Summary of DISCOVER FINANCIAL SERVICES

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this quarterly report. This quarterly report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are based upon the current beliefs and expectations of our management and are subject to significant risks and uncertainties. Actual results may differ materially from those set forth in the forward-looking statements. These forward-looking statements speak only as of the date of this quarterly report, and there is no undertaking to update or revise them as more information becomes available.

The following factors, among others, could cause actual results to differ materially from those set forth in the forward-looking statements: the actions and initiatives of current and potential competitors; our ability to manage credit risks and securitize our receivables; changes in economic variables, such as the availability of consumer credit, the housing market, energy costs, the number and size of personal bankruptcy filings, the rate of unemployment and the levels of consumer confidence and consumer debt; the level and volatility of equity prices, commodity prices and interest rates, currency values, investments, other market fluctuations and other market indices; the availability and cost of funding and capital; access to U.S. equity, debt and deposit markets; the ability to manage our liquidity risk; the impact of rating agency actions; losses in our investment portfolio; the ability to increase or sustain Discover Card usage or attract new cardmembers and introduce new products or services; our ability to attract new merchants and maintain relationships with current merchants; our ability to successfully achieve interoperability among our networks and maintain relationships with network participants; material security breaches of key systems; unforeseen and catastrophic events; our reputation; the potential effects of technological changes; the effect of political, economic and market conditions and geopolitical events; unanticipated developments relating to lawsuits, investigations or similar matters; the impact of current, pending and future legislation, regulation and regulatory and legal actions, including new laws and rules limiting or modifying certain credit card practices and legislation related to government programs to stabilize the financial markets; our ability to attract and retain employees; the ability to protect our intellectual property; the impact of any potential future acquisitions; investor sentiment; resolution of our dispute with Morgan Stanley; and the restrictions on our operations resulting from financing transactions.

Additional factors that could cause our results to differ materially from those described below can be found under "Part I.-Item 1A. Risk Factors" in our annual report on Form 10-K for the year ended November 30, 2008, and under "Part II. Other Information-Item 1A. Risk Factors" in our quarterly reports on Form 10-Q for the quarters ended February 28, 2009 and May 31, 2009, which are filed with the SEC and available at the SEC's internet site (http://www.sec.gov).

Introduction and Overview

Discover Financial Services is a leading credit card issuer and electronic payment services company. We offer credit cards as well as other financial products and services to qualified customers. We are also a leader in payment processing and related services for merchants and financial institutions. In the second quarter of 2009, we became a bank holding company under the Bank Holding Company Act of 1956 and a financial holding company under the Gramm-Leach-Bliley Act, which subjects us to oversight, regulation and examination by the Board of Governors of the Federal Reserve System (the "Federal Reserve"). Our fiscal year ends on November 30 of each year.

Our primary revenues come from interest income earned on loan receivables, securitization income derived from the transfer of credit card loan receivables to securitization trusts and subsequent issuance of beneficial interests through securitization transactions, and fees earned from cardmembers, merchants and issuers. The primary expenses required to operate our business include funding costs (interest expense), loan loss provisions, cardmember rewards, and expenses incurred to grow, manage and service our loan receivables.

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Our business activities are funded primarily through the raising of consumer deposits, the process of asset securitization, and both secured and unsecured debt. In a credit card securitization, loan receivables are transferred to a securitization trust, from which beneficial interests are issued to investors. We continue to own and service the accounts that generate the securitized loans. The trusts utilized by us to facilitate asset securitization transactions are not our subsidiaries. These trusts are excluded from our consolidated financial statements in accordance with accounting principles generally accepted in the United States ("GAAP"). Because our securitization activities qualify as sales under GAAP and accordingly are not treated as secured financing transactions, we remove credit card loan receivables equal to the amount of the investors' interests in securitized loans from our consolidated statements of financial condition. As a result, asset securitizations have a significant effect on our consolidated financial statements in that the portions of interest income, provision for loan losses and certain components of other income related to the securitized loans against which beneficial interests have been issued are no longer recorded in our consolidated statements of income; however, they remain significant factors in determining the securitization income we receive on our retained beneficial interests in those transactions. See "-Accounting Treatment for Off-Balance Sheet Securitizations" below for information regarding recently issued amendments to the accounting standards applicable to asset securitizations and see "-Outlook" and "-Liquidity and Capital Resources-Securitization Financing" below for a discussion of the current state of the securitization markets.

