2002, 17,987,709 and 15,705,71) options were exercisable at an averageprice of $29.48 and $26.92.

Broad-BasedEmployee Stock Options options. The following table presents the activity in the ShareSuccess Plan during 2004,2003 and 2002.

In June 1999, Mellon adopted its ShareSuccess Plan, All shares issued were from treasury shares. At a broad-based employee stock option plan covering Dec. 31, 2004 and 2003, shares available for grant full- and part-time benefited employees who are not were 3,010,680 and 2,282,745. The ShareSuccess participants in the Long-Term Profit Incentive Plan Plan does not anticipate additional annual broad-discussed previously. Effective June 15, 1999, each based grants.

full-time employee was granted an option to purchase 150 shares and each benefited part-time Broad-based options Shares Average employee was granted an option to purchase subject exercise 75 shares of Mellon's common stock. Additional to option price grants, of the same number of shares, were made Balance at Dec. 31, 2001 5,722,265 $39.48 Granted 2,849,505 33.68 June 15, 2000, June 15, 2001 and June 14, 2002. (In Exercised (33,025) 33.71 addition, effective June 15, 2001, each non- Forfeited (883,762) 39.77 benefited part-time employee was granted Balance at Dec. 31, 2002 7,654,983 37.31 75 options.) The exercise price was equal to the Granted stock price on the grant date. The options become Exercised Forfeited (938.258) 37.24 exercisable after seven years, or at any time after Balance at Dec. 31,2003 6,716,725 37.32 one year from the grant date if Mellon's common Granted stock closing market price equals or exceeds a Exercised predetermined price for 10 consecutive trading days. Forfeited (727,935) 37.07 In the event of a change in control of Mellon, as Balance at Dec. 31, 2004 (a) 5,988,790 S37.35 defined in the plan, these options become (a) The exercisepricefor all options outstandingrangedfrom immediately exercisable, subject to certain $33.63 to $44.00. The averageremainingcontractuallife was 6.3 yearsfor all optionsoutstanding at Dec. 31,2004.

conditions. All outstanding options expire 10 years At Dec. 31, 2004, 879,670 shares were exercisableatan after the grant date. On Nov. 10, 2000, the options average shareprice of $33.68. At Dec. 31, 2003, 955,495 granted on June 15, 1999, vested when our common shares were exercisable at an average shareprice of stock closing market price met or exceeded $45 per $33.67. At Dec. 31, 2002, 1,067,613 shares were exercisable at an averageshareprice of $33.67. There share for 10 consecutive trading days. The options vere no options grantedin 2004 or2003. Using the granted in 2000, 2001 and 2002 have not yet vested Black-Scholes optionpricingmodel, the averagefair value and will vest when Mellon's common stock closing of options grantedin 2002 was estimated at $1l.llper market price meets or exceeds $50, $60 and $45 per share.

share for 10 consecutive trading days. No expense was recorded in 2004, 2003 or 2002 for these MELLON FINANCIAL CORPORATION 97

NOTES TO FINANCIAL STATEMENTS Employee Stock PurchasePlan In addition to the restricted stock and deferred share awards granted, there were 1,326,774; and In early 2001, we introduced an employee stock 1,542,043; and 1,288,579 restricted shares and purchase plan (ESPP). All active employees of deferred share awards granted to senior officers and Mellon and designated subsidiaries are eligible to various key employees with a weighted-average participate. Participants purchase common stock at grant-date per share market value of $31.60, $23.86, 95% of its fair market value on the last trading day and $37.40, in 2004, 2003 and 2002. Vesting of of each three month purchase period. No charge to these shares is primarily related to performance and earnings is required with respect to this plan. In is expected to occur over a three-to-seven-year 2004, 225,924 shares were issued at prices ranging period, but will vest in full after seven years. In the from S27.42 to $30.76. In 2003,497,599 shares event of a change in control of Mellon, as defined in were issued at prices ranging from $19.13 to $29.78. the plan, the restrictions on sale or transfer will At Dec. 31,2004, 7,907,411 shares were available immediately terminate. The total compensation for purchase. expense recognized for these restricted shares and deferred share awards was $28 million, $24 million Proforma cost of stock options and $24 million in 2004, 2003 and 2002. Total outstanding shares of restricted stock and deferred For a discussion of the pro forma costs of stock share awards as of Dec. 31, 2004, 2003 and 2002 options, see "Pro forma cost of stock options" in were 4,714,899; 4,625,374 and 3,534,266. All Note I of Notes to Financial Statements. grants of restricted stock are made under Mellon's Long-Term Profit Incentive Plan (2004) discussed ProfitBonus Plan, Mellon Incentive Compensation on page 95 under "Long-Term Profit Incentive PlanandRestrictedStock.Awards Plan."

Performance-based awards are made to key Postretirementbenefits other thanpensions employees at the discretion of the Human Resources Committee of the Board of Directors. The granting Mellon shares in the cost of providing managed of these awards is based upon the performance of care, Medicare supplement and/or major medical the key employees and on Mellon's overall programs for former employees who retired prior to performance (or particular business line Jan. 1, 1991 and grandfathered employees who met performance) in achieving its objectives. At the certain age and service requirements as of Jan. 1, Committee's election, awards may be paid in a lump 1991. Former employees of Buck Consultants who sum or may be deferred and paid over a period of up retired prior to Jan. 1, 2001 and grandfathered to 15 years. The value of awards granted was employees who met certain age and service

$46 million, $46 million and $48 million for 2004, requirements as of Dec. 31, 2000 are eligible for 2003 and 2002, and can be in the form of cash, both pre-65 and post-65 medical coverage based on common stock, restricted stock or deferred share the cost sharing arrangements under the Buck plan awards equivalent to restricted stock. Employees as of Dcc. 31, 2000. Employees who retire prior to are generally prevented from selling or transferring age 65 with 15 years of service who are not a part of restricted stock or deferred share awards for a three- either grandfathered group are eligible for a defined year period, and generally the shares or units are dollar supplement to assist them in purchasing forfeited if employment is terminated during that health insurance coverage under the same plans period. Restricted stock, awarded in connection offered to active employees. When these non-with the Profit Bonus Plan, totaling 118,950; and grandfathered retirees reach age 65, they become 193,457 shares, with a weighted-average market responsible for their own Medicare supplemental value on the date of grant of $33.47 and $23.19 per coverage. The net periodic benefit cost of providing share, was awarded for 2003 and 2002. No these benefits, determined in accordance with SFAS restricted stock was awarded in connection with the No. 106, "Employers' Accounting for Profit Bonus Plan for 2004. Postretirement Benefits Other Than Pensions,"

amounted to $7 million in 2004, $7 million in 2003 and $6 million in 2002. Early retirees who do not 98 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS meet the service requirement are eligible to purchase The following table sets forth the components of the health coverage at their own expense under the costs and liability of Mellon's postretirement health standard plans that are offered to active employees care and life insurance benefits programs for current through Consolidated Omnibus Budget and future retirees.

Reconciliation Act (COBRA).

Postretirement benefits other than pensions Accumulated Accrued postretirement postretirement Unrecognized benefit cost benefit obligation transition obligation (in millions) 2004 2003 2002 2004 2003 2002 2004 2003 2002 Balance at Jan. I S61 S59 S57 S77 S62 S58 S(14) $(15) 5(17)

Recognition of components of net periodic postretirement benefit costs:

Service cost I 1 2 1 1 2 - -

Interest cost 4 5 4 4 5 4 - - -

Amortization of:

Transition obligation 2 1 2 - - - 2 1 2 (Gains) losses - - (2) - - - - -

7 7 6 5 6 6 2 1 2 Actuarial (gains) losses including a change in the discount rate - - - (3) 14 2 - - -

Benefit payments (5) (5) (4) (5) (5) (4) -

Balance at Dec. 31 S63 $61 $59 574 S77 $62 5(12) S(14) S(15)

Discount rates of 6.25% and 6.75%, were used to components of the net periodic postretirement calculate the 2004 and 2003 net periodic post benefit cost by less than $1 million. The $3 million retirement benefit costs, and rates of 6.0% and decrease to the APBO in 2004 for the "Actuarial 6.25% were used to value the accumulated (gains) losses including a change in the discount postretirement benefit obligations (APBO) at year- rate" primarily resulted from recognizing the end 2004 and 2003. A health care cost trend rate expected subsidy as a reduction in plan costs under was used to recognize the effect of expected changes the Medicare Prescription Drug, Improvements and in future health care costs due to medical inflation, Modernization Act (the Act) of 2003, offset by a utilization changes, technological changes, reduction in the discount rate and other changes in regulatory requirements and Medicare cost shifting. actuarial assumptions.

The future annual increase assumed in the cost of health care benefits was 9.25% for 2004 and was In December 2003, the Act was signed into law.

decreased gradually to 4.75% for 2011 and The Act introduces a prescription drug benefit under thereafter. The health care cost trend rate Medicare (Medicare Part D) as well as a federal assumption may have a significant impact on the subsidy to sponsors of retiree health care benefit amounts reported. Increasing the assumed health plans that provide a benefit that is at least actuarially care cost trend by one percentage point in each year equivalent to Medicare Part D. The impact of the would increase the APBO by approximately Act on Mellon's APBO and net periodic retirement

$6 million and the aggregate of the service and benefit cost was a decrease of $5 million and less interest cost components of the net periodic than $1 million, respectively.

postretirement benefit cost by less than $1 million.

Decreasing the assumed health care cost trend by The following benefit payments for Mellon's one percentage point each year would decrease the postretirement benefits other than pension plans, APBO by approximately $5 million and the which reflect expected future service as appropriate, aggregate of the service and interest cost are expected to be paid:

MELLON FNANCIAL CORPORATION 99

NOTES TO FINANCIAL STATEMENTS Expected benefit payments - postretirement benefits Corporation, and requires such extensions to be other than pensions collateralized and limits the amount of investments (in millions) With subsidy Without subsidy by our bank subsidiaries in these entities. At 2005 S5 SS 2006 5 5 Dec. 31, 2004, such extensions of credit and 2007 5 5 investments were limited to $324 million to the 2008 5 6 Parent Corporation or any other subsidiaries and to 2009 6 6 $648 million in total to the Parent Corporation and 2010-2014 31 33 all of its other subsidiaries. Outstanding extensions of credit net of collateral subject to these limits

24. Restrictions on dividends and regulatory were $223 million at Dec. 31, 2004.

limitations

25. Legal proceedings The prior approval of the Office of the Comptroller of the Currency (OCC) is required if the total of all Various legal actions and proceedings are pending dividends declared by a national bank subsidiary in or are threatened against Mellon and our any calendar year exceeds the bank subsidiary's net subsidiaries, some of which seek relief or damages profits, as defined, for that year, combined with its in amounts that are substantial. These actions and retained net profits for the preceding two calendar proceedings arise in the ordinary course of our years. Additionally, such bank subsidiaries may not businesses and operations and include suits relating declare dividends in excess of net profits on hand, to our lending, collections, servicing, investment, as defined, after deducting the amount by which the mutual fund, advisory, trust, custody, benefits principal amount of all loans on which interest is consulting, shareholder services, cash management past due for a period of six months or more exceeds and other activities and operations.

the reserve for credit losses.

Because of the complex nature of some of these Under the first and currently more restrictive of the actions and proceedings, it may be a number of foregoing federal dividend limitations, Mellon's years before such matters ultimately are resolved.

bank subsidiaries can, without prior regulatory After consultation with legal counsel, Mellon's approval, declare dividends subsequent to Dec. 31, management believes that the aggregate liability, if 2004, of up to approximately $196 million of their any, resulting from such pending and threatened retained earnings of $1.608 billion at Dec. 31, 2004, actions and proceedings will not have a material less any dividends declared and plus or minus net adverse effect on our financial condition, results of profits or losses, as defined, earned between Jan. 1, operations and cash flows, although there could be a 2005, and the date of any such dividend declaration. material effect on results of operations for a particular period.

The payment of dividends also is limited by minimum capital requirements imposed on banks.

Mellon's bank subsidiaries exceed these minimum requirements. The bank subsidiaries declared dividends of $466 million in 2004, $647 million in 2003 and $908 million in 2002. The Federal Reserve Board and the OCC have issued additional guidelines that require bank holding companies and national banks to continually evaluate the level of cash dividends in relation to their respective operating income, capital needs, asset quality and overall financial condition.

The Federal Reserve Act limits extensions of credit by Mellon's bank subsidiaries to our Parent Corporation and all other subsidiaries of our Parent 100 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS

26. Off-balance-sheet financial instruments Off-balance-sheet financial instruments with contract with contract amounts that represent amounts that represent credit risk (a)(b) Dec. 31, (in millions) 2004 2003 credit risk Unfunded commitments to extend credit (c):

Off-balance-sheet risk Expire uithin one year S 5,507 $ 8,305 Expire within one to five years 7,339 7,211 In the normal course of business, Mellon becomes a Expire over five years 125 164 party to various financial transactions that are not Total unfunded commitments to fully recorded on its balance sheet under GAAP. extend credit 12,971 15,680 Because these transactions are not funded, they are Commercial letters of credit (d) 5 8 not reflected on the balance sheet and arc referred to as financial instruments with off-balance-sheet Other guarantees and indemnities:

risk. We offer off-balance-sheet financial Standby letters of credit and foreign and other guarantees (e) 1,327 1,351 instruments to enable our customers to meet their Custodian securities lent with financing objectives. Providing these instruments indemnification against broker generates fee revenue for Mellon. These off- default of return of securities 83,934 67,299 balance-sheet instruments are subject to credit and Liquidity support provided to TRFC 623 822 market risk. We manage credit risk by: (a) In addition,we extended commitments tofund venture capital investments of $122 million atDec. 31, 2004 and

$175 million at Dec. 31, 2003.

• dealing only with approved counterparties (29 Total contractualamounts do not necessarily represent under specific credit limits; and by future cash requirements.

• monitoring the amount of outstanding (c) Net ofparticipationstotaling $412 million Dec. 31, 2004 and$439 million at Dec. 31, 2003.

contracts by customer and in the aggregate (d) Net ofparticipationsand collateraltotaling $45 million at against such limits. Dec. 31, 2004 and$31 million atDec. 31. 2003.

(e) Net ofparticipationsandcash collateraltotaling Counterparty limits are monitored on an ongoing $199 million at Dec. 31, 2004 and $208 million at Dec. 31, basis. Market risk arises from changes in the 2003.

market value of contracts as a result of the fluctuations in interest and currency rates. Unfunded commitments to extend credit Mellon enters into contractual commitments to extend credit, normally with fixed expiration dates or termination provisions, at specific rates and for specific purposes. The majority of our unfunded commitments to extend credit are contingent upon customers meeting certain pre-established conditions of lending at the time of loan funding and include material adverse change clauses within the commitment contracts. These clauses allow us to deny funding a loan commitment if the borrower's financial condition deteriorates during the commitment period, such that the customer no longer meets the pre-established conditions of lending.

MELLON FINANCIAL CORPORATION 101

NOTES TO FINANCIAL STATEMENTS Mellon's maximum exposure to credit loss upon the Standby letters of credit and foreign and other guarantees occurrence of any event of default by the customer Weighted-average is represented by the contractual amount of the years to maturity Dec. 31, at Dec. 31, commitment to extend credit. Accordingly, the (dollaramounts in millions) 2004 2003 2004 2003 credit policies utilized in committing to extend Commercial paper and credit and in the extension of loans are the same. other debt S 76 S 93 1.4 1.1 Market risk arises on commitments to extend fixed Tax-exempt securities 37 92 1.3 1.4 rate loans if interest rates have moved adversely Bid- or performance-related 286 315 .9 .7 subsequent to the extension of the commitment or if Other commercial 928 851 1.2 1.0 required market spreads widen. We believe the Total standby letters market risk associated with commitments is of credit and foreign minimal. The amount and type of collateral and other guarantees SI,327 $1,351 1.2 .9 obtained by Mellon is based upon industry practice, as well as our credit assessment of the customer. Standby letters of credit and foreign and other guarantees irrevocably obligate Mellon for a stated Of the $13 billion of contractual commitments for period to disburse funds to a third-party beneficiary which we received a commitment fee or which were if our customer fails to perform under the terms of otherwise legally binding, approximately 42% of an agreement with the beneficiary. Standby letters the commitments are scheduled to expire within one of credit and foreign and other guarantees are used year, and approximately 99% are scheduled to by the customer as a credit enhancement and expire within five years. Total unfunded typically expire without being drawn upon. The commitments to extend credit decreased amount and type of any collateral are based on

$2.7 billion, or 17%, at Dec. 31, 2004 compared to industry practices, as well as a credit assessment of Dec. 31,2003, primarily resulting from our strategy the customer.

to reduce credit risk. Unfunded commitments to extend credit expiring over one year increased Our outstanding exposure to standby letters of credit S89 million, or 1%, at Dec. 31, 2004, compared to at Dec. 31, 2004 was $1.3 billion, with Dec. 31, 2003. approximately 90% maturing within three years. At Dec. 31, 2004, we had a $ 10 million reserve for Letters ofcredit andforeign and other guarantees credit exposure to outstanding letters of credit.

There are two principal types of letters of credit- We must recognize, at the inception of standby standby and commercial. The off-balance-sheet letters of credit and foreign and other guarantees, a credit risk involved in issuing standby and liability for the fair value of the obligation commercial letters of credit is represented by their undertaken in issuing the guarantee. At Dec. 31, contractual amounts and is essentially the same as 2004, Mellon had a liability of $7 million related to the credit risk involved in unfunded commitments to letters of credit issued or modified since Dec. 31, extend credit. Mellon minimizes this risk by 2002. As required by FASB Interpretation No. 45, adhering to its written credit policies and by "Guarantor's Accounting and Disclosure requiring security and debt covenants similar to Requirements for Guarantees, Including Indirect those contained in loan agreements. We believe the Guarantees of Indebtedness of Others," the fair market risk associated with letters of credit and value of the liability, which was recorded with a foreign guarantees is minimal. corresponding asset in Other assets, was estimated as the present value of contractual customer fees.

A commercial letter of credit is normally a short-term instrument used to finance a commercial contract for the shipment of goods from a seller to a buyer. This type of letter of credit ensures prompt payment to the seller in accordance with the terms of the contract. Although the commercial letter of 102 MELLON FINANCIAL CORPORAnON

NOTES TO FINANCIAL STATEMENTS credit is contingent upon the satisfaction of requirements is generally dependent on the specified conditions, it represents a credit exposure investment cycle. This is the period over which if the buyer defaults on the underlying transaction. companies are funded and ultimately sold, merged, Normally, reimbursement from the buyer is or taken public. The timing of these factors can coincidental with payment to the seller under vary based on market conditions and on the nature commercial letter of credit drawings. As a result, and type of industry in which the companies the total contractual amounts do not necessarily operate. In 2004, we confirmed that Mellon represent future cash requirements. Ventures will not make new direct investments except in support of the existing portfolio. Mellon Securities lending Ventures will continue to provide follow-on investments with the objective of maximizing the A securities lending transaction is a fully return on the existing portfolio.

collateralized transaction in which the owner of a security agrees to lend the security through an agent Otherguaranteesand indemnities (Mellon) to a borrower, usually a broker/dealer or bank, on an open, overnight or term basis, under the In the normal course of business, Mellon offers terms of a prearranged contract, which generally guarantees in support of certain joint ventures and matures in less than 90 days. The borrower will subsidiaries, and certain other guarantees and collateralize the loan at all times, generally with indemnities.

cash, or to a lesser degree securities, exceeding 100% of the market value of the loan, plus any Mellon Bank, NA., and ABN AMRO Bank N.V.

accrued interest on debt obligations. Cash collateral entered into a joint venture to provide global is generally reinvested in commercial paper, securities services, with operations commencing in repurchase agreements, money market funds and January 2003. Each of the two partners signed a floating rate instruments. statutory declaration under Dutch law as of Dec. 31, 2002 to be jointly and severally liable with the joint Mellon currently enters into two types of agency venture to parties that have a provable contractual securities lending arrangements-lending with and debt or damage claim. The benefit of this without indemnification. In securities lending declaration is potentially available to all creditors transactions without indemnification, we bear no and customers of the joint venture with valid legal contractual risk of loss other than due to negligence. claims if the joint venture defaults. The guarantee For transactions in which we provide an totaled approximately $19 billion at both Dec. 31, indemnification, Mellon generally only indemnifies 2004 and 2003, primarily relating to securities the owner of the securities against borrower default. lending activity. This potential exposure assumes If the borrower defaults on returning the securities, that there are no capital or assets of the joint venture our risk of loss occurs if the collateral, when to satisfy such claims and that there is no level of received, is insufficient to purchase and replace contribution by ABN AMRO Bank N.V.

securities from these defaulted loans. Additional market risk associated with securities lending Mellon provides TRFC liquidity support and a letter transactions arises from interest rate movements that of credit in support of TRFC's commercial paper.

affect the spread between the rate paid to the For a detailed discussion of these arrangements, see securities borrower on the borrower's collateral and Note 7 of Notes to Financial Statements.

the rate we earn on that collateral. This risk is controlled through policies that limit the level of Mellon has also provided standard representations such risk that can be undertaken. for underwriting agreements, acquisition and divestiture agreements, sales of loans and Commitments to fund venture capitalinvestments commitments, and other similar types of arrangements and customary indemnification for Mellon extended commitments to provide capital claims and legal proceedings related to its provision financing to third party investment funds and of financial services. We have purchased insurance partnerships. The timing of future cash to mitigate certain of these risks. Mellon is a MELLON FINANCIAL CORPORATION 103

NOTES TO FINANCIAL STATEMENTS minority equity investor in, and member of, several Commitments to purchase andsellforeign currency industry clearing or settlement exchanges through contracts which foreign exchange, securities or other transactions settle. Certain of these industry Commitments to purchase and sell foreign currency clearing or settlement exchanges require their facilitate the management of market risk by ensuring members to guarantee their obligations and that, at some future date, Mellon or a customer will liabilities or to provide financial support in the have a specified currency at a specified rate. We event other partners do not honor their obligations. enter into foreign currency contracts to assist It is not possible to estimate a maximum potential customers in managing their currency risk and as amount of payments that could be required with part of our trading activities. The notional amount such agreements. does not represent the actual market or credit risk associated with this product. Market risk arises

27. Derivative instruments used for trading from changes in the market value of contractual and risk management purposes positions caused by movements in currency rates.

We limit our exposure to market risk by generally Derivative instruments used for trading and risk entering into matching or offsetting positions and by management purposes (a) establishing and monitoring limits on unmatched Dec.31, positions. Credit risk relates to the ability of our Notional amount Credit risk counterparties to meet their obligations under the (in millions) 2004 2003 2004 2003 contract and includes the estimated aggregate Trading:

Commitments to replacement cost of those foreign currency contracts purchase and sell in a gain position. We manage credit risk by dealing foreign currency only with approved counterparties under specific contracts $64,170 554,319 S 1,609 S 1,698 credit limits and by monitoring outstanding Foreign currency contracts by customer and in the aggregate against option contracts purchased 6,710 5,602 170 159 such limits. The future cash requirements, if any, Foreign currency related to foreign currency contracts are represented option contracts by the net contractual settlement between Mellon written 9,020 4,928 - - and its counterparties. There were no settlement or Interest rate agreements:

Interest rate swaps 10,916 9,886 161 255 counterparty default losses on foreign currency Options, caps and contracts in 2004, 2003 or 2002.

floors purchased 799 542 1 2 Options, caps and Foreigncurrency option contracts floors written 741 513 - -

Futures and forward contracts 8,880 13,220 - -

Foreign currency option contracts grant the contract Equity options 3,845 508 200 108 purchaser the right, but not the obligation, to Credit default swaps 694 612 - I purchase or sell a specified amount of a foreign Total return swaps 33 48 - - currency during a specified period at a predetermined exchange rate to a second currency.

Risk management:

Interest rate swaps 3,084 2,720 132 195 Mellon acts as both a purchaser and seller of foreign S 2,273 S 2,418 currency option contracts. Market risk arises from Effect of master netting changes in the value of contractual positions caused agreements (1,267) (1.301) by actual and anticipated fluctuations in currency Total net credit risk S 1,006 S 1,117 rates and interest rates. Market risk is managed by (a) The amount of credit risk associatedwith these instruments resultsfrom mark-to-marketgains and interestreceivables generally entering into matching or offsetting and is calculatedafter consideringmaster netting positions and by establishing and monitoring limits agreements, which aregenerally applicableto derivative on unmatched positions. Credit risk and future cash instruments usedfor both trading activities and risk requirements are similar to those of foreign currency managementpurposes. contracts. There were no settlement or counterparty default losses on foreign currency option contracts in 2004, 2003 or 2002.

104 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS Interest rateswaps Options, caps andfloors Interest rate swaps obligate two parties to exchange An interest rate option is a contract that grants the one or more payments generally calculated with purchaser the right, but not the obligation, to either reference to fixed or periodically reset rates of purchase or sell a financial instrument at a specified interest applied to a specified notional principal price within a specified period of time. An interest amount. Notional principal is the amount upon rate cap is a contract that protects the holder from a which interest rates are applied to determine the rise in interest rates beyond a certain point. An payment streams under interest rate swaps. Such interest rate floor is a contract that protects the notional principal amounts often are used to express holder against a decline in interest rates below a the volume of these transactions but are not actually certain point. Market risk arises from changes in exchanged between the counterparties. the market value of contractual positions caused by movements in interest rates. We limit our exposure Mellon uses interest rate swaps as part of its interest to market risk by generally entering into matching rate risk management strategy primarily to alter the or offsetting positions and by establishing and interest rate sensitivity of its long-term debt and monitoring limits on unmatched positions. There junior subordinated debentures, deposit liabilities were no counterparty default losses on options, caps and loans. We also enter into interest rate swaps to and floors in 2004, 2003 and 2002.

assist customers in managing their interest rate risk.

