20-F 1 d879000d20f.htm 20-F 20-F
Table of Contents

As filed with the Securities and Exchange Commission on February 26, 2015.

 

 

 

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 20-F

 

¨ REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR 12(g) OF THE SECURITIES EXCHANGE ACT OF 1934

Or

 

þ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2014

Or

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Or

 

¨ SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Date of event requiring this shell company report                     

For the transition period from N/A to N/A

Commission file number: 001-14930

HSBC Holdings plc

(Exact name of Registrant as specified in its charter)

 

N/A   United Kingdom
(Translation of Registrant’s name into English)   (Jurisdiction of incorporation or organisation)

8 Canada Square

London E14 5HQ

United Kingdom

(Address of principal executive offices)

Russell C Picot

8 Canada Square

London E14 5HQ

United Kingdom

Tel +44 (0) 20 7991 8888

Fax +44 (0) 20 7992 4880

(Name, Telephone, Email and/or Facsimile number and Address of Company Contact Person)

Securities registered or to be registered pursuant to Section 12(b) of the Securities Exchange Act of 1934:

 

Title of each class

  

Name of each exchange on which registered

Ordinary Shares, nominal value US$0.50 each.    London Stock Exchange
   Hong Kong Stock Exchange
   Euronext Paris
   Bermuda Stock Exchange
   New York Stock Exchange*

American Depository Shares, each representing 5

Ordinary Shares of nominal value US$0.50 each.

   New York Stock Exchange

6.20% Non-Cumulative Dollar Preference Shares,

Series A

   New York Stock Exchange*

American Depositary Shares evidenced by American

Depositary receipts, each representing one-

fortieth of a Share of 6.20% Non-Cumulative Dollar

Preference Shares, Series A

   New York Stock Exchange
5.10% Senior Unsecured Notes Due 2021    New York Stock Exchange
4.00% Senior Unsecured Notes Due 2022    New York Stock Exchange
4.875% Senior Unsecured Notes Due 2022    New York Stock Exchange
7.625% Subordinated Notes due 2032    New York Stock Exchange
7.35% Subordinated Notes due 2032    New York Stock Exchange
6.5% Subordinated Notes 2036    New York Stock Exchange
6.5% Subordinated Notes 2037    New York Stock Exchange
6.8% Subordinated Notes Due 2038    New York Stock Exchange
6.100% Senior Unsecured Notes due 2042    New York Stock Exchange

8.125% Perpetual Subordinated Capital Securities

Exchangeable at the Issuer’s Option into Non-

Cumulative Dollar Preference Shares

   New York Stock Exchange

8.00% Perpetual Subordinated Capital Securities

Exchangeable at the Issuer’s Option into Non-

Cumulative Dollar Preference Shares, Series 2

   New York Stock Exchange

4.250% Subordinated Notes due 2024

   New York Stock Exchange

5.250% Subordinated Notes due 2044

   New York Stock Exchange

Securities registered or to be registered pursuant to Section 12(g) of the Securities Exchange Act of 1934: None

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Securities Exchange Act of 1934: None

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report:

Ordinary Shares, nominal value US$0.50 each                                              19,217,874,260

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

þ Yes ¨ No

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

¨ Yes þ No.

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

þ Yes ¨ No

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

¨ Yes ¨ No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer þ   Accelerated filer ¨   Non-accelerated filer ¨

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:

 

U.S. GAAP ¨   International Financial Reporting Standards as issued by the
International Accounting Standards Board þ
  Other ¨

If “Other” has been checked in response to the previous question indicate by check mark which financial statement item the registrant has elected to follow.

¨ Item 17 ¨ Item 18

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

¨ Yes þ No

 

* Not for trading, but only in connection with the registration of American Depositary Shares.

 

 

 


Table of Contents

HSBC HOLDINGS PLC – ANNUAL REPORT AND ACCOUNTS 2014

 

Strategic Report
         1 Overview
    2 Cautionary statement regarding forward-looking statements
    3 Highlights
    4 Group Chairman’s Statement
    7 Group Chief Executive’s Review
    9 Strategic objectives
  12 Business model
  26 Strategic priorities
  28 Outcomes
Report of the Directors
Financial Review
  40 Financial summary
  63 Global businesses
  78 Geographical regions
105aa

Reconciliation of reported to constant currency, underlying and adjusted items for 2013

105b

Reconciliation of reported and adjusted items for 2014

105s 2013 compared with 2012
106 Other information
110b Regulation and supervision
111 Risk
238 Capital
Corporate Governance
263 Corporate Governance Report
264 Biographies of Directors and senior management
270 Board of Directors
276 Board committees
288 Internal control
290 Going concern
291 Employees
Directors’ Remuneration Report
300 Directors’ Remuneration Report
Financial Statements
329 Report of Independent Registered Public Accounting Firm
334 Financial Statements
345 Notes on the Financial Statements
Shareholder Information
458 Shareholder information
466 Abbreviations
470 Glossary
478 Index

Certain defined terms

Unless the context requires otherwise, ‘HSBC Holdings’ means HSBC Holdings plc and ‘HSBC’, the ‘Group’, ‘we’, ‘us’ and ‘our’ refer to HSBC Holdings together with its subsidiaries. Within this document the Hong Kong Special Administrative Region of the People’s Republic of China is referred to as ‘Hong Kong’. When used in the terms ‘shareholders’ equity’ and ‘total shareholders’ equity’, ‘shareholders’ means holders of HSBC Holdings ordinary shares and those preference shares and capital securities issued by HSBC Holdings classified as equity. The abbreviations ‘US$m’ and ‘US$bn’ represent millions and billions (thousands of millions) of US dollars, respectively.

Financial statements

The consolidated financial statements of HSBC and the separate financial statements of HSBC Holdings have been prepared in accordance with International Financial Reporting Standards (‘IFRSs’) as issued by the International Accounting Standards Board (‘IASB’) and as endorsed by the European Union (‘EU’). EU endorsed IFRSs could differ from IFRSs as issued by the IASB if, at any point in time, new or amended IFRSs were not to be endorsed by the EU. At 31 December 2014, there were no unendorsed standards effective for the year ended 31 December 2014 affecting these consolidated and separate financial statements, and there was no difference between IFRSs endorsed by the EU and IFRSs issued by the IASB in terms of their application to HSBC. Accordingly, HSBC’s financial statements for the year ended 31 December 2014 are prepared in accordance with IFRSs as issued by the IASB.

We use the US dollar as our presentation currency because the US dollar and currencies linked to it form the major currency bloc in which we transact and fund our business. Unless otherwise stated, the information presented in this document has been prepared in accordance with IFRSs.

When reference to ‘adjusted’ is made in tables or commentaries, the comparative information has been expressed at constant currency (see page 40), the impact of fair value movements in respect of credit spread charges on HSBC’s own debt has been eliminated and the effects of other significant items have been adjusted as reconciled on page 44. Adjusted return on risk-weighted assets is defined and reconciled on page 62.

 


Table of Contents

Strategic Report

 

Who we are

 

HSBC is one of the largest

banking and financial

services organisations

in the world.

 

 

Customers:

51m

 

 

 

Served by:

266,000

employees (257,600 FTE)

 

Through four global businesses:

– Retail Banking and Wealth Management

– Commercial Banking

– Global Banking and Markets

– Global Private Banking

 

Located in:

73

countries and territories

 

Across five geographical regions:

– Europe

– Asia

– Middle East and North Africa

– North America

– Latin America

 

Offices:

Over 6,100

 

Global headquarters:

– London

 

Market capitalisation:

US$182bn

 

Listed on stock exchanges in:

– London

– Hong Kong

– New York

– Paris

– Bermuda

 

Shareholders:

216,000 in 127

countries and territories

Our purpose

 

Our purpose is to be where the growth is, connecting customers to opportunities, enabling businesses to thrive and economies to prosper, and ultimately helping people to fulfil their hopes and realise their ambitions.

 

 

 

Our strategic priorities

We aim to be the world’s leading and most respected international bank. We will achieve this by focusing on the needs of our customers and the societies we serve, thereby delivering long-term sustainable value to all our stakeholders.

 

In 2013, we announced a set of three interconnected and equally weighted priorities for 2014 to 2016 to help us deliver our strategy:

 

– grow the business and dividends;

– implement Global Standards; and

– streamline processes and procedures.

 

Each priority is complementary and underpinned by initiatives being undertaken within our day-to-day business. Together they create value for our customers and shareholders, and contribute to the long-term sustainability of HSBC.

 

 

How we measure performance

We track our progress in implementing our strategy with a range of financial and non-financial measures or key performance indicators. From 2015, we have revised our targets to better reflect the changing regulatory and operating environment.

 

Highlights of 2014 are shown on page 3.

For further information on our new targets see page 32.

 

 

Rewarding performance

The remuneration of all staff within the Group, including executive Directors, is based on the achievement of financial and non-financial objectives. These objectives, which are aligned with the Group’s strategy, are detailed in individuals’ annual scorecards. To be considered for a variable pay award, an individual must have fully complied with HSBC Values.

 

For further information on HSBC Values, see page 10.

 

 

 

 

HSBC HOLDINGS PLC

 

1


Table of Contents

Strategic Report (continued)

 

Cautionary statement regarding forward-looking statements

The Annual Report and Accounts 2014 contains certain forward-looking statements with respect to HSBC’s financial condition, results of operations, capital position and business.

Statements that are not historical facts, including statements about HSBC’s beliefs and expectations, are forward-looking statements. Words such as ‘expects’, ‘anticipates’, ‘intends’, ‘plans’, ‘believes’, ‘seeks’, ‘estimates’, ‘potential’ and ‘reasonably possible’, variations of these words and similar expressions are intended to identify forward-looking statements. These statements are based on current plans, estimates and projections, and therefore undue reliance should not be placed on them. Forward-looking statements speak only as of the date they are made. HSBC makes no commitment to revise or update any forward-looking statements to reflect events or circumstances occurring or existing after the date of any forward-looking statements.

Written and/or oral forward-looking statements may also be made in the periodic reports to the US Securities and Exchange Commission, summary financial statements to shareholders, proxy statements, offering circulars and prospectuses, press releases and other written materials, and in oral statements made by HSBC’s Directors, officers or employees to third parties, including financial analysts.