Our senior management evaluates business performance and allocates resources using financial data that is presented on a managed basis. Managed loans consist of our on-balance sheet loan portfolio, loans held for sale and loan receivables that have been securitized and against which beneficial interests have been issued. Owned loans, a subset of managed loans, refer to our on-balance sheet loan portfolio and loans held for sale and include the undivided seller's interest we retain in our securitizations. A managed basis presentation, which is not a presentation in accordance with GAAP, involves reporting securitized loans with our owned loans in the managed basis statements of financial condition and reporting the earnings on securitized loans in the same manner as the owned loans instead of as securitization income. See "-GAAP to Managed Data Reconciliations."

Key Highlights

• Net income available to common stockholders for the three months ended August 31, 2009 was $559 million, up $379 million from the three months ended August 31, 2008, and includes approximately $287 million (after-tax) related to the Visa and MasterCard antitrust litigation settlement, as described in "Part II. Other Information-Item 1. Legal Proceedings."

• We re-entered the capital markets during the quarter by completing a common stock offering in which we sold approximately 60 million shares, raising $534 million, and through an unsecured term debt issuance which raised $400 million. Additionally, the securitization trust issued $1.5 billion of asset-backed securities eligible for funding under the Federal Reserve's Term Asset-Backed Securities Loan Facility ("TALF") and we completed a number of actions to adjust the credit enhancement structure of the securitization trusts.

• Net interest income of $529 million for the quarter increased $153 million compared to the third quarter 2008. During the current quarter, we earned higher interest rates on standard balances and substantially reduced promotional rate offers, with those benefits partially offset by higher interest charge-offs. Net interest income also increased as the level of on-balance sheet loans rose as a result of maturing securitizations during the previous 12 months. Additionally, higher anticipated interest income on standard balances contributed significantly to the $69 million favorable revaluation of the interest-only strip receivable in the third quarter 2009, compared to a $34 million unfavorable revaluation in the prior year period.

• Delinquency and charge-off rates continue to rise as a result of the current economic environment. In the current quarter, our managed over 30 days delinquency rate increased 125 basis points to 5.10% in comparison to the third quarter 2008, and the managed net charge-off rate increased 319 basis points to

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8.39% from the comparable prior year period. We recorded provision for loan losses of $381 million this quarter, which was slightly higher than the same quarter last year. Higher net charge-offs were largely offset by a decline in the allowance for loan losses as a result of lower on-balance sheet loans due to securitization activities completed during the quarter. By comparison, in the third quarter last year, we added $113 million due to an increase in on-balance sheet loans in the period.

• In the third quarter 2009, operating expenses decreased $89 million, or 14%, from the third quarter 2008. Marketing expenses were $60 million less than last year as we significantly reduced promotional rate balance transfer offers, while compensation costs and other expenses declined as a result of lower headcount and cost containment initiatives.

Outlook

The general economic environment and rising consumer bankruptcies continue to adversely impact our business. Although we have seen some promising trends in certain economic indicators, we expect unemployment levels and bankruptcies to rise further and, therefore, we remain cautious in our outlook on consumer credit. Additionally, recently enacted credit card legislation will have a significant impact on our business. See "-Legislative and Regulatory Developments" below for a further discussion.

We continue to see lower consumer spending and a reduction in the availability of consumer credit generally as a result of the downturn in the economy. We anticipate the continued challenges in the economic environment will result in an increase in charge-offs and the allowance for loan losses for the remainder of 2009 and into 2010. Additionally, our results in 2010 will not benefit from the Visa and MasterCard antitrust litigation settlement and will be adversely impacted by the new credit card legislation.

In response to the difficult consumer credit environment, we have modified our loan growth strategies. We continue to manage balance transfer activity, and expect it to be below prior year volumes in the fourth quarter of 2009 and into 2010. Additionally, we have taken certain actions on new and existing accounts in response to pending legal restrictions on our ability to adjust rates on accounts that may later pose heightened risk. These actions include increasing rates on standard balances for new and existing accounts and converting many accounts with fixed annual percentage rates to variable rates.