Futures andforvardcontracts Market risk arises from changes in the market value of contractual positions caused by movements in Futures and forward contracts on loans, securities or interest rates. Mellon limits its exposure to market money market instruments represent future risk by generally entering into matching or offsetting commitments to purchase or sell a specified positions and by establishing and monitoring limits instrument at a specified price and date. Futures on unmatched positions. The credit risk associated contracts are standardized and are traded on with interest rate swaps is limited to the estimated organized exchanges, while forward contracts are aggregate replacement cost of those agreements in a traded in over-the-counter markets and generally do gain position. Credit risk is managed through credit not have standardized terms.

approval procedures that establish specific lines for individual counterparties and limit credit exposure For instruments that are traded on an organized to various portfolio segments. Counterparty and exchange, the exchange assumes the credit risk that portfolio outstandings are monitored against such a counterparty will not settle and generally requires limits on an ongoing basis. Mellon has entered into a margin deposit of cash or securities as collateral to collateral agreements with certain counterparties to minimize potential credit risk. Mellon has interest rate swaps to further secure amounts due. established policies governing which exchanges and The collateral is generally cash, U.S. government exchange members can be used to conduct these securities or mortgage pass-through securities activities, as well as the number of contracts guaranteed by the Government National Mortgage permitted with each member and the total dollar Association (GNMA). There were no counterparty amount of outstanding contracts. Credit risk default losses on interest rate swaps in 2004, 2003 associated with futures and forward contracts is and 2002. The future cash requirements of interest limited to the estimated aggregate replacement cost rate swaps are limited to the net amounts payable of those futures and forward contracts in a gain under these swaps. At Dec. 31, 2004, 80% of the position. Credit risk related to futures contracts is notional principal amount of interest rate swaps substantially mitigated by daily cash settlements used for trading purposes were scheduled to mature with the exchanges for the net change in the value of in less than five years. the futures contract. Market risk is similar to the market risk associated with interest rate swap contracts. The future cash requirements, if any, related to futures and forward contracts are represented by the net contractual settlement MELLON FINANCIAL CORPORATION 105

NOTES TO FINANCIAL STATEMENTS between Mellon and its counterparties. There were The maximum risk of accounting loss from on- and no settlement or counterparty default losses on off-balance-sheet financial instruments with futures and forward contracts in 2004, 2003 or 2002. counterparties is represented by their respective balance sheet amounts and the contractual or Equity options replacement cost of the off-balance-sheet financial instruments. Significant credit concentrations for Equity option contracts grant the contract purchaser Mellon at Dec. 31, 2004 and 2003 were:

the right, but not the obligation, to purchase or sell a specified amount of equities during a specified

• U.S. government and its agencies and U.S.

period at a predetermined price. We enter into government sponsored agencies. Substantially equity options to assist customers in managing all of this exposure consists of investment market risk associated with equity positions that securities, securities available for sale and the they hold. Market risk arises from changes in the related interest receivable and balances due market value of contractual positions caused by from the Federal Reserve (see Note 6 of Notes movements in the equity and bond markets. We to Financial Statements).

limit our exposure to market risk by generally

• Financial institutions, which include finance-entering into matching or offsetting positions and by related companies; domestic and international establishing and monitoring limits on unmatched banks and depository institutions; and positions. Credit risk is limited to the estimated securities and commodities brokers. Our aggregate replacement cost of options in a gain credit exposure to financial institutions position. There were no settlement or counterparty includes interest-bearing deposits with banks default losses on equity options in 2004, 2003 and and certain loans included on the balance 2002. sheet and certain off-balance-sheet unfunded loan commitments. This exposure totaled Credit default svaps approximately $7 billion at Dec. 31, 2004.

Credit default swaps allow the transfer of credit risk 29. Fair value of financial instruments from one party to another for a fee. These swaps are used to hedge credit risk associated with commercial A financial instrument is defined by SFAS No. 107, lending activities. Credit risk is managed by setting "Disclosures about Fair Value of Financial specific credit limits and by monitoring outstandings Instruments," as cash, evidence of an ownership by counterparty and in the aggregate against such interest in an entity or a contract that creates a limits. There were no settlement or counterparty contractual obligation or right to deliver to or default losses on credit default swaps in 2004, 2003 receive cash or another financial instrument from a and 2002. second entity on potentially favorable terms.

Total returnsvaps Fair value estimates are made at a point in time, based on relevant market data and information about We enter into total return swaps to minimize the risk the financial instrument. SFAS No. 107 specifies related to investments in start-up mutual funds that that fair values should be calculated based on the are based on specific market indices. There were no value of one trading unit without regard to any counterparty default losses on total return swaps in premium or discount that may result from 2004, 2003 and 2002. concentrations of ownership of a financial instrument, possible tax ramifications, estimated

28. Concentrations of credit risk transaction costs that may result from bulk sales or the relationship between various financial For a discussion of credit risk and the credit risk instruments. Because no readily available market management process employed by Mellon, see the exists for a significant portion of our financial first five paragraphs of "Credit risk" on pages 36 instruments, fair value estimates for these and 37. These paragraphs are incorporated by instruments are based on judgments regarding reference into these Notes to Financial Statements. current economic conditions, currency and interest 106 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS rate risk characteristics, loss experience and other Trading account securities, securitiesavailablefor factors. Many of these estimates involve sale and investment securities uncertainties and matters of significant judgment and cannot be determined with precision. Trading account securities and securities available Therefore, the calculated fair value estimates cannot for sale are recorded at market value on our balance always be substantiated by comparison to sheet. Market values of trading account securities, independent markets and, in many cases, may not be securities available for sale and investment realizable in a current sale of the instrument. securities in many instances are based on quoted Changes in assumptions could significantly affect market prices or dealer quotes, if available. If a the estimates. quoted market price is not available, market value is estimated using quoted market prices for securities Fair value estimates do not include anticipated with similar credit, maturity and interest rate future business or the value of assets, liabilities and characteristics. The tables in Note 6 of Notes to customer relationships that are not considered Financial Statements present in greater detail the financial instruments. For example, our fee- carrying value and market value of securities generating businesses are not incorporated into the available for sale and investment securities at fair value estimates. Other significant assets and Dec. 31, 2004 and 2003.

liabilities that are not considered financial instruments include lease finance assets, deferred Loans tax assets, lease contracts, premises and equipment, and intangible assets. The estimated fair value of commercial loans and certain personal loans that reprice or mature in We used the following methods and assumptions in 90 days or less approximates their respective estimating the fair value of our financial instruments carrying amounts. The estimated fair value of loans at Dec. 31, 2004 and 2003. that reprice or mature in more than 90 days is estimated using discounted cash flow analyses, Short-termfinancialinstruments adjusting where appropriate for prepayment estimates, using interest rates currently being The carrying amounts reported on our balance sheet offered for loans with similar terms to borrowers of generally approximate fair value for financial similar credit quality and for similar maturities.

instruments that reprice or mature in 90 days or less, with no significant change in credit risk. The Deposit liabilities carrying amounts approximate fair value for:

SFAS No. 107 defines the estimated fair value of

• cash and due from banks; deposits with no stated maturity, which includes

• money market investments; demand deposits and money market and other

• acceptances; savings accounts, to be the amount payable on

• demand deposits; demand. Although market premiums paid for

• money market and other savings accounts; depository institutions reflect an additional value for

• federal funds purchased and securities under these low-cost deposits, SFAS No. 107 prohibits repurchase agreements; adjusting fair value for any value expected to be

• U.S. Treasury tax and loan demand notes; derived from retaining those deposits for a future

• commercial paper; period of time or from the benefit that results from the ability to fund interest-earning assets with these

• other funds borrowed; and deposit liabilities. The fair value of fixed-maturity

• certain other assets and liabilities. deposits which reprice or mature in more than 90 days is estimated using current rates.

MELLON FINANCIAL CORPORATION 107

NOTES TO FINANCIAL STATEMENTS Notes and debentures, andjluniorsubordinated whether the resulting fair value estimates would be debentures indicative of the value negotiated in an actual sale.

The fair value of our notes and debentures, and Financial instruments - summary junior subordinated debentures is estimated using Dec. 31. 2004 Dec. 31. 2003 quoted market yields for the same or similar issues Estimated Estimated Carrying fair Carrying fair or the current yields offered by Mellon for debt with (in millions) amount value amount value the same remaining maturities. Assets:

Investment Unfunded commitments to extend credit andstandby securities (a) S 211 S 217 S 297 S 308 Loans (b) 6,189 6,192 6,838 6,842 letters of credit andforeign andother guarantees Reserve for credit losses (b) (78) - (91) l These financial instruments generally are not sold or Net loans 6,111 6,192 6,747 6,842 Other assets (c) 3,414 3,414 3,260 3,260 traded, and estimated fair values are not readily Receivables available. However, the fair value of commitments related to to extend credit is represented by the remaining deri ative contractual fees receivable over the term of the instruments 1,006 1,006 1,117 1,117 commitments. The fair values of standby letters of Liabilities:

credit and foreign and other guarantees is Fixed-maturity represented by the amount of the receivable on the deposits (d) S7,146 S7,143 $6,142 S6,143 Notes and balance sheet. Unfunded commitments to extend debentures, and credit, and standby letters of credit and foreign and junior subordinated other guarantees are discussed further in Note 26 of debentures (a) 5,624 5,824 5,266 5,412 Notes to Financial Statements. Payables related to derivative instruments 577 577 765 765 Derivative instruments usedfor tradingandrisk (a) Market or dealerquotes were used to estimate thefair value managementpurposes of thesefinancialinstruments, ifavailable.

(b) Excludes leasefinance assetsof S565 million and S629 million, as well as the relatedreservefor credit losses of Receivables and payables related to derivative $20 million at Dcc. 31. 2004 and S12 million at Dec. 31, instruments are determined by using quoted market 2003. Leasefinance assets are not consideredfinancial prices or valuation models that incorporate current instruments as defined by SFAS No. 107.

(c) Excludes non-financialinstruments.

market data. (d) Includes negotiable certificatesof deposit, other time deposits andsavings certificates. SFAS No. 107 defines the Summary estimatedfair value of depositswith no stated maturity, which includes demand deposits andmoney market and other savings accounts, to be equal to the amount payable on The following table includes financial instruments, demand. Therefore, thepositive effect ofMellon's as defined by SFAS No. 107, whose estimated fair 516.445 billion ofsuch deposits at Dec. 31, 2004 and value is not represented by the carrying value as $14.701 billion ofsuch deposits at Dec. 31, 2003 is not reported on our balance sheet except for receivables includedin this table.

and payables related to derivative instruments, which are presented in the table for supplementary information. The carrying amount and estimated fair values of unfunded commitments to extend credit and standby letters of credit and foreign and other guarantees are not significant. We have made estimates of fair value discount rates that we believe to be reasonable considering expected prepayment rates, credit risk and liquidity risk. However, because there is no active market for many of these financial instruments, we have no basis to verify 108 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS

30. Mellon Financial Corporation (Parent Condensed Balance Sheet Corporation) Dec. 31, (in millions) 2004 2003 Condensed Income Statement Assets:

Cash and money market investments Year ended Dec. 31, with bank subsidiary S 555 S 311 (in millions) 2004 2003 2002 Securities available for sale 270 370 Dividends from bank subsidiaries 5435 S616 S876 Loans and other receivables due from Dividends from nonbank subsidiaries 99 24 49 nonbank subsidiaries 2,596 2,707 Interest revenue from bank Other receivables due from bank subsidiaries 6 5 6 subsidiaries 91 97 Interest revenue from nonbank Investment in bank subsidiaries 3,131 3,396 subsidiaries 103 104 137 Investment in nonbank subsidiaries 1,212 554 Other revenue 35 29 23 Corporate-owned life insurance 709 629 Total revenue 678 778 1,091 Other assets 109 87 Interest expense on commercial paper - - I Total assets 58,673 $8,151 Interest expense on notes and debentures 103 91 112 Liabilities:

Interest expense on junior Commercial paper S 6 $ 10 subordinated debentures (2004) Deferred compensation 335 268 and trust-preferred securities Other liabilities 154 198 (2003 and 2002) (a) 55 58 79 Notes and debentures (with original Other expense 68 52 68 maturities over one year) 3,019 2,916 Total expense 226 201 260 Junior subordinated debentures 1,057 1,057 Income berore income taxes and Total liabilities 4,571 4,449 equity in undistributed net Shareholders' equity 4,102 3,702 income or subsidiaries 452 577 831 Total liabilities and shareholders' Provision (benefit) for income taxes (85) (48) 18 equity S8,673 $8,151 Equity in undistributed net income:

Bank subsidiaries 131 124 (98)

Nonbank subsidiaries 128 (48) (33)

Net Income S796 S701 S682 (a) Trust-preferredsecuritieswere deconsolidatedat Dec 31, 2003.

MELLON FINANCIAL CORPORATION 109

.

NOTES TO FINANCIAL STATEMENTS Condensed Statement of Cash Flows 31. Supplemental information to the Year ended Dec. 31. Consolidated Statement of Cash Flows (in millions) 2004 2003 2002 Cash flows from operating activities:

Noncash investing and financing transactions that, Net income S 796 S 701 S 682 appropriately, are not reflected in the Consolidated Adjustments to reconcile net Statement of Cash Flows are listed below.

income to net cash provided by operating activities:

Equity in undistributed net Noncash investing and income of subsidiaries (259) (94) 107 financing transactions Year ended Dec. 31, Net (increase) decrease in (in millions) 2004 2003 2002 accrued interest receivable 20 (14) 17 Net transfers to real estate Deferred income tax expense acquired S I S - $ I (benefit) (29) 12 (1) Deconsolidation of trust-Net increase from other operating preferred securities (a) - 31 activities 29 26 134 Purchase acquisitions (b):

Net cash provided by operating Fair value of noncash assets activities 557 631 939 acquired including goodwill Cash flows from Investing activities: and other intangibles 259 44 447 Net (increase) decrease in short- Liabilities assumed (29) - (35) term deposits with affiliated banks (245) 239 9 Common stock issued from Purchases of securities available treasury (U2) (11) for sale (1,129) (1,544) (1,738) Net cash disbursed S228 S 33 $412 Proceeds from maturities of (a) See Note 15 of Notes to FinancialStatements.

securities available forsale 1,233 1.377 1,729 (b) Purchaseacquisitionsprimarilyrelate to The Providence Loans made to subsidiaries (422) (267) (635)

Group, SourceNet Solutions, Inc., Talking People Limited.

Principal collected on loans to subsidiaries 554 289 301 Safeco Trust Company,ParagonAsset Management Net capital contributed to subsidiaries (86) (64) (16) Company, Evaluation Associates CapitalMarkets, andthe Net decrease from other investing remaining 70/ interest in ParetoPartners,as well as the activities (52) (78) (94) additionalconsiderationfor Van Deventer & Hoch, The Net cash used in investing Arden Group and Vinings LLC in 2004; DirectAdvice, the activities (147) (48) (444) remaining49% interest in Buck & Willis Healthcare Limitedand The Arden Group, as well as the additional Cash flows from financing activities:

considerationforHenderson'sPrivateAsset Management Net increase (decrease) in commercial paper (4) 1 1 Business acquisition in 2003; andUnifl Network the Repayments of long-term debt (200) (450) (400) remaining5% interest in Newtton Management Limited, Net proceeds from issuance of HBV CapitalManagement. Henderson 'sPrivateAsset long-term debt 298 381 693 Management Business, AshlandManagement's Separate Proceeds from issuance of Accounts Business and Vinings Management Corporation common stock 36 29 28 in 2002.

Proceeds from the issuance of ESPP shares 6 11 23 Repurchase of common stock (266) (257) (698)

Dividends paid on common stock (297) (243) (213)

Net increase (decrease) from other financing activities 16 (54) 80 Net cash used in financing activities (411) (582) (486)

Change In cash and due from banks:

Net (decrease) increase in cash and due from banks (1) 1 9 Cash and due from banks at beginningofyear 12 11 2 Cash and due from banks at end ofyear S 11 S 12 S 11 Supplemental disclosures Interestpaid S (186) S (176) S(198)

Income taxes paid (48) (43) (47)

Income taxes refunded 49 83 77 110 MELLON FINANCIAL CORPORATION

NOTES TO FINANCIAL STATEMENTS

32. International operations Foreign and domestic total assets and results from continuing operations Foreign activity includes trust and investment fee (in millions) Foreign Domestic Total 2004 revenue generating businesses, foreign exchange Total assets S 5,142 (a) S31,973 S37,115 trading activity, loans and other revenue producing Total revenue 710 (a)(b) 4,216 4,926 assets and transactions in which the customer is Income before taxes 146 (b) 1,011 1,157 domiciled outside of the United States and/or the Income 99 701 800 foreign activity is resident at a foreign entity. We 2003 (c) have approximately 2,400 employees at non-U.S. Total assets S 5,015 S28,968 S33,983 Total revenue 469 4,134 4,603 locations, principally in the U.K. and other Income before taxes 38 958 996 European countries. Due to the nature of our Income (d) 28 655 683 foreign and domestic activities, it is not possible to 2002 (c) precisely set apart the foreign and domestically Total assets S 3,711 $32,520 $36,231 domiciled customers. As a result, it is necessary to Total revenue 483 4,232 4,715 Income before taxes 57 940 997 make certain subjective assumptions such as: Income 38 632 670 (a) Includes assetsof approximately $4.6 billionandrevenue

• Net income from international operations is of approximately$500 million of internationaloperations determined after internal allocations for taxes, domiciled in the UK, which is in excess of 12% of expenses, and provision and reserve for credit consolidatedtotal assets and 10%1 of total consolidated revenues.

losses. (b) Includes the $93 million pre-taxgainfrom the sale ofa portion of our indirect investment in Shinsei Bank

• Expenses charged to international operations (c) Priorperiods were reclassif ed to exclude aff liate activity.

include those directly incurred in connection (d) Incomefor 2003 is before the cumulative effect ofa change in accountingprinciple.

with such activities, as well as an allocable share of general support and overhead charges.

International assets, revenue, income from international operations before income taxes and net income from international operations are shown in the following table.

MELLON FINANCIAL CORPORATION 1

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM The Board of Directors and Shareholders of Mellon Financial Corporation:

We have audited the accompanying consolidated balance sheets of Mellon Financial Corporation and subsidiaries as of December 31, 2004 and 2003 and the related consolidated statements of income, changes in shareholders' equity, and cash flows for each of the years in the three-year period ended December 31,2004. These consolidated financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

"e conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Mellon Financial Corporation and subsidiaries at December 31, 2004 and 2003 and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2004 in conformity with accounting principles generally accepted in the United States of America.

As discussed in Note 10 to the consolidated financial statements, in 2002 the Corporation changed its method of accounting for goodwill and other intangibles resulting from business combinations in accordance with Statement of Financial Accounting Standards No. 142.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Mellon Financial Corporation's internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated February 18, 2005 expressed an unqualified opinion on management's assessment of, and the effective operation of, internal control over financial reporting.

1s/ KPMG LLP Pittsburgh, Pennsylvania February 18, 2005 112 MELLON FINANCIAL CORPORATION

CORPORATE INFORMATION Annual Meeting Form 10-K and Shareholder Publications The Annual Meeting of Shareholders will be held on the I 0th For a free copy of Mellon's Annual Report on Form 10-K or the floor of Two Mellon Center, 501 Grant Street, Pittsburgh, quarterly earnings news release on Form 8-K, as filed with the Pennsylvania, at 10 a.m. on Tuesday, April 19, 2005. Securities and Exchange Commission, send a written request by e-mail to mellon_10.K/8-K@amellon.com or by mail to the Annual Report Secretary of Mellon, One Mellon Center, Room 4826, The 2004 Annual Report consists of the 2004 Summary Annual Pittsburgh, PA 15258-0001.

Report and the 2004 Financial Annual Report.

The 2004 Summary and Financial Annual Reports, as well as Charitable Contributions Forms 10-K, 8-K and I0-Q, and quarterly earnings and other A report on Mellon's comprehensive community involvement, news releases can be viewed and printed at wnwwmellon.com.

including charitable contributions, is available online at uarlvmellon.com or by calling (412) 234-8680. Internet Access Mellon: whiwmellon.com Corporate Communications/ledia Relations Mellon Investor Services: hwmwtmclloninvestor.com Members of the media should direct inquiries to Also see Internet access for Business Groups/Principal Entities mediagamellon.com or (412) 234-7157. in the 2004 Mellon Summary Annual Report.

Direct Stock Purchase and Dividend Reinvestment Plan Investor Relations The Direct Stock Purchase and Dividend Reinvestment Plan Visit at 'ii melloncomf/nvestorrelauions/orcall (412) 234-provides a way to purchase shares of common stock directly 5601.

from Mellon at the current market value. Nonshareholders may purchase their first shares ofMellon's common stock through Publication Requests/Securities Transfer Agent the Plan, and shareholders may increase their shareholding by To request the Annual Report or quarterly information or to reinvesting cash dividends and through optional cash address issues regarding stock holdings, certificate investments. Plan details are in a prospectus, which may be replacement/transfer, dividends and address changes, visit obtained from Mellon Investor Services by e-mailing wmw.melloninvestor.com or call 1 800 205-7699.

shrrelationsemelloninvestor.comor by calling 1 800 205-7699.

Stock Prices Dividend Payments Current prices for Mellon's common stock can be viewed at Subject to approval of the board of directors, dividends are paid ww-w.mellon.com.

on Mellon's common stock on or about the 15th day of February, May, August and November. Telecommunications Device for the Deaf (TDD) Lines Mellon Investor Services TDD lines are 1 800 231-5469 (within Electronic Deposit of Dividends the United States) and (201) 329-8354 (outside the United Registered shareholders may have quarterly dividends paid on States).

Mellon's common stock deposited electronically to their checking or savings account, free of charge. To have your dividends deposited electronically, send a written request by e-mail to shrrelations@amelloninvestor.comor by mail to Mellon The contents of the listedInternet sites are not incorporatedinto Investor Services, P.O. Box 3315, South Hackensack, NJ 07606. this AnnualReport.

For more information, call 1 800 205-7699.

Mfellon entities are Equal Employment Opportunity/Affirmative Elimination of Duplicate Mailings Action employers. Mellon is committed to providingequal To eliminate duplicate mailings and help your company reduce employment opportunitiesto every employee and every expenses, submit, with your full name and address the way it applicantforemployment, regardlessof but not limited to, such appears on your account, a written request by e-mail to factors as race, color, religion, sex, nationalorigin, age, shrrelations@melloninvestor.comor by mail to Mellon Investor familial ormaritalstatus, ancestry,citisenship,sexual Services, P.O. Box 3315, South Hackensack, NJ 07606. For orientation, veteran status or being a qualified individualwith a more information, call 1 800 205-7699. disability Exchange Listing Mellon's common stock is traded on the New York Stock Exchange under the trading symbol MEL Our transfer agent and registrar is Mellon Investor Services, P.O. Box 3315, South Hackensack, NJ 07606. For more information, visit u-ii-w.melloninvestor.comor call 1 800205-7699.

Mellon Financial Corporation One Mellon Center Pittsburgh, PA 15258-0001 (412) 234-5000 www.mellon.com

@ Mellon The difference is measurable.9 Mellon Financial Corporation

ENCLOSURE 2 AMENDED AND RESTATED SEABROOK NUCLEAR DECOMMISSIONING FINANCING FUND MASTER TRUST AGREEMENT (BLACKLINED VERSION OF THE REVISED TRUST AGREEMENT)

DC #205387 v4

INDEX Page ARTICLE -L-LDefinitions............................................................................................................. 4-2 Seetion-1.01.01............................................ Defined Terms4-2 ARTICLE-II Identification, Nature and Duration of the Trusts ........................................... 44 Seetion -.0.2.01............................................. Identification of Trusts-4 Seetion 2.2-.2 .02 ............................................. N at and ure Purpose44 Seetien-203.2.0a ............................................ Duration; Amendment14 ARTICbLEIII .The Managing Agent ........................................... _

Seetion -. 3.01............................................. Description of Agency5 Seetien 3.02 ..................................... Replacement of Managing Agent4-6 ARTICLE IV. Decommissioning Trust Funds ................................... _

Seetion 4O4"4.01 ........... ........................ Deposits to Decommissioning Trusts+-6 Seetion 4.0a.-02 ..................................... Management of Trust Moneys4-7 Section1.03.1.03 ..................................... Withdrawal Trustof Moneys4.8 ARTICLE 3LV.LConsolidation, Merger, Conveyance .................................... 11 Seetien44-.5.01 The Seabrook Participants May Consolidate or Merge on Certain Terms4-jl Seetion 5,02 . .5.................................... . Other Successors j12 ARTICLE VI .The Trustee .................................... .12 Seetin -6 . ........... Acceptance of Trusts; Certain Terms of the Trusts4 12 Setion 6 02 ........... Persons Eligible for Appointment as the Trusteelj 7 Section 6. .............. Merger or Consolidation of the Trustee-i2 Seetion 6.04.6 04 ........... Prohibited Transactions1a ARTICLE VII -The Investment Consultant ...............................

Seetien-7.0-.7.01 ............................. Selection-12 Seetien72-02 ......... .................... Promulgation of Investment Guidelines4-J2 7.03 Review of Compliance with Investment Guidelines ..................................... 19 Section 7.03. Evaluation of Trustee or Fund 7.04 Manager Investment Performance ......... 4-12 Section 7,04-.7M ..................... Inflation and Earnings Projections4-LO ARTIC VIII Fund Managers .................... 4-Seetion 8.01.8.01................... Appointment4-2 Seetien 8.O2Q.-02 ................... Prohibited Transactions;-2j.

ARTICLE-IX .Successor Trustee, Investment Consultant, or Fund Manager ........................... 4-22 Setien-9.04-.9.01 ............. Resignation and Removal4-22 Seetien 92.9-02 ............. Appointment of Successor422 Seetien 9.039Q. ............ Acceptance of Appointment by Successor Trustee4-22 Seetien904-.9Q4 ............. Duties of Retiring Trustee4-22 i DC #20447Q7?S v1

ARTLE XL-X- The State Treasurer ....................................... .1 Seetion 10-.0-lJ0.01 ......................................... Administrative Responsibilities4-23 Seetien G1-.02-10.02 ....................................... Lack of Liabilityl24 ARTICLEXIIDistribution of Assets upon Termination ....................................... 4-25 Seetien 11-.1.1,U ....................................... Transfer to Successor Trust4-25 Seetien 12.02.1 .02......................................... F inal Distribution-25 ARTICLE XII -General Provisions ....................................... 425 Seetien 1--2.0-.1 2.01........................................ Supplemental Trust Agreements425 Seetion .12.02.12.02....................................... No Implied Obligations4-25 Seetien 1.03.12.1 ....................................... Section 468A4 Section 1-2.04112.04 ............................ Amendment or Repeal of NHRSA § 162-F4-26 Section 1.0.5.12. . .......................... Applicable Law; Forum-26 Seetien 12-.6.12 06 ............................ Unenforceable Provisions-26 Seetion 112.07.12.07 .......................... Written Changes and Notices4-26 Seetion 12.08W12.08 .......................... Counterpartsl-21 Seetien 12.09.1 2 9........................... Headings, Pronouns-27 12.10 Investment Restrictions .......................... 27 l2.11 Representations .......................... 28 SCHEDULE OF EXHIBITS Exhibit A: Ownership Shares of the Seabrook Participants Exhibit B: Investment Guidelines Exhibit C: Customer Identification Program Notice ii DC #2040720M31 v1

SEABROOK NUCLEAR DECOMMISSIONING FINANCING FUND AMENDED AND RESTATED MASTER TRUST AGREEMENT This AMENDED AND RESTATED MASTER TRUST AGREEMENT, originally dated as of October 11, 1988, amended on May 1, 1991, and-amended and restated on October 31, 2002, and amended and restated on the day of , 2005, is made between NORTH ATLANTIC ENERGY SERVICE CORPORATIONthe Seabrook Participants (hereinafter defined), FPL ENERGY SEABROOK, LLC (together with its duly appointed replacements, hereinafter called the "Managing Agent"); as agent for the Seabrook Participants-,

(hereinafter defined), being North Atlantic Energy Corporation, The United Illuminating Company, Great Bay PowAr-Cerporation, New England Power Company, The Ccnnetieut Light and Power Company, Canal Electric Company, Little Bay Power Corporation, New Hampshire Electric Cooperative, Inc., Massachusetts Municipal IWholesale Electric Company, Taunton Municipal Lighting Plant and Hudson Li&t & Power Department, Citizens Bank New H4ampshire, a New Hampshire corporation, Mellon Trust of Delaware, National Association. as Trustee (together with its successor or successors, hereinafter called the "Trustee"), and the TREASURER OF THE STATE OF NEW HAMPSHIRE (together with hefhis duly elected successors, hereinafter called the "State Treasurer"), and solely in its capacity as guarantor as hereinafter set forth, Citizens Financial Group, IncMellon BankNA., the sole stockholder of Trustee, and the Seabroo;k Participants.