Forward-looking statements involve inherent risks and uncertainties. Readers are cautioned that a number of factors could cause actual results to differ, in some instances materially, from those anticipated or implied in any forward-looking statement. These include, but are not limited to:

 

    changes in general economic conditions in the markets in which we operate, such as continuing or deepening recessions and fluctuations in employment beyond those factored into consensus forecasts; changes in foreign exchange rates and interest rates; volatility in equity markets; lack of liquidity in wholesale funding markets; illiquidity and downward price pressure in national real estate markets; adverse changes in central banks’ policies with respect to the provision of liquidity support to financial markets; heightened market concerns over sovereign creditworthiness in over-indebted countries;
   

adverse changes in the funding status of public or private defined benefit pensions; and consumer perception as to the continuing availability of credit and price competition in the market segments we serve;

 

    changes in government policy and regulation, including the monetary, interest rate and other policies of central banks and other regulatory authorities; initiatives to change the size, scope of activities and interconnectedness of financial institutions in connection with the implementation of stricter regulation of financial institutions in key markets worldwide; revised capital and liquidity benchmarks which could serve to deleverage bank balance sheets and lower returns available from the current business model and portfolio mix; imposition of levies or taxes designed to change business mix and risk appetite; the practices, pricing or responsibilities of financial institutions serving their consumer markets; expropriation, nationalisation, confiscation of assets and changes in legislation relating to foreign ownership; changes in bankruptcy legislation in the principal markets in which we operate and the consequences thereof; general changes in government policy that may significantly influence investor decisions; extraordinary government actions as a result of current market turmoil; other unfavourable political or diplomatic developments producing social instability or legal uncertainty which in turn may affect demand for our products and services; the costs, effects and outcomes of product regulatory reviews, actions or litigation, including any additional compliance requirements; and the effects of competition in the markets where we operate including increased competition from non-bank financial services companies, including securities firms; and

 

    factors specific to HSBC, including discretionary RWA growth and our success in adequately identifying the risks we face, such as the incidence of loan losses or delinquency, and managing those risks (through account management, hedging and other techniques). Effective risk management depends on, among other things, our ability through stress testing and other techniques to prepare for events that cannot be captured by the statistical models it uses; and our success in addressing operational, legal and regulatory, and litigation challenges, notably compliance with the DPA.
 

 

HSBC HOLDINGS PLC

 

2


Table of Contents

Strategic Report (continued)

 

 

Highlights

 

     

–  Profit before tax was down 17% to US$18.7bn on a reported basis. Adjusted profit before tax, excluding the effect of significant items and currency translation, was broadly unchanged at US$22.8bn.

  

–  Reinforced HSBC’s capital strength. Our CRD IV transitional common equity tier 1 ratio was 10.9% compared with 10.8% at the end of 2013.

  

–  Dividends to shareholders increased to US$9.6bn as capital strength created capacity for organic growth and allowed us to increase the dividends paid.

Profit before taxation

(reported basis)

  

Capital strength

(CRD IV common equity tier 1 ratio transitional)1

  

Dividends per ordinary share

(in respect of year)3

 

US$18.7bn

£11.3bn

HK$145bn

 

  

 

10.9%

 

At 31 December

  

 

US$0.50

LOGO

 

  

LOGO

 

  

LOGO

 

Cost efficiency ratio

(reported basis)2

  

Return on average ordinary

shareholders’ equity4

  

Share price

(at 31 December)

                                                        HK$74.00                    
67.3%    7.3%   

 £6.09

 

 

  

US$47.23 American    

Depositary Share    

 

 

 

LOGO

  

LOGO

  

LOGO

For a description of the difference between reported and adjusted performance, see page 40.

For footnotes, see page 39.

 

HSBC HOLDINGS PLC

 

3


Table of Contents

Strategic Report (continued)

 

Group Chairman’s Statement

 

LOGO

HSBC’s performance in 2014 reflected another year of consolidation in the reshaping and strengthening of the Group against a backdrop of geopolitical and economic headwinds, many of which could not have been foreseen at the outset of the year.

 

As economic activity in much of the world failed to reach the levels required to rebuild sustainable consumer confidence and prompt renewed investment expenditure, governments most impacted expanded their stimulus measures and the major central banks maintained interest rates at their unprecedented low levels. Concerns over deflationary trends, particularly in the eurozone, grew. Although China delivered growth which comfortably surpassed all other major economies, expectations of slower growth in the future weighed heavily on market sentiment and contributed to significant commodity price falls and further curtailment of global investment spending.

Unsurprisingly in this environment, revenue growth opportunities were strongest in our Asian businesses, with expansion in lending and debt capital financing. Cost progression continued globally in large part to implement regulatory change and enhance risk controls, notably around financial system integrity and conduct. Streamlining initiatives could only partly offset this cost expansion. Further customer redress costs and regulatory penalties around past failings reinforced the Board’s continuing commitment to prioritise whatever further investment in systems and controls is necessary to mitigate future repetition.

It is clear now that societal, regulatory and public policy expectations of our industry are changing its long-term cost structure. Technological advancements around data analytics, including ‘big data’, are providing much more sophisticated tools to enhance our capabilities to protect the financial system from bad actors. Also, as more and more customers choose to transact online and through mobile devices, we are making the necessary investment to protect ourselves and our customers from cyber threats. Building the required analytical capabilities entails considerable investment in systems and in maintaining customer data which is accurate and up to date. Reconfiguring customer and transactional data to the digital age is no small endeavour given legacy systems and a multiplicity of historical data standards globally. The benefits, however, of enhanced customer due diligence capabilities and greater systems security essentially go to the core of our systemic role and allow us to be more proactive in fulfilling that role as a key gatekeeper to the financial system.

As our industry reshapes in response to public policy and regulatory directives, we now need to demonstrate, through clarity of our business model, the value to society of our scale and diversification. We must

 

never forget that investors have choices where to invest and individuals have choices where to make their careers. Thus it is essential that we can demonstrate a positive contribution to the societies we serve in order to bolster the business friendly environment that all agree is essential for economic growth and prosperity.

For 150 years HSBC has been following trade and investment flows to serve customers as they fulfil their financial ambitions. In a world which has moved from being interconnected to being interdependent, our business model is increasingly relevant to companies of all sizes and to individuals whose financial future is linked to economic activity in multiple countries.

This can be seen most markedly in our Commercial Banking business, which delivered a record year buoyed by the expansion of supply chain management solutions and increasing cross-border payment flows. Our network coverage of the countries which originate more than 85% of the world’s payment activity drives this key element of our business model. On the investment side, throughout our network we saw corporate flows continuing to target the higher growth emerging markets. At the same time, growth in outward investment from mainland China accelerated as its major companies sought diversification and access to both skill bases and markets. These trends played to HSBC’s scale and presence in the key financial centres, allowing us to support customers with debt and equity financing solutions, offering tailored liquidity and transactional banking support and providing risk management solutions primarily against our clients’ interest rate and foreign exchange exposures. Success was evidenced by growing recognition in industry awards, the most important of which are referred to in the Group Chief Executive’s Review. Finally, our Retail Banking and Wealth Management business continued its journey to build a sustainable customer focused business model, completing the removal of formulaic links between product sales and performance-related pay of our staff, and expanding our digital and mobile offerings.

 

 

HSBC HOLDINGS PLC

 

4


Table of Contents

Strategic Report (continued)

 

Performance in 2014

Profit before tax of US$18.7bn on a reported basis was US$3.9bn or 17% lower than that achieved in 2013. This primarily reflected lower business disposal and reclassification gains and the negative effect, on both revenue and costs, of significant items including fines, settlements, UK customer redress and associated provisions. On the adjusted basis that is one of the key metrics used to assess current year management and business performance, profit before tax was US$22.8bn, broadly in line with 2013 on a comparable basis.

Earnings per share were US$0.69, against US$0.84 in 2013. The Group’s capital position remained strong with the transitional common equity tier 1 ratio standing at 10.9% at the end of the year, compared with 10.8% 12 months earlier, and our end point ratio at 11.1% compared with 10.9%. Based on this capital strength and the Group’s capital generating capabilities, the Board approved a fourth interim dividend in respect of 2014 of US$0.20 per share, taking the total dividends in respect of the year to US$0.50 per share (US$9.6bn, US$0.4bn higher than in respect of 2013).

Taking into account this financial performance, together with the further progress made in reshaping the Group, responding to regulatory change and implementing Global Standards, the Board considered executive management to have made good progress during 2014 towards strengthening HSBC’s long-term competitive position.

The Group Chief Executive’s Review analyses in detail the important benchmarks and highlights of 2014.

Regulatory landscape becomes clearer but still much to do

A great deal of progress was made during 2014 to finalise the framework under which globally systemic banks like HSBC will be required to operate when it is fully implemented. This clarity is essential if we are to be able to position our global businesses to meet the return expectations of those who invest in us within an acceptable risk appetite.

In particular, major progress was made in addressing the challenge of ‘too big to fail’, largely through finalising proposals to augment existing loss absorbing capacity with ‘bail-inable’ debt and through greater definition of how resolution frameworks

would operate in practice. In both cases, this involved the critical issue of how to address cross-border implications and home and host country regulatory responsibilities.

There is, however, still much to complete. The regulatory reform agenda for 2015 is very full with pending public policy decisions, regulatory consultations and impact studies in areas of far reaching influence to the structure of our industry. These include the conclusion of structural separation deliberations in Europe, further work on so called ‘shadow banking’ including identifying non-bank systemically important institutions, addressing the resolution framework for central counterparties, finalising the calibration of the leverage ratio, calibrating the quantum of total loss absorbing capacity to be raised and settling the disposition of that capacity within global groups.

Restoration of trust in our industry remains a significant challenge as further misdeeds are uncovered but it is a challenge we must meet successfully.

In addition, further work will be undertaken on utilising standardised risk weights to overcome regulatory loss of confidence in internally modelled capital measures and a ‘fundamental review of the trading book’ is also underway within the regulatory community to look again at capital support for this activity. These measures, which in aggregate are designed to make the industry structurally more stable, will take the next five or so years to implement, an indication of the scale of the transformation to be completed.

During 2014, the UK government also confirmed the permanence of the UK bank levy. This was introduced in 2010, in part to address the burden borne by taxpayers from failures during the global financial crisis; in 2014, the cost to HSBC of the levy was US$1.1bn, an increase of US$0.2bn over 2013. 58% of the levy we pay does not relate to our UK banking activity.

Rebuilding trust

Restoration of trust in our industry remains a significant challenge as further misdeeds are uncovered but it is a challenge we must meet successfully. We owe this not just to

society but to our staff to ensure they can be rightly proud of the organisation to which they have committed their careers. When commentators extrapolate instances of control failure or individual misconduct to question the culture of the firm it strikes painfully at the heart of our identity.

Swiss Private Bank

The recent disclosures around unacceptable historical practices and behaviour within the Swiss private bank remind us of how much there still is to do and how far society’s expectations have changed in terms of banks’ responsibilities. They are also a reminder of the need for constant vigilance over the effectiveness of our controls and the imperative to embed a robust and ethical compliance culture.

We deeply regret and apologise for the conduct and compliance failures highlighted which were in contravention of our own policies as well as expectations of us.

In response to, and in parallel with, the tax investigations prompted by the data theft more than eight years ago, we have been completely overhauling our private banking business, putting the entire customer base through enhanced due diligence and tax transparency filters. Our Swiss Private Bank customer base and the countries we serve are now both about one-third of the size they were in 2007. In addition, HSBC is already working to implement the OECD’s Common Reporting Standard and other measures to foster greater transparency. We cannot change the past. But, looking to the future, we can and must reinforce controls and provide demonstrable evidence of their effectiveness. This forms part of our commitment to Global Standards, to ensure that we will never knowingly do business with counterparties seeking to evade taxes or use the financial system to commit financial crime.

Banking standards

More broadly, following the publication in 2013 of the Parliamentary Commission on Banking Standards, considerable progress has been made in giving effect to its recommendations. The Financial Services (Banking Reform) Act of 2013 provided greater clarity on the accountabilities and responsibilities of management and the Board. We welcome the appointment of Dame Colette Bowe to lead the Banking Standards Review Council and have committed to support her fully in its work. The current Fair and Effective Markets

 

 

HSBC HOLDINGS PLC

 

5


Table of Contents

Strategic Report (continued)

 

Review being conducted by the Bank of England, Her Majesty’s Treasury and the Financial Conduct Authority is an extremely timely and important exercise to re-establish the integrity of wholesale financial markets.

