HSBC 2014 Annual Report Download - page 86

HSBC BANK PLC
Report of the Directors: Capital Management
84
Capital management and allocation
Capital management
Our approach to capital management is driven by our
strategic and organisational requirements, taking into
account the regulatory, economic and commercial
environment in which we operate.
It is our objective to maintain a strong capital base to
support the development of our business and to meet
regulatory capital requirements. To achieve this, we
manage our capital within the context of an annual
capital plan which is approved by the Board and which
determines the optimal amount and mix of capital
required to support planned business growth and meet
local regulatory capital requirements. HSBC Holdings plc
is the sole provider of equity capital to the group and
also provides non-equity capital where necessary. Capital
generated in excess of planned requirements is returned
to HSBC Holdings plc in the form of dividends.
Our capital management policy is underpinned by the
capital management framework, which enables the
group to manage its capital in a consistent manner. The
framework incorporates a number of capital measures
which govern the management and allocation of capital
within the group. These capital measures include
invested capital, economic capital and regulatory capital
defined by the group as follows:
• invested capital is the equity capital provided to the
bank by HSBC;
• economic capital is the internally calculated capital
requirement which is deemed necessary by the group
to support the risks to which it is exposed; and
• regulatory capital is the minimum level of capital
which the group is required to hold in accordance
with the rules set by the PRA for the bank and the
group and by the local regulators for individual
subsidiary companies.
The following risks managed through the capital
management framework have been identified as
material: credit, market, operational, interest rate risk in
the banking book, pension fund, insurance and residual
risks.
Stress testing
Stress testing is incorporated into the capital
management framework and is an important component
of understanding the sensitivities of the core
assumptions in the group’s capital plans to the adverse
effect of extreme, but plausible, events. Stress testing
allows senior management to formulate its response,
including risk mitigating actions, in advance of conditions
starting to reflect the stress scenarios identified. The
actual market stresses experienced by the financial
system in recent years have been used to inform the
capital planning process and further develop the stress
scenarios employed by the group.
Other stress tests are also carried out, both at the
request of regulators and by the regulators themselves
using their prescribed assumptions. The group takes into
account the results of all such regulatory stress testing
when assessing our internal capital requirements.
Risks to capital
Outside of the stress-testing framework, a list of
principal risks is regularly evaluated for their effect on
our capital ratios. In addition, other risks may be
identified which have the potential to affect our Risk
Weighted Assets (‘RWAs’) and/or capital position. These
risks are also included in the evaluation of risks to
capital. The downside or upside scenarios are assessed
against our capital management objectives and
mitigating actions are assigned as necessary.
The group’s approach to managing its capital position
has been to ensure the bank, regulated subsidiaries and
the group exceed current regulatory requirements and is
well placed to meet future regulatory requirements from
the on-going implementation of CRD IV.
Capital measurement
The PRA is the supervisor of the bank and lead supervisor
of the group. The PRA sets capital requirements and
receives information on the capital adequacy for the
bank and the group. The bank and the group complied
with the PRA’s capital adequacy requirements
throughout 2014.
Individual banking subsidiaries are directly regulated by
their local banking supervisors, who set and monitor
their capital adequacy requirements.
The Basel 3 framework, similarly to Basel 2, is structured
around three ‘pillars’: minimum capital requirements,
supervisory review process and market discipline. In
2013, the group calculated capital using the Basel II
framework, as amended for CRD III, also referred to as
‘Basel 2.5’. From 1 January 2014, the group’s capital is
calculated under CRD IV.
The CRD IV legislation implemented Basel III in the EU
and, in the UK, the ‘PRA rulebook CRR Firms Instrument
2013’ transposed the various national discretions under
the CRD IV legislation into UK law. As a result, unless
otherwise stated, comparatives for capital and RWAs at
31 December 2013 are on a Basel 2.5 basis.
Regulatory capital
Our capital base is divided into three main categories,
namely Common equity tier 1, Additional tier 1 and Tier
2, depending on the degree of permanency and loss
absorbency exhibited.
• Common equity tier 1 (‘CET 1’) capital is the highest
quality form of capital, comprising shareholders’
equity and related non-controlling interests (subject
to limits). Under CRD IV various capital deductions
and regulatory adjustments are made against these
items which are treated differently for the purposes
of capital adequacy – these include deductions for
goodwill and intangible assets, deferred tax assets
that rely on future profitability, negative amounts
resulting from the calculation of expected loss
amounts under IRB and defined benefit pension fund
assets.