WHEREAS, this Master Trust Agreement and all obligations of the parties hereunder first became effective on October 26, 1988, the date on which it was approved by the Governor and Council of the State of New Hampshire; WHEREAS, the Managing Agent and the Seabroo;k Participants desire to amend and restate this Master Trust Agreement to reflect certain changes in applicable law and certain conditions that migoht apply upon transfers of interests in the Unit, which is defined in Section 1.01 ;3AE14ERE.AS, rules and regulations of the United States Nuclear Regulatory Commission (hereinafter referred to, together with its successor governmental agency or agencies, as the "NRC") impose upon each licensee responsibility for payment of costs of permanent shutdown of the Unit, which is defined in Section 1 01 and maintenance of such faeilityanit in a safe condition after said shutdown; WHEREAS, New Hampshire Revised Statutes Annotated ("NHRSA") § 162-F: 19 mandates the creation of a "nuclear decommissioning financing fund" for each nuclear electric generating facility in the State; WHEREAS, NHRSA § 162-F:20 provides that the State Treasurer shall administer each fund established pursuant to NHRSA § 162-F:19; WHEREAS, the Seabrook Participants are parties to an agreement entitled "Agreement for Joint Ownership, Construction and Operation of New Hampshire Nuclear Units", made as of May 1, 1973, as heretofore amended by twenty four amendments (said agreement, as it may be further amended, being called the "Joint Ownership Agreement");

DC #NO40720538 Ai

WHEREAS, Paragraph 13A of the Joint Ownership Agreement obligates each of the Seabrook Participants to pay to the Managing Agent such Participant's share of the "Decommissioning Financing Fund payments" related to the Unit, and provides that such money shall be held in a "nuclear decommissioning financing fund" pursuant to NHRSA § 162-F; WHEREAS, the Managing Agent and the Seabrook Participants desire to establish or continue independent trusts to comply with NHRSA § 162-F: 19 and to assure the financial ability of the Seabrook Participants to meet their obligations to the NRC, other governmental bodies, and the general public in connection with decommissioning the Unit, such trusts to hold all payments made to them and any earnings thereon (net of administration expenses and income taxes as provided herein) solely for the purpose of meeting such decommissioning expenses and only thereafter for the benefit of the Seabrook Participants (subject to the requirements of NHRSA § 162-F:2 1-b(1l)(c) or other state or federal law as may be applicable to each Seabrook Participant);

WHEREAS, certain of such trusts are being established or continued to comply with the requirements for nuclear decommissioning reserve funds set forth in Section 468A of the Internal Revenue Code of 1986, as amended (the "Code");

WHEREAS, all conditions and requirements necessary to make this Master Trust Agreement a valid and legal instrument, in accordance with its terms and for the purposes herein expressed, have been performed and fulfilled and the execution and delivery hereof have been duly authorized.

WHEREAS, pursuant to Section 9.01 of the Master Trust Agreement, the Managing Agent bas removed Citizens Bank New Hampshire and apointed Mellon Trust of Delaware, National Association as successor Trustee:

WHEREAS, Mellon Trust of Delaware, National Association is a national banking association with trust powers:

WHEREAS. Mellon Trust of Delaware, National Association is willing to serve as trustee to the trusts on the terms and conditions herein set forth:

WHEREAS, Mellon Bank, N.A. is willinto guarantee the obliations of Mellon Trust of Delaware, National Association arising under this Master Trust Aereement as set forth below:

and WHEREAS. pursuant to Section 2.03 of the Master Trust Agreement, the parties wish to amend and restate the Master Trust Agreement to reflect the appointment of the Trustee as successor Trustee:

NOW, THEREFORE, the Managing Agent and the Seabrook Participants hereby transfer the sum of One Dollar to the Trustee and the Trustee acknowledges receipt thereof and does by these presents agree, on behalf of itself and its successor or successors in trust, subject to the administrative responsibilities of the State Treasurer described herein, to hold all property and rights conveyed to it upon the trusts and subject to the conditions herein set forth-,'Ai.:

2 DC #20140U77 vI

I.

DEFINITIONS 1.01 A.-Defined Terms. For all purposes of this Master Trust Agreement, unless the context otherwise specifies or requires:

A. 4-."Decommissioning Costs" shall mean all costs and expenses related to decommissioning and removing the Unit from service and maintaining and restoring the Unit's site, including all such costs described in NHRSA

§ 162-F:14(II) or in Paragraph 13A of the Joint Ownership Agreement.

Es 2-."Decommissioning Financing Fund Payment Schedule" shall mean the monthly payment schedule established by the Financing Committee pursuant to NHRSA § 162-F: 19.

-C a.-"Financing Committee" shall mean the "nuclear decommissioning financing committee" created with respect to the Unit pursuant to NHRSA

§ 162-F:15.

4-"Fund Manager(s)" shall mean the entity or entities described in Section 8.01 hereof.

E. S-."Investment Consultant" shall mean the entity appointed by the Managing Agent pursuant to Section 7.01.

. S6."Managing Agent" shall mean Ner4thAtlantieFPL Energy Sebiee Gerper-atinSeabrook. LLC or any other entity from time to time appointed to act in that capacity by the Seabrook Participants pursuant to Section 3.02 hereof.

(i W.- "Officer's Certificate" shall mean a certificate of either the Managing Agent or a Seabrook Participant (as the context requires) delivered to the Trustee and signed by the President (or a Vice President), or the Treasurer (or an Assistant Treasurer), or officers with equivalent responsibilities, of such corporation.

. S-."Ownership Share" shall mean each Participant's ownership share of the Unit as determined by the Joint Ownership Agreement (taking into account the prior supplement to this Master Trust Agreement dated as of May 1, 1991), those shares in effect on the date hereof being set forth in Exhibit A hereto.

L .9-"SeabrookNuclear Decommissioning Financing Fund" or "Fund" shall mean the "nuclear decommissioning financing fund" created by this Master Trust Agreement pursuant to NHRSA § 162-F: 19, and consisting of the trusts identified in Section 2.01 hereof.

3 DC #24720538vI

L 1-0-."Seabrook Participants" or "Participants" shall mean the owners of the Unit (taking into account the prior supplement to this Master Trust Agreement dated as of May 1, 1991), together with their successors, as listed on Exhibit A hereto. "Seabrook Participant" or "Participant" shall mean a single owner of the Unit as the context requires.

K. 41-."State Treasurer" shall mean the duly elected Treasurer of the State of New Hampshire, from time to time in office.

L 412-."ualified TrustA" and 'Non-Qualified Trust-W' shall mean those trusts described in Section 2.01 hereof.

it 1-3-."Unit" shall mean the nuclear electric generating unit and the land presently owned by the Seabrook Participants and located at Seabrook, New Hampshire, known as the Seabrook Nuclear Unit I, as it shall from time to time exist, together with such structures, components and equipment now or hereafter associated therewith which become subject to decommissioning rules, regulations or orders of the NRC or become subject to NHRSA § 162-F.

II.

IDENTIFICATION. NATURE AND DURATION OF THE TRUSTS 2.01 -.Identification of Trusts. Two trusts shall be established for each of the Seabrook Participants, a "Rualified TrustA" and a "Non-Qualified Trust-B." Such trusts shall be named collectively the "Seabrook Nuclear Decommissioning Financing Fund." Each of the trusts identified as "a "Qualified TrustA" shall be established on behalf of the Seabrook Participant as a "nuclear decommissioning reserve fund" under Section 468A of the Code and shall be subject to the requirements of Section 468A and the regulations promulgated thereunder.

Each of the trusts identified as "a "Non-Qualified Trust-B" shall not be subject to the requirements of Section 468A.

Additional trusts may be established hereunder in the event additional entities become obligated by the Joint Ownership Agreement to make payment of a portion of the Decommissioning Costs of the Unit; there shall be an additional "Qualified Trust-A" and "No-Qualified Trust-B" for each such additional entity. The Managing Agent shall also have the right to add additional trusts in the names of one or more of the Seabrook Participants if such additional trusts are required or desirable (in the sole discretion of the Managing Agent) to comply with any law, order, rule or regulation of any governmental body or agency.

2&2 B.-Nature and Purpose. The Seabrook Nuclear Decommissioning Financing Fund is intended to assure provision for payment of all, or as great a portion as possible, of the Decommissioning Costs of the Unit following its final removal from service. Nothing in this Master Trust Agreement shall be interpreted to relieve the individual Seabrook Participants of any obligation, for any liability, claim, demand, debt, right or cause of action, loss, damages, costs or charges which may arise from the insufficiency of the moneys held in one or more of the trusts hereunder to defray fully the Decommissioning Costs of the Unit or any other costs or 4 DC #294020538 vi

expenses payable pursuant to this Master Trust Agreement. Subject to the Trustee's obligations, as set forth in this Master Trust Agreement, to hold, invest, reinvest, and disburse the princIp and ineome of the trusts, the Trustee shall be exonerated from any and all liability which may arise from the insufficiency of the monneys held in one or more of the trusts hereunder to defray full) the Decommissioning Costs of the Unit or any other costs or expenses payable pursuant to this Master Trust Agreement.

The trusts hereunder will be independent of the Seabrook Participants, and will constitute vehicles that will hold and disburse, in accordance with the provisions hereof, moneys collected from the Seabrook Participants and dedicated to the purpose of defraying the Decommissioning Costs of the Unit. If, after completion of the decommissioning process for the Unit, it is determined that excess moneys may have been collected or accumulated in one or more trusts pursuant to this Master Trust Agreement, any such excess shall be distributed pursuant to Section 11.02 hereof.

2-0 C. Duration: Amendment. The term of the within trusts shall extend until the earliest of: (1) the exhaustion of all moneys in the trusts at a time when the Seabrook Participants are under no further obligation to make deposits under the Joint Ownership Agreement, (2) the completion of the decommissioning process for the Unit as evidenced by an appropriate order, license expiration or other act of the NRC and the Financing Committee, (3) notification of the Trustee by the Managing Agent and approval by the State Treasurer of the decision of the Seabrook Participants to have any or all of these trusts merged into other trusts and the transfer of all the moneys in the trusts to such successor trusts, or (4) if these trusts are not exempted from the Rule Against Perpetuities, twenty-one years after the death of the last survivor of a group of individuals living at the creation of such trust, the measuring lives shall be all graduates of the classes of 1987 and 1988 of Harvard College in Cambridge, Massachusetts.

It is recognized that, depending upon the amounts accumulated in the trusts and the method or methods of decommissioning the Unit authorized by the NRC and other governmental agencies having jurisdiction, the trusts may extend for an indefinite period.

The trusts are irrevocable; provided, however, the Managing Agent may merge any or all of these trusts into other trusts pursuant to the preceding paragraph, and the Managing Agent may amend this Master Trust Agreement as may be required, or desirable (in the sole discretion of the Managing Agent), to comply with any law, order, rule or regulation of any governmental body or agency having jurisdiction over (i) the decommissioning of the Unit, (ii) rates received by the Seabrook Participants, (iii) taxes paid by the Seabrook Participants, or (iv) the trusts created by this Master Trust Agreement; subject, however, to the right of the Trustee to decline to enter into any such amendment if, in its opinion, such amendment may not afford adequate protection to the Trustee when the same shall become operative. Specifically, the Managing Agent may amend this Master Trust Agreement to ensure that each Qualified Trust-A shall satisfy the requirements of Section 468A of the Code. Notwithstanding an)thing to the contrary in this Master- Tust Agr-eement, the TFrustee shall have no obligation to propose any amendment t this Master-Trust Agreement to ensure that this Agr-eement eompl es with any, changes to Section 168A of the Code, and the Trustee shall be exonerated from any and all liability arising from claims that any amendment to this Master Trust Agreement results in a violation of Section 468A of the Code by an) Trust A.

5 5 ~DC vI 12044742Q53

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Notwithstanding any pro-vision herein to the contrary, as required by the NRC and as applicable to each Seabr-eek Participant, this Master-Trust Agryeement shaThis Master Trus Agreement may not be amended in any material respect without 30 days pfieo-written notification by the Managing Agent to the NRCto the Director, Office of Nuclear Reactor Regulation-. or the Director, Office of Nuclear Material Safety and Safeguards. as a plicable, at least 30 workina days before the proposed effective date of the amendment or if written notice of objection is received from the Director, Office of Nuclear Reactor Regulation, or the Director, Office of Nuclear Material Safety and Safegauards, as applicable, within the notice eriod.

III.

THE MANAGING AGENT 3.01 A.Description of Agency. In establishing and continuing the trusts hereunder, the Managing Agent is acting in its capacity as agent for the Seabrook Participants pursuant to the Joint Ownership Agreement. The Managing Agent and its officers, employees and agents shall incur no individual liability in carrying out their duties hereunder. The Trustee and the State Treasurer may rely upon the authority of the Managing Agent to act on behalf of the Seabrook Participants and need not make inquiry to such Seabrook Participants regarding such authority. An Officer's Certificate shall be accepted by the Trustee and the State Treasurer as conclusive evidence of the facts therein stated, and the Trustee and the State Treasurer shall be exonerated for any action taken or omitted to be taken by either of them in good faith reliance thereon. Notwithstanding the foregoing, the Trustee and the State Treasurer may, in their discretion, make inquiry as to such authority or facts.

3.02 B-Replacement of Managing Agent. Nerffi AtlanfieEL Energy Sgeniee CerperatienSeabrook, LLC shall act as Managing Agent hereunder until such time as it is replaced by the Seabrook Participants. A replacement shall be effected, at any time and from time to time, by delivery to the Trustee and the State Treasurer of a written notification, executed by Seabrook Participants having Ownership Shares in the Unit aggregating at least fifty-one percent (51%), which designates a replacement and the effective date of the replacement, whereupon the replacement shall execute an instrument accepting such appointment and deliver one counterpart to each of the Trustee and the State Treasurer. Thereupon, without further act, such replacement shall become vested with all the rights, powers and duties of the Managing Agent hereunder as of the date specified. The parties hereto recognize that the Seabrockl Participants intend to appoint a Managing Agent hereunder as soon as practicable after all rceulater- appbeals have been obtained.

IV.

DECOMMISSIONING TRUST FUNDS 4 01 A.-Deposits to Decommissioning Trusts. All moneys deposited with the Trustee by or at the direction of the Managing Agent pursuant to the provisions hereof, together with income earned thereon, shall be held by the Trustee upon the trusts hereunder. Each of the trusts is held for the same purposes, whether such trust is identified as "a "Qualified TrustA" or "a "Non-Qualified Trust-B". The Trustee shall allocate the contributions made on behalf of each Participant between a Qualified Trust-A and a Non-Qualified Trust-B in such amounts and proportions as shall be specified in an Officer's Certificate of the Managing Agent. Such 6 6 ~DC Ai

1. 92-.7420M8

Officer's Certificate shall be delivered by the Managing Agent prior to the first payment to the trusts and shall remain in effect until revoked or amended by a later Officer's Certificate delivered to the Trustee. The Trustee shall be entitled to rely on the allocation of funds between Qualified Trust-A and Non-Qualified Trust-B as set forth in the Officer's Certificate and shall be exonerated from all liability for any action or inaction taken in accordance with such certificate.

The Managing Agent, at the written direction of one or more individual Participants, may instruct the Trustee to transfer moneys between the Qualified Trust-A and the Non-Qualified Trust-B established in such Participant's name, subject to the provisions hereof and such reasonable procedures as the Trustee may prescribe.

Each of the Seabrook Participants is obligated by NHRSA § 162-F: 19(II) and Paragraph 13A of the Joint Ownership Agreement to make payment of moneys to or as directed by the Managing Agent to be deposited into the trusts created by this Master Trust Agreement in an amount equal to each Participant's share of each payment under the Decommissioning Financing Payment Fund Schedule. The Managing Agent shall provide a copy of the current Decommissioning Financing Payment Fund Schedule to the Trustee fat least annuallyl. Any change in such schedule by the Financing Committee shall be effective on the date specified by the Financing Committee.

The determination of each Participant's share of each payment due under the Decommissioning Financing Fund Payment Schedule shall be determined by the Financing Committee. Upon any revision of such schedule, the Managing Agent shall submit a revised schedule of payments to the Trustee. In the event a Participant fails to male any required payment to the trusts, the Trustee shall be under no obligation to pursue collection of such In addition to the minimum payments required to be made pursuant to the Decommissioning Financing Fund Payment Schedule, the Managing Agent may, on behalf of one or more individual Participants, deposit with the Trustee additional moneys to be held in one or more of the trusts established in such Participant's name hereunder in such amounts and proportions as the Managing Agent shall designate. The Trustee is not responsible for determining the accuray of such schedule and shall have no obligation to pursue collection of any amount required to be said under the schedule; provided however, Trustee shall upon the reasonable request of the Managing Agent provide summaries of amounts contributed to the trusts.

Notwithstanding the foregoing, no deposit shall be made in any Qualified Trust-A which a Seabrook Participant has elected to be treated as a nuclear decommissioning reserve fund under Section 468A of the Code in excess of the amount which is allowable to such Participant as a deduction under said Section 468A. The Trustee may accept the Managing Agent's representation and need not make inquiry to a Seabrook Participant, as to whether any deposit or transfer of funds to a trust made on behalf of such Participant hereunder qualifies for a deduction under Section 468A of the Code and, if so, the amount of such deposit or transfer that is so deductible. The Trustee shall be exonerated from all liability for any action or inaction it may take as a result of the Managing Agent's representation (and a Seabrook Participant's representation, if any) regarding the deductibility under Section 468A of the Code of a deposit or transfer to any Qualified Trust-A.

7 DC #2047Z5387 v1

Moneys held pursuant to this Master Trust Agreement as part of any trust hereunder shall be applied or paid by the Trustee only in accordance with the provisions of this Article IV.

4-02 W:.Management of Trust Moneys. Subject to Section 8.01, principal and income held in trust under this Master Trust Agreement shall be invested and reinvested by the Trustee, and may be invested without distinction between principal and income. Such investment and reinvestment shall be in accordance with the investment guidelines, attached hereto as Exhibit B, as revised from time to time by the Investment Consultant pursuant to Section 7.02 (any such revision to be delivered to the Trustee, the State Treasurer and the Managing Agent and appropriately identified as a revision to Exhibit B). The Trustee shall hold, invest and disburse funds in each of the trusts identified as a Qualified Trust-A in such a manner that the trust qualifies as a nuclear decommissioning reserve fund under Section 468A of the Code.

Notwithstanding the foregoing, the Managing Agent retains the authority to direct the Trustee in writing to invest part or all of the funds in one or more trusts hereunder in (i) securities exempt from federal and/or state taxation, or (ii) any particular security or type of security if such investment is permitted by the investment guidelines. In such case, the Trustee shall be exonerated from any liability incurred as a result of the Managing Agent's written direction.

Each of the trusts hereunder shall constitute a separate and distinct trust, but for convenience of administration the Trustee may, in its discretion and to the extent permitted by Section 468A of the Code, mingle or combine any of the investments or property of said trusts in a common fund or funds in which the contributing trusts shall have undivided proportionate interests, provided that the investment guidelines set forth in Exhibit B as then in effect with respect to each contributing trust are satisfied.

Except as provided in Section 8.01, in investing, reinvesting, exchanging, selling and otherwise managing the trusts, the Trustee shall discharge its duties with the care, skill, prudence and diligence under the circumstances then prevailing which persons of prudence, acting in a like capacity and familiar with such matters, would use in the conduct of an enterprise of a like character.

403 -. Withdrawal of Trust Moneys.

A. Decommissioning Costs.

i. Dccommiseionine Costs. Upon compliance with the requirements of this paragraph A, moneys held by the Trustee in the trusts hereunder may be withdrawn to pay or make reimbursement of expenditures which constitute Decommissioning Costs of the Unit.

Each Participant's share of such withdrawal shall be based on such Participant's Ownership Share. A Participant's share of the withdrawal shall then be divided between the Qualified Trust A and the Non-Qualified Trust-B established on behalf of the Participant in the ratio that the balance of the Participant's assets in each of Qualified Trust-A and Non-Qualified Trust-B on the last day of the previous calendar quarter bears to that Participant's combined balance of the assets in those Tru-sts and Btrusts on such last day. In appropriate circumstances (as determined in the sole discretion of the Managing Agent), the Managing Agent may provide for a different allocation of the withdrawal between a Participant's Qualified Trust-A and Non-8 DC #44MOM v1

Qualified Trust-B. All of the allocation methods shall be set forth on the Officer's Certificate authorizing such withdrawal.

In computing the amounts that may be withdrawn for Decommissioning Costs of the Unit, the gross amount of an expenditure shall be reduced by any refunds, rebates, or other moneys similarly received by the Seabrook Participants or their agents with respect thereto. Any such refund, rebate or similar payment received after the certification of the expenditure or obligation to which it relates, and which has not previously been taken into account shall, at the election of the Managing Agent, be applied within three months after its receipt to reduce the amount of a subsequent withdrawal for Decommissioning Costs from the trusts made under this paragraph or shall be redeposited in the trusts from which the amount was withdrawn.

A withdrawal from the trusts for the purposes described in this paragraph A shall be paid to the Managing Agent upon receipt by the Trustee of an Officer's Certificate of the Managing Agent dated on the date of the withdrawal application:

(1) stating the total amount to be withdrawn; (2) stating that the amount withdrawn will be to pay or make reimbursement of expenditures which constitute Decommissioning Costs of the Unit; (3) stating the amount to be withdrawn from each Participant's combined trusts and the method of allocating that amount between a Participant's individual Qualified Trust-A and Non-Qualified Trust-B; (4) stating that none of such expenditures and obligations have been made the basis of a prior withdrawal under this paragraph; (5) stating that any moneys which have previously been withdrawn from the trusts pursuant to this Paragraph A to pay obligations have been expended for the purposes for which they were withdrawn; and (6) stating that the State Treasurer has been notified of the withdrawal and that no governmental approval for such withdrawal is necessary or, if at any time the making of withdrawals herefrom becomes subject to the jurisdiction of any governmental agency, stating that such regulatory approval has been obtained and furnishing a copy thereof.

The Trustee shall be exonerated from all liability for any action or inaction taken pursuant to such Officer's Certificate.

Notwithstanding any provision herein to the contrary, as required by the NRC and as applicable to each Seabrook Participant, (1) no disbursements or payments from the trusts (except for ordinary administrative expenses) shall be made by the Trustee until the Trustee has 9 DC #204772Q03 v1

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first gi-en the NRC Director, Office of Nuclear Reactor Regulation hasbeen iven 30 days' prior written notice of payment, and (2) no disbursement from the trusts (except for ordinary administrative expenses) shall be made if the Trustee receives prior written notice of objection from the NRC Director, Office of Nuclear Reactor Regulation. For purposes of this provision, ordinary administrative expenses include but are not limited to federal, state or local tax on the income or assets of the trust, withdrawal of excess contributions as defined in U.S. Treasury Regulations section 1.468A-5(c)(2)(ii), legal expenses of the trust, accounting expenses, investment and fund management fees and trustee compensation and expenses.

B. Income Taxes.

2. Income TExes. The Trustee may also withdraw moneys from one or more of the trusts hereunder to pay income tax, whether imposed by federal, state or local governments, attributable to the particular trust.

(1) Taxes Imposed at the Trust Level. If an income tax is imposed on one of the Participant's trusts hereunder at the trust (rather than the Participant) level, such tax shall be paid by the Trustee directly to the taxing authorities. The Trustee shall notify the Managing Agent that the tax has been paid through standard reports.

(2) Taxes Imposed at the Participant Level. In the case of one or more of the trusts designated Non-Qualified Trust-B hereunder, to the extent one or more of the Participants incurs an income tax liability attributable to the income of such Non-Oualified Trust-B, a withdrawal from the Non-Qualified Trust-B to pay such tax shall be paid to the Participant. Such payment shall be made not more than 14 days prior to the date such Participant is required to file the tax return showing such liability and upon receipt by the Trustee of an Officer's Certificate of such Participant dated on the date of the withdrawal application:

(i) stating the name of the trust in question and the amount to be withdrawn from the trust; (ii) stating the income tax liability of the Participant on whose behalf the withdrawal is being made and the amount of such liability attributable to the income of the Non-Qualified Trust-B; (iii) stating that any moneys previously withdrawn on behalf of such Participant pursuant to this Paragraph B have been used for the purpose described in this Paragraph B; (iv) stating that no governmental approval for such withdrawal is necessary or, if at any time the making of withdrawals herefrom becomes subject to the jurisdiction of any 10 DC #24O7208M v1

governmental agency, stating that such regulatory approval has been obtained and furnishing a copy thereof; and (v) signed by the Managing Agent which signature shall certify only that a copy of the Officer's Certificate has been forwarded to the State Treasurer and shall make no representation as to the other facts set forth in the Certificate.

The Trustee will be exonerated from all liability for any action or inaction taken pursuant to such Officer's Certificate and from any liability Aith respect to the disposition of any moneys withdrawn for payment of taxcs pursuant to this paragraph (2).

C. Administrative Expenses.

. Adinistratihee Rxp - e Trustee may withdraw money from the trusts hereunder for the reasonable administrative expenses of the trusts including, but not limited to, the Trustee's fees (subject to the provisions of Paragraph E of Section 6.01), the Investment Consultant's fees, the Fund Managers' fees, expenses of the Financing Committee under NHRSA § 162-F: 18, and legal expenses.

(1) Expenses Allocated According to Ownership Share. Each Participant's share of a withdrawal of (a) legal expenses incurred in administering the trusts hereunder, (b) expenses of the Financing Committee under NHRSA § 162-F: 18, and (c) such other reasonable expenses as the Managing Agent shall designate, shall be based on such Participant's Ownership Share. A Participant's share of the withdrawal shall then be divided between the Qualified Trust-A and the Non-Qualified Trust-B established on behalf of the Participant in the ratio that the balance of the Participant's assets in each of the Qualified Trust-A and Non-Qualified Trust-B on the last day of the previous calendar quarter bears to that Participant's combined balance of the assets in those TUists A-and-Btrusts on such last day. In appropriate circumstances (as determined in the sole discretion of the Managing Agent), the Managing Agent may provide for a different allocation of the withdrawal between a Participant's Qualified Trust-A and Non-Qualified Trust-B. All of the allocation methods shall be set forth on the Officer's Certificate authorizing such withdrawal. A withdrawal from the trusts for the purposes described in this subsection shall be paid to the Managing Agent upon receipt by the Trustee of an Officer's Certificate of the Managing Agent. This Officer's Certificate shall contain the same information as the Officer's Certificate furnished under Paragraph A of this Section 4.03.

11 DC #42040;720 v1

(2) Expenses Allocated According to Trust Balance. Each Participant's share of (a) Trustee's fees, (b) Fund Managers' fees, (c) Investment Consultant's fees, and (d) such other reasonable expenses as the Managing Agent shall designate, shall be allocated among each of the trusts hereunder in the ratio that the balance of the Participant's assets in each of the trusts on the last day of the previous calendar quarter bears to the balance of the assets in all the trusts on such last day. A withdrawal from the trusts for the purposes described in this subsection shall be paid to the Managing Agent upon receipt by the Trustee of an Officer's Certificate of the Managing Agent:

(i) stating the total amount to be withdrawn and the purposes for which the amount is to be used; and (ii) stating the allocation method of the amount to be withdrawn among each of the trusts hereunder.

Notwithstanding (1) and (2) above, a trust shall be allocated those expenses that specifically relate to that particular trust and are properly chargeable directly to such trust.

V.

CONSOLIDATION, MERGER. CONVEYANCE 5Q1 A.-The Seabrook Participants May Consolidate or Merge on Certain Terms.