In terms of our own governance of these areas, the Conduct & Values Committee of the Board that we created at the beginning of 2014 to focus on behavioural issues has established itself firmly as the central support to the Board in these important areas.

Board changes

Since we reported at the interim stage we have taken further steps to augment the skills and experience within the Board and to address succession to key roles.

On 1 January 2015, Phillip Ameen joined the Board and the Group Audit Committee as an independent non-executive Director. Phil was formerly Vice President, Comptroller and Principal Accounting Officer of General Electric Corp. He brings with him extensive financial and accounting experience gained in one of the world’s leading international companies as well as a depth of technical knowledge from his long service in the accounting standard setting world. As a serving Director on HSBC’s US businesses he also brings further detailed insight to Group Board discussions and enhances the strong links that already exist between the Group Board and its major subsidiaries.

Sir Simon Robertson had previously indicated his intention to retire from the Board at the upcoming AGM. I am delighted to report that Simon has agreed to stay on for at least a further

year as Deputy Chairman. He has been a considerable support to me and to Stuart Gulliver, in addition to his role leading the non-executives, and we are all delighted that we shall continue to benefit from his wisdom and experience.

150th anniversary

2015 marks the 150th anniversary of our founding back in Hong Kong and Shanghai as a small regional bank focused on trade and investment. All of us within HSBC owe a huge debt of gratitude and respect to our forebears who charted the course that has taken HSBC to one of the most important institutions serving the financial needs of this inter-dependent world.

Outlook

It is impossible not to reflect on the very broad range of uncertainties and challenges to be addressed in 2015 and beyond, most of which are outside our control, particularly against a backdrop of patchy economic recovery and limited policy ammunition. Unexpected outcomes arising from current geopolitical tensions, eurozone membership uncertainties, political changes, currency and commodity price realignments, interest rate moves and the effectiveness of central banks’ unconventional policies, to name but a few, all could materially affect economic conditions and confidence around investment and consumption decisions. One economic uncertainty stands out for a major financial institution headquartered in the UK, that of continuing UK membership of the EU. Today, we publish a major research study which concludes that working to complete the Single Market in

services and reforming the EU to make it more competitive are far less risky than going it alone, given the importance of EU markets to British trade.

There are also many underlying positive trends that shape our thinking about the coming year. We are very encouraged by the trends in outward investment from China, the potential for further liberalisation and internationalisation of the renminbi and the reshaping of the Chinese economy from export dependence to domestic consumption. We are positive on the opportunities that will arise from Capital Markets Union within Europe and the declared focus of the incoming Commission on growth and jobs. The strength of the US economy and the benefits of lower oil prices should be positive drivers of growth. There is much to be gained from successful negotiation of the Transatlantic Trade and Investment Partnership and the Trans-Pacific Partnership. Current attention on funding infrastructure investment globally is potentially of huge significance.

Finally, on behalf of the Board, I want again to express our thanks and gratitude to our 266,000 colleagues around the world who worked determinedly in 2014 to build an HSBC fit for the next 150 years.

 

LOGO

D J Flint

Group Chairman

23 February 2015

 

 

HSBC HOLDINGS PLC

 

6


Table of Contents

Strategic Report (continued)

 

Group Chief Executive’s Review

 

LOGO

2014 was a challenging year in which we continued to work hard to improve business performance while managing the impact of a higher operating cost environment.

 

Profits disappointed, although a tough fourth quarter masked some of the progress made over the preceding three quarters. Many of the challenging aspects of the fourth quarter results were common to the industry as a whole. In spite of this, there were a number of encouraging signs, particularly in Commercial Banking, Payments & Cash Management and renminbi products and services. We were also able to continue to grow the dividend.

Reported profit before tax in 2014 was US$18.7bn, US$3.9bn lower than in the previous year. This reflected lower gains from disposals and reclassifications, and the negative effect of other significant items, including fines, settlements, UK customer redress and associated provisions, totalling US$3.7bn.

Adjusted profit before tax, which excludes the year-on-year effects of currency translation differences and significant items, was US$22.8bn, broadly unchanged on 2013.

Asia continued to provide a strong contribution to Group profits. Middle East and North Africa reported a record profit before tax in 2014. Together, Asia and MENA generated more than 70% of adjusted Group profit before tax.

Commercial Banking also delivered a record reported profit, which is evidence of the successful execution of our strategy. Revenue in CMB continued to grow,

notably in our two home markets of Hong Kong and the UK.

Global Banking and Markets performed relatively well for the first three quarters of the year, but, like much of the rest of the industry, suffered a poor fourth quarter. Revenue was lower in 2014, particularly in our Markets businesses, but all other client-facing businesses delivered year-on-year growth.

Revenue was also lower in Retail Banking and Wealth Management, due primarily to the continuing repositioning of the business. However, in our Global Asset Management business we continued our strategy of strengthening collaboration across our global businesses, which helped to attract net new money of US$29bn.

Global Private Banking continues to undergo a comprehensive overhaul which was accelerated from 2011. As part of this overhaul, we are implementing tough financial crime, regulatory compliance and tax transparency measures. In order to achieve our desired business model and informed by our six filters process, we have also sold a number of businesses and customer portfolios, including assets in Japan, Panama and Luxembourg. The number of customer accounts in our Swiss Private Bank is now nearly 70% lower than at its peak. We continued to remodel the Private Bank in 2014, which included the sale of a customer portfolio in Switzerland to LGT Bank. One consequence of this remodelling was a reduction in revenue. We have also

 

grown the parts of the business that fit our new model, attracting US$14bn of net new money in 2014, mostly through clients of Global Banking & Markets and Commercial Banking.

Loan impairment charges were lower, reflecting the current economic environment and the changes we have made to our portfolio since 2011.

Operating expenses were higher due to increased regulatory and compliance costs, inflationary pressures and investment in strategic initiatives to support growth, primarily in Commercial Banking in Asia and Europe. Significant items, which include restructuring costs, were also higher than last year.

We agreed settlements in respect of inquiries by the UK Financial Conduct Authority and the US Commodity Futures Trading Commission into the foreign exchange market in 2014. HSBC was badly let down by a few individuals whose actions do not reflect the vast majority of employees who uphold the values and standards expected of the bank. This matter is now rightly in the hands of the Serious Fraud Office.

Our balance sheet remained strong, with a ratio of customer advances to customer accounts of 72%. Excluding the effects of currency translation, customer loans and advances grew by US$28bn during 2014.

The common equity tier 1 ratio on a transitional basis was 10.9% and on a CRD IV end point basis was 11.1% at 31 December 2014.

Connecting customers to opportunities

2015 is HSBC’s 150th anniversary. Founded in Hong Kong in 1865 to finance local and international trade, the bank expanded rapidly to capture the increasing flow of commerce between Asia, Europe and North America. Our ability to connect customers across the world remains central to the bank’s strategy today and in 2014 we continued to develop and grow the product areas that rely on international connectivity.

Our market-leading Global Trade and Receivables Finance business remains strong and we were voted best global trade finance bank and best trade finance bank in MENA in the Global Trade Review ‘Leaders In Trade’ Awards.

 

 

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In Payments and Cash Management, we increased customer mandates and improved client coverage. We were recognised as the best global cash management bank for the third successive year in the 2014 Euromoney Cash Management Survey.

Our share of the capital financing market continued to improve and we were ranked number one for debt capital markets in our home markets of the UK and Hong Kong, and number one for Equity Capital Markets in Hong Kong by Dealogic. HSBC was also named global bond house of the year, global derivatives house of the year and Asian bond house of the year in the International Financing Review Awards 2014.

We consolidated our leadership of the rapidly growing renminbi market in 2014. According to SWIFT, the renminbi is now the fifth most widely used payment currency in the world, up from 13th just two years ago. We increased revenue from renminbi products and retained our ranking as number one issuer of offshore renminbi bonds worldwide over the last twelve months. HSBC was also recognised as the best overall provider for products and services in Asiamoney’s Offshore Renminbi Services Survey in 2014, and renminbi house of the year in the 2014 Asia Risk Awards.

Operating a global business

It is already clear that the regulatory costs of operating a global business model have increased since we announced our strategy for HSBC in 2011.

As the Group Chairman’s Statement explains, the regulatory environment continues to evolve.

Our commitment to be the world’s leading international bank means that improving our regulatory and compliance abilities and implementing Global Standards must remain priorities for HSBC. Our Compliance staff headcount has more than doubled since 2011 and there is more work still to do to strengthen the Group’s compliance capability.

At the same time, the level of capital that we hold has increased by over 60% since before the financial crisis. Specifically, we have further strengthened our capital levels in response to increasing capital

requirements from the UK Prudential Regulation Authority.

Whilst we expected an increase in the amount of capital we were required to hold when setting targets for the Group in 2011, we could not have foreseen the full extent of the additional costs and capital commitment that would subsequently be asked of us. The pace of change has been exceptional. As a consequence, some of the targets that we set for the Group in 2011 are no longer realistic.

In recognition of that fact, we have set new medium-term targets that better reflect the ongoing operating environment.

We are setting a revised return on equity target of more than 10%. This target is modelled using a common equity tier 1 capital ratio on a CRD IV end point basis in the range of 12% to 13%.

Our cost target will be to grow our revenue faster than costs (‘positive jaws’) on an adjusted basis.

We are also restating our commitment to grow the dividend. To be clear, the progression of dividends should be consistent with the growth of the overall profitability of the Group and is predicated on our ability to meet regulatory capital requirements in a timely manner.

These targets offer a realistic reflection of the capabilities of HSBC in the prevailing operating environment.

Our employees

I am grateful for the hard work, dedication and professionalism of all of our employees in 2014.

Extensive work was required to prepare HSBC for stress tests in a number of jurisdictions throughout the year, the results of which confirmed the capital strength of the Group. HSBC will face additional stress testing in 2015.

We all have to work continuously to make sure that the Group remains compliant with anti-money laundering and sanctions legislation and this effort continued in 2014.

Management and staff across the Group continued to work very closely with the Monitor to deliver our commitments under the terms of our December 2012

settlement agreements with the US authorities and the UK Financial Conduct Authority. We have now received the second annual report from the Monitor. Whilst it confirmed that we continue to comply with the obligations we undertook in the Deferred Prosecution Agreement with the US Department of Justice, as we expected we still have substantial work to do.

Summary and outlook

The business remains in a good position structurally to capitalise on broader market trends and the macroeconomic backdrop remains favourable, notwithstanding the continuing low interest rate environment. There are still a number of historical issues left to resolve and we will make further progress on these in 2015. We will also continue the work we started in 2011 to simplify the Group to make it easier to manage and control.

Our 2014 results show a business powered by our continued strength in Hong Kong, with significant additional contributions from the rest of Asia and the Middle East and North Africa. The continuing success of Commercial Banking and the resilience of our differentiated Global Banking & Markets business illustrate the effectiveness of our strategy to bridge global trade and capital flows. Retail Banking & Wealth Management remains a work in progress, but we took considerable further steps to de-risk the business in 2014. Global Private Banking continues to attract net new money from clients in our other global businesses. We maintain a sharp focus on generating net savings to offset increased costs arising from inflation, and the cost of implementing global standards.

Our early 2015 performance has been satisfactory.