Recent management actions, including reducing headcount, have resulted in a decline in our operating expenses in the third quarter of 2009. We continued to spend cautiously on marketing efforts, particularly related to new accounts and balance transfer offers. Although we expect our marketing expenses to increase in the fourth quarter due to new advertising campaigns for Discover Card and Diners Club, going forward we will continue to focus on sustaining a lower level of overall operating expenses compared to prior year periods.

During the quarter we increased our liquidity reserve, primarily consisting of cash and cash equivalents, to $10.6 billion, in anticipation of approximately $17.7 billion of asset-backed securities and deposit maturities in 2010. We were able to strengthen our liquidity position in the quarter through a sale of common stock, a debt offering and growth in direct-to-consumer deposits. We also completed actions to adjust the credit enhancement structure of the securitization trusts, which had the effect of removing the trusts from negative ratings watch. This allowed us, through the securitization trusts, to re-enter the public securitization market in July and September 2009 with $1.5 billion and $1.3 billion, respectively, of issuances of asset-backed securities eligible for funding through the TALF program.

While we potentially have access through March 2010 to an additional $10.2 billion of issuances of asset-backed securities through the TALF program, uncertainty over existing FDIC guidance regarding standards for legal isolation of the transferred assets following the change in accounting rules under FASB Statements No. 166 and 167 (defined below) has recently made it difficult or impossible to obtain the required ratings for securities of our securitization trusts to qualify as eligible securities under the TALF program. Therefore, we do not expect our securitization trusts to be able to issue securities under the TALF program until this uncertainty is resolved. Further,

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the TALF program ends in March 2010 and there is no certainty that a non-government guaranteed market for the sale of our asset-backed securities will subsequently develop. See "-Liquidity and Capital Resources-Securitization Financing" for further discussion. Therefore, we will continue to emphasize our direct-to-consumer deposits and deposit products offered through affinity relationships, which grew $2 billion during the third quarter, bringing the total to approximately $10 billion at quarter end. We also plan to continue to use brokered certificates of deposit for intermediate and longer term funding.

We continue to work to enhance U.S. acceptance awareness among merchants, their employees and our customers while also continuing with our plan to expand international acceptance. In July, the PULSE Network became the global ATM network for Diners Club International cards. To further expand merchant acceptance in Western Europe and India, we have signed acquiring agreements with Elavon, Six MultiPay and Venture Infotek. Beginning in October, inbound Diners Club International volume in the U.S. will begin to shift to the Discover Network, which we expect to result in higher transaction volumes on the Network. We are also making progress on international acceptance for Discover cardmembers and, by the end of 2009, we expect that merchants in over 50 countries will be enabled to accept Discover cards. This will increase our opportunity to achieve higher volumes as international acceptance and acceptance awareness continue to grow.

Accounting Treatment for Off-Balance Sheet Securitizations

In June 2009, the Financial Accounting Standards Board (the "FASB") issued Statement of Financial Accounting Standards No. 166, Accounting for Transfers of Financial Assets-an amendment of FASB Statement No. 140 ("Statement No. 166") and Statement of Financial Accounting Standards No. 167, Amendments to FASB Interpretation No. 46(R) ("Statement No. 167"). Statement No. 166 amends the accounting for transfers of financial assets and will impact the accounting for our credit card asset securitization activities. Under Statement No. 166, the trusts used in our securitization transactions will no longer be exempt from consolidation. Statement No. 167 prescribes an ongoing assessment of our involvement in the activities of the trusts and our rights or obligations to receive benefits or absorb losses of the trusts that could be potentially significant in order to determine whether those entities will be required to be consolidated on our financial statements. The assessment under Statement No. 167 will result in the consolidation of the trusts by us. As a result, credit card receivables held by the trusts and debt issued from those entities will be presented as assets and liabilities of the Company beginning on the effective date of the new standards. The two standards become effective for us on December 1, 2009. Initial adoption is expected to have a material impact on our reported financial condition. If the trusts were consolidated using the carrying amounts of trust assets and liabilities as of August 31, 2009, this would result in an increase in total assets of approximately $21.1 billion and an increase in total liabilities of approximately $22.4 billion on our balance sheet, with the difference of approximately $1.3 billion recorded as a charge to retained earnings, net of tax. In addition, certain interests in the trust assets currently reflected on our balance sheet will be reclassified, primarily to loan receivables, cash and cash equivalents and accrued interest receivable. After adoption, our results of operations will no longer reflect securitization income, but will instead report interest income, provisions for loan losses and certain other income associated with all managed loan receivables and interest expense inclusive of interest on debt issued from the trusts. Because our securitization transactions will be accounted for under the new accounting standards as secured borrowings rather than asset sales, the cash flows from these transactions will be presented as cash flows from financing activities rather than cash flows from investing activities.