Nothing in this Master Trust Agreement shall be interpreted to prevent any consolidation or merger of any of the Seabrook Participants with, or into, any other entity or entities, or the conveyance or transfer of any of their respective rights, title and interest in the Unit and/or the trusts hereunder to any other entity or entities. Upon the sale or other transfer of all or part of a Participant's interest in the Unit, moneys in the trusts hereunder established on behalf of the transferor Participant which relate to the transferred interest shall be transferred to successor trusts established on behalf of the transferee Participant. The State Treasurer shall approve such transfer provided the successor trusts are subject to the terms of this Master Trust Agreement.

5.02 B.-Other Successors. .-Nothing in this Master Trust Agreement shall be interpreted to prevent any of the Seabrook Participants from transferring their respective rights, title and interest in, and their obligations with respect to, the Unit and/or the trusts hereunder to any agent, representative, authority, agency, commission or other entity or entities, authorized by applicable state and federal statutes or regulations to assume responsibility for the decommissioning of nuclear facilities.

VI.

THE TRUSTEE 6.1 A.-Acceptance of Trusts; Certain Terms of the Trusts. .-The Trustee, for itself and its successors, hereby accepts the trusts created by this Master Trust Agreement and agrees to perform the same, but only upon the terms expressly herein set forth, including the following:

12 DC #242Q5381 v1

A. h.-The Trustee makes no representations as to the value or condition of the trusts (or any part thereof) to achieve the purposes of this Master Trust Agreement and the trusts created herein.

. 2O.The Trustee shall be exonerated from any and all liability arising with respect to the disposition of any moneys duly paid to the Managing Agent or others under any provision hereof.

C W3.-The Trustee may perform any duty hereunder either directly or through its agents or attorneys.

.a 4-.The Trustee may, as an expense of administering the trusts, consult with legal counsel to be selected by it (who may be counsel for the Managing Agent or any of the Seabrook Participants), and the Trustee shall not be liable for any action taken or permitted by it in good faith in accordance with the advice of such counsel.

E. -. The Trustee shall have the right, from time to time, to be reasonably compensated for all services rendered hereunder and to be reimbursed for all reasonable expenses incurred by it in the administration of the trusts created hereby. The compensation and reimbursements due to the Trustee shall be shown in bills submitted to the Managing Agent.

E. 6S.The Trustee shall segregate into separately identified accounts such portions of the trust funds held in the name of a Seabrook Participant as the Managing Agent may direct. In accordance with Paragraph E above, the Trustee shall charge such trusts for any additional expenses resulting from such segregation and accounting.

fi. W-.The Managing Agent, as agent for the Participants, shall indemnify the Trustee against any liability, sse. ag aims and expenses (incli nsonable attorneys fees) it may sustain, in good faith and without negligence, in the performance of its duties hereunder. This provision shall survive the termination of this Master Trust Agreement.

IL W.The Trustee shall maintain appropriate records of all deposits, investments and earnings thereon received by the trusts and all disbursements made from the trusts, and each month the Trustee shall provide to the State Treasurer and the Managing Agent a written statement of such transactions in a form acceptable to the State Treasurer and the Managing Agent. In addition, the Trustee shall provide to the State Treasurer and the Managing Agent at least annually a report certifying as to the activity in each of the trusts over the period since the most recent report and the balances at the beginning and end of such period.

L 9-.Each Seabrook Participant and its agents shall have the right to review, inspect and audit the books and records of the Trustee relating to the trusts established on behalf of the Participant, provided that the expenses of such 13 DC #'04X0205387 vI

review, inspection or audit shall be paid by the Seabrook Participant causing such review, inspection or audit to be performed. The Managing Agent, the State Treasurer, and their agents shall also have the authority to make such a review, inspection and audit of any one or more of the trusts hereunder, in which case the expense shall be treated as an administration expense allocable to all the trusts hereunder or to the trusts reviewed, inspected or audited as the Managing Agent (in its sole discretion) shall deem reasonable. All reviews, inspections and audits shall take place during normal business hours. Reasonable notice shall be given to the Trustee of any review, inspection or audit.

L 4-l-.-With respect to federal, state or local income taxes imposed on the trusts at the trust (rather than the Participant) level, the Trustee shall cause appropriate tax returns to be prepared and filed and, pursuant to Section 4.03, shall pay any taxes shown to be due out of the appropriate trust moneys held by it. The Managing Agent shall, on a timely basis, provide the Trustee with any information needed and requested with respect to the filing of such tax returns. The Trustee shall be exonerated from any and all liability resulting from the preparation and filing of tax returns to the extent such liability arises from written information supplied to the Trustee by the Managing Agent or a Participant. With the concurrence of the Managing Agent, the Trustee shall have the right to challenge the obligation to make payment of any such taxes and shall have the authority to settle any proceedings related to such taxes, and to receive refunds and take any other action necessary or appropriate in regard to taxes on the trusts.

K. -h.-The Trustee shall prepare and submit such applications, reports and other documents as may be required by any governmental authority having jurisdiction over the trusts and performance of the trust obligations and activities specified by this Master Trust Agreement.

L 4-2-.The Trustee shall have no obligation for any damage, cost, cause of action, charge or other liability arising from the operation or financing of the Unit.

hi 13-.Without in any way limiting the powers and authority conferred upon the Trustee by other provisions of this Master Trust Agreement or by law, and to the extent not inconsistent with the investment guidelines of Exhibit B as then in effect, the Trustee is expressly authorized and empowered as follows:

(1) To retain indefinitely, and to invest and reinvest in, stocks, shares, obligations and other securities or any other kind of persenal or feal-property even though any or all of the investments made or retained are of a character or size which but for this express authority would not be considered proper for the Trusteeprovided 14 DC #,;4O 205387 vI

however, no portion of the trusts shall be invested in anv direct interests in real property, leaseholds or mineral interests; (2) To sell, to exchange, to lease and to make contracts concerning real oe persenal-property for such consideration and upon such terms as to credit or otherwise as the Trustee considers advisable, which leases and contracts may extend beyond the term of the trusts; to give options on real or personal property of the trusts; to establish depreciation, depletion, tax or any other reserves; to execute deeds, transfers, leases and other instruments of any kind; (3) To heldcause any investment, either in whole or in rt. in the trusts to be registered in or trinto, the Trustee's name or the names of a nominee or nominees, including but not limited to that of the Trustee or an affiliate of the Trustee. a clearing corporation, or a depository, or in book entry form. or to retain any such investment unregistered or in a form permitting transfer by delivery. provided that the books and records of the Trustee shall at all times show that such investments are a part of the trusts: and to cause any such investment, or the evidence thereof, to be held by the Trustee, in a depository, in a cleaag corporation in book entry form, or by any subcustodian or other entity or in any other manner permitted by law; provided that the Trustee shall not be responsible for any losses resulting from the deposit or maintenance of securities or other property in the name of the Trustee or of any other persen, firm or corporation, "ithout indication of any fiduciary capacity;(in accordance with market practice, custom, or regulation) with any foreign or domestic clearing facility, book-entry system, centralized custodial depository or similar organization, provided such organization is commonly recognized by market participants, (4) To give general or special proxies or powers of attorney (which may or may not be discretionary and with power of substitution) for voting or acting with respect to securities; to deposit securities with, or transfer them to, protective committees, voting trustees, or similar bodies; to join in any reorganization, and to pay assessments or subscriptions called for in connection with securities held by the Trustee; (5) To receive additions to the trusts and to hold and administer the same under the provisions hereof; (6) To compromise or submit to arbitration any tax, claim or matter in dispute; 15 5DC #2Q4O7205381 vI

(7) To employ investment counsel and consult with them concerning the investments and management of the trusts; to employ a custodian, attorneys and any other special service; and in addition to the compensation and expenses of the Trustee, to pay the reasonable compensation and expenses of such investment counsel, custodian, attorneys and other special services; (8) To participate as seller or purchaser in private placements, secondary offerings or other regulated or special transactions, and to execute and deliver such instruments and take such action as is customary or, in the opinion of the Trustee, appropriate in connection therewith, including investment representations, indemnity agreements, pledges and guarantees binding the trust property; (9) To improve or develop real estate; to construct, alter, repair or demolish buildings or structures; to settle boundary lines and easements and other rights; to partition, and to join with co-owners or others in dealing with real estate in any way; (10) If in the opinion of the Trustee it is necessary or advisable to do so, to borrow money for such time at such rate of interest or discount as the Trustee deems proper; to give notes or obligations therefor binding the trust property; and as security therefor to mortgage or to pledge real or personal property with or without power of sale; (11) To make any division or distribution of, or payment from, the trusts, in kind by the fair and reasonable allotment and transfer of specific securities or other personal or real property or undivided interests therein, at then current values, in lieu of cash, as a part or the whole of any one or more shares or payments; and (12) To credit particular receipts or gains, and to charge particular disbursements or losses or charges, to income or to principal of the trusts or to apportion them between income and principal, whether such credits or charges relate to bonds acquired at a premium, to reserves or to any other matter, all as the Trustee considers fair and reasonable in each case; (13) To take all action necessary to pay for authorized transactions.

including exercising the power to borrow or raise monies from the Trustee in its corporate capacity or an affiliate of the Trustee. and hold any property in the trusts as securty for advances made to the trusts for any such authorized transactions, includig disbursements or expenses, or the purchase or sale of foreimn exchange, or of contracts for foreign exchange. The Trustee shall be entitled to collect from the trusts sufficient cash for 16 DC #2040;Q S3S7 v1

reimbursement and, if such cash is insufficient, dispose of the assets of the trusts to the extent necessary to obtain reimbursement.

To the extent the Trustee advances funds to the trusts for disbursements or to effect the settlement of purchase transactions.

the Trustee shall be entitled to collect from the Account reasonable charges established under the Trustee's standard overdraft terms.

conditions and procedures, and (14) To report the fair market value of the trusts monthly to the Managin2 Acent the State Treasurer and the Investment Consultant, in accordance weith methods consistently followed and uniformly applied. In reporting fair market value of the trusts the Trustee, in accordance with the Trustee's then current Dractices.

shall obtain and rely upon prices and quotes from pricing. sources or, if such prices or quotes are unavailable from sources utilized by the Trustee in accordance with its then current practices, from the Manaeine Aeent, a Fund Manaper or other autorized party, and shall be without liability or responsibility for any loss occasioned by such reliance. Nothithstandine the foregoing the Ma Agent. the Fund Manager or other authorized party may direct the Trustee as to a price or auote to be used. and the Trustee shall be fully protected when relyine upon such direction and when utilizing any such price or qute.

NI 14.-The Trustee shall not be liable for any acts, omissions or defaults of any agent (other than its officers and employees) or depositary appointed or selected by it with reasonable care or, except as otherwise provided in Section 6.04 hereof, for any acts taken or not taken at the written direction of the Managing Agent or a Fund Manager. The Trustee shall be liable only for such Trustee's own acts or omissions (and those of its officers and employees) occasioned by the willful misconduct or negligence of such Trustee (or that of its officers and employees). The officers and employees of the Trustee shall incur no individual liability in carrying out their duties hereunder. The Trustee shall not be responsible or liable for any losses or damages suffered by the trusts arising as a result of the insolvency of any subcustodian, except to the extent the Trustee was negligent in its selection or continued retention of such subcustodian.

Settlements of transactions may be effected in trading and processing practices customary in the iurisdiction or market where the transaction occurs. The Manaeine Agent and Seabrook Participants acknowledge that this may in certain circumstances-require the delivery of cash or securities (or other property) without the concurrent receipt of securities (or other property) or cash. In such circumstances, the Trustee shall have no responsibility for nonreceipt of pavment (or late payment) or non-delivery of securities or other property (or late delivery) by the counterparty.

17 DC #204OW2053SM v

. Notwithstanding anything in this Master Trust Agreement to the contrary the Trustee shall not be responsible or liable for its failure to perform under this Master Trust Agreement or for any losses to the trusts resultig from any event beyond the reasonable control of the Trustee, its agents or subcustodians. This provision shall survive the termination of this Master Trust Agreement.

P. Directions to the Trustee shall be in writing, transmitted by first class mail, overnight delivery. private courier, facsimile, or shall be an electronic transmission subject to the Trustee's policies and procedures, other institutional delivery systems or trade matchian utilities as directed by an authorized party and supported by the Trustee. or other methods agreed upon in writing by the parties to this arement. The Trustee may, in its discretion, accept oral directions and instructions and may require confirmation in writing. In making navments to service providers pursuant to authorized instructions, theManaing Aeent acknowled that the Trustee is actine as a payinaent, and not as the payor. for tax information reporting and withholding, 6.02 B.-Persons Eligible for Appointment as the Trustee. The Trustee shall at all times be a corporation, bank or trust company having its principal office and place of business in the United States of America, with a combined capital and surplus of at least one billion dollars

($ 1,000,000,000) and authorized under applicable laws to exercise corporate trust powers and subject to supervision or examination by appropriate federal or state authorities. If the Trustee publishes reports of condition at least annually, pursuant to law or to the requirements of any supervising or examining authority referred to in this Section, then, for the purposes of this Section, the combined capital and surplus of the Trustee shall be deemed to be its combined capital and surplus as set forth in its most recent report of condition so published.

For purposes of this Section 6.02, the combined capital and surplus of any sole stockholder, direct or indirect, of the Trustee will be deemed to be the combined capital and surplus of the Trustee, provided that the stockholder guarantees to the Managing Agent and the State Treasurer that the Trustee will perform its duties under this Master Trust Agreement. If the guarantee is made by a sole indirect stockholder of the Trustee, each intermediate sole stockholder must also guarantee the performance of the Trustee's duties.

In the event the Trustee ceases to be eligible under this Section, as determined in the sole discretion of the Managing Agent, it shall resign in the manner and with the effect specified in Section 9.01; if the Trustee does not so resign, it shall be removed pursuant to Section 9.01 by the Managing Agent.

Whenever necessary to avoid or fill a vacancy in the office of the Trustee, the Managing Agent will, in the manner provided in Section 9.02, appoint a Trustee so that there shall at all times be a Trustee eligible under this Section.

6.03 C. Merger or Consolidation of the Trustee. Subject to the requirements of Section 6.02 hereof, any corporation into which the Trustee may be merged or with which it may be 18 18 DC #2044O2Q53S v1

consolidated or any corporation resulting from any merger or consolidation to which the Trustee shall be a party or any corporation to which substantially all the business and assets of the Trustee may be transferred, shall be the Trustee under this Master Trust Agreement, without further act.

6.04 D.-Prohibited Transactions. Notwithstanding anything contained in this Master Trust Agreement to the contrary, the Trustee shall not authorize or carry out any sale, exchange, or other transaction with respect to a Qualified Trust-A which would constitute an act of "self-dealing" within the meaning of Section 4951 of the Code, as such section is made applicable to a Qualified Trust-A by Section 468A(e)(5) of the Code, regulations thereunder, and any applicable successor provision. However, except as stated in the following paragraph, the Trustee shall (1) have no obligation to determine whether a sale, exchange, or other transaction undertaken at the written direction of the Managing Agent or a Fund Manager constitutes an act of self-dealing; and (2) be indemnified by the Managing Agent for any liability under Section 4951 of the Code resulting from actions specified in (1) above.

Notwithstanding anything contained in the preceding paragraph to the contrary, the Trustee shall be liable for any tax imposed pursuant to Section 4951 of the Code as such section is applicable to aQualified Trust-A or the Trustee if the "disqualified person" (within the meaning of Sections 4951 (d) and 4951 (e)(4)) involved in the act of self-dealing is:

(i) the Trustee, (ii) a corporation of which the Trustee owns more than 35% of the total combined voting power, (iii) a partnership in which the Trustee owns more than 35% of the profits interest, or (iv) a trust or estate in which the Trustee holds more than 35%

of the beneficial interest. Constructive ownership rules as set forth in Section 495 1(e)(4) of the Code shall apply in making the determinations under (b), (c) and (d).

VII.

THE INVESTMENT CONSULTANT Ol A.-Selection. The Investment Consultant shall be such entity or entities as is or are appointed by the Managing Agent, with the approval of the State Treasurer pursuant to Section 10.01. The Investment Consultant may not be the Trustee or a Fund Manager. The Managing Agent shall notify the Trustee of the appointment or replacement of an Investment Consultant by means of an Officer's Certificate, accompanied by the written approval of the State Treasurer, stating the name and address of the Investment Consultant and the effective date of the appointment.

02 B-.Promulgation of Investment Guidelines. The Investment Consultant shall, at least annually, review the investment guidelines set forth in Exhibit B and shall make any appropriate revisions to such guidelines. Such revisions to Exhibit B shall become fully 19 DC #'0 407420 vi

effective upon their approval by the Managing Agent and the State Treasurer on the date designated by the Managing Agent. The investment guidelines shall take, into account considerations appropriate to achievement of the purposes described in this Master Trust Agreement, such as the estimated commencement date for decommissioning the Unit, the amount of moneys held in trust and anticipated earnings, the preservation of principal, appropriate liquidity throughout the estimated remaining life of the Unit (so that amounts of decommissioning funds are readily available on relatively short notice in the event of a premature decommissioning of the Unit), and the goal of maximizing trust earnings after payment of applicable taxes and other expenses.

The investment guidelines with respect to each trust identified as a Qualified Trust-A shall, in any event, be limited in such a manner that such trust continues to qualify as a nuclear decommissioning reserve fund under Section 468A of the Code. The Trustee, however, shall have no obligation to determine whether the investment guidelines for each Qualified Trust-A comply with Section 468A.

7.03 Review of Compliance with Investment Gu idelines. The Investment Consultant shall perform a quarterly review, or more freauently if requested by the Managing A ent.-of the comp ance of any Fund Manager (or the Trustee with respect to any portion of trust assets for which a Fund Manager has not been appointed under Section 8.01 hereof) with the investment guidelines of Exhibit B and shall submit a report to the State Treasurer and Managin Agent.

Such report, which shall be completed within 3 months after the end of the each fiscal auarter of the Fund, shall be in a format mutually agreed upon by the State Treasurer, the ManaminAgWent and the Investment Consultant.

74 G-.Evaluation of Trustee or Fund Manager Investment Performance. The Investment Consultant shall perform an annual evaluation, or more frequently if requested by the Managing Agent, of the Trustee's investment performance with respect to the Fund and shall submit a report to the State Treasurer and Managing Agent; provided, however, that if one or more Fund Managers has or have been appointed by the Managing Agent pursuant to Section 8.01 hereof the Investment Consultant shall instead perform and submit such report with respect to such Fund Manager(s). Such report, which shall be completed within 3 months after the end of each fiscal year of the Fund, shall be in a format mutually agreed upon by the State Treasurer, the Managing Agent and the Investment Consultant.

7X D.-Inflation and Earnings Projections. At least annually, and more frequently if requested by the Managing Agent, the Investment Consultant shall:

(i) develop an inflation estimate, and (ii) develop after tax earnings projections for each individual trust hereunder and for the entire Seabrook Nuclear Decommissioning Financing Fund, for the period ending upon the projected completion of decommissioning of the Unit, such report to be submitted to the Managing Agent and to the State Treasurer.

20 DC #2O44f205381 v1

VIII.

FUND MANAGERS 8.01 A-.Appointment. The Managing Agent shall have the power to appoint from time to time, with the approval of the State Treasurer pursuant to Section 10.01, one or more Fund Managers to manage, or direct, the acquisition, holding or disposition of a designated portion of trust assets in accordance with the terms of a written appointment made by the Managing Agent.

Any such Fund Manager shall, unless its appointment provides otherwise, have the power to direct the Trustee in the exercise of those powers expressly given the Trustee under Section 4.02 with respect to such designated portion of the trust moneys and the Trustee shall, upon receipt of a copy of such Fund Manager's appointment, as well as written acceptance of such appointment and the written approval by the State Treasurer of such appointment, both in a form satisfactory to the Trustee, exercise such powers as directed in writing by such Fund Manager. A Fund Manager (or the Trustee if a Fund Manager has not been appointed) shall be responsible for ensuring that any investment of such designated portion of the trust moneys is in compliance with the investment guidelines of Exhibit B. If any investment does not so comply, the Fund Ma aaer (or the Trustee if a Fund Manager has not been appointed) shall so notify the Manain APent. the State Treasurer. and the Investment Consultant. The Trustee shall be exonerated from any liability for action or inaction taken at the direction of a Fund Manager. Notwithstanding the foregoing the Trustee shall at all times be responsible for determining whether an investment direction by a Fund Manager is in-compliance wAith the investment guidelines of Exhibit B, and if an) investment direction does not so comply, the Trustee shall not follow such direction and shall so netif' the Managing Agent. With respect to any part or all of the trusts for which a Fund Manager has not been so appointed by the Managing Agent, the Trustee shall have full authority to invest and reinvest such portion or all of the trusts in compliance with the investment guidelines of Exhibit B as then in effect and in accordance with the provisions of this Master Trust Agreement and shall not be required to follow the investment directions of any other person, except insofar as directed in writing by the Managing Agent pursuant to Section 4.02 to invest funds in (i) securities exempt from taxation or (ii) any particular security or type of security if such investments are permitted by the investment guidelines. In such case, the Trustee shall be exonerated from any liability incurred as a result of the Managing Agent's written directions.

B.0 BF.Prohibited Transactions. Notwithstanding anything contained in this Master Trust Agreement to the contrary, a Fund Manager shall not authorize any sale, exchange, or other transaction with respect to Qualified Trust-A which would constitute an act of "self-dealing" within the meaning of Section 4951 of the Code, as such section is made applicable to Qualified Trust-A by Section 468A(e)(5) of the Code, any regulations thereunder, and any applicable successor provision. However, except as stated in the following paragraph, a Fund Manager shall (1) have no obligation to determine whether a sale, exchange, or other transaction undertaken at the written direction of the Managing Agent constitutes an act of self-dealing; and (2) be indemnified by the Managing Agent for any liability under Section 4951 of the Code resulting from actions specified in (1) above.

Notwithstanding anything contained in the preceding paragraph to the contrary, the Fund Manager shall be liable for any tax imposed pursuant to Section 4951 of the Code as such section is applicable to Qualified Trust-A or the Fund Manager if the tax resulted from any sale, 21 21 #20OW92O33S

~DC vI

exchange, or other transaction authorized by the Fund Manager and the "disqualified person" (within the meaning of Sections 4951 (d) and 4951 (e)(4)) involved in the act of self-dealing is:

(i) the Fund Manager, (ii) a corporation of which the Fund Manager owns more than 35% of the total combined voting power, (iii) a partnership in which the Fund Manager owns more than 35% of the profits interest, or (iv) a trust or estate in which the Fund Manager holds more than 35% of the beneficial interest. Constructive ownership rules as set forth in Section 4951 (e)(4) of the Code shall apply in making the determinations under (b),

(c) and (d).

Ix.

SUCCESSOR TRUSTEE. INVESTMENT CONSULTANT, OR FUND MANAGER 201 A-.Resigation and Removal. The Trustee, the Investment Consultant, or a Fund Manager may resign by giving at least six weeks' prior written notice to the State Treasurer and the Managing Agent. In the case of a Trustee, such resignation shall become effective on the day specified in such notice, or upon the appointment of a successor and such successor's acceptance, whichever is later. In the case of an Investment Consultant or Fund Manager, such resignation shall become effective on the day specified in such notice.

The Managing Agent, with the approval of the State Treasurer, which approval shall not be unreasonably withheld, may at any time remove the Trustee, the Investment Consultant or a Fund Manager, with or without cause, upon at least six weeks prior written notice, such notice to be in the form of an Officer's Certificate declaring such removal. In the case of a Trustee, the Officer's Certificate shall specify the successor trustee appointed pursuant to Section 9.02.

9,02 F.-Appointment of Successor. In the event the Trustee, the Investment Consultant, or a Fund Manager resigns, is removed, or becomes incapable of acting or is adjudged a bankrupt or insolvent, or if a receiver of such entity or its property is appointed or a public officer takes charge or control of such entity or its property or affairs for the purpose of rehabilitation, conservation or liquidation, a vacancy shall be deemed to exist in the office of such Trustee, Investment Consultant, or Fund Manager and a successor shall be appointed by the Managing Agent, with the approval of the State Treasurer pursuant to Section 10.01. In the case of the Trustee, such appointment shall take effect upon acceptance as provided in Section 9.03.

If, in a proper case, no successor Trustee shall have been appointed pursuant to the foregoing provisions of this Section, or if appointed, shall not have accepted the appointment, within 60 days after (a) the effective date of the resignation of the Trustee, or (b) the occurrence of a vacancy in the office of the Trustee, the State Treasurer shall apply to a court of competent jurisdiction to appoint a successor Trustee.

22 DC #2.iQ7S317 vI

9.0E C-.Acceptance of Appointment by Successor Trustee. A successor Trustee appointed hereunder shall execute an instrument accepting such appointment and deliver one counterpart thereof to each of the Managing Agent, the State Treasurer, and, if applicable, the court making such appointment. Thereupon, without any further act, such successor Trustee shall become vested with all the properties, rights, powers, trusts and duties of the retiring Trustee as originally named under this Master Trust Agreement.

9.04 D.-Duties of Retiring Trustee. Any Trustee who retires, resigns or is otherwise removed from office shall prepare and submit to the Managing Agent and the State Treasurer a final accounting with respect to the trusts established hereunder and, when requested by the successor Trustee in writing or by the Managing Agent, and upon payment of any lawful charges and disbursements, shall execute and deliver an instrument or instruments conveying and transferring to such successor Trustee all its properties, rights, powers, and trusts hereunder and shall duly assign, transfer and deliver to such successor Trustee all property and moneys held by it hereunder. The Trustee shall have the right to a judicial settlement of any final accounting before any appropriate court in the State of New Hampshire.

X.

THE STATE TREASURER 10.01 A.-Administrative Responsibilities. Pursuant to NHRSA § 162-F:20, the State Treasurer is responsible for the administration of each "nuclear decommissioning financing fund"." In addition to any other responsibilities imposed on the State Treasurer by NHRSA § 162-F, shehe shall have the following administrative responsibilities with respect to the trusts created hereunder.

. S.-Pursuant to Sections 7.01, 7.02, 8.01, 9.01 and 9.02 hereof, the approval of the State Treasurer is required for the appointment of the Trustee, the Investment Consultant, and one or more Fund Managers, the removal of the Trustee, the Investment Consultant, and a Fund Manager, and revisions to the Investment Guidelines as set forth in Exhibit B. Such approval shall not be unreasonably withheld and shall be in writing in a form reasonably acceptable to the Managing Agent and, in the case of an appointment, the Trustee, Investment Consultant or Fund Manager being appointed. In the event the State Treasurer does not approve an appointee proposed by the Managing Agent, however, the Managing Agent shall promptly submit to the State Treasurer a list of three qualified entities (or individuals), which may include the original proposed appointee, and the State Treasurer shall select from such list one entity - such entity to be deemed to have been appointed by the Managing Agent with the approval of the State Treasurer.

EL 2.-The approval of the State Treasurer is required in respect of the initial and any changes to the initial (or a subsequent) fee schedule for compensating a Trustee, an Investment Consultant, and a Fund Manager.