We continue to focus on the execution of our strategy and on delivering value to shareholders.

 

 

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S T Gulliver

Group Chief Executive

23 February 2015

 

 

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Strategic objectives

 

Value creation

and long-term sustainability

We continue to follow the vision for HSBC we first outlined in 2011 along with the clear strategy that will help us achieve it. Our strategy guides where and how we seek to compete. We constantly assess our progress against this strategy and provide regular updates to stakeholders.

Through our principal activities – making payments, holding savings, enabling trade, providing finance and managing risks – we play a central role in society and in the economic system. Our target is to build and maintain a business which is sustainable in the long term.

How we create value

Banks, and the individuals within them, play a crucial role in the economic and social system, creating value for many parties in different ways.

We provide a facility for customers to securely and conveniently deposit their savings. We allow funds to flow from savers and investors to borrowers, either directly or through the capital markets. The borrowers use these loans or other forms of credit to buy goods or invest in businesses. By these means, we help the economy to convert savings which may be individually short-term into financing which is, in aggregate, longer term. We bring together investors and people looking for investment funding. We develop new financial products. We also facilitate personal and commercial transactions by acting as payment agent both within countries and internationally. Through these activities, we take on risks which we then manage and reflect in our prices.

Our direct lending includes residential and commercial mortgages and overdrafts, and term loan facilities. We finance importers and exporters engaged in international trade and provide advances to companies secured on amounts owed to them by their customers.

 

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We also offer additional financial products and services including broking, asset management, financial advisory services, life insurance, corporate finance, securities services and alternative investments. We make markets in financial assets so that investors have confidence in efficient pricing and the availability of buyers and sellers. We provide these products for clients ranging from governments to large and mid-market corporates, small and medium-sized enterprises, high net worth individuals and retail customers. We help customers raise financing from external investors in debt and equity capital markets. We create liquidity and price transparency in these securities allowing investors to buy and sell them on the secondary market. We exchange national currencies, helping international trade.

We offer products that help a wide range of customers to manage their risks and exposures through, for example, life insurance and pension products for retail customers and receivables finance or

documentary trade instruments for companies. Corporate customers also ask us to help with managing the financial risks arising in their businesses by employing our expertise and market access.

An important way of managing risks arising from changes in asset and liability values and movements in rates is provided by derivative products such as forwards, futures, swaps and options. In this connection, we are an active market-maker and derivative counterparty. Customers use derivatives to manage their risks, for example, by:

 

using forward foreign currency contracts to hedge their income from export sales or costs of imported materials;

 

using an inflation swap to hedge future inflation-linked liabilities, for example, for pension payments;

 

transforming variable payments of debt interest into fixed rate payments, or vice versa; or

 

providing investors with hedges against movements in markets or particular stocks.
 
 

 

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We charge customers a spread, representing the difference between the price charged to the customer and the theoretical cost of executing an offsetting hedge in the market. We retain that spread at maturity of the transaction if the risk management of the position has been effective.

We then use derivatives along with other financial instruments to constrain the risks arising from customer business within risk limits. Normally, our customers both buy and sell relevant instruments, in which case our focus is on managing any residual risks through transactions with other dealers or professional counterparties. Where we do not fully hedge the residual risks we may gain or lose money as market movements affect the net value of the portfolio.

Stress tests and other risk management techniques are also used to ensure that potential losses remain within our risk appetite under a wide range of potential market scenarios.

In addition, we manage risks within HSBC, including those which arise from the business we do with customers.

For further information on our risks, see page 21, and on how we manage them, see page 24.

Long-term sustainability

At HSBC, we understand that the continuing financial success of our business is closely connected to the economic, environmental and social landscape in which we operate. For us, sustainability means building our business for the long term by balancing social, environmental and economic considerations in the decisions we make. This enables us to help businesses thrive, reward shareholders and employees, pay taxes and duties in

the countries in which we operate and contribute to the health and growth of communities. Achieving a sustainable return on equity and long-term profit growth is built on this foundation.

How we do business is as important as what we do: our responsibilities to our customers, employees and shareholders as well as to wider society go far beyond simply being profitable. These include our consistent implementation of the highest standards everywhere we operate to detect, deter and protect against financial crime.

Sustainability underpins our strategic priorities and enables us to fulfil our purpose. Our ability to identify and address environmental, social and ethical developments which present risks or opportunities for the business contributes to our financial success. Sustainable decision-making shapes our reputation, drives employee engagement and affects the risk profile of the business – and can help reduce costs and secure new revenue streams.

Our international presence and the long-established position of many of our businesses in HSBC’s home and priority growth markets, when combined with our wide-ranging portfolio of products and services, differentiate HSBC from our competitors and give our business and operating models an inherent resilience. This has enabled the Group to remain profitable through the most turbulent of times for our industry, and we are confident that the models will continue to stand us in good stead in the future and will underpin the achievement of our strategic priorities.

Our business and operating models are described in more detail on page 12. For further information about sustainability at HSBC, see page 36.

HSBC Values

Embedding HSBC Values in every decision and every interaction with customers and with each other is a top priority for the Group and is shaping the way we do business.

The role of HSBC Values in daily operating practice is fundamental to our culture, and is particularly important in light of developments in regulatory policy, investor confidence and society’s expectations of banks. HSBC Values are integral to the selection, assessment, recognition, remuneration and training of our employees. We expect our executives and employees to act with courageous integrity in the execution of their duties in the following ways:

 

 

HSBC Values

 

Be dependable and do the right thing
 

–  stand firm for what is right, deliver on commitments, be resilient and trustworthy;

 

–  take personal accountability, be decisive, use judgement and common sense, empower others.

 
Be open to different ideas and cultures
 

–  communicate openly, honestly and transparently, value challenge, learn from mistakes;

 

–  listen, treat people fairly, be inclusive, value different perspectives.

 
Be connected with our customers, communities, regulators and each other
 

–  build connections, be externally focused, collaborate across boundaries;

 

–  care about individuals and their progress, show respect, be supportive and responsive.

 
 

 

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    Our strategy

 

 

Long-term trends

 

 

Competitive advantages

 

 

A two-part approach

 

 

Our strategy is aligned to two long-term trends:

 

–   The world economy is becoming ever more interconnected, with growth in world trade and cross-border capital flows continuing to outstrip growth in average gross domestic product. Over the next decade we expect growth in trade and capital flows to outstrip GDP growth and 35 markets to generate 85% of world trade growth with a similar degree of concentration in cross-border capital flows.

 

–   Of the world’s top 30 economies, we expect those of Asia, Latin America, the Middle East and Africa to have increased by around four-fold in size by 2050, benefiting from demographics and urbanisation. By this time they will be larger than those of Europe and North America combined. By 2050, we expect 18 of the 30 largest economies will be from Asia, Latin America or the Middle East and Africa.

 

What matters in this environment is:

 

–   having an international network and global product capabilities to capture international trade and movements in capital; and

 

–   being able to take advantage of organic investment opportunities in the most attractive growth markets and maintaining the capacity to invest.

 

HSBC’s competitive advantages come from:

 

–   our meaningful presence in and long-term commitment to our key strategic markets;

 

–   our business network, which covers over 85% of global trade and capital flows;

 

–   our balanced business portfolio centred on our global client franchise;

 

–   our strong ability to add to our capital base while also providing competitive rewards to our staff and good returns to our shareholders;

 

–   our stable funding base, with about US$1.4 trillion of customer accounts of which 72% has been advanced to customers; and

 

–   our local balance sheet strength and trading capabilities in the most relevant financial hubs.

 

 

Responding to these long-term trends, we have developed a two-pronged approach that reflects our competitive advantages:

 

–   A network of businesses connecting the world. HSBC is well positioned to capture growing international trade and capital flows. Our global reach and range of services place us in a strong position to serve clients as they grow from small enterprises into large multi-nationals through our Commercial Banking and Global Banking & Markets businesses.

 

–   Wealth management and retail with local scale. We aim to capture opportunities arising from social mobility and wealth creation in our priority growth markets across Asia, Latin America and the Middle East, through our Premier proposition and Global Private Banking business. We expect to invest in full scale retail businesses only in markets where we can achieve profitable scale.

 

 

 

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 Business model

Market presence

Our business model is based on an international network connecting and serving a cohesive portfolio of markets.

Our comprehensive range of banking and related financial services is provided by operating subsidiaries and associates. Services are primarily delivered by domestic banks, typically with local deposit bases.

The UK and Hong Kong are our home markets, and a further 19 countries form our priority growth markets (see below). These 21 markets accounted for over 90% of our profit before tax in 2014, and are the primary focus of capital deployment. Network markets are markets with strong international relevance which serve to complement our international presence, operating mainly through Commercial Banking and Global Banking and Markets. Our combination of home, priority growth and network markets covers around 85% of all international trade and financial flows.

The final category, small markets, includes those where our operations are of sufficient scale to operate profitably, or markets where we maintain representative offices.

Our legal entities are regulated by their local regulators and on a Group-wide basis we are regulated from the UK by the Prudential Regulation Authority (‘PRA’) for prudential matters (safety and soundness) and by the Financial Conduct Authority (‘FCA’) for conduct (consumer and market protection).

 

HSBC’s markets

 

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Investment criteria

We use six filters to guide our decisions about when and where to invest. The first two – international connectivity and economic development – determine whether the business is strategically relevant. The next three – profitability, efficiency and liquidity – determine whether the financial position of the business is attractive. The sixth filter – the risk of financial crime – governs our activities in high risk jurisdictions, and is applied to protect us by restricting the scope of our business where appropriate.

Decisions over where to invest additional resources have three components:

 

Strategic: we will only invest in businesses aligned to our strategy, mostly in our home and priority growth markets and in target businesses and clients;

 

Financial: the investment must be value accretive for the Group, and must meet minimum returns, revenue and cost hurdles; and
Risk: the investment must be consistent with our risk appetite.

We conduct an annual geographic and business portfolio review following the six filter approach to update our market and business priorities.

 

Using the six filters in decision-making

 

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Organisation

Our operating model is based on a matrix management structure comprising global businesses, geographical regions and global functions.

The matrix is overlaid on a legal entity structure headed by HSBC Holdings plc.

Holding company

HSBC Holdings, the holding company of the Group, is the primary source of equity capital for its subsidiaries and provides non-equity capital to them when necessary.

Under authority delegated by the Board of HSBC Holdings, the Group Management Board (‘GMB’) is responsible for the management and day-to-day running of the Group, within the risk appetite set by the Board. GMB works to ensure that there are sufficient cash resources to pay dividends to shareholders, interest to bondholders, expenses and taxes.

HSBC Holdings does not provide core funding to any banking subsidiary, nor is it a lender of last resort and does not carry out any banking business in its own right. Subsidiaries operate as separately capitalised entities implementing the Group strategy.

Global management structure

The following table lists our four global businesses, five geographical regions and 11 global functions, and summarises their responsibilities under HSBC’s management structure.

For details of our principal subsidiaries see Note 22 on the Financial Statements. A simplified Group structure chart is provided on page 462.

 

Global management structure

 

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Structural Reform

Banking structural reform and recovery and resolution planning Globally there have been a number of developments relating to banking structural reform and the introduction of recovery and resolution regimes.