In the third quarter of 2009, we took certain actions to adjust the credit enhancement structure of the trusts as described in "-Liquidity and Capital Resources-Funding Sources-Securitization Financing" below. These actions have the effect of causing the assets of the trusts to be included in our risk-weighted assets for regulatory capital purposes effective July 2009. As a result, the consolidation of the trusts under Statement No. 167 on December 1, 2009 will have a lesser impact on our regulatory capital calculations than would have otherwise been the case, because much of this effect has already been reflected as a result of the trust actions. However, the charge to retained earnings that we expect as a result of adopting Statement No. 167 will further reduce our regulatory capital ratios.

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On December 15, 2008, FASB Staff Position FAS 140-4 and FIN 46(R)-8, Disclosures by Public Entities (Enterprises) about Transfers of Financial Assets and Interests in Variable Interest Entities ("FSP FAS 140-4 and FIN 46(R)-8") was issued. This staff position requires additional information related to securitization activities to be disclosed in advance of the effective date of these amendments. See Note 5: Credit Card Securitization Activities in "Part I. Item 1. Financial Statements" for the disclosures.

Legislative and Regulatory Developments

Legislation Addressing Credit Card Practices

On May 22, 2009, the Credit Card Accountability Responsibility and Disclosure Act of 2009 (the "CARD Act") was enacted. The CARD Act makes numerous changes to the Truth in Lending Act, affecting the marketing, underwriting, pricing, billing and other aspects of the consumer credit card business. Most of the requirements of the CARD Act become effective in February 2010. Several took effect in August 2009. On September 24, 2009, the House Financial Services Committee Chairman proposed legislation to accelerate the effective date of all of the CARD Act provisions to December 1, 2009. Compliance with this requirement would be extremely difficult, particularly because the Federal Reserve's implementing rules have not been finalized, and some implementing regulations have not yet been proposed. No similar proposal has been introduced in the Senate. Prospects for a change in the compliance date are unclear.

Among the CARD Act's requirements are the following:

• Prohibits interest rate increases on outstanding balances except under limited circumstances;

• Prohibits interest rate increases on new balances during the first year an account is opened except under limited circumstances;

• Requires allocation of payments in excess of the required minimum payment to balances with the highest annual percentage rate ("APR") before balances with a lower APR (for accounts with different APRs on different balances);

• Restricts imposition of a default APR on existing balances unless an account is 60 days past due and requires that the increased APR resulting from a default be reduced if payments are timely made for six months;

• Generally requires 45 days' advance notice be provided prior to increasing any APR (as permitted by the CARD Act) or other significant changes to account terms. The notice must include a statement of the cardholder's right to cancel the account prior to the effective date of the change;

• Prohibits the use of the two-cycle average daily balance method of calculating interest and prohibits the assessment of interest on any portion of a balance that is repaid within the grace period;

• Requires penalty fees (e.g., late fees and over-limit fees) to be "reasonable" and "proportionate" to the consumer's violation of the account terms;

• Prohibits card issuers from imposing over-limit fees unless the cardholder has expressly opted-in to the issuer authorizing such over-limit transactions and imposes other limits on such fees;

• Requires card issuers to review accounts at least every six months when an APR has been increased to determine whether the APR should be reduced;

• Prohibits issuance of a credit card to a consumer under the age of 21 unless there is a co-signer over the age of 21 or the issuer verifies the consumer has an independent means to repay; and

• Requires new billing statement disclosures, such as the length of time and cost of paying down the account balances if only minimum payments are made.