23 DC #2O4O2 20538 v1

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C 3--The State Treasurer, after consultation with the Managing Agent, shall determine each Participant's monthly portion (the "Monthly Portion") of the aggregate payment set forth on the then current Decommissioning Financing Fund Payment Schedule with the goal that the balance of each Participant's trusts at the funding date determined by the Financing Committee pursuant to NHRSA § 162-F:19(I) shall equal the cost of decommissioning the Unit (as determined by the Financing Committee) multiplied by that Participant's Ownership Share. The determination of a Participant's Monthly Portion shall be based on the Participant's Ownership Share; the anticipated net future earnings of the Participant's trusts (distinguishing between tax-exempt and taxable Participants); and, to the extent appropriate, the balances of the Qualified Trust-A and Non-Qualified Trust-B established on behalf of the Participant. .The amount of each Participant's Monthly Portion shall be redetermined each time a change is made to the Decommissioning Financing Fund Payment Schedule. In addition, the amount of each Participant's Monthly Portion shall be reviewed annually after consideration of the report provided by the Investment Consultant pursuant to Section 7.04 hereof. No Participant's Monthly Portion shall be increased because of the failure of any other Participant to make a required payment to the trusts.

Participants shall not be permitted at any time to offset any required payment by application in any way of expenditures or obligations which might otherwise qualify for withdrawal under Section 4.03.

D. 4-.At least annually, or more frequently if required by the Financing Committee, the State Treasurer shall submit a report to the Financing Committee setting forth: (i) the a balance of the Seabrook Nuclear Decommissioning Financing Fund, (ii) the income of the Fund during the preceding year (or shorter period if accounts are required to be submitted more frequently than annually), (iii) the taxes and administrative expenses paid by the Fund, (iv) a schedule showing the current investments of the Fund, and (v) the same information contained in (i), (ii), (iii) and (iv),

above, with respect to each individual trust created hereunder.

L i5. After consideration of the report provided by the Investment Consultant pursuant to Section 7.03, the State Treasurer and the Managing Agent shall together submit an annual report to the Financing Committee setting forth: (i) a current estimate of inflation, (ii) a current estimate of future earnings of the Fund, and (iii) a statement whether in their opinion the payment schedule determined by the Financing Committee is in need of revision in order for the Fund to achieve the estimated amount needed for decommissioning the Unit, as such amount is established from time to time by the Financing Committee.

24 DC #2044720530M7 v]

E. 6-.The State Treasurer shall review the monthly reports submitted by the Trustee pursuant to Section 6.01 hereof and shall maintain a record of such reports for a period of ten years.

W.

7-The State Treasurer shall, pursuant to the provisions of Section 7.03 hereof, receive a report from the Investment Consultant evaluating the performance of the Trustee. The State Treasurer shall review such evaluation and submit it to the Financing Committee together with any additional recommendations or comments shehe may have.

10.02 F.-Lack of Liability. The State Treasurer, both as an individual and in hefiis capacity as Treasurer of the State of New Hampshire, shall not be liable to the Managing Agent, any Participant, the Trustee, Fund Manager, or Investment Consultant in tort, contract or otherwise in connection with the affairs of the trusts, except only that liability arising from herhi own bad faith, willful misfeasance, gross negligence, or reckless disregard of duty.

XI.

DISTRIBUTION OF ASSETS UPON TERMINATION 11.01 A.-Transfer to Successor Trust. In the event that one or more of the decommissioning trusts established pursuant to this Master Trust Agreement is required or permitted by an action of any governmental authority having jurisdiction to be transferred to another trust or trusts in order to satisfy the purposes specified in Section 2.02, the Managing Agent shall have the right, by written notice to the Trustee and to the State Treasurer, to elect to have such trust or trusts merged into such other trust or trusts. Upon the completion of such transfer, the specified trust shall terminate.

11.02 W.Final Distribution. Any moneys remaining in a trust following completion of the decommissioning process for the Unit as required by the Financing Committee in excess of the amounts necessary to provide for monitoring of the facility after shutdown as required by the NRC or the Financing Committee, as evidenced by an appropriate order, license expiration or other action of the NRC and the Financing Committee, shall be distributed by the Trustee to the Managing Agent for the benefit of the applicable Seabrook Participant, except as may be otherwise ordered by (I) any governmental authority having jurisdiction over such distribution, or (2) NHRSA § 162-F:23(III).

If any of the trusts created by this Master Trust Agreement is finally determined to be void for any reason by a court or other governmental authority having jurisdiction, any portion of the trust property which cannot then be applied to achievement of the purposes specified herein shall be distributed in the manner specified in this Section 11.02.

XII.

GENERAL PROVISIONS 12.01 A.-Supplemental Trust Agreements. Subject to Section 2.03 hereof, this Master Trust Agreement may be amended or supplemented from time to time by the execution and delivery of one or more supplemental trust agreements by and between the Managing Agent, the 25 DC #GO4020538 vi

State Treasurer and the Trustee, provided that the amendment or supplement has received any required approval or acceptance by any governmental body having jurisdiction.

12.02 B-.No Implied Obligations. This Master Trust Agreement shall not be interpreted to impose any duty, responsibility, obligation or liability upon the Trustee, the State Treasurer or the Managing Agent in addition to those duties, responsibilities, obligations and liabilities which are imposed by law or expressly specified in this instrument.

I203 C. Section 468A. Notwithstanding anything to the contrary in this Agreement, the Master Trust Agreement shall be interpreted so as to assure that each Qualified Trust-A established hereunder shall comply with the requirements of a "nuclear decommissioning reserve fund" under Section 468A of the Code and the regulations promulgated thereunder. The parties to this agreement shall not take any action or make any amendment to this Master Trust Agreement which would disqualify any Qualified Trust-A as a nuclear decommissioning reserve fund under Section 468A of the Code.

Any reference in this Master Trust Agreement to Section 468A of the Code shall be deemed to refer not only to such section, as it may from time to time be amended, but also to any successor statutory provision. In the event that Section 468A of the Code, or its successor statutory provision, is repealed, in whole or in part, and certain provisions of this Master Trust Agreement cease to be required, such provisions shall thereupon be ineffective without the necessity of further amendment of this Master Trust Agreement.

12.04 D.-Amendment or Repeal of NHRSA § 162-F. Any reference in this Master Trust Agreement to NHRSA § 162-F shall be deemed to refer not only to such section, as it may from time to time be amended, but also to any successor statutory provision. In the event that NHRSA

§ 162-F, or its successor statutory provision, is repealed, in whole or in part, and certain provisions of this Master Trust Agreement cease to be required, such provisions shall thereupon be ineffective without the necessity of further amendment of this Master Trust Agreement.

12.0 E.-Applicable Law: Forum. This Master Trust Agreement and the trusts hereunder shall be governed by and construed in accordance with the laws of the State of New Hampshire. Any dispute concerning the interpretation or application of this Master Trust Agreement, or the distribution of any of its assets shall be initiated only in a state or federal court of competent subject matter jurisdiction located within the State of New Hampshire.

L26 F.-Unenforceable Provisions. Any provision of this Master Trust Agreement which is prohibited or is determined to be unenforceable in any jurisdiction shall, as to such jurisdiction, be ineffective to the extent of such prohibition or unenforceability without invalidating the remaining provisions hereof, and any such prohibition or unenforceability in any jurisdiction shall not invalidate or render unenforceable such provision in any other jurisdiction.

12.07 G.-Written Chances and Notices. No term or provision of this Master Trust Agreement may be changed, waived, discharged or terminated, except by an instrument in writing signed by the party or other person against whom enforcement of the change, waiver, discharge or termination is sought; and any waiver of the terms hereof shall be effective only in the specific instance and for the specific purpose given.

26 DC # 42 20538 v1

12.08 W-.Counterparts. This Master Trust Agreement may be executed by the parties hereto in separate counterparts, each of which when so executed and delivered shall be an original, but all such counterparts shall together constitute but one and the same instrument.

2.9 I.-Headings. Pronouns. The headings of the various Articles and Sections herein are for convenience of reference only and shall not define or limit any of the terms or provisions hereof. Apronoun in the feminine gender shall include the masculine and vice versa.

A pronoun in the feminine gender shall include the masculine and vice versa.

12.10 J. Adherence to Prudent Invester Standard.lnvestment Restrictions. As required by the NRC and as applicable to each Seabrook Participant, the Trustee, the Investment Consultant, or anyone else directing the investments made in the trusts created herein-shA adhere to the "Prudent Investor! standard, as specified in 18 CGFR 35.32(a)(3) of the FERC regulations.

A. Is prohibited from investing in securities or other obligations of the licensees or any other owner or operator of any nuclear power reactor or their affiliates, subsidiaries, successors or assigns. or in a mutual fund in which at least 50 percent of the fund is invested in the securities of licensees or any parent company whose subsidiary is an owner or operator of a foreign or domestic nuclear power plant. However, the funds may be invested in securities tied to market indices or other non-nuclear sector collective. commingled, or mutual funds&provided that this subsection shall not operate in such a way as to require the sale or transfer either in whole or in part. or other disposition of any such prohibited investment that was made before the publication date of 10 CFR 50.75, and provided further that no more than 10 percent of trust assets may be indirectly invested in securities of any entity owning or operating one or more nuclear power plants.

B. Isobligated at all times toadhereto a-standard of care that a prudent investor would use in the same circumstances. The term "prudent investor," shall have the same meaning as set forth in the Federal Energy Regulatory Commission's "Regulations Governing Nuclear Plant Decommissioning Trust Funds" at 18 CFR 35.32(a)(3). or anv successor Emulation.

As required bv the NRC and as applicable to each Seabrook Participant, the Trustee, the Investment Consultant, or anyone else directing the investments made in the trusts created herein, the Seabrook Participants, their affiliates, and their subsidiaries are prohibited from being gaged asFund Manager the trusts aement direction of the trusts' investments or direction on individual investments by the trusts. except in the case of passive fund management of trust funds where mana ement is limited to investments tracking market indices.

27 27 #204OW2Q53f

~DC vi

12.11 Representations. Each party represents and warrants to the other that it has full authority to enter into this Agreement upon the terms and conditions hereof and that the individual executing this Agreement on its behalf has the quisite authority to bind that party to this Agre-ment. The Managing Agent and Seabrook Participants have received and read the "Customer Identification Program Notice," a copy of which is attached to this Agreement as Attachment C.

IN WITNESS WHEREOF, the parties hereto have caused this Master Trust Agreement to be duly executed by their respective authorized officers as of the date first above written.

Nei4h AtlanfieFPL Energy er-pr-ationSeabrook, LLC By:

Name:

Title:

Citizens Bani: New Hampshire By:

Nam-e.

The United Illuminating Company B--:

lMamne:

Title:

Great Bay Power- GCopratien By:

Name:

Title.

New England Power Company 28 DC #4212Q238 vI

By:

The Connecticut Light and Pewver- Company Canal Electric Gempany By:

Name:

Title:

Little Bay PeCer-Corporation By:

Title:

N Iampsfhir Electric Cooperative, inc.

ewz Tifle:

Massachusetts Municipal Wholesale Electric Company By:

Name:

Title:

Taunton Municipal Lighting Plant 29 DC #20O424W 32 vI

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By:

Name:

Title:

Hudson Light & Power Department By:

Name:

Title:

Mellon Trust of Delaware, National Association Name:

Tite:

As the direct sole stockholder of Citizens Ban]i Nlew Hampshire ("Citizens Bankl").

Citizens Financial Group, IncMellon Trust of Delaware, National Association, ("Mellon Trust").

Mellon Bank, N.A. hereby guarantees that Citizens Bank-Mellon Trust shall perform its duties as Trustee under this Master Trust Agreement. This guarantee shall run to Ne4ll Atlantic-FL Energy Service CorporationSeabrook, LLC, as agent for the Seabrook Participants, its successor or successors, and to the Treasurer of the State of New Hampshire.

By:

Name:

Title By:

Name: Michael Ablowich

Title:

Treasurer, State of New Hampshire Approved as to form, substance and execution:

Sr. Assistant Attorney General, Date State of New Hampshire 30 DC #2042( S3S1 vI

EXHIBIT A Ownership Shares of the Seabrook Participants Participant Ownership Share North AtlanticL Energy GerperatienSeabrook, LLC 35.9820188.2288 9%0/

Massachusetts Municipal Wholesale Electric Company 11.59340%

Taunton Municipal Lighting Plant 0.10034%

Hudson Light & Power Department 0.07737%

100%

EXHIBIT B INVESTMENT GUIDELINES FOR THE SEABROOK STATION NUCLEAR DECOMMISSIONING FINANCING FUND July 2004

INVESTMENT GUIDELINES FOR THE SEABROOK NUCLEAR DECOMMISSIONING FINANCING FUND INDEX Pane I. FUND OBJECTIVES ..................... 1 II. INVESTMENT STRATEGY ..................... 1 III. INVESTMENT ADMINISTRATION .3 IV. CURRENT ASSET ALLOCATION LIMITATION . 4 V. FUND DESCRIPTIONS AND PERFORMANCE BENCHMARKS .4 VI. INVESTMENT GUIDELINES .5 FIXED INCOM E................................................................................................5 EQUITIES...........................................................................................................6 DERIVATIVES..................................................................................................7 CASH EQUIVALENTS .8 ALL FUNDS .8

1. FUND OBJECTIVES The objective of the Seabrook Nuclear Decommissioning Financing Fund is to provide sufficient funds to dismantle the Seabrook Station Unit # I nuclear power plant at the end of its energy-producing life. To this end, the Fund seeks to maximize investment earnings without undertaking an undue level of risk.

To control investment risk while maximizing return potential, the Fund has established the following general objectives:

-.-LPreserve the purchasing power of principal by achieving investment earnings in excess of inflation.

_2.-2,Earn a rate of return equal to or greater than the rate assumed for funding purposes.

-.LEmploy multiple asset classes to allow for prudent diversification and the resultant lowering of return volatility.

4.4,Invest all assets so as to adhere to the prudent investor standard and to maintain the Fund's tax-qualified status, where appropriate.

-5..Conform with all federal and state regulations governing the investments of such funds, including the requirement that, as required by the NRC and as applicable to each Seabrook Participant, the Fund investments shall adhere to the "Prudent Investor" standard, as specified in 18 CFR 35.32(a)(3) of the FERC Regulations.

II. INVESTMENT STRATEGY The final cost of decommissioning is at present only an estimate and the methodology used to calculate the cost is subject to modification from time to time. Because of this degree of uncertainty, the investment strategy defined here should not be construed as permanent. It is essential that the Investment Consultant, Managing Agent, Seabrook Joint Owners and New Hampshire State Treasurer review the investment strategy on a periodic basis.

Within the context of the established fund objectives, the specific investment strategy will vary to reflect changes in risk tolerance during the unit's license life.

A conservative investment approach was taken during the initial period in order to 1) accommodate the then-pending Internal Revenue Service (IRS) decision regarding the pooling of assets and 2) allow investor-owned utilities to secure their initial ruling amount from the IRS as may have been appropriate.

The second, or intermediate, phase adopts a more aggressive investment strategy and is designed to extend to approximately five years prior to the end of the unit's energy-producing life.

The third phase, or phase-out period, will extend through the initial decommissioning expenditures. It will again take a conservative investment approach, being designed to reduce the possibility of investment losses while still offering a modest return on invested capital.

DC #42 205387 v1

I. INVESTMENT STRATEGY (continued)

The final phase, or liquidation period will emphasize fund liquidity during the actual decommissioning period. Investment returns will be modest, reflecting the performance of short-term money market vehicles.

A.-AIMPLEMENTATION STRATEGY A conservative investment approach was in place though 1992, reflected in the high liquidity and marketability of the holdings. Beginning in 1993 the investment portfolio was positioned to enter into a more mature or intermediate posture.

{3. JNThRMEDIATE STRATEGY At the conclusion of the implementation period, a more mature investment posture was established. This strategy consisted of two stages:

(I) Build-up of the equity portfolio and extend fixed income maturities to fully reflect guidelines; (2) Invest fully within guidelines.

The equity funds were made available to new Joint Owner contributions in 1996, with a gradual increase in total portfolio exposure. The following schedule represents equity ceiling limits, at the time equity holdings are purchased, placed on the market value of the total portfolio for each Joint Owner:

Year End Maximum 1996 25%

1997 40%

1999 60%

2001 and future 70%

The maximum limitation is applied at the time equity holdings are purchased; as a result, the limitation will be exceeded only if it results solely from changes in market valuation. The Managing Agent will notify the State Treasurer when such a valuation causes the equity limitation to be exceeded by more than 5%. Furthermore, the Managing Agent will monitor the equity portfolios for compliance with the limitations.

Each year the Joint Owners elect to place their current year contributions into any of the six pooled investment funds detailed at Section V. Prior to 2002, funds already invested could not be transferred among funds unless required for tax purposes or ownership changes. The reason for this restriction was that any sale of assets in a pooled investment vehicle would have tax implications for all Joint Owners participating in the fund.

In 2002, this restriction was modified to allow modest transfers among funds. The change was made to allow the Joint Owners more control over asset allocation as fund assets grow and to facilitate the funding of new investment options. Joint Owners will be allowed to reallocate no more than 20% of their total fund assets each year. Reallocations in excess of this level may be made only with prior written approval of the State Treasurer.

2 DC #2040205381 v1

11. INVESTMENT STRATEGY (continued)

The investment managers have responsibility for effecting any reallocations in the most tax efficient manner. To the extent possible, the managers will accommodate any withdrawals through incoming cash flows and may take up to several months to meet a withdrawal request so as to minimize taxes. Any Joint Owner generating a tax liability for any other Joint Owner(s) due to a fund reallocation will be responsible for the tax consequences for all Joint Owners and is precluded from proceeding with the fund reallocation without written permission from those Joint Owners.

C-.A._PHASE-OUT STRATEGY To minimize the potential of significant market risk late in the unit's energy-producing life, a "phase-out" strategy has been devised. Portfolio investments will need to be liquidated gradually to satisfy payment of decommissioning costs as provided within the proposed liquidation strategy.

The following phase-out will apply:

X) (*1Begin to reduce equity positions five years prior to shutdown so that all equity holdings have been sold by shutdown.

(a) (-Over a five-year period, reduce fixed-income duration to less than one year by shutdown.

(5f (3*Liquidated assets will be held in money market obligations with a minimum rating of A-I/P-1.

This approach assumes that dismantling will occur immediately after shutdown. If, for any reason, entombment or delayed dismantling is determined to be the method of decommissioning, the investment guidelines will be reviewed and revised as appropriate for the investment of Fund assets until such time as cash flow needs dictate a phase-out strategy.

D-.1LIOUIDATION STRATEGY As the unit enters into its actual decommissioning period, in order to ensure liquidity, available assets will be placed in various short term money market vehicles, primarily that of United States Government securities.

111. INVESTMENT ADMINISTRATION The investment guidelines have been established in order to describe the overall investment approach and acceptable risk levels for the investment funds in the Master Trust.

The guidelines will be reviewed and revised periodically by the Investment Consultant and the Managing Agent and approved by the New Hampshire State Treasurer. The Seabrook Joint Owners will be provided the opportunity to review and comment on any proposed changes or modifications to the guidelines prior to implementation.

The Fund Manager(s) will have the responsibility to determine investment strategy within the established Investment Guidelines. The Fund Manager(s), through the Managing Agent, or the Managing Agent directly may at any time request written permission from the State Treasurer in order to temporarily modify a specific item in the investment guidelines.

3 DC #2044720= vI

IV. CURRENT ASSET ALLOCATION LIMITATION Security Maximum Fixed Income 100%

Equities 70%

Cash Equivalents 100%

Modifications of the asset allocation will be made jointly by the Managing Agent and the New Hampshire State Treasurer in order to accommodate the different investment strategies, as described in the preceding section, "Investment Strategies." The Seabrook Joint Owners will be provided the opportunity to review and comment on such modifications prior to implementation.

V. FUND DESCRIPTIONS AND PERFORMANCE BENCHMARKS It is expected that the fund manager(s) will achieve the stated performance goals over a long period (three to five years).

All performance calculations are net of fund manager fees. Benchmark indices for qualified funds will be adjusted for taxes and non-qualified funds will be pre-tax.

T4VU9T-A4OUALlFIED) TRUST FUND I-A: Blend of corporate, government, municipal and foreign debt obligations managed on an after-tax basis.

Performance Benchmark: the Lehman Brothers Govemment/Corporate Bond Index (plus 25 basis points).

FUND 1-B: A broadly diversified core equity portfolio managed on an after-tax basis.

Performance Benchmark: The S&P 500 (for active management: plus 50 basis points). On a short-term basis, an index representative of the Fund Manager's style of management.

FR14gT-B-NON-OUAL1FJEDUXUSIT FUND 2: Blend of corporate, government, municipal and foreign debt obligations managed on a pre-tax basis.

Performance Benchmark: the Lehman Brothers Govemment/Corporate Bond Index (plus 25 basis points).

FUND 3: Composed largely of municipal debt obligations managed on a pre-tax basis.

Performance Benchmark: the Lehman Brothers 7-Year Municipal Bond Index (plus 25 basis points).

4 DC #204O720M v1

-

V. FUND DESCRIPTIONS AND PERFORMANCE BENCHMARKS (continued)

FUND 4: A portfolio of short-term and money-market investments managed on a pre-tax basis.

Performance Benchmark: the Donoghue Money Market Index.

FUND 5: A broadly diversified core equity portfolio managed on a pre-tax basis.

Performance Benchmark: the S&P 500 (for active management: plus 50 basis points). On a short-term basis, an index representative of the Fund Manager's style of management.

VI. INVESTMENT GUIDELINES FIXED INCOME ASSET ALLOCATION: The allocation of assets between government, municipal, corporate and foreign securities and cash will be at the discretion of the Fund Manager, taking into consideration the tax implications of the individual fund.

QUALITY: Corporate and municipal bonds must be rated at least BBB by Standard & Poor's andlor Baa2 by Moody's. No more than 10% of the market value of securities in a single portfolio may be rated EBB by Standard & Poor's and/or Baa2 by Moody's at the time of purchase.

The weighted average quality of the overall portfolio must be at least AA.

The Fund Manager will contact the Managing Agent for approval to continue holding an issue if it has been downgraded below the rating guidelines. The Fund Manager may liquidate such an asset if he deems it appropriate.

DIVERSIFICATION: No more than 5% of a portfolio's value will be invested in securities issued by any one entity, with the exception of United States Treasury securities, or agency issues backed 100%

directly by the United States Government.

Foreign securities may not exceed 20% of the portfolio.

No more than 35% of the portfolio's market value will be invested in mortgage-backed securities. An individual corporate sector may not exceed twice the weight of that sector in the performance benchmark.

DURATION: Will not exceed two years longer than the fund performance benchmark. No holding may bear an effective maturity date greater than the year 2032.

RISK: Standard deviation of the quarterly returns for the fixed-income portfolio over a rolling five year period will not exceed 120% of the standard deviation of the fund performance benchmark.

5 DC #2440;720M vI

VI. INVESTMENT GUIDELINES (continued)

PERMISSIBLE DIRECT INVESTMENTS 4-.LDebt securities issued by the United States, its agencies or instrumentalities.

2-.LCorporate bonds, debentures, floating rate notes and other forms of corporate debt obligations.

a-.3LObligations of a state or local government.

4--4,Mortgage-backed and asset-backed securities, where the price volatility of the investment is no more interest rate sensitive than the underlying collateral at the time of purchase.

i.LSecurities of a foreign government or corporation denominated in U.S. dollars.

64LU.S. Treasury and municipal futures and options.

W.-1,Commingled funds investing in the above securities.

EXCLUDED DIRECT INVESTMENTS

1. Convertible securities.

2. Securities denominated in foreign currencies.

3. Private or direct placements with the exception of 144A securities.

4. Interest or principal only strips, inverse floaters.

5. Securities of a company that has direct or indirect ownership in a nuclear facility; this restriction does not apply to investments tied to market indexes or other non-nuclear sector mutual funds.

6. Securities of the Fund Manager or the Trustee, their parent companies or subsidiaries (excluding money market funds) or any other security that could be considered a self-dealing transaction.

7. As required by the NRC and as applicable to each Seabrook Participant, securities or other obligations of FPL Group, Inc., or its affiliates, successors or assigns.

EQUITIES ASSET ALLOCATION: The allocation of assets between equities and cash will be at the discretion of the Fund Manager, taking into consideration the tax implications of the individual fund. However, it is anticipated that except in extenuating circumstances, the portfolios will be fully invested.

DIVERSIFICATION: No more than 5% of a portfolio's value will be invested in securities issued by any one entity.

No more than 15% of the total equity investments in a portfolio will be invested in any one industry as classified by Standard & Poor's.

6 DC #2044725387 v1

VI. INVESTMENT GUIDELINES (continued)

No more than 5%of an equity portfolio may be invested in ADR's.

The above restrictions on diversification do not apply to an S&P Index account.

RISK: The standard deviation of the quarterly returns for the equity portfolio over a rolling five year period will not exceed 120% of the standard deviation of the fund performance benchmark.

PERMISSIBLE DIRECT INVESTMENTS

1. Common stock listed on a major U.S. exchange or traded on the NASDAQ exchange, including foreign securities traded on U.S. exchanges.

2. Preferred stock and convertibles.

3. Standard & Poor's Depository Receipts.

4. Indexed futures, protected puts and covered calls.

5. Commingled funds investing in the above securities.

EXCLUDED DIRECT INVESTMENTS

1. Short sales.

2. Securities denominated in foreign currencies.

3. Margin purchases; lending or borrowing of funds.

4. Letter stock, private or direct placements.

5. Commodities contracts.

6. Warrants.

7. Securities of a company that has direct or indirect ownership in a nuclear facility; this restriction does not apply to investments tied to market indexes or other non-nuclear sector mutual funds.

S-LSecurities of the Fund Manager or the Trustee, their parent companies or subsidiaries (excluding money market funds) or any other security that could be considered a self-dealing transaction.

9. As required by the NRC and as applicable to each Seabrook Participant, securities or other obligations of FPL Group, Inc., or its affiliates, successors or assigns DERIVATIVES Financial derivatives may be used only with express written permission from the Managing Agent and State Treasurer. Derivatives will be approved only within prudent limits to manage risk, lower transaction costs, or gain market exposure. Under no circumstances will derivatives be used to 7 DC #24OW2Q01M vI

VI. INVESTMENT GUIDELINES (continued) leverage the portfolio or to materially increase portfolio risk. Specifically, use of derivatives should meet each of the following three criteria:

1. Derivatives may be used to implement a strategy only when they provide a more cost-effective approach than can be achieved using approved securities.

2. Derivatives will not be used to increase authorized risk above the level that could be achieved using only approved securities.

3. Derivatives will not be used to acquire exposure to assets or indices that would not be purchased directly.

CASH EQUIVALENTS PERMISSIBLE DIRECT INVESTMENTS

1. Direct money market obligations with a minimum rating A-l/P-I or MIG-1VMIG-I for municipal notes. No short-term debt instrument may be purchased if the long-term debt rating of the issuer or guarantor of said issue is below BBB by Standard & Poor's or Baa2 by Moody's at the time of purchase. Commingled money market funds must have an average rating of Al/PI or MIG-I/VMIG-l.

2. Repurchase Agreements backed by money mark-et obligations with the above ratings.

3. Time deposits in a bank as defined in Section 581 or an insured credit union within the meaning of Section 101(6) of the Federal Credit Union Act, 12 U.S.C. 1752(6) located in the United States.

4. Commingled funds investing in the above securities.

ALL FUNDS TURNOVER RATE The rate of turnover will be at the discretion of the Fund Manager(s), but will be closely monitored to ensure that trades are performed solely to enhance or preserve the value and/or after tax return of the portfolio.

COMMISSIONS The Fund Manager will try to minimize transaction costs, subject to obtaining best execution.