As recovery and resolution planning has developed, some regulators and national authorities have also required changes to the corporate structures of banks. These include requiring the local incorporation of banks or ring-fencing of certain businesses. In the UK, ring-fencing legislation has been enacted requiring the separation of retail and small and medium-sized enterprise (‘SME’) deposits from trading activity (see below). Similar requirements have been introduced or are in the process of being introduced in other jurisdictions.

Policy background to recovery and resolution

Following the financial crisis, G20 leaders requested that the Financial Stability Board (‘FSB’) establish more effective arrangements for the recovery and resolution of 28 (now 30) designated Global Systemically Important Banks (‘G-SIBs’), resulting in a series of policy recommendations in relation to recovery and resolution planning, cross-border co-operation agreements and measures to mitigate obstacles to resolution.

In December 2013, the PRA set out rules for the recovery and resolution of UK banks and international banks operating in the UK. These rules were modified as part of the implementation of the EU Bank Recovery and Resolution Directive from January 2015.

HSBC resolution strategy and corporate structure changes

We have been working with the Bank of England, the PRA and our other primary regulators to develop and agree a resolution strategy for HSBC. It is our view that a resolution strategy whereby the Group breaks up at a subsidiary bank level at the point of resolution (referred to as a Multiple Point of Entry strategy) rather than being kept together as a Group at the point of resolution (referred to as a Single Point of Entry strategy) is the optimal approach as it

is aligned to our existing legal and business structure.

In common with all G-SIBs, we are working with our regulators to understand inter-dependencies between different businesses and subsidiary banking entities in the Group in order to enhance resolvability.

We have initiated plans to mitigate or remove critical inter-dependencies to further facilitate the resolution of the Group. In particular, in order to remove operational dependencies (where one subsidiary bank provides critical services to another), we have determined to transfer such critical services from the subsidiary banks to a separately incorporated group of service companies (‘ServCo group’). The ServCo group will be separately capitalised and funded to ensure continuity of services in resolution. A significant portion of the ServCo group already exists and therefore this initiative involves transferring the remaining critical services still held by subsidiary banks into the ServCo group. The services will then be provided to the subsidiary banks by the ServCo group.

UK ring-fencing

In December 2013, the UK’s Financial Services (Banking Reform) Act 2013 (‘Banking Reform Act’) received Royal Assent. It implements most of the recommendations of the Independent Commission on Banking (‘ICB’), which inter alia require large banking groups to ‘ring-fence’ UK retail banking activity in a separately incorporated banking subsidiary (a ‘ring-fenced bank’) that is prohibited from engaging in significant trading activity. For these purposes, the UK excludes the Crown Dependencies. Ring-fencing is to be completed by 1 January 2019.

In July 2014, secondary legislation was finalised. This included provisions further detailing the applicable individual customers to be transferred to the ring-fenced bank by reference to gross worth and enterprises to be transferred based on turnover, assets and number of employees. In addition, the secondary legislation places restrictions on the activities and geographical scope of ring-fenced banks.

In October 2014, the PRA published a consultation paper on ring-fencing rules in

relation to legal structure, governance, and continuity of services and facilities. The PRA intends to undertake further consultations and finalise ring-fencing rules in due course. The PRA also published a discussion paper concerning operational continuity in resolution.

As required by the PRA’s consultation paper, a provisional ring-fencing project plan was presented to the UK regulators in November 2014. This plan provided for ring-fencing of the activities prescribed in the legislation, broadly the retail and SME services that are currently part of HSBC Bank plc (‘HSBC Bank’), in a separate subsidiary.

In addition, the plan reflected the operational continuity expectations of each of the PRA’s consultation and discussion papers by providing for the proposed enhancement of the ServCo group. The plan remains subject to further planning and approvals internally and is ultimately subject to the approval of the PRA, FCA and other applicable regulators.

European banking structural reform

In January 2014, the European Commission published legislative proposals on the structural reform of the European banking sector which would prohibit proprietary trading in financial instruments and commodities, and enable supervisors, at their discretion, to require certain trading activities to be undertaken in a separate subsidiary from deposit taking activities.

The ring-fenced deposit taking entity would be subject to separation from the trading entity including requirements for separate capital and management structures, issuance of own debt and arms-length transactions between entities.

The draft proposals contain a provision which would permit derogation by member states that have implemented their own structural reform legislation, subject to meeting certain conditions. This derogation may benefit the UK in view of the Banking Reform Act.

The proposals are currently subject to discussion in the European Parliament and the Council. The implementation date for any separation under the final rules would depend upon the date on which the final legislation (if any) is agreed.

 

 

 

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Governance

The Board is committed to establishing and maintaining the highest standards of corporate governance wherever we operate. Good corporate governance is critical to HSBC’s long-term success and sustainability.

We believe that a robust and transparent corporate governance framework is vital to the sustainable success of HSBC. Strengthening our corporate governance framework to support the successful implementation of our Global Standards programme is a continuing focus for the Board.

Role of the Board and Committees

The strategy and risk appetite for HSBC is set by the Board, which delegates the day-to-day

running of the business to the GMB. Risk Management Meetings of the GMB are held in addition to regular GMB meetings.

The key roles of the non-executive committees established by the Board are described in the chart below. The terms of reference of the principal non-executive Board committees are available at www.hsbc.com/boardcommittees.

For further details on Group corporate governance, see page 263.

 

 

The committee structure and governance framework of the HSBC Holdings Board

 

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Global businesses

Our four global businesses are Retail Banking and Wealth Management (‘RBWM’), Commercial Banking (‘CMB’), Global Banking and Markets (‘GB&M’) and Global Private Banking (‘GPB’). They are responsible for

developing, implementing and managing their business propositions consistently across the Group, focusing on profitability and efficiency. They set their strategies within the parameters of the Group strategy in liaison with the geographical regions; are responsible for issuing planning guidance

regarding their businesses; are accountable for their profit and loss performance; and manage their headcount.

The main business activities of our global business and their products and services are summarised below.

 

Main business activities by global business in 2014

 

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For footnotes, see page 39.

 

Retail Banking and Wealth Management

Products and services

RBWM takes deposits and provides transactional banking services to enable customers to manage their day-to-day finances and save for the future. We offer credit facilities to assist them in their short or longer-term borrowing requirements and we provide financial advisory, broking, insurance and investment services to help them to manage and protect their financial futures.

We develop products designed to meet the needs of specific customer segments, which may include a range of different services and delivery channels.

 

 

RBWM offers four main types of service:

 

 

  HSBC Premier: we provide a dedicated relationship manager to our mass affluent customers and their immediate families, offering specialist and tailored advice. Customers can access emergency travel assistance, priority telephone banking and an online ‘global view’ of their Premier accounts around the world.

–     HSBC Advance: we offer our emerging affluent customers control over their day-to-day finances and access to a range of preferential products, rates and terms. HSBC Advance is also the start of a relationship where we give customers support and guidance to help them to realise their ambitions.

–     Wealth Solutions & Financial Planning: a financial planning process designed around individual customer needs to help our clients to protect, grow and manage their wealth. We offer investment and wealth insurance products manufactured by Global Asset Management, Markets and HSBC Insurance and by selected third-party providers.

–     Personal Banking: we provide globally standardised but locally delivered, reliable, easy to understand, good-value banking products and services using global product platforms and globally set service standards.

RBWM delivers services through four principal channels: branches, self-service terminals, telephone service centres and digital (internet and mobile).

Customers

RBWM serves nearly 50 million customers. We are committed to building lifelong relationships with our customers as they move from one stage of their lives to the next, offering tailored products and services

appropriate to their diverse goals, aspirations and ambitions. We recognise that some of our customers face financial challenges and, in these cases, we aim to be tolerant, fair and understanding and to support them during difficult times.

We put the customer at the heart of everything we do. We constantly carry out research and invest resources to make sure that customers can access our services conveniently, securely and reliably. We have conducted work to ensure that we sell products that meet their needs and at a price that represents a fair exchange of value between customers and shareholders, and have introduced new incentive programmes that have no formulaic links to sales volumes but are focused on assessing how well we are meeting our customers’ needs.

We measure customer satisfaction through an independent market research survey of retail banking customers in selected countries and calculate a Customer Recommendation Index to measure performance. This is benchmarked against average scores of a peer group of banks in each market and we set targets for our business relative to our competitor set of banks. We expect continuous improvements across markets in which we operate. We aim

 

 

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to handle customer complaints promptly and fairly, monitoring trends to further improve our services.

Commercial Banking

Products and services

CMB provides a broad range of banking and financial services to enable customers to manage and grow their businesses domestically and internationally. We aim to be recognised as the leading international trade and business bank by connecting customers to markets and by enhancing collaboration within the Group, both geographically and between global businesses. A global operating model increases transparency, enables consistency, improves efficiency and ensures the right outcomes for our customers.

 

 

CMB customer offerings typically include:

 

–    Credit and Lending: we offer a broad range of domestic and cross-border financing, including overdrafts, corporate cards, term loans and syndicated, leveraged, acquisition and project finance. Asset finance is also offered in selected countries.

 

–    Global Trade and Receivables Finance: we support customers’ access to the world’s trade flows and provide unrivalled experience in addressing today’s most complex trade challenges. Our comprehensive suite of products and services, letters of credit, collections, guarantees, receivables finance, supply chain solutions, commodity and structured finance and risk distribution, can be combined into global solutions that make it easier for businesses to manage risk, process transactions and fund activities throughout the trade cycle.

 

–    Payments and Cash Management: we are strategically located where most of the world’s payments and capital flows originate. We provide local, regional and global transaction banking services including payments, collections, account services, e-commerce and liquidity management via e-enabled platforms to address the needs of our customers.

 

–    Insurance and Investments: we offer business and financial protection, trade insurance, employee benefits, corporate wealth management and a variety of other commercial risk insurance products in selected countries.

 

–    Collaboration: our CMB franchise represents a key client base for products and services provided by GB&M, RBWM and GPB, including foreign exchange, interest rate, capital markets and advisory services, payroll and personal accounts services and wealth management and wealth transition services.

 

HSBC is leading the development of the renminbi as a trade currency, with renminbi capabilities in more than 50 markets.

Our range of products, services and delivery channels is tailored to meet the needs of specific customer segments.

Customers

We have organised ourselves around our customers’ needs and their degree of complexity by developing three distinct segments within CMB: Business Banking, Mid-Market and Large Corporates.

 

Business Banking now has two distinct needs-based servicing models: relationship managers focused on customers with more complex needs; and portfolio management for customers requiring simpler, more routine products and services.

 

We have brought increased focus to our Mid-Market customers and are re-configuring our organisation and resources across our home and priority growth markets to provide enhanced relationship management.

 

For our Large Corporate customers, who typically have complex and multi-country needs, we provide globally managed senior coverage teams, who are also able to coordinate with other global businesses.

To ensure that our customers remain at the heart of our business, we continue to place the utmost value on customer feedback and customer engagement. We are now in the 6th year of our Client Engagement Programme, a global survey of 15 markets designed to deepen our understanding of our customers and reinforce our relationship with them. This initiative, combined with other insight programmes, helps us to identify customers’ critical business issues so that we can tailor solutions and services offered to better meet their needs.

Building long-term relationships with reputable customers is core to our growth strategy and organisational values.

Global Banking and Markets

Products and services

GB&M provides wholesale capital markets and transaction banking services organised across eight client-facing businesses.

