RBS 2006 Annual Report Download - page 220
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Financial statements
IFRS or relevant UK GAAP
(h) Financial instruments
The Group’s debt and equity securities are classified as being
held as investment securities or for trading purposes.
Investment securities are stated at cost less provision for any
permanent diminution in value. Premiums and discounts on
dated debt securities are amortised to interest income over the
period to maturity. Securities held for trading purposes are
carried at fair value with changes in fair value recognised in
profit or loss.
(i) Derivatives and hedging
Non-trading derivatives are entered into by the Group to hedge
exposures arising from transactions entered into in the normal
course of banking activities. They are recognised in the
accounts in accordance with the accounting treatment of the
underlying transaction or transactions being hedged. To be
classified as non-trading, a derivative must match or eliminate
the risk inherent in the hedged item from potential movements
in interest rates, exchange rates and market values. In addition,
there must be a demonstrable link to an underlying transaction,
pool of transactions or specified future transaction or
transactions. Specified future transactions must be reasonably
certain to arise for the derivative to be accounted for as a
hedge. In the event that a non-trading derivative transaction is
terminated or ceases to be an effective hedge, the derivative is
remeasured at fair value and any resulting profit or loss
amortised over the remaining life of the underlying transaction
or transactions being hedged. If a hedged item is derecognised,
or a specified future transaction is no longer likely to occur, the
related non-trading derivative is remeasured at fair value and
the resulting profit or loss taken to the income statement.
Monetary assets denominated in a foreign currency are
retranslated at closing rates with exchange differences taken to
profit or loss. Equity shares financed by foreign currency
borrowings are retranslated at closing rates with exchange
differences taken to reserves along with differences on the
related borrowings.
Embedded derivatives are not bifurcated from the host
contract.
US GAAP
Investment securities held by the Group’s private equity
business are considered to be held by investment companies
and carried at fair value, with changes in fair value being
reflected in net income. The Group’s other investment debt
securities and marketable investment equity shares are
classified as available-for-sale securities and measured at fair
value with unrealised gains and losses reported in a separate
component of equity, except when the unrealised loss is
considered other-than-temporary in which case the loss is
included in net income.
The Group has not made changes in its use of non-trading
derivatives to meet the hedge criteria in SFAS 133 ‘Accounting
for Derivative Instruments and Hedging Activities’. For US
GAAP purposes, its portfolio of non-trading derivatives is
remeasured to fair value and changes in fair value reflected in
net income.
A non-derivative financial instrument cannot be designated as
the hedging instrument in a fair value hedge of the foreign
exchange exposure of available-for-sale securities.
Derivatives embedded in other financial instruments are
accounted for on a stand-alone basis if they have economic
characteristics and risks that differ from those of the host
instrument.