8 DC #;04O72OM v1

EXHIBIT C eMELLON CUSTOMER IDENTIFICATION PROGRAM NOTICE IMPORTANT INFORMATION ABOUT PROCEDURES FOR OPENING A NEW ACCOUNT To help the overnment fight the funding of terrism and money laundering activitiesall financial institutions are required by law to obtain. verify and record information that identifies each individual or entity that opens an account, What this means for you: When you open an account, wve will ask you for your name, address.

taxpaver or other government identification number and other information, such as date of birth for individuals, that will allow us to identify you. We may also ask to see identification documents such as a driver's license, passport or documents showing existence of the entity DC #204V211 vl

ENCLOSURE 3 AMENDED AND RESTATED SEABROOK NUCLEAR DECOMMISSIONING FINANCING FUND MASTER TRUST AGREEMENT DC #205387 v4

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INDEX Pane

1. Definitions ............................................................... 2 1.01 Defined Terms ............. 2.........................

II. Identification, Nature and Duration of the Trusts ............................................................... 4 2.01 Identification of Trusts ............................................................... 4 2.02 Nature and Purpose ............................................................... 4 2.03 Duration; Amendment ................................................................ 4 III. The Managing Agent ............................................................... 5 3.01 Description of Agency ................................................................ 5 3.02 Replacement of Managing Agent ............................................................... 5 IV. Decommissioning Trust Funds ............................................................... 6 4.01 Deposits to Decommissioning Trusts ............................................................... 6 4.02 Management of Trust Moneys .......................................... ...................... 7 4.03 Withdrawal of Trust Moneys ............................................................... 7 V. Consolidation, Merger, Conveyance ............................................................... . 1 5.01 The Seabrook Participants May Consolidate or Merge on Certain Terms . ..... 11 5.02 Other Successors ............................................................... 11 VI. The Trustee .............................................................. 11 6.01 Acceptance of Trusts; Certain Terms of the Trusts . ........................................ 12 6.02 Persons Eligible for Appointment as the Trustee ............................................. 17 6.03 Merger or Consolidation of the Trustee ............................................................ 17 6.04 Prohibited Transactions .............................................................. 18 VII. The Investment Consultant .............................................................. 18 7.01 Selection .18 7.02 Promulgation of Investment Guidelines .18 7.03 Review of Compliance with Investment Guidelines .19 7.04 Manager Investment Performance .19 7.05 Inflation and Earnings Projections .1 9 VIII. Fund Managers ............................................... 19 8.01 Appointment ............................................... 20 8.02 Prohibited Transactions ............................................... 20 IX. Successor Trustee, Investment Consultant, or Fund Manager .......................................... 21 9.01 Resignation and Removal .21 9.02 Appointment of Successor .21 9.03 Acceptance of Appointment by Successor Trustee .21 9.04 Duties of Retiring Trustee .21 i DC #205387 v4

X. The State Treasurer .................................. 22 10.01 Administrative Responsibilities ................................. 22 10.02 Lack of Liability ................................. 23 XI. Distribution of Assets upon Termination .. ............................... 24 11.01 Transfer to Successor Trust ................................. 24 11.02 Final Distribution ................................. 24 XII. General Provisions ................................. 24 12.01 Supplemental Trust Agreements .24 12.02 No Implied Obligations .24 12.03 Section 468A .24 12.04 Amendment or Repeal of NHRSA § 162-F .25 12.05 Applicable Law; Forum .25 12.06 Unenforceable Provisions .25 12.07 Written Changes and Notices .25 12.08 Counterparts .27 12.09 Headings, Pronouns .27 12.10 Investment Restrictions .27 12.11 Representations .28 SCHEDULE OF EXHIBITS Exhibit A: Ownership Shares of the Seabrook Participants Exhibit B: Investment Guidelines Exhibit C: Customer Identification Program Notice ii DC #205387 v4

SEABROOK NUCLEAR DECOMMISSIONING FINANCING FUND AMENDED AND RESTATED MASTER TRUST AGREEMENT This AMENDED AND RESTATED MASTER TRUST AGREEMENT, originally dated as of October 11, 1988, amended on May 1, 1991, amended and restated on October 31, 2002, and amended and restated on the day of , 2005, is made between the Seabrook Participants (hereinafter defined), FPL ENERGY SEABROOK, LLC (together with its duly appointed replacements, hereinafter called the "Managing Agent") as agent for the Seabrook Participants, Mellon Trust of Delaware, National Association, as Trustee (together with its successor or successors, hereinafter called the "Trustee"), and the TREASURER OF THE STATE OF NEW HAMPSHIRE (together with his duly elected successors, hereinafter called the "State Treasurer"), and solely in its capacity as guarantor as hereinafter set forth, Mellon Bank, N.A., the sole stockholder of Trustee.

WHEREAS, this Master Trust Agreement and all obligations of the parties hereunder first became effective on October 26, 1988, the date on which it was approved by the Governor and Council of the State of New Hampshire; WHEREAS, rules and regulations of the United States Nuclear Regulatory Commission (hereinafter referred to, together with its successor governmental agency or agencies, as the "NRC") impose upon each licensee responsibility for payment of costs of permanent shutdown of the Unit, which is defined in Section 1.01, and maintenance of such Unit in a safe condition after said shutdown; WHEREAS, New Hampshire Revised Statutes Annotated ("NHRSA") § 162-F: 19 mandates the creation of a "nuclear decommissioning financing fund" for each nuclear electric generating facility in the State; WHEREAS, NHRSA § 162-F:20 provides that the State Treasurer shall administer each fund established pursuant to NHRSA § 162-F: 19; WHEREAS, the Seabrook Participants are parties to an agreement entitled "Agreement for Joint Ownership, Construction and Operation of New Hampshire Nuclear Units" made as of May 1, 1973, as heretofore amended (said agreement, as it may be further amended, being called the "Joint Ownership Agreement");

WHEREAS, Paragraph 13A of the Joint Ownership Agreement obligates each of the Seabrook Participants to pay to the Managing Agent such Participant's share of the "Decommissioning Financing Fund payments" related to the Unit, and provides that such money shall be held in a "nuclear decommissioning financing fund" pursuant to NHRSA § 162-F; WHEREAS, the Managing Agent and the Seabrook Participants desire to establish or continue independent trusts to comply with NHRSA § 162-F:19 and to assure the financial ability of the Seabrook Participants to meet their obligations to the NRC, other governmental bodies, and the general public in connection with decommissioning the Unit, such trusts to hold DC #205387 v4

all payments made to them and any earnings thereon (net of administration expenses and income taxes as provided herein) solely for the purpose of meeting such decommissioning expenses and only thereafter for the benefit of the Seabrook Participants (subject to the requirements of NHRSA § 162-F:21-b(II)(c) or other state or federal law as may be applicable to each Seabrook Participant);

WHEREAS, certain of such trusts are being established or continued to comply with the requirements for nuclear decommissioning reserve funds set forth in Section 468A of the Internal Revenue Code of 1986, as amended (the "Code");

WHEREAS, all conditions and requirements necessary to make this Master Trust Agreement a valid and legal instrument, in accordance with its terms and for the purposes herein expressed, have been performed and fulfilled and the execution and delivery hereof have been duly authorized.

WHEREAS, pursuant to Section 9.01 of the Master Trust Agreement, the Managing Agent has removed Citizens Bank New Hampshire and appointed Mellon Trust of Delaware, National Association as successor Trustee; WHEREAS, Mellon Trust of Delaware, National Association is a national banking association with trust powers; WHEREAS, Mellon Trust of Delaware, National Association is willing to serve as trustee to the trusts on the terms and conditions herein set forth; WHEREAS, Mellon Bank, N.A. is willing to guarantee the obligations of Mellon Trust of Delaware, National Association arising under this Master Trust Agreement as set forth below; and WHEREAS, pursuant to Section 2.03 of the Master Trust Agreement, the parties wish to amend and restate the Master Trust Agreement to reflect the appointment of the Trustee as successor Trustee; NOW, THEREFORE, the Managing Agent and the Seabrook Participants hereby transfer the sum of One Dollar to the Trustee and the Trustee acknowledges receipt thereof and does by these presents agree, on behalf of itself and its successor or successors in trust, subject to the administrative responsibilities of the State Treasurer described herein, to hold all property and rights conveyed to it upon the trusts and subject to the conditions herein set forth:

I. DEFINITIONS 1.01 Defined Terms. For all purposes of this Master Trust Agreement, unless the context otherwise specifies or requires:

A. "Decommissioning Costs" shall mean all costs and expenses related to decommissioning and removing the Unit from service and maintaining and restoring the Unit's site, including all such costs described in NIRSA

§ 162-F:14(II) or in Paragraph 13A of the Joint Ownership Agreement.

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B. "Decommissioning Financing Fund Payment Schedule" shall mean the monthly payment schedule established by the Financing Committee pursuant to NHRSA § 162-F: 19.

C. "Financing Committee" shall mean the "nuclear decommissioning financing committee" created with respect to the Unit pursuant to NHRSA

§ 162-F:15.

D. "Fund Manager(s)" shall mean the entity or entities described in Section 8.01 hereof.

E. "Investment Consultant" shall mean the entity appointed by the Managing Agent pursuant to Section 7.01.

F. "Managing Agent" shall mean FPL Energy Seabrook, LLC or any other entity from time to time appointed to act in that capacity by the Seabrook Participants pursuant to Section 3.02 hereof.

G. "Officer's Certificate" shall mean a certificate of either the Managing Agent or a Seabrook Participant (as the context requires) delivered to the Trustee and signed by the President (or a Vice President), or the Treasurer (or an Assistant Treasurer), or officers with equivalent responsibilities, of such corporation.

H. "Ownership Share" shall mean each Participant's ownership share of the Unit as determined by the Joint Ownership Agreement (taking into account the prior supplement to this Master Trust Agreement dated as of May 1, 1991), those shares in effect on the date hereof being set forth in Exhibit A hereto.

1. "Seabrook Nuclear Decommissioning Financing Fund" or "Fund" shall mean the "nuclear decommissioning financing fund" created by this Master Trust Agreement pursuant to NHRSA § 162-F: 19, and consisting of the trusts identified in Section 2.01 hereof.

J. "Seabrook Participants" or "Participants" shall mean the owners of the Unit, together with their successors, as listed on Exhibit A hereto.

"Seabrook Participant" or "Participant" shall mean a single owner of the Unit as the context requires.

K. "State Treasurer" shall mean the duly elected Treasurer of the State of New Hampshire, from time to time in office.

L. "Qualified Trust" and "Non-Qualified Trust" shall mean those trusts described in Section 2.01 hereof.

M. "Unit" shall mean the nuclear electric generating unit and the land presently owned by the Seabrook Participants and located at Seabrook, 3 DC #205387 v4

New Hampshire, known as the Seabrook Nuclear Unit I, as it shall from time to time exist, together with such structures, components and equipment now or hereafter associated therewith which become subject to decommissioning rules, regulations or orders of the NRC or become subject to NHRSA § 162-F.

II. IDENTIFICATION. NATURE AND DURATION OF THE TRUSTS 2.01 Identification of Trusts. Two trusts shall be established for each of the Seabrook Participants, a "Qualified Trust" and a "Non-Qualified Trust." Such trusts shall be named collectively the "Seabrook Nuclear Decommissioning Financing Fund." Each of the trusts identified as a "Qualified Trust" shall be established on behalf of the Seabrook Participant as a "nuclear decommissioning reserve fund" under Section 468A of the Code and shall be subject to the requirements of Section 468A and the regulations promulgated thereunder. Each of the trusts identified as a "Non-Qualified Trust" shall not be subject to the requirements of Section 468A.

Additional trusts may be established hereunder in the event additional entities become obligated by the Joint Ownership Agreement to make payment of a portion of the Decommissioning Costs of the Unit; there shall be an additional "Qualified Trust" and "Non-Qualified Trust" for each such additional entity. The Managing Agent shall also have the right to add additional trusts in the names of one or more of the Seabrook Participants if such additional trusts are required or desirable (in the sole discretion of the Managing Agent) to comply with any law, order, rule or regulation of any governmental body or agency.

2.02 Nature and Purpose. The Seabrook Nuclear Decommissioning Financing Fund is intended to assure provision for payment of all, or as great a portion as possible, of the Decommissioning Costs of the Unit following its final removal from service. Nothing in this Master Trust Agreement shall be interpreted to relieve the individual Seabrook Participants of any obligation, for any liability, claim, demand, debt, right or cause of action, loss, damages, costs or charges which may arise from the insufficiency of the moneys held in one or more of the trusts hereunder to defray fully the Decommissioning Costs of the Unit or any other costs or expenses payable pursuant to this Master Trust Agreement.

The trusts hereunder will be independent of the Seabrook Participants, and will constitute vehicles that will hold and disburse, in accordance with the provisions hereof, moneys collected from the Seabrook Participants and dedicated to the purpose of defraying the Decommissioning Costs of the Unit. If, after completion of the decommissioning process for the Unit, it is determined that excess moneys may have been collected or accumulated in one or more trusts pursuant to this Master Trust Agreement, any such excess shall be distributed pursuant to Section 1 1.02 hereof.

2.03 Duration: Amendment. The term of the within trusts shall extend until the earliest of: (1) the exhaustion of all moneys in the trusts at a time when the Seabrook Participants are under no further obligation to make deposits under the Joint Ownership Agreement, (2) the completion of the decommissioning process for the Unit as evidenced by an appropriate order, license expiration or other act of the NRC and the Financing Committee, (3) notification of the Trustee by the Managing Agent and approval by the State Treasurer of the decision of the 4 DC #205387 v4

Seabrook Participants to have any or all of these trusts merged into other trusts and the transfer of all the moneys in the trusts to such successor trusts, or (4) if these trusts are not exempted from the Rule Against Perpetuities, twenty-one years after the death of the last survivor of a group of individuals living at the creation of such trust, the measuring lives shall be all graduates of the classes of 1987 and 1988 of Harvard College in Cambridge, Massachusetts. It is recognized that, depending upon the amounts accumulated in the trusts and the method or methods of decommissioning the Unit authorized by the NRC and other governmental agencies having jurisdiction, the trusts may extend for an indefinite period.

The trusts are irrevocable; provided, however, the Managing Agent may merge any or all of these trusts into other trusts pursuant to the preceding paragraph, and the Managing Agent may amend this Master Trust Agreement as may be required, or desirable (in the sole discretion of the Managing Agent), to comply with any law, order, rule or regulation of any governmental body or agency having jurisdiction over (i) the decommissioning of the Unit, (ii) rates received by the Seabrook Participants, (iii) taxes paid by the Seabrook Participants, or (iv) the trusts created by this Master Trust Agreement. Specifically, the Managing Agent may amend this Master Trust Agreement to ensure that each Qualified Trust shall satisfy' the requirements of Section 468A of the Code.

This Master Trust Agreement may not be amended in any material respect without written notification to the Director, Office of Nuclear Reactor Regulation, or the Director, Office of Nuclear Material Safety and Safeguards, as applicable, at least 30 working days before the proposed effective date of the amendment or if written notice of objection is received from the Director, Office of Nuclear Reactor Regulation, or the Director, Office of Nuclear Material Safety and Safeguards, as applicable, within the notice period.

III. THE MANAGING AGENT 3.01 Description of Agencv. In establishing and continuing the trusts hereunder, the Managing Agent is acting in its capacity as agent for the Seabrook Participants pursuant to the Joint Ownership Agreement. The Managing Agent and its officers, employees and agents shall incur no individual liability in carrying out their duties hereunder. The Trustee and the State Treasurer may rely upon the authority of the Managing Agent to act on behalf of the Seabrook Participants and need not make inquiry to such Seabrook Participants regarding such authority.

An Officer's Certificate shall be accepted by the Trustee and the State Treasurer as conclusive evidence of the facts therein stated, and the Trustee and the State Treasurer shall be exonerated for any action taken or omitted to be taken by either of them in good faith reliance thereon.

Notwithstanding the foregoing, the Trustee and the State Treasurer may, in their discretion, make inquiry as to such authority or facts.

3.02 Replacement of Managing Agent. FPL Energy Seabrook, LLC shall act as Managing Agent hereunder until such time as it is replaced by the Seabrook Participants. A replacement shall be effected, at any time and from time to time, by delivery to the Trustee and the State Treasurer of a written notification, executed by Seabrook Participants having Ownership Shares in the Unit aggregating at least fifty-one percent (51%), which designates a replacement and the effective date of the replacement, whereupon the replacement shall execute an instrument accepting such appointment and deliver one counterpart to each of the Trustee and 5 DC #205387 v4

the State Treasurer. Thereupon, without further act, such replacement shall become vested with all the rights, powers and duties of the Managing Agent hereunder as of the date specified.

IV. DECOMMISSIONING TRUST FUNDS 4.01 Deposits to Decommissioning Trusts. All moneys deposited with the Trustee by or at the direction of the Managing Agent pursuant to the provisions hereof, together with income earned thereon, shall be held by the Trustee upon the trusts hereunder. Each of the trusts is held for the same purposes, whether such trust is identified as a "Qualified Trust" or a "Non-Qualified Trust". The Trustee shall allocate the contributions made on behalf of each Participant between a Qualified Trust and a Non-Qualified Trust in such amounts and proportions as shall be specified in an Officer's Certificate of the Managing Agent. Such Officer's Certificate shall be delivered by the Managing Agent prior to the first payment to the trusts and shall remain in effect until revoked or amended by a later Officer's Certificate delivered to the Trustee. The Trustee shall be entitled to rely on the allocation of funds between Qualified Trust and Non-Qualified Trust as set forth in the Officer's Certificate and shall be exonerated from all liability for any action or inaction taken in accordance with such certificate. The Managing Agent, at the written direction of one or more individual Participants, may instruct the Trustee to transfer moneys between the Qualified Trust and the Non-Qualified Trust established in such Participant's name, subject to the provisions hereof and such reasonable procedures as the Trustee may prescribe.

Each of the Seabrook Participants is obligated by NHRSA § 162-F:19(II) and Paragraph 13A of the Joint Ownership Agreement to make payment of moneys to or as directed by the Managing Agent to be deposited into the trusts created by this Master Trust Agreement in an amount equal to each Participant's share of each payment under the Decommissioning Financing Payment Fund Schedule. The Managing Agent shall provide a copy of the current Decommissioning Financing Payment Fund Schedule to the Trustee at least annually. Any change in such schedule by the Financing Committee shall be effective on the date specified by the Financing Committee.

The determination of each Participant's share of each payment due under the Decommissioning Financing Fund Payment Schedule shall be determined by the Financing Committee. Upon any revision of such schedule, the Managing Agent shall submit a revised schedule of payments to the Trustee.

In addition to the minimum payments required to be made pursuant to the Decommissioning Financing Fund Payment Schedule, the Managing Agent may, on behalf of one or more individual Participants, deposit with the Trustee additional moneys to be held in one or more of the trusts established in such Participant's name hereunder in such amounts and proportions as the Managing Agent shall designate. The Trustee is not responsible for determining the accuracy of such schedule and shall have no obligation to pursue collection of any amount required to be paid under the schedule; provided however, Trustee shall upon the reasonable request of the Managing Agent provide summaries of amounts contributed to the trusts.

6 DC #205387 v4

Notwithstanding the foregoing, no deposit shall be made in any Qualified Trust which a Seabrook Participant has elected to be treated as a nuclear decommissioning reserve fund under Section 468A of the Code in excess of the amount which is allowable to such Participant as a deduction under said Section 468A. The Trustee may accept the Managing Agent's representation and need not make inquiry to a Seabrook Participant, as to whether any deposit or transfer of funds to a trust made on behalf of such Participant hereunder qualifies for a deduction under Section 468A of the Code and, if so, the amount of such deposit or transfer that is so deductible. The Trustee shall be exonerated from all liability for any action or inaction it may take as a result of the Managing Agent's representation (and a Seabrook Participant's representation, if any) regarding the deductibility under Section 468A of the Code of a deposit or transfer to any Qualified Trust.

Moneys held pursuant to this Master Trust Agreement as part of any trust hereunder shall be applied or paid by the Trustee only in accordance with the provisions of this Article IV.

4.02 Management of Trust Moneys. Subject to Section 8.01, principal and income held in trust under this Master Trust Agreement shall be invested and reinvested by the Trustee, and may be invested without distinction between principal and income. Such investment and reinvestment shall be in accordance with the investment guidelines, attached hereto as Exhibit B, as revised from time to time by the Investment Consultant pursuant to Section 7.02 (any such revision to be delivered to the Trustee, the State Treasurer and the Managing Agent and appropriately identified as a revision to Exhibit B). The Trustee shall hold, invest and disburse funds in each of the trusts identified as a Qualified Trust in such a manner that the trust qualifies as a nuclear decommissioning reserve fund under Section 468A of the Code. Notwithstanding the foregoing, the Managing Agent retains the authority to direct the Trustee in writing to invest part or all of the funds in one or more trusts hereunder in (i) securities exempt from federal and/or state taxation, or (ii) any particular security or type of security if such investment is permitted by the investment guidelines. In such case, the Trustee shall be exonerated from any liability incurred as a result of the Managing Agent's written direction.

Each of the trusts hereunder shall constitute a separate and distinct trust, but for convenience of administration the Trustee may, in its discretion and to the extent permitted by Section 468A of the Code, mingle or combine any of the investments or property of said trusts in a common fund or funds in which the contributing trusts shall have undivided proportionate interests, provided that the investment guidelines set forth in Exhibit B as then in effect with respect to each contributing trust are satisfied.

Except as provided in Section 8.01, in investing, reinvesting, exchanging, selling and otherwise managing the trusts, the Trustee shall discharge its duties with the care, skill, prudence and diligence under the circumstances then prevailing which persons of prudence, acting in a like capacity and familiar with such matters, would use in the conduct of an enterprise of a like character.

4.03 Withdrawal of Trust Moneys.

A. Decommissioning Costs.

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Upon compliance with the requirements of this paragraph A, moneys held by the Trustee in the trusts hereunder may be withdrawn to pay or make reimbursement of expenditures which constitute Decommissioning Costs of the Unit. Each Participant's share of such withdrawal shall be based on such Participant's Ownership Share. A Participant's share of the withdrawal shall then be divided between the Qualified Trust and the Non-Qualified Trust established on behalf of the Participant in the ratio that the balance of the Participant's assets in each of Qualified Trust and Non-Qualified Trust on the last day of the previous calendar quarter bears to that Participant's combined balance of the assets in those trusts on such last day. In appropriate circumstances (as determined in the sole discretion of the Managing Agent), the Managing Agent may provide for a different allocation of the withdrawal between a Participant's Qualified Trust and Non-Qualified Trust. All of the allocation methods shall be set forth on the Officer's Certificate authorizing such withdrawal.

In computing the amounts that may be withdrawn for Decommissioning Costs of the Unit, the gross amount of an expenditure shall be reduced by any refunds, rebates, or other moneys similarly received by the Seabrook Participants or their agents with respect thereto. Any such refund, rebate or similar payment received after the certification of the expenditure or obligation to which it relates, and which has not previously been taken into account shall, at the election of the Managing Agent, be applied within three months after its receipt to reduce the amount of a subsequent withdrawal for Decommissioning Costs from the trusts made under this paragraph or shall be redeposited in the trusts from which the amount was withdrawn.

A withdrawal from the trusts for the purposes described in this paragraph A shall be paid to the Managing Agent upon receipt by the Trustee of an Officer's Certificate of the Managing Agent dated on the date of the withdrawal application:

(1) stating the total amount to be withdrawn; (2) stating that the amount withdrawn will be to pay or make reimbursement of expenditures which constitute Decommissioning Costs of the Unit; (3) stating the amount to be withdrawn from each Participant's combined trusts and the method of allocating that amount between a Participant's individual Qualified Trust and Non-Qualified Trust; (4) stating that none of such expenditures and obligations have been made the basis of a prior withdrawal under this paragraph; (5) stating that any moneys which have previously been withdrawn from the trusts pursuant to this Paragraph A to pay obligations have been expended for the purposes for which they were withdrawn; and (6) stating that the State Treasurer has been notified of the withdrawal and that no governmental approval for such withdrawal is necessary or, if at any time the making of withdrawals herefrom becomes subject to the jurisdiction of any governmental agency, 8 DC #205387 v4

stating that such regulatory approval has been obtained and furnishing a copy thereof.

The Trustee shall be exonerated from all liability for any action or inaction taken pursuant to such Officer's Certificate.

Notwithstanding any provision herein to the contrary, as required by the NRC and as applicable to each Seabrook Participant, (1) no disbursements or payments from the trusts (except for ordinary administrative expenses) shall be made by the Trustee until the NRC Director, Office of Nuclear Reactor Regulation has been given 30 days' prior written notice of payment, and (2) no disbursement from the trusts (except for ordinary administrative expenses) shall be made if the Trustee receives prior written notice of objection from the NRC Director, Office of Nuclear Reactor Regulation. For purposes of this provision, ordinary administrative expenses include but are not limited to federal, state or local tax on the income or assets of the trust, withdrawal of excess contributions as defined in U.S. Treasury Regulations section 1.468A-5(c)(2)(ii), legal expenses of the trust, accounting expenses, investment and fund management fees and trustee compensation and expenses.

B. Income Taxes.

The Trustee may also withdraw moneys from one or more of the trusts hereunder to pay income tax, whether imposed by federal, state or local governments, attributable to the particular trust.

(1) Taxes Imposed at the Trust Level. If an income tax is imposed on one of the Participant's trusts hereunder at the trust (rather than the Participant) level, such tax shall be paid by the Trustee directly to the taxing authorities. The Trustee shall notify the Managing Agent that the tax has been paid through standard reports.

(2) Taxes Imposed at the Participant Level. In the case of one or more of the trusts designated Non-Qualified Trust hereunder, to the extent one or more of the Participants incurs an income tax liability attributable to the income of such Non-Qualified Trust, a withdrawal from the Non-Qualified Trust to pay such tax shall be paid to the Participant. Such payment shall be made not more than 14 days prior to the date such Participant is required to file the tax return showing such liability and upon receipt by the Trustee of an Officer's Certificate of such Participant dated on the date of the withdrawal application:

(i) stating the name of the trust in question and the amount to be withdrawn from the trust; (ii) stating the income tax liability of the Participant on whose behalf the withdrawal is being made and the amount of such liability attributable to the income of the Non-Qualified Trust; 9 DC #205387 v4

(iii) stating that any moneys previously withdrawn on behalf of such Participant pursuant to this Paragraph B have been used for the purpose described in this Paragraph B; (iv) stating that no governmental approval for such withdrawal is necessary or, if at any time the making of withdrawals herefrom becomes subject to the jurisdiction of any governmental agency, stating that such regulatory approval has been obtained and furnishing a copy thereof; and (v) signed by the Managing Agent which signature shall certify only that a copy of the Officer's Certificate has been forwarded to the State Treasurer and shall make no representation as to the other facts set forth in the Certificate.

The Trustee will be exonerated from all liability for any action or inaction taken pursuant to such Officer's Certificate.

C. Administrative Expenses.

The Trustee may withdraw money from the trusts hereunder for the reasonable administrative expenses of the trusts including, but not limited to, the Trustee's fees (subject to the provisions of Paragraph E of Section 6.01), the Investment Consultant's fees, the Fund Managers' fees, expenses of the Financing Committee under NHRSA § 162-F: 18, and legal expenses.

