Foundations for Growth

Financial results for the year are an important measure of the company's progress, but as I mentioned earlier, we are managing the business for the long term. With that in mind, I would like to tell you about three major initiatives that are enabling us to build a sustainable platform for moderate to long-term growth:

• Improving our business models
• Lowering our risk profile
• Investing in business-building activities

IMPROVING OUR BUSINESS MODELS

We took a number of steps this year to strengthen our economics. Foremost among them was our continued focus on reengineering our business and improving our margins.

Margin Improvement

Our emphasis on margin improvement and reengineering produced continued reduction in operating expenses. Staff reductions associated with reengineering charges announced in 2001 played a significant role in lowering our expense base. However, our reengineering efforts extend far beyond cost reduction, encompassing a broad range of efforts to increase revenues, improve infrastructure and enhance processes. By emphasizing this approach to reengineering, we are better positioned to deliver sustainable improvements.

Reengineering yielded more than $1 billion in benefits in 2002. In total, over the past two years, we have realized well over $2 billion in reengineering benefits, exceeding our original targets. Based on further opportunities already identified or underway, we aim to deliver another $1 billion in benefits again in 2003.

As part of our reengineering efforts, we have significantly expanded our Six Sigma program across the company. We are using Six Sigma to enhance quality and productivity in key business processes and to eliminate costly errors. In 2002, our Six Sigma activities produced nearly $200 million in financial benefits and delivered important quality enhancements. Since launching Six Sigma at American Express in 1999, we have steadily increased the number of employees trained in Six Sigma tools and principles. In addition to fixing errors within processes, we are also now applying Six Sigma principles to product design and development in order to build quality in from the start. We view Six Sigma as an important element of our ongoing commitment to service quality and to providing our customers with experiences that continually meet and exceed their expectations.

We also continued to leverage the Internet to lower costs and improve service quality. During 2002, we expanded the number of services and capabilities available to customers online and increased their utilization. For example, within the U.S., approximately 80 percent of our card servicing transactions are now available online. In fact, we now have more online interactions with customers than we do by telephone or in person. Within our Corporate Card base, nearly two-thirds of account maintenance is now being done online instead of being phoned in or faxed to us for processing. At AEFA, 66 percent of all 401(k) transactions are completed online. The Internet also serves as an important product development and customer acquisition channel across both our card and financial services businesses.

Leveraging the Internet_ A continuing shift to online customer servicing has lowered costs for the company while increasing convenience for cardmembers, who can check statements, pay bills, apply for cards and perform a host of other transactions through the Manage Your Card Account (MYCA) section of americanexpress.com. MYCA attracted 3.7 million enrollees in 2002, bringing the global total to 8.9 million.

Online servicing can dramatically reduce unit costs. We realized substantial benefits in 2002, while improving the flexibility of our overall business models and delivering service in a manner that many of our customers prefer. As part of our shift to online servicing, we also continued to move more internal processes, such as the procurement of goods and services, to the company's intranet.

While we have made good progress in shifting volumes online, there remains a great deal of opportunity across our transaction base. With the majority of our online servicing capabilities already built and paid for, we expect the Internet to generate continued margin improvement for us over the near to moderate term.

We are transforming traditional practices in other areas as well. Our decision to outsource data operations to IBM last year is one example. This arrangement will enable us to benefit from the world-class expertise of our partner while substantially lowering costs. Another example is the expansion of our global servicing network by accessing customer service capabilities and educated workforces around the world. For example, last year we opened a new customer service center in India as a complement to our existing network. Broadening our worldwide network enables us to improve both the cost and quality of our overall servicing infrastructure, expand our capacity and increase our flexibility to meet the needs of our growing business.

We acted aggressively to expand our competitive advantages and deliver superior value to our customers, launching a wide range of new products, services and capabilities.

We enhanced our industry-leading rewards cards and loyalty programs, created new product offerings for small business customers, sharpened our focus on growing our corporate middle market and commercial card businesses, added many new investment products at AEFA, and added financial services products in markets around the world.

At the same time, we increased marketing and customer acquisition efforts, particularly in our card businesses, and launched new brand advertising campaigns in the United States and several international markets.