 

 

GB&M products and services include:

 

–    Sales and trading services in the secondary market are provided in Markets, which includes four businesses organised by asset class:

 

–    Credit and Rates sell, trade and distribute fixed income securities to clients including corporates, financial institutions, sovereigns, agencies and public sector issuers. They assist clients in managing risk via interest rate and credit derivatives, and facilitate client financing via repurchase (‘repo’) agreements.

 

–    Foreign Exchange provides spot and derivative products to meet the investment demands of institutional investors, the hedging needs of small and medium-sized enterprises (‘SME’s), middle-market enterprises (‘MME’s) and large corporates in GB&M and CMB, and the needs of RBWM and GPB customers in our branches. Foreign Exchange trades on behalf of clients in over 90 currencies.

 

–    Equities provides sales and trading services for clients, including direct market access and financing and hedging solutions.

 

–    Capital Financing offers strategic financing and advisory services focusing on a client’s capital structure. Products include debt and equity capital raising in the primary market, transformative merger and acquisition advisory and execution, and corporate lending and specialised structured financing solutions such as leveraged and acquisition finance, asset and structured finance, real estate, infrastructure and project finance, and export credit.

 

–    Payments and Cash Management helps clients move, control, access and invest their cash. Products include non-retail deposit taking and international, regional and domestic payments and cash management services.

 

–    Securities Services provides custody and clearing services to corporate and institutional clients and funds administration to both domestic and cross-border investors.

 

–    Global Trade and Receivables Finance provides trade services on behalf of GB&M clients to support them throughout their trade cycle.

In addition to the above, Balance Sheet Management is responsible for the management of liquidity and funding for the Group. It also manages structural interest rate positions within the Markets limit structure.

 

 

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Customers

GB&M provides tailored financial solutions to major governmental, corporate and institutional clients worldwide. Managed as a global business with regional oversight, GB&M operates a long-term relationship management approach to build a full understanding of clients’ financial requirements and strategic goals.

Client coverage is centralised in Banking, which contains relationship managers organised by sector, region and country who work to understand client needs and provide holistic solutions by bringing together our broad array of product capabilities and utilising our extensive global network.

Our goal is to be a ‘Top 5’ bank to our priority clients. We strive to achieve this goal by assembling client coverage teams across our geographical network who work alongside product specialists in developing individually tailored solutions to meet client needs. Our client coverage and product teams are supported by a unique customer relationship management platform and comprehensive client planning process. Our teams utilise these platforms to better serve global client relationships, which facilitates our ability to connect clients to international growth opportunities.

Global Private Banking

Products and services

Drawing on the strength of HSBC and the most suitable products from the marketplace, we work with our clients to provide solutions to grow, manage and preserve wealth for today and for the future. Our products and services include Private Banking, Investment Management and Private Wealth Solutions.

 

 

GPB products and services include:

 

–    Private Banking services comprise multicurrency and fiduciary deposits, account services, and credit and specialist lending. GPB also accesses HSBC’s universal banking capabilities to offer products and services such as credit cards, internet banking and corporate and investment banking solutions.

–    Investment Management comprises advisory and discretionary investment services and brokerage across asset classes. This includes a complete range of investment vehicles, portfolio management, securities services and alternatives.

–    Private Wealth Solutions comprise trusts and estate planning, designed to protect wealth and preserve it for future generations.

Customers

GPB serves the needs of high net worth and ultra-high net worth individuals and their families in our home and priority growth markets.

Within these broad segments, GPB has teams dedicated to serving HSBC’s global priority clients, which include our most significant Group relationships, and other clients who benefit from our private banking proposition and services offered by CMB and GB&M. Our aim is to build and grow connectivity with these customers Group-wide, establishing strong relationships across all global businesses to meet clients’ needs. We aim to build on HSBC’s commercial banking heritage to be the leading private bank for high net worth business owners.

Relationship managers are the dedicated points of contact for our clients, tailoring services to meet their individual needs. They develop a thorough understanding of their clients – including their family, business, lifestyle and ambitions – and introduce them to specialists equipped to help build the best financial strategy. Specialists include:

 

investment advisers, who discuss investment ideas in line with a client’s investment and risk profile;

 

credit advisers, who provide expertise in complex liquidity and lending requirements; and

 

wealth planners, who have the knowledge and expertise to manage wealth now and for future generations.

The use of digital platforms continues to grow in line with strong demand from self-directed clients. These platforms enable clients to access account information, investment research and online transactional capabilities directly. We continue to invest in digital systems to better meet clients’ evolving expectations and needs.

Employees

Successfully enhancing a values-led high performance culture in HSBC is critical to implementing Global Standards sustainably. We continue to focus on embedding HSBC Values in every decision and interaction between colleagues and with customers.

 

We aim to attract, retain and motivate the very best people, and our remuneration policy supports this endeavour.

 

We actively manage succession planning by defining the capabilities we need and complement this by identifying talented individuals and ensuring they are provided with appropriate career and development opportunities to fulfil their potential in HSBC.

 

We provide training and development opportunities to enable employees to acquire the technical and leadership skills needed to enhance their careers.

 

We are committed to a diverse and inclusive culture reflective of our customer base.

 

We encourage employees to engage in the local communities in which they work.

At the end of 2014 we had a total workforce of 266,000 full-time and part-time employees compared with 263,000 at the end of 2013 and 270,000 at the end of 2012. Our main centres of employment were as follows (approximate numbers):

 

 

LOGO

 

 

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Profile of leadership

At the date of this Report, the Executive Management of HSBC consists of four Executive Directors, 11 Group Managing Directors and 60 Group General Managers. Of these, 13 (17%) are female. This leadership team is based in 17 different countries and comprises 13 different nationalities. 71% have served with HSBC for more than 10 years and the total average tenure is 20 years.

HSBC has 13 non-executive Directors.

Employment proposition

HSBC Values

In 2014, education on HSBC Values continued for all levels of employees through induction and other training programmes that covered relevant technical, management and leadership skills. We require a high behavioural standard from all our employees, and our focus on values and courageous integrity continues to be instilled at every level in the Group. For example, our employee induction programme has been refreshed to further reinforce courageous integrity and meeting the needs of our customers. Also, an assessment of adherence to our values and supporting behaviours has been formalised as part of our performance appraisal process for all employees. In 2014, some 145,000 employees received values training in addition to 135,000 employees in 2013. A further 100,000 employees are expected to receive this training in 2015. A number of employees left the Group for breaching our values.

Employee development

The development of employees is essential if our businesses and operations are to strengthen and prosper. We take a systematic approach to identifying, developing and deploying talented employees to ensure we have a robust supply of high calibre individuals with the values, skills and experience for current and future senior management positions.

We keep our approach to training current and under constant review in order to improve the quality of our curricula and ensure employees are equipped with the technical and leadership skills to operate in a global organisation. We are standardising our training to help employees provide a consistently high quality experience for customers in all our markets and support the mitigation of current and emerging risks and the Global Standards programme.

Employee engagement

Strong employee engagement leads to positive commercial outcomes and underpins improved business performance, increased customer satisfaction, higher productivity, talent retention and reduced absenteeism.

We assess our employees’ engagement through our Global People Surveys, which were held annually from 2007 to 2011 and biennially thereafter. The latest Survey, in 2013, focused on supporting a values-led high performance culture by assessing if our employees were engaged in the Group’s purpose and felt able to deliver on our ambition to become the world’s leading international bank.

Our employees’ engagement continues to be positive when compared with the financial services industry and sector best-in-class benchmark. The overall engagement score in 2013 was 68%, which was four percentage points ahead of the financial services industry norm and eight points behind the best-in-class benchmark. Strong scores were registered in risk awareness (81% and nine points above best-in-class benchmark), leadership capability (67%) and living the HSBC Values (77%). Employee development significantly improved from six points below best-in-class in 2011 to three points above in 2013. Aspects that required attention included pride and advocacy, which were 12 and 13 points, respectively, below best in class norms and had fallen from 2011 levels. The next Global People Survey will be conducted in 2015.

HSBC also conducts a regular survey, Snapshot, which is sent to one quarter of our employees every three months. Insights from Snapshot provide a timely indication of employee sentiment towards the organisation, including signifiers of engagement. As at the end of September 2014, the favourable responses to selected questions were: support for HSBC’s strategy, 81%; intend to still be working at HSBC in three years’ time, 74%; pride in working for HSBC, 79%; and willingness to recommend HSBC to other senior professionals as a great place to further their career, 68%. Aspects for further attention include helping employees see the positive effects of HSBC’s strategic priorities, 62%.

Succession planning

Our talent strategy aims to ensure that high-quality candidates are available to fill key positions and meet business needs across all areas of the Group. We directly align succession planning with talent management, individual development and career planning. The succession plan defines the number, distribution, types of roles and capabilities needed by HSBC, and talented individuals are then aligned to these roles. This approach in turn defines the individual’s career path and development plan. In 2014, we assessed 104 senior employees with the potential to become leaders and determined their career development needs. Potential successors must demonstrate an understanding of our Global Standards and exemplify HSBC Values.

Our talent strategy supports our aspirations in emerging markets, where in 2014 the representation of those defined as talent was 34%. We closely monitor local nationals identified as short-term and medium-term successors to key leadership roles so as to improve the proportion of local nationals in senior management over the medium term.

Diversity and inclusion

HSBC is committed to a diverse and inclusive culture where employees can be confident their views are encouraged, their concerns are attended to, they work in an environment where bias, discrimination and harassment on any matter (including gender, age, ethnicity, religion, sexuality and disability) are not tolerated, and advancement is based on merit. Our diversity helps us support our increasingly diverse customer base and acquire, develop and retain a secure supply of skilled and committed employees.

Oversight of our diversity and inclusion agenda resides with senior executives on the Group Diversity Committee, complemented by a number of subsidiary People/Diversity Committees. We have over 55 employee network groups representing gender, ethnicity, age, sexuality, disability, religion, culture, working parents, health and community volunteering. These groups are instrumental in driving an inclusive culture and maintaining effective dialogue between management and employees.

 

 

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Gender balance

An area of continued focus is gender representation, particularly at senior levels of our organisation. We are addressing bias in hiring, promotions and talent identification, expanding mentoring and sponsorship, introducing better support for returning parents and increasing flexible working opportunities.

The gender balance for HSBC Directors and employees at 31 December 2014 was as follows:

Gender balance

 

    Headcount  
    Male     Female     Total  

Executive Directors

  4           4   

Non-executive Directors

  6      6      12   

Directors

  10      6      16   

Senior employees

  6,719      2,076      8,795   

Other employees

  120,496      136,966      257,462   

Total

  127,225      139,048      266,273   
    %  
    Male     Female     Total  

Executive Directors

  100           100   

Non-executive Directors

  50.0      50.0      100   

Directors

  62.5      37.5      100   

Senior employees

  76.4      23.6      100   

Other employees

  46.8      53.2      100   

Total

  47.8      52.2      100   

Overall, Group-wide female representation was 52.2% at 31 December 2014, largely unchanged on 2013. Female representation at senior levels rose from 22.7% in 2013 to 23.6% in 2014, and our target is to improve this to 25% by 2015. The proportion of females in our talent pipeline improved from 32.2% in 2013 to 34.0% in December 2014 and female representation on the GMB was 20% (three out of fifteen) in December 2014.

The average age of our employees was 36.2 years and average tenure was 8.5 years.

