HSBC 2005 Annual Report Download - page 248

HSBC HOLDINGS PLC
Notes on the Financial Statements (continued)
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For certain derivatives, fair values may be determined in whole or in part using valuation techniques based on
assumptions that are not supported by prices from current market transactions or observable market data.
A number of factors such as bid-offer spread, credit profile, servicing costs of portfolios and model uncertainty
are taken into account, as appropriate, when values are calculated using valuation techniques.
If the fair value of a financial asset measured at fair value becomes negative, it is recorded as a financial liability
until its fair value becomes positive, at which time it is recorded as a financial asset, or it is extinguished.
(e) Loans and advances to banks and customers
Loans and advances to banks and customers include loans and advances originated by HSBC which are not
intended to be sold in the short term and have not been classified either as held for trading or designated at fair
value. Loans and advances are recognised when cash is advanced to borrowers and are derecognised when either
borrowers repay their obligations, or the loans are sold or written off. They are initially recorded at fair value
plus any directly attributable transaction costs and are subsequently measured at amortised cost using the
effective interest method, less impairment losses.
(f) Loan impairment
Losses for impaired loans are recognised promptly when there is objective evidence that impairment of a loan or
portfolio of loans has occurred. Impairment losses are calculated on individual loans and on loans assessed
collectively. Losses expected from future events, no matter how likely, are not recognised.
Individually assessed loans
At each balance sheet date, HSBC assesses on a case-by-case basis whether there is any objective evidence that a
loan is impaired. This procedure is applied to all accounts that are considered individually significant. In
determining impairment losses on these loans, the following factors are considered:
– HSBC’s aggregate exposure to the customer;
– the viability of the customer’s business model and its capability to trade successfully out of financial
difficulties and generate sufficient cash flow to service its debt obligations;
– the amount and timing of expected receipts and recoveries;
– the likely dividend available on liquidation or bankruptcy;
– the extent of other creditors’ commitments ranking ahead of, or pari passu with, HSBC and the likelihood of
other creditors continuing to support the company;
– the complexity of determining the aggregate amount and ranking of all creditor claims and the extent to
which legal and insurance uncertainties are evident;
– the realisable value of security (or other credit mitigants) and likelihood of successful repossession;
– the likely deduction of any costs involved in recovery of amounts outstanding;
– the ability of the borrower to obtain, and make payments in, the currency of the loan if not local currency;
and
– when available, the secondary market price of the debt.
Impairment losses are calculated by discounting the expected future cash flows of a loan at its original effective
interest rate, and comparing the resultant present value with the loan’s current carrying amount. Any loss is
charged in the income statement. The carrying amount of impaired loans on the balance sheet is reduced through
the use of an allowance account.
Collectively assessed loans
Impairment is assessed on a collective basis in two different scenarios:
– for loans subject to individual assessment, to cover losses which have been incurred but have not yet been
identified; and