(1) Expenses Allocated According to Ownership Share. Each Participant's share of a withdrawal of (a) legal expenses incurred in administering the trusts hereunder, (b) expenses of the Financing Committee under NHRSA § 162-F:1 8, and (c) such other reasonable expenses as the Managing Agent shall designate, shall be based on such Participant's Ownership Share. A Participant's share of the withdrawal shall then be divided between the Qualified Trust and the Non-Qualified Trust established on behalf of the Participant in the ratio that the balance of the Participant's assets in each of the Qualified Trust and Non-Qualified Trust on the last day of the previous calendar quarter bears to that Participant's combined balance of the assets in those trusts on such last day. In appropriate circumstances (as determined in the sole discretion of the Managing Agent), the Managing Agent may provide for a different allocation of the withdrawal between a Participant's Qualified Trust and Non-Qualified Trust. All of the allocation methods shall be set forth on the Officer's Certificate authorizing such withdrawal. A withdrawal from the trusts for the purposes described in this subsection shall be paid to the Managing Agent upon receipt by the Trustee of an Officer's Certificate of the 10 DC #205387 v4

Managing Agent. This Officer's Certificate shall contain the same information as the Officer's Certificate furnished under Paragraph A of this Section 4.03.

(2) Expenses Allocated According to Trust Balance. Each Participant's share of (a) Trustee's fees, (b) Fund Managers' fees, (c) Investment Consultant's fees, and (d) such other reasonable expenses as the Managing Agent shall designate, shall be allocated among each of the trusts hereunder in the ratio that the balance of the Participant's assets in each of the trusts on the last day of the previous calendar quarter bears to the balance of the assets in all the trusts on such last day. A withdrawal from the trusts for the purposes described in this subsection shall be paid to the Managing Agent upon receipt by the Trustee of an Officer's Certificate of the Managing Agent:

(i) stating the total amount to be withdrawn and the purposes for which the amount is to be used; and (ii) stating the allocation method of the amount to be withdrawn among each of the trusts hereunder.

Notwithstanding (1) and (2) above, a trust shall be allocated those expenses that specifically relate to that particular trust and are properly chargeable directly to such trust.

V. CONSOLIDATION. MERGER. CONVEYANCE 5.01 The Seabrook Participants May Consolidate or Merge on Certain Terms. Nothing in this Master Trust Agreement shall be interpreted to prevent any consolidation or merger of any of the Seabrook Participants with, or into, any other entity or entities, or the conveyance or transfer of any of their respective rights, title and interest in the Unit and/or the trusts hereunder to any other entity or entities. Upon the sale or other transfer of all or part of a Participant's interest in the Unit, moneys in the trusts hereunder established on behalf of the transferor Participant which relate to the transferred interest shall be transferred to successor trusts established on behalf of the transferee Participant. The State Treasurer shall approve such transfer provided the successor trusts are subject to the terms of this Master Trust Agreement.

5.02 Other Successors. Nothing in this Master Trust Agreement shall be interpreted to prevent any of the Seabrook Participants from transferring their respective rights, title and interest in, and their obligations with respect to, the Unit and/or the trusts hereunder to any agent, representative, authority, agency, commission or other entity or entities, authorized by applicable state and federal statutes or regulations to assume responsibility for the decommissioning of nuclear facilities.

VI. THE TRUSTEE I1I DC #205387 v4

6.01 Acceptance of Trusts: Certain Terms of the Trusts. The Trustee, for itself and its successors, hereby accepts the trusts created by this Master Trust Agreement and agrees to perform the same, but only upon the terms expressly herein set forth, including the following:

A. The Trustee makes no representations as to the value or condition of the trusts (or any part thereof) to achieve the purposes of this Master Trust Agreement and the trusts created herein.

B. The Trustee shall be exonerated from any and all liability arising with respect to the disposition of any moneys duly paid to the Managing Agent or others under any provision hereof.

C. The Trustee may perform any duty hereunder either directly or through its agents or attorneys.

D. The Trustee may, as an expense of administering the trusts, consult with legal counsel to be selected by it (who may be counsel for the Managing Agent or any of the Seabrook Participants), and the Trustee shall not be liable for any action taken or permitted by it in good faith in accordance with the advice of such counsel.

E. The Trustee shall have the right, from time to time, to be reasonably compensated for all services rendered hereunder and to be reimbursed for all reasonable expenses incurred by it in the administration of the trusts created hereby. The compensation and reimbursements due to the Trustee shall be shown in bills submitted to the Managing Agent.

F. The Trustee shall segregate into separately identified accounts such portions of the trust funds held in the name of a Seabrook Participant as the Managing Agent may direct. In accordance with Paragraph E above, the Trustee shall charge such trusts for any additional expenses resulting from such segregation and accounting.

G. The Managing Agent, as agent for the Participants, shall indemnify the Trustee against any liability, losses, damages, claims and expenses (including reasonable attorneys fees) it may sustain, in good faith and without negligence, in the performance of its duties hereunder. This provision shall survive the termination of this Master Trust Agreement.

H. The Trustee shall maintain appropriate records of all deposits, investments and earnings thereon received by the trusts and all disbursements made from the trusts, and each month the Trustee shall provide to the State Treasurer and the Managing Agent a written statement of such transactions in a form acceptable to the State Treasurer and the Managing Agent. In addition, the Trustee shall provide to the State Treasurer and the Managing Agent at least annually a report certifying as to the activity in each of the trusts over the period since the most recent report and the balances at the beginning and end of such period.

12 DC #205387 v4

Each Seabrook Participant and its agents shall have the right to review, inspect and audit the books and records of the Trustee relating to the trusts established on behalf of the Participant, provided that the expenses of such review, inspection or audit shall be paid by the Seabrook Participant causing such review, inspection or audit to be performed. The Managing Agent, the State Treasurer, and their agents shall also have the authority to make such a review, inspection and audit of any one or more of the trusts hereunder, in which case the expense shall be treated as an administration expense allocable to all the trusts hereunder or to the trusts reviewed, inspected or audited as the Managing Agent (in its sole discretion) shall deem reasonable. All reviews, inspections and audits shall take place during normal business hours. Reasonable notice shall be given to the Trustee of any review, inspection or audit.

J. With respect to federal, state or local income taxes imposed on the trusts at the trust (rather than the Participant) level, the Trustee shall cause appropriate tax returns to be prepared and filed and, pursuant to Section 4.03, shall pay any taxes shown to be due out of the appropriate trust moneys held by it. The Managing Agent shall, on a timely basis, provide the Trustee with any information needed and requested with respect to the filing of such tax returns. The Trustee shall be exonerated from any and all liability resulting from the preparation and filing of tax returns to the extent such liability arises from written information supplied to the Trustee by the Managing Agent or a Participant. With the concurrence of the Managing Agent, the Trustee shall have the right to challenge the obligation to make payment of any such taxes and shall have the authority to settle any proceedings related to such taxes, and to receive refunds and take any other action necessary or appropriate in regard to taxes on the trusts.

K. The Trustee shall prepare and submit such applications, reports and other documents as may be required by any governmental authority having jurisdiction over the trusts and performance of the trust obligations and activities specified by this Master Trust Agreement.

L. The Trustee shall have no obligation for any damage, cost, cause of action, charge or other liability arising from the operation or financing of the Unit.

M. Without in any way limiting the powers and authority conferred upon the Trustee by other provisions of this Master Trust Agreement or by law, and to the extent not inconsistent with the investment guidelines of Exhibit B as then in effect, the Trustee is expressly authorized and empowered as follows:

(I) To retain indefinitely, and to invest and reinvest in, stocks, shares, obligations and other securities or any other kind of property even 13 DC 4205387 v4

though any or all of the investments made or retained are of a character or size which but for this express authority would not be considered proper for the Trustee, provided however, no portion of the trusts shall be invested in any direct interests in real property, leaseholds or mineral interests; (2) To sell, to exchange, to lease and to make contracts concerning property for such consideration and upon such terms as to credit or otherwise as the Trustee considers advisable, which leases and contracts may extend beyond the term of the trusts; to give options on real or personal property of the trusts; to establish depreciation, depletion, tax or any other reserves; to execute deeds, transfers, leases and other instruments of any kind; (3) To cause any investment, either in whole or in part, in the trusts to be registered in, or transferred into, the Trustee's name or the names of a nominee or nominees, including but not limited to that of the Trustee or an affiliate of the Trustee, a clearing corporation, or a depository, or in book entry form, or to retain any such investment unregistered or in a form permitting transfer by delivery, provided that the books and records of the Trustee shall at all times show that such investments are a part of the trusts; and to cause any such investment, or the evidence thereof, to be held by the Trustee, in a depository, in a clearing corporation, in book entry form, or by any subcustodian or other entity or in any other manner permitted by law; provided that the Trustee shall not be responsible for any losses resulting from the deposit or maintenance of securities or other property (in accordance with market practice, custom, or regulation) with any foreign or domestic clearing facility, book-entry system, centralized custodial depository, or similar organization, provided such organization is commonly recognized by market participants; (4) To give general or special proxies or powers of attorney (which may or may not be discretionary and with power of substitution) for voting or acting with respect to securities; to deposit securities with, or transfer them to, protective committees, voting trustees, or similar bodies; to join in any reorganization, and to pay assessments or subscriptions called for in connection with securities held by the Trustee; (5) To receive additions to the trusts and to hold and administer the same under the provisions hereof; (6) To compromise or submit to arbitration any tax, claim or matter in dispute; 14 DC #205387 v4

(7) To employ investment counsel and consult with them concerning the investments and management of the trusts; to employ a custodian, attorneys and any other special service; and in addition to the compensation and expenses of the Trustee, to pay the reasonable compensation and expenses of such investment counsel, custodian, attorneys and other special services; (8) To participate as seller or purchaser in private placements, secondary offerings or other regulated or special transactions, and to execute and deliver such instruments and take such action as is customary or, in the opinion of the Trustee, appropriate in connection therewith, including investment representations, indemnity agreements, pledges and guarantees binding the trust property; (9) To improve or develop real estate; to construct, alter, repair or demolish buildings or structures; to settle boundary lines and easements and other rights; to partition, and to join with co-owners or others in dealing with real estate in any way; (10) If in the opinion of the Trustee it is necessary or advisable to do so, to borrow money for such time at such rate of interest or discount as the Trustee deems proper; to give notes or obligations therefor binding the trust property; and as security therefor to mortgage or to pledge real or personal property with or without power of sale; (1 1) To make any division or distribution of, or payment from, the trusts, in kind by the fair and reasonable allotment and transfer of specific securities or other personal or real property or undivided interests therein, at then current values, in lieu of cash, as a part or the whole of any one or more shares or payments; (12) To credit particular receipts.or gains, and to charge particular disbursements or losses or charges, to income or to principal of the trusts or to apportion them between income and principal, whether such credits or charges relate to bonds acquired at a premium, to reserves or to any other matter, all as the Trustee considers fair and reasonable in each case; (13) To take all action necessary to pay for authorized transactions, including exercising the power to borrow or raise monies from the Trustee in its corporate capacity or an affiliate of the Trustee, and hold any property in the trusts as security for advances made to the trusts for any such authorized transactions, including disbursements or expenses, or the purchase or sale of foreign exchange, or of contracts for foreign exchange. The Trustee shall be entitled to collect from the trusts sufficient cash for 15 DC #205387 v4

reimbursement and, if such cash is insufficient, dispose of the assets of the trusts to the extent necessary to obtain reimbursement.

To the extent the Trustee advances funds to the trusts for disbursements or to effect the settlement of purchase transactions, the Trustee shall be entitled to collect from the Account reasonable charges established under the Trustee's standard overdraft terms, conditions and procedures; and (14) To report the fair market value of the trusts monthly to the Managing Agent, the State Treasurer and the Investment Consultant, in accordance with methods consistently followed and uniformly applied. In reporting fair market value of the trusts, the Trustee, in accordance with the Trustee's then current practices, shall obtain and rely upon prices and quotes from pricing sources or, if such prices or quotes are unavailable from sources utilized by the Trustee in accordance with its then current practices, from the Managing Agent, a Fund Manager or other authorized party, and shall be without liability or responsibility for any loss occasioned by such reliance. Notwithstanding the foregoing, the Managing Agent, the Fund Manager or other authorized party may direct the Trustee as to a price or quote to be used, and the Trustee shall be fully protected when relying upon such direction and when utilizing any such price or quote.

N. The Trustee shall not be liable for any acts, omissions or defaults of any agent (other than its officers and employees) appointed or selected by it with reasonable care or, except as otherwise provided in Section 6.04 hereof, for any acts taken or not taken at the written direction of the Managing Agent or a Fund Manager. The Trustee shall be liable only for such Trustee's own acts or omissions (and those of its officers and employees) occasioned by the willful misconduct or negligence of such Trustee (or that of its officers and employees). The officers and employees of the Trustee shall incur no individual liability in carrying out their duties hereunder. The Trustee shall not be responsible or liable for any losses or damages suffered by the trusts arising as a result of the insolvency of any subcustodian, except to the extent the Trustee was negligent in its selection or continued retention of such subcustodian.

Settlements of transactions may be effected in trading and processing practices customary in the jurisdiction or market where the transaction occurs. The Managing Agent and Seabrook Participants acknowledge that this may in certain circumstances require the delivery of cash or securities (or other property) without the concurrent receipt of securities (or other property) or cash. In such circumstances, the Trustee shall have no responsibility for nonreceipt of payment (or late payment) or non-delivery of securities or other property (or late delivery) by the counterparty.

16 DC #205387 v4

0. Notwithstanding anything in this Master Trust Agreement to the contrary, the Trustee shall not be responsible or liable for its failure to perform under this Master Trust Agreement or for any losses to the trusts resulting from any event beyond the reasonable control of the Trustee, its agents or subcustodians. This provision shall survive the termination of this Master Trust Agreement.

P. Directions to the Trustee shall be in writing, transmitted by first class mail, overnight delivery, private courier, facsimile, or shall be an electronic transmission subject to the Trustee's policies and procedures, other institutional delivery systems or trade matching utilities as directed by an authorized party and supported by the Trustee, or other methods agreed upon in writing by the parties to this agreement. The Trustee may, in its discretion, accept oral directions and instructions and may require confirmation in writing. In making payments to service providers pursuant to authorized instructions, the Managing Agent acknowledges that the Trustee is acting as a paying agent, and not as the payor, for tax information reporting and withholding.

6.02 Persons Eligible for Appointment as the Trustee. The Trustee shall at all times be a corporation, bank or trust company having its principal office and place of business in the United States of America, with a combined capital and surplus of at least one billion dollars

($1,000,000,000) and authorized under applicable laws to exercise corporate trust powers and subject to supervision or examination by appropriate federal or state authorities. If the Trustee publishes reports of condition at least annually, pursuant to law"or to the requirements of any supervising or examining authority referred to in this Section, then, for the purposes of this Section, the combined capital and surplus of the Trustee shall be deemed to be its combined capital and surplus as set forth in its most recent report of condition so published.

For purposes of this Section 6.02, the combined capital and surplus of any sole stockholder, direct or indirect, of the Trustee will be deemed to be the combined capital and surplus of the Trustee, provided that the stockholder guarantees to the Managing Agent and the State Treasurer that the Trustee will perform its duties under this Master Trust Agreement. If the guarantee is made by a sole indirect stockholder of the Trustee, each intermediate sole stockholder must also guarantee the performance of the Trustee's duties.

In the event the Trustee ceases to be eligible under this Section, as determined in the sole discretion of the Managing Agent, it shall resign in the manner and with the effect specified in Section 9.01; if the Trustee does not so resign, it shall be removed pursuant to Section 9.01 by the Managing Agent.

Whenever necessary to avoid or fill a vacancy in the office of the Trustee, the Managing Agent will, in the manner provided in Section 9.02, appoint a Trustee so that there shall at all times be a Trustee eligible under this Section.

6.03 Merger or Consolidation of the Trustee. Subject to the requirements of Section 6.02 hereof, any corporation into which the Trustee may be merged or with which it may be 17 DC #205387 v4

consolidated or any corporation resulting from any merger or consolidation to which the Trustee shall be a party or any corporation to which substantially all the business and assets of the Trustee may be transferred, shall be the Trustee under this Master Trust Agreement, without further act.

6.04 Prohibited Transactions. Notwithstanding anything contained in this Master Trust Agreement to the contrary, the Trustee shall not authorize or carry out any sale, exchange, or other transaction with respect to a Qualified Trust which would constitute an act of "self-dealing" within the meaning of Section 4951 of the Code, as such section is made applicable to a Qualified Trust by Section 468A(e)(5) of the Code, regulations thereunder, and any applicable successor provision. However, except as stated in the following paragraph, the Trustee shall (1) have no obligation to determine whether a sale, exchange, or other transaction undertaken at the written direction of the Managing Agent or a Fund Manager constitutes an act of self-dealing; and (2) be indemnified by the Managing Agent for any liability under Section 4951 of the Code resulting from actions specified in (1) above.

Notwithstanding anything contained in the preceding paragraph to the contrary, the Trustee shall be liable for any tax imposed pursuant to Section 4951 of the Code as such section is applicable to a Qualified Trust or the Trustee if the "disqualified person" (within the meaning of Sections 4951 (d) and 4951 (e)(4)) involved in the act of self-dealing is:

(i) the Trustee, (ii) a corporation of which the Trustee owns more than 35% of the total combined voting power, (iii) a partnership in which the Trustee owns more than 35% of the profits interest, or (iv) a trust or estate in which the Trustee holds more than 35%

of the beneficial interest. Constructive ownership rules as set forth in Section 4951 (e)(4) of the Code shall apply in making the determinations under (b), (c) and (d).

VII. THE INVESTMENT CONSULTANT 7.01 Selection. The Investment Consultant shall be such entity or entities as is or are appointed by the Managing Agent, with the approval of the State Treasurer pursuant to Section 10.01. The Investment Consultant may not be the Trustee or a Fund Manager. The Managing Agent shall notify the Trustee of the appointment or replacement of an Investment Consultant by means of an Officer's Certificate, accompanied by the written approval of the State Treasurer, stating the name and address of the Investment Consultant and the effective date of the appointment.

7.02 Promulgation of Investment Guidelines. The Investment Consultant shall, at least annually, review the investment guidelines set forth in Exhibit B and shall make any appropriate revisions to such guidelines. Such revisions to Exhibit B shall become fully effective upon their approval by the Managing Agent and the State Treasurer on the date designated by the Managing 18 DC #205387 v4

Agent. The investment guidelines shall take, into account considerations appropriate to achievement of the purposes described in this Master Trust Agreement, such as the estimated commencement date for decommissioning the Unit, the amount of moneys held in trust and anticipated earnings, the preservation of principal, appropriate liquidity throughout the estimated remaining life of the Unit (so that amounts of decommissioning funds are readily available on relatively short notice in the event of a premature decommissioning of the Unit), and the goal of maximizing trust earnings after payment of applicable taxes and other expenses.

The investment guidelines with respect to each trust identified as a Qualified Trust shall, in any event, be limited in such a manner that such trust continues to qualify as a nuclear decommissioning reserve fund under Section 468A of the Code. The Trustee, however, shall have no obligation to determine whether the investment guidelines for each Qualified Trust comply with Section 468A.

7.03 Review of Compliance with Investment Guidelines . The Investment Consultant shall perform a quarterly review, or more frequently if requested by the Managing Agent, of the compliance of any Fund Manager (or the Trustee with respect to any portion of trust assets for which a Fund Manager has not been appointed under Section 8.01 hereof) with the investment guidelines of Exhibit B and shall submit a report to the State Treasurer and Managing Agent.

Such report, which shall be completed within 3 months after the end of the each fiscal quarter of the Fund, shall be in a format mutually agreed upon by the State Treasurer, the Managing Agent and the Investment Consultant.

7.04 Evaluation of Trustee or Fund Manager Investment Performance. The Investment Consultant shall perform an annual evaluation, or more frequently if requested by the Managing Agent, of the Trustee's investment performance with respect to the Fund and shall submit a report to the State Treasurer and Managing Agent; provided, however, that if one or more Fund Managers has or have been appointed by the Managing Agent pursuant to Section 8.01 hereof the Investment Consultant shall instead perform and submit such report with respect to such Fund Manager(s). Such report, which shall be completed within 3 months after the end of each fiscal year of the Fund, shall be in a format mutually agreed upon by the State Treasurer, the Managing Agent and the Investment Consultant.

7.05 Inflation and Earnings Projections. At least annually, and more frequently if requested by the Managing Agent, the Investment Consultant shall:

(i) develop an inflation estimate, and (ii) develop after tax earnings projections for each individual trust hereunder and for the entire Seabrook Nuclear Decommissioning Financing Fund, for the period ending upon the projected completion of decommissioning of the Unit, such report to be submitted to the Managing Agent and to the State Treasurer.

VIII. FUND MANAGERS 19 DC #205387 v4

8.01 Appointment. The Managing Agent shall have the power to appoint from time to time, with the approval of the State Treasurer pursuant to Section 10.01, one or more Fund Managers to manage, or direct, the acquisition, holding or disposition of a designated portion of trust assets in accordance with the terms of a written appointment made by the Managing Agent.

Any such Fund Manager shall, unless its appointment provides otherwise, have the power to direct the Trustee in the exercise of those powers expressly given the Trustee under Section 4.02 with respect to such designated portion of the trust moneys and the Trustee shall, upon receipt of a copy of such Fund Manager's appointment, as well as written acceptance of such appointment and the written approval by the State Treasurer of such appointment, both in a form satisfactory to the Trustee, exercise such powers as directed in writing by such Fund Manager. A Fund Manager (or the Trustee if a Fund Manager has not been appointed) shall be responsible for ensuring that any investment of such designated portion of the trust moneys is in compliance with the investment guidelines of Exhibit B. If any investment does not so comply, the Fund Manager (or the Trustee if a Fund Manager has not been appointed) shall so notify the Managing Agent, the State Treasurer, and the Investment Consultant. The Trustee shall be exonerated from any liability for action or inaction taken at the direction of a Fund Manager. With respect to any part or all of the trusts for which a Fund Manager has not been so appointed by the Managing Agent, the Trustee shall have full authority to invest and reinvest such portion or all of the trusts in compliance with the investment guidelines of Exhibit B as then in effect and in accordance with the provisions of this Master Trust Agreement and shall not be required to follow the investment directions of any other person, except insofar as directed in writing by the Managing Agent pursuant to Section 4.02 to invest funds in (i) securities exempt from taxation or (ii) any particular security or type of security if such investments are permitted by the investment guidelines. In such case, the Trustee shall be exonerated from any liability incurred as a result of the Managing Agent's written directions.

8.02 Prohibited Transactions. Notwithstanding anything contained in this Master Trust Agreement to the contrary, a Fund Manager shall not authorize any sale, exchange, or other transaction with respect to Qualified Trust which would constitute an act of "self-dealing" within the meaning of Section 4951 of the Code, as such section is made applicable to Qualified Trust by Section 468A(e)(5) of the Code, any regulations thereunder, and any applicable successor provision. However, except as stated in the following paragraph, a Fund Manager shall (1) have no obligation to determine whether a sale, exchange, or other transaction undertaken at the written direction of the Managing Agent constitutes an act of self-dealing; and (2) be indemnified by the Managing Agent for any liability under Section 4951 of the Code resulting from actions specified in (1) above.

Notwithstanding anything contained in the preceding paragraph to the contrary, the Fund Manager shall be liable for any tax imposed pursuant to Section 4951 of the Code as such section is applicable to Qualified Trust or the Fund Manager if the tax resulted from any sale, exchange, or other transaction authorized by the Fund Manager and the "disqualified person" (within the meaning of Sections 4951 (d) and 4951 (e)(4)) involved in the act of self-dealing is:

(i) the Fund Manager, (ii) a corporation of which the Fund Manager owns more than 35% of the total combined voting power, 20 DC #205387 v4

(iii) a partnership in which the Fund Manager owns more than 35% of the profits interest, or (iv) a trust or estate in which the Fund Manager holds more than 35% of the beneficial interest. Constructive ownership rules as set forth in Section 4951 (e)(4) of the Code shall apply in making the determinations under (b),

(c) and (d).

IX. SUCCESSOR TRUSTEE. INVESTMENT CONSULTANT, OR FUND MANAGER 9.01 Resignation and Removal. The Trustee, the Investment Consultant, or a Fund Manager may resign by giving at least six weeks' prior written notice to the State Treasurer and the Managing Agent. In the case of a Trustee, such resignation shall become effective on the day specified in such notice, or upon the appointment of a successor and such successor's acceptance, whichever is later. In the case of an Investment Consultant or Fund Manager, such resignation shall become effective on the day specified in such notice.

The Managing Agent, with the approval of the State Treasurer, which approval shall not be unreasonably withheld, may at any time remove the Trustee, the Investment Consultant or a Fund Manager, with or without cause, upon at least six weeks prior written notice, such notice to be in the form of an Officer's Certificate declaring such removal. In the case of a Trustee, the Officer's Certificate shall specify the successor trustee appointed pursuant to Section 9.02.

9.02 Appointment of Successor. In the event the Trustee, the Investment Consultant, or a Fund Manager resigns, is removed, or becomes incapable of acting or is adjudged a bankrupt or insolvent, or if a receiver of such entity or its property is appointed or a public officer takes charge or control of such entity or its property or affairs for the purpose of rehabilitation, conservation or liquidation, a vacancy shall be deemed to exist in the office of such Trustee, Investment Consultant, or Fund Manager and a successor shall be appointed by the Managing Agent, with the approval of the State Treasurer pursuant to Section 10.01. In the case of the Trustee, such appointment shall take effect upon acceptance as provided in Section 9.03.

If, in a proper case, no successor Trustee shall have been appointed pursuant to the foregoing provisions of this Section, or if appointed, shall not have accepted the appointment, within 60 days after (a) the effective date of the resignation of the Trustee, or (b) the occurrence of a vacancy in the office of the Trustee, the State Treasurer shall apply to a court of competent jurisdiction to appoint a successor Trustee.

9.03 Acceptance of Appointment by Successor Trustee. A successor Trustee appointed hereunder shall execute an instrument accepting such appointment and deliver one counterpart thereof to each of the Managing Agent, the State Treasurer, and, if applicable, the court making such appointment. Thereupon, without any further act, such successor Trustee shall become vested with all the properties, rights, powers, trusts and duties of the retiring Trustee as originally named under this Master Trust Agreement.

9.04 Duties of Retiring Trustee. Any Trustee who retires, resigns or is otherwise removed from office shall prepare and submit to the Managing Agent and the State Treasurer a 21 DC #205387 v4

final accounting with respect to the trusts established hereunder and, when requested by the successor Trustee in writing or by the Managing Agent, and upon payment of any lawful charges and disbursements, shall execute and deliver an instrument or instruments conveying and transferring to such successor Trustee all its properties, rights, powers, and trusts hereunder and shall duly assign, transfer and deliver to such successor Trustee all property and moneys held by it hereunder. The Trustee shall have the right to a judicial settlement of any final accounting before any appropriate court in the State of New Hampshire.

X. THE STATE TREASURER 10.01 Administrative Responsibilities. Pursuant to NHRSA § 162-F:20, the State Treasurer is responsible for the administration of each "nuclear decommissioning financing fund." In addition to any other responsibilities imposed on the State Treasurer by NHRSA

§ 162-F, he shall have the following administrative responsibilities with respect to the trusts created hereunder.

A. Pursuant to Sections 7.01, 7.02, 8.01, 9.01 and 9.02 hereof, the approval of the State Treasurer is required for the appointment of the Trustee, the Investment Consultant, and one or more Fund Managers, the removal of the Trustee, the Investment Consultant, and a Fund Manager, and revisions to the Investment Guidelines as set forth in Exhibit B. Such approval shall not be unreasonably withheld and shall be in writing in a form reasonably acceptable to the Managing Agent and, in the case of an appointment, the Trustee, Investment Consultant or Fund Manager being appointed. In the event the State Treasurer does not approve an appointee proposed by the Managing Agent, however, the Managing Agent shall promptly submit to the State Treasurer a list of three qualified entities (or individuals), which may include the original proposed appointee, and the State Treasurer shall select from such list one entity - such entity to be deemed to have been appointed by the Managing Agent with the approval of the State Treasurer.