Unconscious bias

It is recognised that social behaviour may be driven by stereotypes that operate automatically and therefore unconsciously. These stereotypes can lead to a less inclusive environment. We are addressing this by incorporating inclusive behaviours in our processes and continue to deliver ‘unconscious bias’ training to 8,700 managers and 18,500 employees in 2014 (8,300 managers and 50,000 employees in 2013).

In 2015, our diversity and inclusion priorities will continue to address unconscious bias through targeted education, encourage the career development of diverse talent with a continued emphasis on gender and local nationals and extend inclusion to cover wider aspects of diversity, for example, sexual orientation, ethnicity and disability. We continue to enhance a bias-free approach to performance management and improve internal and external candidate lists, connecting and utilising our Employee Resource Network Groups globally and maintaining a consistent global framework of governance and sponsorship to drive a diverse and inclusive culture throughout the Group.

Health, welfare and safety

We regard the physical and psychological health, welfare and safety of our people as being of the utmost importance. We recently introduced a global occupational health framework which requires the proactive management of employee welfare and encourages the sharing of best practice across the Group. Between August 2012 and the end of 2014, 96% of assigned HSBC employees carried out our bi-annual online health and safety training.

We run a number of employee assistance programmes tailored to local requirements. Skilled professional counsellors are available on free phone lines 24 hours a day and seven days a week to help employees manage personal or work-related problems that create stress and affect their work. Free face-to-face counselling is also provided, as is support for partners and dependents. Programmes are offered in the UK, Hong Kong, North America and India.

Whistleblowing

HSBC operates a global Compliance disclosure line (telephone and email) which is available to allow employees to make disclosures when the normal channels for airing grievances or concerns are unavailable or inappropriate. The Compliance disclosure line is available to capture employee concerns on a number of matters, including breaches of law or regulation, allegations of bribery and corruption, failure to comply with Group policies, suspicions of money laundering, breaches of internal controls and fraud or deliberate error in the financial records of any Group company. Global Regulatory Compliance is responsible for the operation of the Compliance disclosure line and the handling of disclosure cases. Cases are reviewed and referred for appropriate investigation. Whistleblowing cases may also be raised directly with senior executives, line managers, Human Resources and Security and Fraud.

Additional local whistleblowing lines are in place in several countries, operated by Security and Fraud, Human Resources and Regulatory Compliance. Disclosures made on the local whistleblowing lines are escalated to Global Regulatory Compliance or Financial Crime Compliance. Global Regulatory Compliance also monitors an external email address for complaints regarding accounting and internal financial controls or auditing matters (accountingdisclosures@hsbc.com highlighted under Investor Relations and Governance on www.hsbc.com). Cases received are escalated to the Group Chief Accounting Officer, Group Finance Director or Group Chief Executive as appropriate.

HSBC’s policies and procedures for capturing and responding to whistleblowing disclosures relating to accounting or auditing matters are overseen by the Group Audit Committee. Those relating to other whistleblowing disclosures are overseen by the Conduct & Values Committee.

Disclosures and actions taken are reported on a periodic basis to the Conduct & Values Committee, Group Audit Committee and the Financial System Vulnerabilities Committee in respect of matters relating to financial crime compliance.

 

 

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Risk overview

All our activities involve, to varying degrees, the measurement, evaluation, acceptance and management of risk or combinations of risks.

As a provider of banking and financial services, we actively manage risk as a core part of our day-to-day activities. We employ a risk management framework at all levels of the organisation, underpinned by a strong risk culture and reinforced by HSBC Values and our Global Standards. It ensures that our risk profile remains conservative and aligned to our risk appetite, which describes the type and quantum of risk we are willing to accept in achieving our strategic objectives.

Risk and our strategic priorities

The Group’s three strategic priorities are reflected in our management of risk.

Grow the business and dividends – we ensure risk is maintained at an acceptable and appropriate level while creating value and generating profits.

Implement Global Standards – we are transforming how we detect, deter and protect against financial crime through the deployment of Global Standards, which govern how we do business and with whom.

Streamline processes and procedures – our disposal programme has made HSBC easier to manage and control. By focusing on streamlining our processes and procedures, we are making HSBC less complex and

complicated to operate, creating capacity for growth.

Our business and operating models are described on page 12. For further information on Global Standards, see page 26.

Risk in 2014

Concerns remained during 2014 over the sustainability of economic growth in both developed and emerging markets, while geopolitical tensions rose or remained high in many parts of the world.

We continued to sustain a conservative risk profile based on our core philosophy of maintaining balance sheet, liquidity and capital strength by reducing exposure to the most likely areas of stress:

 

we managed selectively our exposures to sovereign debt and bank counterparties to ensure that the overall quality of the portfolio remained strong;

 

we regularly assessed higher risk countries and sectors and adjusted our risk appetite, limits and exposures accordingly;

 

we use stress testing, both internal and regulatory programmes, to assess vulnerabilities and proactively adjust our portfolios, where required;

 

we continued to reposition and exit certain portfolios through our six filters process (see page 12) and our focus on certain products or customer segments;

 

we made our client selection filters more robust in managing the risk of financial crime; and
we mitigated risks, for example reputational and operational, when they were forecast to exceed our risk appetite.

The diversification of our lending portfolio across global businesses and geographical regions, together with our broad range of products, ensured that we were not overly dependent on a limited number of countries or markets to generate income and growth.

We monitored a range of key risk metrics in 2014 as part of our risk appetite process, supported by a limit and control framework.

Risk appetite is discussed on page 25.

Our approach to stress testing is discussed on page 117 and regulatory stress testing programmes on page 125.

Risks incurred in our business activities

Our principal banking risks are credit risk, liquidity and funding risks, market risk, operational risk, compliance risk, fiduciary risk, reputational risk, pension risk and sustainability risk. We also incur insurance risk.

The chart overleaf provides a high level guide to how our business activities are reflected in our risk measures and in the Group’s balance sheet. The third-party assets and liabilities indicate the contribution each business makes to the balance sheet, while RWAs illustrate the relative size of the risks incurred in respect of each business.

For a description of our principal risks, see page 114.

 

 

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Exposure to risks arising from the business activities of global businesses

 

 

LOGO

For footnote, see page 39.

For further information on credit risk, see page 127; capital and risk-weighted assets, see page 238; market risk, including value at risk, see page 175; and operational risk see page 186.

 

Top and emerging risks

Identifying and monitoring top and emerging risks are integral to our approach to risk management.

We define a ‘top risk’ as being a current, emerged risk which has arisen across any of our risk categories, global businesses or regions and has the potential to have a material impact on our financial results or our reputation and the sustainability of our long-term business model, and which may form and crystallise within a one-year time horizon. We consider an ‘emerging risk’ to be one with potentially significant but uncertain outcomes which may form and crystallise beyond a year, in the event of which it could have a material effect on our ability to achieve our long-term strategy.

Our top and emerging risk framework enables us to identify and manage current and forward-looking risks to ensure our risk appetite remains appropriate. The ongoing

assessment of our top and emerging risks is informed by a comprehensive suite of risk factors which may result in our risk appetite being revised.

During 2014, senior management paid particular attention to a number of top and emerging risks. Our current ones are summarised overleaf.

We made a number of changes to our top and emerging risks during 2014 to reflect our assessment of their effect on HSBC. ‘Macroeconomic risks arising from an emerging market slowdown’ was replaced by ‘Economic outlook and government intervention’ as developed economies demonstrated signs of stress in the second half of 2014. ‘Third party risk management’ was identified as an emerging risk due to the risks associated with the use of third-party service providers, which may be less transparent and more challenging to manage or influence. While ‘People risk’ is inherent

within a number of our top and emerging risks, it has now been disclosed as a standalone risk, as the risks in this area continue to heighten.

When the top and emerging risks listed below resulted in our risk appetite being exceeded, or had the potential to exceed our risk appetite, we took steps to mitigate them, including reducing our exposure to areas of stress. Given the impact on the Group of breaching the US Deferred Prosecution Agreement (‘US DPA’), significant senior management attention was given to tracking and monitoring our compliance with its requirements and improving policies, processes and controls to help minimise the risk of a breach.

For a detailed account of these risks see page 118 and for a summary of our risk factors, see page 113.

 

 

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Top and emerging risks –   LOGO  /  LOGO   

 

 

 Risk

 

     

 

Description

 

  

 

Mitigants

 

 

 Macroeconomic and geopolitical risk

 

LOGO    Economic outlook and government intervention   

Weak economic growth in both developed and emerging market countries could adversely affect global trade and capital flows and our profits from operations in those countries.

 

   We closely monitor economic developments in key markets and appropriate action is taken as circumstances evolve.

 

LOGO

   Increased geopolitical risk   

Our operations are exposed to risks arising from political instability and civil unrest in a number of countries, which may have a wider effect on regional stability and regional and global economies.

 

   We monitor the geopolitical and economic outlook, particularly in countries where we have material exposures and/or a physical presence.

 

 Macro-prudential, regulatory and legal risks to our business model

 

 

LOGO

   Regulatory developments affecting our business model and Group profitability   

Governments and regulators continue to develop policies which may impose new requirements, particularly in the areas of capital and liquidity management and business structure.

 

   We engage closely with governments and regulators in the countries in which we operate to help ensure that the new requirements are considered properly.

 

LOGO

   Regulatory investigations, fines, sanctions, commitments and consent orders and requirements relating to conduct of business and financial crime negatively affecting our results and brand   

Financial service providers are at risk of regulatory sanctions or fines related to conduct of business and financial crime.

 

Breach of the US DPA may allow the US authorities to prosecute HSBC with respect to matters covered thereunder.

  

Programmes to enhance the management of conduct are progressing in all global businesses and functions.

 

We continue to take steps to address the requirements of the US DPA and other consent orders in consultation with the relevant regulatory agencies.

 

LOGO

   Dispute risk   

HSBC is party to legal proceedings arising out of its normal business operations which could give rise to potential financial loss and significant reputational damage.

 

  

We identify and monitor emerging regulatory and judicial trends.

 

We are enhancing our financial crime and regulatory compliance controls and resources.

 

 Risks related to our business operations, governance and internal control systems

 

 

LOGO

   Heightened execution risk   

The complexity of projects to meet regulatory demands and risks arising from business and portfolio disposals may affect our ability to execute our strategy.

 

   We have strengthened our prioritisation and governance processes for significant projects.

 

LOGO

   People risk    Significant demands are being placed on the human capital of the Group due to the extent of the regulatory reform agenda.   

We have reviewed our remuneration policy to ensure we can remain competitive and retain our key talent and continue to increase the level of specialist resources in key areas.

 

 

LOGO

   Third-party risk management   

Risks arising from the use of third-party service providers may be less transparent and more challenging to manage or influence.

 

   We are strengthening our risk management processes and procedures in relation to the use and monitoring of third-party service providers.

 

LOGO

   Internet crime and fraud   

HSBC is increasingly exposed to fraudulent and criminal activities as a result of increased usage of internet and mobile channels.

 

   We continually assess these threats as they evolve and adapt our controls and defences to mitigate them.

 

LOGO

   Information security risk    HSBC and other multinational organisations continue to be the targets of cyber attacks.   

We have invested significantly in staff training and enhanced multi-layered controls to protect our information and technical infrastructure.