Diversification of Card Spending Base

We also strengthened our business models through continued efforts to diversify card spending and lower our reliance on the travel and entertainment sector. Historically, about two-thirds of spending on American Express cards worldwide came from travel and entertainment and one-third from non T&E sources. We have now essentially reversed that mix. In 2002, approximately 63 percent of our billings came from retail and other non-T&E sources, and 37 percent came from T&E.

This fundamental shift is primarily due to our ongoing efforts to encourage consumers to use American Express as their card of choice for everyday spending at establishments such as supermarkets, gas stations, drug stores and home improvement stores. We continue to increase the range of merchants in retail and everyday spending categories who accept the Card.

U.S. Card Spending_Cardmembers are increasingly using their American Express cards to purchase "everyday" products and services such as groceries, gasoline, office supplies, telecommunications and a wide variety of retail merchandise, further diversifying our card-spending base. Retail and other non-T&E spending now accounts for 63 percent of U.S. billings, up from only 35 percent in 1990.

In 2002, we added a variety of key merchants in the United States including The Stop & Shop Supermarket Company, Dairy Queen, Time Warner Cable and H&R Block. In international markets, we added a broad array of merchants including Mayne Group Limited-Pharmacy Services in Australia; Canadian Tire; CORA Hypermarkets in France; Arkio in Mexico; and NTT DoCoMo, a telecommunications provider in Japan. Along with expanding merchant coverage, we also launched new card products and promotions to build spending in retail and everyday locations.

The expansion of our Corporate Purchasing Card program for middle and large market companies is also helping to diversify our spending mix. We offer the Corporate Purchasing Card, which is used by corporations to buy everyday goods and services such as office supplies and industrial supplies and equipment, in 23 markets around the world. This type of spending by corporations is less susceptible to downturns in difficult economic times than is traditional travel and entertainment spending.

Sustainable Investment Funding

The changes we have made to our business models not only allowed us to increase our level of investment spending in 2002, they also represented a change in how our investments are funded. During the mid to late 1990s, we had the benefit of a number of items that positively impacted our earnings — including preferred stock dividends based on earnings from Lehman Brothers, which the company spun off in 1994; sales of shares of First Data Corporation; and gains from our Internet portfolio, among other items. As we said at the time, we took advantage of these gains to fund incremental spending in parts of the business with high growth potential. In contrast, funding for virtually all of our business-building initiatives in 2002 came from ongoing operations. This change increases the likelihood that this higher level of spending will be sustainable.

IMPROVING OUR RISK PROFILE

As we grow our business, we are also focused on prudently strengthening our balance sheet and improving our risk profile.

Given the uncertain economic environment, we have maintained a conservative approach in establishing reserves. Our balance sheet positions for card receivables and merchant bankruptcies are appropriately stronger than they were a year ago. Our charge card portfolio continues to perform well, with our worldwide loss rate ending the year at an historic low. In our lending portfolio, we continue to see good credit performance overall in both the U.S. and international markets.

We also made progress in improving the overall quality of our investment portfolio at AEFA. We reduced the percentage of high-yield holdings from approximately 12 percent to 6 percent as a result of our ongoing portfolio rebalancing. Continued declines in interest rates have increased the value of many of our bond holdings, to the point where we had approximately $1 billion of unrealized net gains across our investment portfolio at the end of 2002.

Meanwhile, we continued to improve our risk profile at American Express Bank by lowering corporate lending balances while building a more diversified consumer and private banking portfolio. Corporate and other loans represented only 9 percent of AEB's portfolio at the end of the year, which is about half the proportion they were at the end of 2001.

Because of the issues that we faced in 2001 with write-downs in our investment portfolio at AEFA, we took additional steps to make sure that the risks we take are appropriate not only for individual businesses but for the company as a whole. Toward that end, we established a Corporate Risk Management Committee charged with monitoring overall risk levels across the company and recommending improvements to our practices and policies. The Committee includes representatives from each of our business units, along with Corporate Treasury, Compliance and Internal Audit.

While we made good progress in lowering our overall risk profile, we did have several disappointments. In Hong Kong, a sharp rise in personal bankruptcies caused us to substantially increase write-offs in our card business and our personal lending portfolio.