A number of the CARD Act's requirements reflect our existing practices and will not require modifications of policies or procedures. However, other provisions, such as those addressing limitations on interest rate

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increases, over-limit fees and payment allocation, require us to make fundamental changes to our current business practices and systems. For example, we have informed cardmembers that as of certain specified dates we will no longer charge over-limit fees, impose fees for payments made over the telephone, or change interest rates on existing balances when a customer's payments are late. Restrictions on risk management practices that have been commonplace in the industry have compelled us, and our competitors, to manage risk through more restrictive underwriting and credit line management, reduce promotional offers, increase annual percentage rates and introduce new or higher fees.

Full implementation of the CARD Act requires the promulgation of regulations by the Federal Reserve. The Federal Reserve has issued proposed regulations implementing the majority of the provisions for public comment. The final regulations may differ from these proposed regulations. We are making changes that the CARD Act requires to be implemented in a relatively short timeframe. Other changes must await final regulatory guidance from the Federal Reserve. We are evaluating appropriate modifications to products, revenue generation, marketing strategies and other business practices that will be in compliance with the law, will be attractive to consumers and will provide a good return for our stockholders. The full impact of the CARD Act on us is unknown at this time as it ultimately depends upon Federal Reserve interpretation of some of the provisions, successful implementation of our strategies, consumer behavior, and the actions of our competitors.

The CARD Act requires the Federal Reserve and the Government Accountability Office to conduct various studies, including studies regarding interchange fees, reasons for credit limit reductions and rate increases, "small business" cards, and credit card terms and disclosures. Based on the results of these studies, new requirements that negatively impact us may be introduced as future legislation or regulation.

Other Credit Card and Student Loan Legislation

Congress may also consider other legislation affecting our business. Examples include a ceiling on the rate of interest that can be charged on credit cards, restrictions on interchange fees established by the dominant credit card networks, authority for merchants to provide discounts to customers who use certain types of credit or debit cards, and extending the provisions of the CARD Act to business cards.

We currently offer both federal and private student loans. On September 17, 2009, the House of Representatives passed the Student Aid and Fiscal Responsibility Act ("SAFRA"), which is currently under consideration in the Senate. If passed in its current form, SAFRA would require all federal student loans to be made directly by the federal government starting July 1, 2010, rather than by private institutions through the Federal Family Education Loan Program. Because SAFRA allows financial institutions to continue offering private student loans, we do not expect SAFRA to have an impact on our ability to continue offering private student loans.

Bankruptcy Legislation

The Senate Judiciary Committee is considering legislation that would disallow claims in Chapter 7 bankruptcy based on "high cost" consumer debt and exclude consumers with such debt from the bankruptcy "means test." The means test requires debtors who can afford to repay a portion of their debts through Chapter 13 repayment plan do so, rather than discharge all indebtedness under Chapter 7. The proposed legislation, if enacted, could increase the percentage of bankruptcy filers who obtain full debt discharges to the detriment of all unsecured lenders, and could result in increased charge-offs of our loan receivables. It is unclear whether this legislation will be enacted by Congress.

Congress is also considering legislation to allow bankruptcy courts to restructure first mortgage loans (e.g., by reducing the loan amount to the value of the collateral, a process referred to as "cramdown"). This change is likely to increase the number of individuals who file for bankruptcy, which would adversely impact all creditors including Discover. While the House of Representatives has approved a cramdown bill, it has garnered significant opposition in the Senate and prospects for enactment are unclear.

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Financial Regulatory Reform

On June 17, 2009, the Administration released a broad and complex plan for financial regulatory reform that would restructure the current regulatory system, significantly increasing supervision and regulation of financial firms, services and markets. The plan would create a new Financial Services Oversight Council, chaired by the U.S. Treasury and including the heads of the principal federal financial regulators as members, to identify systemic risks and improve interagency cooperation. The plan would strengthen capital and other prudential . . .