B. The approval of the State Treasurer is required in respect of the initial and any changes to the initial (or a subsequent) fee schedule for compensating a Trustee, an Investment Consultant, and a Fund Manager.

C. The State Treasurer, after consultation with the Managing Agent, shall determine each Participant's monthly portion (the "Monthly Portion") of the aggregate payment set forth on the then current Decommissioning Financing Fund Payment Schedule with the goal that the balance of each Participant's trusts at the funding date determined by the Financing Committee pursuant to NHRSA § 162-F: 19(I) shall equal the cost of decommissioning the Unit (as determined by the Financing Committee) multiplied by that Participant's Ownership Share. The determination of a Participant's Monthly Portion shall be based on the Participant's Ownership Share; the anticipated net future earnings of the Participant's trusts (distinguishing between tax-exempt and taxable Participants); and, 22 DC #205387 *4

-

to the extent appropriate, the balances of the Qualified Trust and Non-Qualified Trust established on behalf of the Participant. The amount of each Participant's Monthly Portion shall be redetermined each time a change is made to the Decommissioning Financing Fund Payment Schedule. In addition, the amount of each Participant's Monthly Portion shall be reviewed annually after consideration of the report provided by the Investment Consultant pursuant to Section 7.04 hereof. No Participant's Monthly Portion shall be increased because of the failure of any other Participant to make a required payment to the trusts.

Participants shall not be permitted at any time to offset any required payment by application in any way of expenditures or obligations which might otherwise qualify for withdrawal under Section 4.03.

D. At least annually, or more frequently if required by the Financing Committee, the State Treasurer shall submit a report to the Financing Committee setting forth: (i) the a balance of the Seabrook Nuclear Decommissioning Financing Fund, (ii) the income of the Fund during the preceding year (or shorter period if accounts are required to be submitted more frequently than annually), (iii) the taxes and administrative expenses paid by the Fund, (iv) a schedule showing the current investments of the Fund, and (v) the same information contained in (i), (ii), (iii) and (iv),

above, with respect to each individual trust created hereunder.

E. After consideration of the report provided by the Investment Consultant pursuant to Section 7.03, the State Treasurer and the Managing Agent shall together submit an annual report to the Financing Committee setting forth: (i) a current estimate of inflation, (ii) a current estimate of future earnings of the Fund, and (iii) a statement whether in their opinion the payment schedule determined by the Financing Committee is in need of revision in order for the Fund to achieve the estimated amount needed for decommissioning the Unit, as such amount is established from time to time by the Financing Committee.

F. The State Treasurer shall review the monthly reports submitted by the Trustee pursuant to Section 6.01 hereof and shall maintain a record of such reports for a period of ten years.

G. The State Treasurer shall, pursuant to the provisions of Section 7.03 hereof, receive a report from the Investment Consultant evaluating the performance of the Trustee. The State Treasurer shall review such evaluation and submit it to the Financing Committee together with any additional recommendations or comments he may have.

10.02 Lack of Liability. The State Treasurer, both as an individual and in his capacity as Treasurer of the State of New Hampshire, shall not be liable to the Managing Agent, any Participant, the Trustee, Fund Manager, or Investment Consultant in tort, contract or otherwise in 23 DC #205387 v4

connection with the affairs of the trusts, except only that liability arising from his own bad faith, willful misfeasance, gross negligence, or reckless disregard of duty.

XI. DISTRIBUTION OF ASSETS UPON TERMINATION 11.01 Transfer to Successor Trust. In the event that one or more of the decommissioning trusts established pursuant to this Master Trust Agreement is required or permitted by an action of any governmental authority having jurisdiction to be transferred to another trust or trusts in order to satisfy the purposes specified in Section 2.02, the Managing Agent shall have the right, by written notice to the Trustee and to the State Treasurer, to elect to have such trust or trusts merged into such other trust or trusts. Upon the completion of such transfer, the specified trust shall terminate.

11.02 Final Distribution. Any moneys remaining in a trust following completion of the decommissioning process for the Unit as required by the Financing Committee in excess of the amounts necessary to provide for monitoring of the facility after shutdown as required by the NRC or the Financing Committee, as evidenced by an appropriate order, license expiration or other action of the NRC and the Financing Committee, shall be distributed by the Trustee to the Managing Agent for the benefit of the applicable Seabrook Participant, except as may be otherwise ordered by (1) any governmental authority having jurisdiction over such distribution, or (2) NHRSA § 162-F:23(III).

If any of the trusts created by this Master Trust Agreement is finally determined to be void for any reason by a court or other governmental authority having jurisdiction, any portion of the trust property which cannot then be applied to achievement of the purposes specified herein shall be distributed in the manner specified in this Section 11.02.

XII. GENERAL PROVISIONS 12.01 Supplemental Trust Agreements. Subject to Section 2.03 hereof, this Master Trust Agreement may be amended or supplemented from time to time by the execution and delivery of one or more supplemental trust agreements by and between the Managing Agent, the State Treasurer and the Trustee, provided that the amendment or supplement has received any required approval or acceptance by any governmental body having jurisdiction.

12.02 No Implied Obligations. This Master Trust Agreement shall not be interpreted to impose any duty, responsibility, obligation or liability upon the Trustee, the State Treasurer or the Managing Agent in addition to those duties, responsibilities, obligations and liabilities which are imposed by law or expressly specified in this instrument.

12.03 Section 468A. Notwithstanding anything to the contrary in this Agreement, the Master Trust Agreement shall be interpreted so as to assure that each Qualified Trust established hereunder shall comply with the requirements of a "nuclear decommissioning reserve fund" under Section 468A of the Code and the regulations promulgated thereunder. The parties to this agreement shall not take any action or make any amendment to this Master Trust Agreement which would disqualify any Qualified Trust as a nuclear decommissioning reserve fund under Section 468A of the Code.

24 DC #205387 v4

Any reference in this Master Trust Agreement to Section 468A of the Code shall be deemed to refer not only to such section, as it may from time to time be amended, but also to any successor statutory provision. In the event that Section 468A of the Code, or its successor statutory provision, is repealed, in whole or in part, and certain provisions of this Master Trust Agreement cease to be required, such provisions shall thereupon be ineffective without the necessity of further amendment of this Master Trust Agreement.

12.04 Amendment or Repeal of NHRSA 6 162-F. Any reference in this Master Trust Agreement to NHRSA § 162-F shall be deemed to refer not only to such section, as it may from time to time be amended, but also to any successor statutory provision. In the event that NHRSA

§ 162-F, or its successor statutory provision, is repealed, in whole or in part, and certain provisions of this Master Trust Agreement cease to be required, such provisions shall thereupon be ineffective without the necessity of further amendment of this Master Trust Agreement.

12.05 Applicable Law: Forum. This Master Trust Agreement and the trusts hereunder shall be governed by and construed in accordance with the laws of the State of New Hampshire.

Any dispute concerning the interpretation or application of this Master Trust Agreement, or the distribution of any of its assets shall be initiated only in a state or federal court of competent subject matter jurisdiction located within the State of New Hampshire.

12.06 Unenforceable Provisions. Any provision of this Master Trust Agreement which is prohibited or is determined to be unenforceable in any jurisdiction shall, as to such jurisdiction, be ineffective to the extent of such prohibition or unenforceability without invalidating the remaining provisions hereof, and any such prohibition or unenforceability in any jurisdiction shall not invalidate or render unenforceable such provision in any other jurisdiction.

12.07 Written Changes and Notices. No term or provision of this Master Trust Agreement may be changed, waived, discharged or terminated, except by an instrument in writing signed by the party or other person against whom enforcement of the change, waiver, discharge or termination is sought; and any waiver of the terms hereof shall be effective only in the specific instance and for the specific purpose given.

12.08 Counterparts. This Master Trust Agreement may be executed by the parties hereto in separate counterparts, each of which when so executed and delivered shall be an original, but all such counterparts shall together constitute but one and the same instrument.

12.09 Headings. Pronouns. The headings of the various Articles and Sections herein are for convenience of reference only and shall not define or limit any of the terms or provisions hereof. A pronoun in the feminine gender shall include the masculine and vice versa.

12.10 Investment Restrictions. As required by the NRC and as applicable to each Seabrook Participant, the Trustee, the Investment Consultant, or anyone else directing the investments made in the trusts created herein A. Is prohibited from investing in securities or other obligations of the licensees or any other owner or operator of any nuclear power reactor or their affiliates, subsidiaries, successors or assigns, or in a mutual fund in which at least 50 percent of the fund is invested in the securities of 25 DC #205387 v4

licensees or any parent company whose subsidiary is an owner or operator of a foreign or domestic nuclear power plant. However, the funds may be invested in securities tied to market indices or other non-nuclear sector collective, commingled, or mutual funds, provided that this subsection shall not operate in such a way as to require the sale or transfer either in whole or in part, or other disposition of any such prohibited investment that was made before the publication date of 10 CFR 50.75, and provided further that no more than 10 percent of trust assets may be indirectly invested in securities of any entity owning or operating one or more nuclear power plants.

B. Is obligated at all times to adhere to a standard of care that a prudent investor would use in the same circumstances. The term "prudent investor," shall have the same meaning as set forth in the Federal Energy Regulatory Commission's "Regulations Governing Nuclear Plant Decommissioning Trust Funds" at 18 CFR 35.32(a)(3), or any successor regulation.

As required by the NRC and as applicable to each Seabrook Participant, the Trustee, the Investment Consultant, or anyone else directing the investments made in the trusts created herein, the Seabrook Participants, their affiliates, and their subsidiaries are prohibited from being engaged as Fund Manager for the trusts or from giving day-to-day management direction of the trusts' investments or direction on individual investments by the trusts, except in the case of passive fund management of trust funds where management is limited to investments tracking market indices.

12.11 Representations. Each party represents and warrants to the other that it has full authority to enter into this Agreement upon the terms and conditions hereof and that the individual executing this Agreement on its behalf has the requisite authority to bind that party to this Agreement. The Managing Agent and Seabrook Participants have received and read the "Customer Identification Program Notice," a copy of which is attached to this Agreement as Attachment C.

IN WITNESS WHEREOF, the parties hereto have caused this Master Trust Agreement to be duly executed by their respective authorized officers as of the date first above written.

FPL Energy Seabrook, LLC By:

Name:

Title:

Massachusetts Municipal Wholesale Electric Company 26 DC #205387 v4

By:

Name:

Title:

Taunton Municipal Lighting Plant By:

Name:

Title:

Hudson Light & Power Department By:

Name:

Title:

Mellon Trust of Delaware, National Association By:

Name:

Title:

As the direct sole stockholder of Mellon Trust of Delaware, National Association,

("Mellon Trust"), Mellon Bank, N.A. hereby guarantees that Mellon Trust shall perform its duties as Trustee under this Master Trust Agreement. This guarantee shall run to FPL Energy Seabrook, LLC, as agent for the Seabrook Participants, its successor or successors, and to the Treasurer of the State of New Hampshire.

By:

Name:

Title By:

Name: Michael Ablowich

Title:

Treasurer, State of New Hampshire Approved as to form and execution:

Sr. Assistant Attorney General, Date State of New Hampshire 27 DC #205387 v4

EXHIBIT A Ownership Shares of the Seabrook Participants Participant Ownership Share FPL Energy Seabrook, LLC 88.22889%

Massachusetts Municipal Wholesale Electric Company 11.59340%

Taunton Municipal Lighting Plant 0.10034%

Hudson Light & Power Department 0.07737%

100%

EXHIBIT B INVESTMENT GUIDELINES FOR THE SEABROOK STATION NUCLEAR DECOMMISSIONING FINANCING FUND July 2004

INVESTMENT GUIDELINES FOR THE SEABROOK NUCLEAR DECOMMISSIONING FINANCING FUND INDEX Page I. FUND OBJECTIVES ..................... 1 II. INVESTMENT STRATEGY ..................... 1 III. INVESTMENT ADMINISTRATION .3 IV. CURRENT ASSET ALLOCATION LIMITATION .4 V. FUND DESCRIPTIONS AND PERFORMANCE BENCHMARKS .4 VI. INVESTMENT GUIDELINES .5 FIXED INCOME .5 EQUITIES...........................................................................................................6 DERIVATIVES .7 CASH EQUIVALENTS .8 ALL FUNDS .8

1. FUND OBJECTIVES The objective of the Seabrook Nuclear Decommissioning Financing Fund is to provide sufficient funds to dismantle the Seabrook Station Unit #I nuclear power plant at the end of its energy-producing life. To this end, the Fund seeks to maximize investment earnings without undertaking an undue level of risk.

To control investment risk while maximizing return potential, the Fund has established the following general objectives:

1. Preserve the purchasing power of principal by achieving investment earnings in excess of inflation.

2. Earn a rate of return equal to or greater than the rate assumed for funding purposes.

3. Employ multiple asset classes to allow for prudent diversification and the resultant lowering of return volatility.

4. Invest all assets so as to adhere to the prudent investor standard and to maintain the Fund's tax-qualified status, where appropriate.

5. Conform with all federal and state regulations governing the investments of such funds, including the requirement that, as required by the NRC and as applicable to each Seabrook Participant, the Fund investments shall adhere to the "Prudent Investor" standard, as specified in 18 CFR 35.32(a)(3) of the FERC Regulations.

I. INVESTMENT STRATEGY The final cost of decommissioning is at present only an estimate and the methodology used to calculate the cost is subject to modification from time to time. Because of this degree of uncertainty, the investment strategy defined here should not be construed as permanent. It is essential that the Investment Consultant, Managing Agent, Seabrook Joint Owners and New Hampshire State Treasurer review the investment strategy on a periodic basis.

Within the context of the established fund objectives, the specific investment strategy will vary to reflect changes in risk tolerance during the unit's license life.

A conservative investment approach was taken during the initial period in order to 1) accommodate the then-pending Internal Revenue Service (IRS) decision regarding the pooling of assets and 2) allow investor-owned utilities to secure their initial ruling amount from the IRS as may have been appropriate.

The second, or intermediate, phase adopts a more aggressive investment strategy and is designed to extend to approximately five years prior to the end of the unit's energy-producing life.

The third phase, or phase-out period, will extend through the initial decommissioning expenditures. It will again take a conservative investment approach, being designed to reduce the possibility of investment losses while still offering a modest return on invested capital.

DC #205387 v4

I. INVESTMENT STRATEGY (continued)

The final phase, or liquidation period will emphasize fund liquidity during the actual decommissioning period. Investment returns will be modest, reflecting the performance of short-term money market vehicles.

A. IMPLEMENTATION STRATEGY A conservative investment approach was in place though 1992, reflected in the high liquidity and marketability of the holdings. Beginning in 1993 the investment portfolio was positioned to enter into a more mature or intermediate posture.

B. INTERMEDIATE STRATEGY At the conclusion of the implementation period, a more mature investment posture was established. This strategy consisted of two stages:

(1) Build-up of the equity portfolio and extend fixed income maturities to fully reflect guidelines; (2) Invest fully within guidelines.

The equity funds were made available to new Joint Owner contributions in 1996, with a gradual increase in total portfolio exposure. The following schedule represents equity ceiling limits, at the time equity holdings are purchased, placed on the market value of the total portfolio for each Joint Owner:

Year End Maximum 1996 25%

1997 40%

1999 60%

2001 and future 70%

The maximum limitation is applied at the time equity holdings are purchased; as a result, the limitation will be exceeded only if it results solely from changes in market valuation. The Managing Agent will notify the State Treasurer when such a valuation causes the equity limitation to be exceeded by more than 5%. Furthermore, the Managing Agent will monitor the equity portfolios for compliance with the limitations.

Each year the Joint Owners elect to place their current year contributions into any of the six pooled investment funds detailed at Section V. Prior to 2002, funds already invested could not be transferred among funds unless required for tax purposes or ownership changes. The reason for this restriction was that any sale of assets in a pooled investment vehicle would have tax implications for all Joint Owners participating in the fund.

In 2002, this restriction was modified to allow modest transfers among funds. The change was made to allow the Joint Owners more control over asset allocation as fund assets grow and to facilitate the funding of new investment options. Joint Owners will be allowed to reallocate no more than 20% of their total fund assets each year. Reallocations in excess of this level may be made only with prior written approval of the State Treasurer.

2 DC #205387 v4

II. INVESTMENT STRATEGY (continued)

The investment managers have responsibility for effecting any reallocations in the most tax efficient manner. To the extent possible, the managers will accommodate any withdrawals through incoming cash flows and may take up to several months to meet a withdrawal request so as to minimize taxes. Any Joint Owner generating a tax liability for any other Joint Owner(s) due to a fund reallocation will be responsible for the tax consequences for all Joint Owners and is precluded from proceeding with the fund reallocation without written permission from those Joint Owners.

C. PHASE-OUT STRATEGY To minimize the potential of significant market risk late in the unit's energy-producing life, a "phase-out" strategy has been devised. Portfolio investments will need to be liquidated gradually to satisfy payment of decommissioning costs as provided within the proposed liquidation strategy.

The following phase-out will apply:

(1) Begin to reduce equity positions five years prior to shutdown so that all equity holdings have been sold by shutdown.

(2) Over a five-year period, reduce fixed-income duration to less than one year by shutdown.

(3) Liquidated assets will be held in money market obligations with a minimum rating of A-I/P-I.

This approach assumes that dismantling will occur immediately after shutdown. If, for any reason, entombment or delayed dismantling is determined to be the method of decommissioning, the investment guidelines will be reviewed and revised as appropriate for the investment of Fund assets until such time as cash flow needs dictate a phase-out strategy.

D. LIQUIDATION STRATEGY As the unit enters into its actual decommissioning period, in order to ensure liquidity, available assets will be placed in various short term money market vehicles, primarily that of United States Government securities.

(4) INVESTMENT ADMINISTRATION The investment guidelines have been established in order to describe the overall investment approach and acceptable risk levels for the investment funds in the Master Trust.

The guidelines will be reviewed and revised periodically by the Investment Consultant and the Managing Agent and approved by the New Hampshire State Treasurer. The Seabrook Joint Owners will be provided the opportunity to review and comment on any proposed changes or modifications to the guidelines prior to implementation.

The Fund Manager(s) will have the responsibility to determine investment strategy within the established Investment Guidelines. The Fund Manager(s), through the Managing Agent, or the Managing Agent directly may at any time request written permission from the State Treasurer in order to temporarily modify a specific item in the investment guidelines.

3 DC #205387 v4

IV. CURRENT ASSET ALLOCATION LIMITATION Security Maximum Fixed Income 100%

Equities 70%

Cash Equivalents 100%

Modifications of the asset allocation will be made jointly by the Managing Agent and the New Hampshire State Treasurer in order to accommodate the different investment strategies, as described in the preceding section, "Investment Strategies." The Seabrook Joint Owners will be provided the opportunity to review and comment on such modifications prior to implementation.

V. FUND DESCRIPTIONS AND PERFORMANCE BENCHMARKS It is expected that the fund manager(s) will achieve the stated performance goals over a long period (three to five years).

All performance calculations are net of fund manager fees. Benchmark indices for qualified funds will be adjusted for taxes and non-qualified funds will be pre-tax.

QUALIFIED TRUST FUND I-A: Blend of corporate, government, municipal and foreign debt obligations managed on an after-tax basis.

Performance Benchmark: the Lehman Brothers Government/Corporate Bond Index (plus 25 basis points).

FUND 1-B: A broadly diversified core equity portfolio managed on an after-tax basis.

Performance Benchmark: The S&P 500 (for active management: plus 50 basis points). On a short-term basis, an index representative of the Fund Manager's style of management.

NON-OUALIFIED TRUST FUND 2: Blend of corporate, government, municipal and foreign debt obligations managed on a pre-tax basis.

Performance Benchmark: the Lehman Brothers Government/Corporate Bond Index (plus 25 basis points).

FUND 3: Composed largely of municipal debt obligations managed on a pre-tax basis.

Performance Benchmark: the Lehman Brothers 7-Year Municipal Bond Index (plus 25 basis points).

4 DC #205387 v4

V. FUND DESCRIPTIONS AND PERFORMANCE BENCHMARKS (continued)

FUND 4: A portfolio of short-term and money-market investments managed on a pre-tax basis.

Performance Benchmark: the Donoghue Money Market Index.

FUND 5: A broadly diversified core equity portfolio managed on a pre-tax basis.

Performance Benchmark: the S&P 500 (for active management: plus 50 basis points). On a short-term basis, an index representative of the Fund Manager's style of management.

VI. INVESTMENT GUIDELINES FIXED INCOME ASSET ALLOCATION: The allocation of assets between government, municipal, corporate and foreign securities and cash will be at the discretion of the Fund Manager, taking into consideration the tax implications of the individual fund.

QUALITY: Corporate and municipal bonds must be rated at least BBB by Standard & Poor's and/or Baa2 by Moody's. No more than 10% of the market value of securities in a single portfolio may be rated BBB by Standard & Poor's and/or Baa2 by Moody's at the time of purchase.

The weighted average quality of the overall portfolio must be at least AA.

The Fund Manager will contact the Managing Agent for approval to continue holding an issue if it has been downgraded below the rating guidelines. The Fund Manager may liquidate such an asset if he deems it appropriate.

DIVERSIFICATION: No more than 5% of a portfolio's value will be invested in securities issued by any one entity, with the exception of United States Treasury securities, or agency issues backed 100%

directly by the United States Government.

Foreign securities may not exceed 20% of the portfolio.

No more than 35% of the portfolio's market value will be invested in mortgage-backed securities. An individual corporate sector may not exceed twice the weight of that sector in the performance benchmark.

DURATION: Will not exceed two years longer than the fund performance benchmark. No holding may bear an effective maturity date greater than the year 2032.

RISK: Standard deviation of the quarterly returns for the fixed-income portfolio over a rolling five year period will not exceed 120% of the standard deviation of the fund performance benchmark.

5 DC #2053S7 v4

VI. INVESTMENT GUIDELINES (continued)

PERMISSIBLE DIRECT INVESTMENTS I. Debt securities issued by the United States, its agencies or instrumentalities.

2. Corporate bonds, debentures, floating rate notes and other forms of corporate debt obligations.

3. Obligations of a state or local government.

4. Mortgage-backed and asset-backed securities, where the price volatility of the investment is no more interest rate sensitive than the underlying collateral at the time of purchase.

5. Securities of a foreign government or corporation denominated in U.S. dollars.

6. U.S. Treasury and municipal futures and options.

7. Commingled funds investing in the above securities.

EXCLUDED DIRECT INVESTMENTS

1. Convertible securities.

2. Securities denominated in foreign currencies.

3. Private or direct placements with the exception of 144A securities.

4. Interest or principal only strips, inverse floaters.

5. Securities of a company that has direct or indirect ownership in a nuclear facility; this restriction does not apply to investments tied to market indexes or other non-nuclear sector mutual funds.

6. Securities of the Fund Manager or the Trustee, their parent companies or subsidiaries (excluding money market funds) or any other security that could be considered a self-dealing transaction.

7. As required by the NRC and as applicable to each Seabrook Participant, securities or other obligations of FPL Group, Inc., or its affiliates, successors or assigns.

EQUITIES ASSET ALLOCATION: The allocation of assets between equities and cash will be at the discretion of the Fund Manager, taking into consideration the tax implications of the individual fund. However, it is anticipated that except in extenuating circumstances, the portfolios will be fully invested.

DIVERSIFICATION: No more than 5% of a portfolio's value will be invested in securities issued by any one entity.

No more than 15% of the total equity investments in a portfolio will be invested in any one industry as classified by Standard & Poor's.

6 DC #205387 v4

VI. INVESTMENT GUIDELINES (continued)

No more than 5% of an equity portfolio may be invested in ADR's.

The above restrictions on diversification do not apply to an S&P Index account.

RISK: The standard deviation of the quarterly returns for the equity portfolio over a rolling five year period will not exceed 120% of the standard deviation of the fund performance benchmark.

PERMISSIBLE DIRECT INVESTMENTS

1. Common stock listed on a major U.S. exchange or traded on the NASDAQ exchange, including foreign securities traded on U.S. exchanges.

2. Preferred stock and convertibles.

3. Standard & Poor's Depository Receipts.

4. Indexed futures, protected puts and covered calls.

5. Commingled funds investing in the above securities.

EXCLUDED DIRECT INVESTMENTS

1. Short sales.

2. Securities denominated in foreign currencies.

3. Margin purchases; lending or borrowing of funds.

4. Letter stock, private or direct placements.

5. Commodities contracts.

6. Warrants.

7. Securities of a company that has direct or indirect ownership in a nuclear facility; this restriction does not apply to investments tied to market indexes or other non-nuclear sector mutual funds.

8. Securities of the Fund Manager or the Trustee, their parent companies or subsidiaries (excluding money market funds) or any other security that could be considered a self-dealing transaction.

9. As required by the NRC and as applicable to each Seabrook Participant, securities or other obligations of FPL Group, Inc., or its affiliates, successors or assigns DERIVATIVES Financial derivatives may be used only with express written permission from the Managing Agent and State Treasurer. Derivatives will be approved only within prudent limits to manage risk, lower transaction costs, or gain market exposure. Under no circumstances will derivatives be used to 7 DC #205387 v4

VI. INVESTMENT GUIDELINES (continued) leverage the portfolio or to materially increase portfolio risk. Specifically, use of derivatives should meet each of the following three criteria:

1. Derivatives may be used to implement a strategy only when they provide a more cost-effective approach than can be achieved using approved securities.

2. Derivatives will not be used to increase authorized risk above the level that could be achieved using only approved securities.

3. Derivatives will not be used to acquire exposure to assets or indices that would not be purchased directly.

CASH EQUIVALENTS PERMISSIBLE DIRECT INVESTMENTS

1. Direct money market obligations with a minimum rating A-IIP-I or MIG-I/VMIG-I for municipal notes. No short-term debt instrument may be purchased if the long-term debt rating of the issuer or guarantor of said issue is below BBB by Standard & Poor's or Baa2 by Moody's at the time of purchase. Commingled money market funds must have an average rating of Al/PI or MIG-I/VMIG-1.

2. Repurchase Agreements backed by money market obligations with the above ratings.

3. Time deposits in a bank as defined in Section 581 or an insured credit union within the meaning of Section 101(6) of the Federal Credit Union Act, 12 U.S.C. 1752(6) located in the United States.

4. Commingled funds investing in the above securities.

ALL FUNDS TURNOVER RATE The rate of turnover will be at the discretion of the Fund Manager(s), but will be closely monitored to ensure that trades are performed solely to enhance or preserve the value andlor after tax return of the portfolio.

COMMISSIONS The Fund Manager will try to minimize transaction costs, subject to obtaining best execution.

8 DC #205387 v4

EXHIBIT C O MELLON CUSTOMER IDENTIFICATION PROGRAM NOTICE IMPORTANT INFORMATION ABOUT PROCEDURES FOR OPENING A NEW ACCOUNT To help the government fight the funding of terrorism and money laundering activities, all financial institutions are required by law to obtain, verify and record information that identifies each individual or entity that opens an account.

What this means for you: When you open an account, we will ask you for your name, address, taxpayer or other government identification number and other information, such as date of birth for individuals, that will allow us to identify you. We may also ask to see identification documents such as a driver's license, passport or documents showing existence of the entity.

Rev. 09/03 DC #205387 v4