Main Factors Affecting Operating Results

The Macroeconomic Scenario in the State of Espírito Santo. Given that Banestes is controlled by the state of Espírito Santo, the state government has the power to influence management, including the power to appoint the majority of the members of the Board of Directors and, consequently, influence policies and strategies.

In addition, the state's economic performance directly influences the Bank‘s activities. Espírito Santo has undergone a strong fiscal adjustment in recent years and its banking sector is growing as a result. In particular, after 2003, the state began to eliminate its deficit, accompanied by a parallel upturn in its investment capacity, resulting in healthy and sustainable growth, in turn favoring increasing demand for credit.

Effects of Changes in Interest Rates on Banestes' Financial Situation and Operating Results. Given that a substantial part of the Bank‘s assets are interest-bearing, any increase in the country's interest rates may affect its interest income. Similarly, interest expenses may be affected if interest rates related to interest-bearing liabilities increase.

In general, higher interest results in an increase in income from loans due to wider spreads, although it can also jeopardize the loan portfolio, reducing demand for credit and/or raising the risk of client default. On the other hand, lower interest can reduce income from loans due to narrower spreads. However, this downturn may be offset by an increase in credit volume, fueled by greater demand for credit.

In addition, any increase or decrease in market interest rates may affect the securities portfolio, in turn affecting the Bank's results. Such variations are considered a common financial market risk which can be minimized by the use of hedge instruments.

Effects of Inflation on Banestes' Financial Situation and Operating Results. Any increase in Brazilian inflation may adversely affect the Bank's net income, especially through higher costs and reduced operating margins, if the increase is not accompanied by an upturn in interest rates. In addition, inflation may make the market more volatile as a result of economic uncertainties, reduced spending, slower real income growth and a reduction in consumer confidence. These factors may have a negative impact on operating results, due to lower credit volume and a possible increase in default.

Effects of Government Regulations on Banestes' Financial Situation and Operating Results:

Reserve Requirements. The Central Bank of Brazil imposes a number of reserve requirements on financial institutions in order to control the liquidity of the Brazilian banking system. By altering the nature and magnitude of these requirements, the Central Bank may affect the volume of Banestes' interest-earning assets or interest-bearing liabilities, consequently affecting interest income and expenses.

Reserve requirement percentages are applied to the volume of Banestes' deposits and the resulting funds are deposited with the Central Bank.

Reserve requirements (including additional requirements) earn interest, except for those on demand deposits.

Capital Adequacy. The Central Bank requires that banks, in general, comply with regulations similar to those of the Basel Accord relating to capital sufficiency or adequacy (except for, among others, the determination of a minimum capital adequacy ratio of 11.0% instead of the 8.0% required by the Basel Accord). The Central Bank also imposes capital requirements related to foreign currency exposure, interest market risks and swap transaction risks, all of which are part of our capital adequacy ratio in accordance with the rules of the Basel Accord.

Through Resolution 2099, of August 17, 1994, the Central Bank also required that adjusted shareholders' equity be commensurate with asset exposure risk and that the exposure of Brazilian banks to gold and assets and liabilities indexed to foreign exchange risks must not exceed 30% of adjusted shareholders' equity.

Changes in tax legislation. Banestes' results are influenced by changes in tax legislation and in tax regimes that affect its operations and clients. These changes include alterations to existing tax rates and the imposition of new taxes or temporary taxes, whose funds are used for specific purposes.

Effects of the Devaluation or Appreciation of the Brazilian Real on Banestes' Financial Situation and Operating Results. The devaluation or appreciation of the Brazilian Real may affect Banestes' results, given that a portion of its assets and liabilities is denominated in or indexed to foreign currencies.

The fluctuations in the Real may, among other factors, (I) increase or decrease Banestes' costs denominated in foreign currency or generated by foreign funding; (II) increase or decrease client demand for foreign- currency credit or loans; (III) increase or decrease the percentage of loan default; and (IV) substantially affect the value of its foreign-currency-indexed assets and liabilities.

Capacity to Originate Loans. Banestes' income from loans is directly related to, and varies in accordance with its capacity to originate new loans. This income may also be affected by variations in interest rates, banking spreads, exchange rates and possible changes in local credit regulations. Banestes' income from financial operations is also affected by its results from securities operations.

Default. Certain factors that are outside the Bank‘s control may affect the level of default to which the national financial system is subject, including an economic recession or an increase in unemployment. Higher credit portfolio default may in turn increase losses from loan operations, adversely affecting its operating results and financial situation.

Banestes follows Central Bank rules regarding the write-off of overdue loans, which the Bank considers appropriate for its operations and according to which loans must be written off as losses (offsetting account) 360 days after maturity. Consequently, Banestes' provisions for loan losses are maintained for 360 days, until the loan is recorded as a loss.

Regulation and Risk of Changes in the rules governing Payroll-deductible Loans, especially for INSS retirees and pensioners and public employees. The federal government and the Ministry of Welfare and Social Assistance regulate the activities involving loans to retirees and pensioners who receive social security benefits through the INSS. For example, Banestes cannot charge these retirees and pensioners an origination fee. In addition, other public-sector bodies are authorized to establish policies for payroll-deductible loans to their employees and impose limitations on and/or alterations to the terms and conditions under which such loans may be offered to INSS retirees and pensioners.

Increases or Reductions in Banking Fees. Another factor that affects Banestes' results is the variation in its service fees. Like other Brazilian banks, it also seeks to increase the range of fee-generating services to its clients.

However, Banestes' capacity to increase or maintain such income is limited by fierce competition in the banking sector, the limitations imposed by the Central Bank and its own ability to provide existing services and offer additional services.