 

 

LOGO

   Data management   

New regulatory requirements necessitate more frequent and granular data submissions, which must be produced on a consistent, accurate and timely basis.

 

   Our Data Strategy Board is driving consistent data aggregation, reporting and management across the Group.

 

LOGO

   Model risk   

Adverse consequences could result from decisions based on incorrect model outputs or from models that are poorly developed, implemented or used.

 

   Model development, usage and validation are subject to governance and independent review.

 

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How we manage risk

Managing risk effectively is fundamental to the delivery of our strategic priorities.

Our enterprise-wide risk management framework fosters the continuous monitoring of the risk environment and an integrated evaluation of risks and their

interactions. It also ensures that we have a robust and consistent approach to risk management at all levels of the organisation and across all risk types.

This framework is underpinned by a strong risk culture, which is instrumental in aligning the behaviours of individuals with the

Group’s attitude to assuming and managing risk and ensuring that our risk profile remains in line with our risk appetite and strategy. It is reinforced by the HSBC Values and our Global Standards.

Our approach to managing risk is summarised below.

 

 

Driving our risk culture

 

 

LOGO

 

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Risk appetite

The Group’s risk appetite statement (‘RAS’) is a key component in the management of risk. It describes the types and quantum of risks that we are willing to accept in achieving our medium and long-term strategic objectives. The RAS is approved by the Board on the advice of the Group Risk Committee.

Our risk appetite is established and monitored via the Group risk appetite framework, which provides a globally consistent and structured approach to the management, measurement and control of risk in accordance with our core risk principles. The framework outlines the processes, policies, metrics and governance bodies and how to address risk appetite as part of day-to-day business and risk management activities.

The RAS guides the annual planning process by defining the desired forward-looking risk profile of the Group in achieving our strategic objectives and plays an important role in our six filters process. Our risk appetite may be revised in response to our assessment of the top and emerging risks we have identified.

Quantitative and qualitative metrics are assigned to a number of key categories including returns, capital, liquidity and funding, securitisations, cost of risk and intra-Group lending, risk categories such as credit, market and operational risk, risk diversification and concentration, and financial crime compliance. These measures are reviewed annually for continued relevance.

Measurement against the metrics:

 

guides underlying business activity, ensuring it is aligned to risk appetite statements;

 

enables the key underlying assumptions to be monitored and, where necessary, adjusted through subsequent business planning cycles;

 

allows the business decisions needed to mitigate risk to be promptly identified; and

 

informs risk-adjusted remuneration.

Risk appetite is embedded in day-to-day risk management decisions through the use of risk tolerances and limits for material risk types. This ensures that our risk profile remains aligned with our risk appetite, balancing risk and returns.

Global businesses and geographical regions are required to align their risk appetite statements with the Group’s.

Some of the core metrics that were measured, monitored and presented monthly to the Risk Management Meeting of the GMB during 2014 are tabulated below:

Key risk appetite metrics

 

    2014  
  target   actual  

Common equity
tier 1 ratio1

  > 10%     11.1%   

Return on equity

 

 

 

 

Trending

upwards to

12-15%

by 2016

  

  

  

  

  7.3%   

RoRWA13

  2.2-2.6%      1.5%   

Cost efficiency ratio

  Mid-50s     67.3%   

Advances to customer accounts ratio

  Below 90%     72.2%   

Cost of risk (loan impairment charges)

 

 
 

Below 15%

of operating
income

  

  
  

  5.4%   

For footnotes, see page 39.

In the early part of 2014, we undertook our annual review of our risk appetite statement. It was approved by the Risk Managament Meeting of the GMB in January 2014 and the HSBC Holdings Board in February 2014. The core aspects of the RAS were incorporated into the 2014 scorecards for the Executive Directors, as set out on page 405 of the Annual Report and Accounts 2013.

We also strengthened the Group’s RAS in 2014 by incorporating into it measures related to the core financial crime compliance principles of deterrence, detection and protection.

Targets for 2015 are discussed on page 32.

For details of requirements under CRD IV, see page 239.

How risk affects our performance

The management of risk is an integral part of all our activities. Risk measures our exposure to uncertainty and the consequent variability of return.

Credit metrics in our retail portfolio benefited from the continued sale of non-strategic portfolios, an improved economic environment across many markets and growth in Asia and in the core business in the US, while our wholesale portfolios remained broadly stable with an overall favourable change in key impairment metrics. Loan impairment charges fell for reasons outlined on page 29.

Operational losses rose, driven by UK customer redress programme charges and settlements relating to legal and regulatory matters. There are many factors which could affect estimated liabilities with respect to legal and regulatory matters and there remains a high degree of uncertainty as to the eventual cost of fines, penalties and redress for these matters.

HSBC is party to legal proceedings, investigations and regulatory matters in a number of jurisdictions arising out of our normal business operations. Our provisions for legal proceedings and regulatory matters and for customer remediation at 31 December 2014 totalled US$4.0bn.

The reported results of HSBC reflect the choice of accounting policies, assumptions and estimates that underlie the preparation of our consolidated financial statements and reflect our assessment of the financial impact of risks affecting the Group.

For a description of material legal proceedings and regulatory matters, see Note 40 on the Financial Statements on page 446.

Provisions for legal proceedings and regulatory matters and for customer remediation are disclosed in Note 29 on the Financial Statements on page 420.

For details of operational losses, see page 188.

For details of our critical accounting estimates and judgements, see page 62.

 

 

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Strategic priorities

We previously defined three interconnected and equally weighted priorities for 2014 to 2016 to help us deliver our strategy:

 

grow the business and dividends;

 

implement Global Standards; and

 

streamline processes and procedures.

Each priority is complementary and underpinned by initiatives within our day-to-day business. Together, they create value for our customers and shareholders and contribute to the long-term sustainability of HSBC.

In the process, we shall maintain a robust, resilient and environmentally sustainable business in which our customers can have confidence, our employees can take pride and our communities can trust.

Grow the business and dividends

In growing the business and dividends, our targets are to grow risk-weighted assets in line with our organic investment criteria, progressively grow dividends, while reducing the effect of legacy and non-strategic activities on our profit and RWAs.

Our strategy is to take advantage of the continuing growth of international trade and capital flows, and wealth creation, particularly in Asia, the Middle East and Latin America. We aim to achieve growth by leveraging our international network and client franchise to improve HSBC’s market position in products aligned to our strategy.

To facilitate this growth, we recycle RWAs from low into high performing businesses within our risk appetite.

In 2014, we launched a number of investment priorities to capitalise on our global network and accelerate organic growth:

 

Global Trade and Receivables Finance: We are investing in our sales and product capabilities, particularly for high growth products and trade corridors, and expanding in trade hubs as a means of reinforcing HSBC’s leading position in trade.
Payments and Cash Management: We aim to deliver improved client coverage and products via investments in better sales coverage and customer proposition and mobile enhancements.

 

Foreign Exchange: We aim to improve our services to clients and efficiency by improving our electronic trading platforms and capabilities.

 

Renminbi: Building on our market-leading position, we are investing to roll out our renminbi servicing capabilities internationally, with the aim of capturing a larger share of offshore renminbi foreign exchange and capital markets opportunities.

Industry awards and market share gains have validated our strategy. Our market shares in core international connectivity products such as Payments and Cash Management, Global Trade and Receivables Finance and Foreign Exchange have all improved consistently over the past three years. For three consecutive years, including 2014, HSBC has been voted the top global cash manager for corporate and financial institutions in the Euromoney Cash Management survey. In the same survey, HSBC was voted best global cash manager for non-financial institutions for a second consecutive year in 2014. We have also been voted the ‘Best Overall for Products and Services’ by Asiamoney in its Offshore Renminbi Services survey every year since the survey’s inception in 2012.

We aim to continue investing in key growth markets and align global resources to city clusters with fast-growing international revenue pools:

 

UK and Hong Kong as our home markets: Our goal is to strengthen and develop our home market position in key products, such as mortgages and personal lending.

 

China: Mainland China continues to be of strategic significance for HSBC and presents a structural long-term growth opportunity. We therefore continue to invest in organic growth, particularly in Guangdong and other economically important regions. We strive to invest and be the first to capture opportunities that may arise from regulatory changes such as the introduction of the Shanghai Free-Trade Zone.

 

US and Germany: We continue to improve our position in the world’s largest economy and in Europe’s leading
  trade nation through the expansion of our corporate franchise. In 2014, we broadened our customer base by enhancing our products, widening our geographical coverage and adjusting our risk appetite. International revenues increased through deeper relationships with customers and developing cross-business opportunities.

Our universal banking model enables us to generate revenues across global businesses. In 2014, cross-business collaboration revenues grew in all of our identified opportunities, except for Markets revenue from CMB customers primarily due to lower foreign exchange volatility. Approximately half of the total collaboration revenues for the year came from Markets and Capital Financing products provided to CMB customers. In GPB, net new money resulting from cross-business client referrals doubled from 2013.

Implement Global Standards

At HSBC, we are adopting the highest or most effective financial crime controls and deploying them everywhere we operate.

Two new global policies set out these controls for anti-money laundering (‘AML’) and sanctions. They are our Global Standards.

In line with our ambition to be recognised as the world’s leading international bank, we aspire to set the industry standard for knowing our customers and detecting, deterring and protecting against financial crime. Delivering on this means introducing a more consistent, comprehensive approach to managing financial crime risk – from understanding more about our customers, what they do and where and why they do it, to ensuring their banking activity matches what we would expect it to be.

We aim to apply our financial crime risk standards throughout the lifetime of our customer relationships: from selecting and onboarding customers to managing our ongoing relationships and monitoring and assessing the changing risk landscape in the bank.

Our new global AML policy is designed to stop criminals laundering money through HSBC. It sets out global requirements for carrying out customer due diligence, monitoring transactions and escalating concerns about suspicious activity.

 

 

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Our new global sanctions policy aims to ensure that we comply with local sanctions-related laws and regulations in countries where we operate, as well as with global sanctions imposed by the UN Security Council, European Union, US, UK and Hong Kong governments.

In many cases, our policy extends beyond what we are legally required to do, reflecting the fact that HSBC has no appetite for business with illicit actors.

We expect our Global Standards to underpin our business practices now and in the future, and to provide a source of competitive advantage. Global Standards are expected to allow us to:

 

strengthen our response to the ongoing threat of financial crime;

 

make consistent – and therefore simplify – the ways by which we monitor and enforce high standards at HSBC;

 

strengthen policies and processes that govern how we do business and with whom; and

 

ensure that we consistently apply our HSBC Values.

Implementing Global Standards

Each global business and Financial Crime Compliance have identified where and how they need to enhance existing procedures to meet the Global Standards. They are now in the process of deploying the systems, processes, training and support to put the enhanced procedures into practice in each country of operation.

This is being done in two stages:

 

delivering policy components with limited infrastructure dependency according to an accelerated timeline; and

 

implementing, in parallel, long-term strategic control enhancements and associated enhancements to infrastructure.

During 2014, we made material progress in a number of areas, including:

 

global implementation of customer selection policies and governance;

 

first deployment of enhanced customer due diligence procedures for gathering and verifying customer information;
integration of global sanctions screening lists into our customer and transaction screening tools;

 

targeted training for the highest risk roles and all-employee campaigns to raise awareness of financial crime risk and encourage escalation;

 

global roll out of financial intelligence and investigations units to follow up on escalations and alerts, and identify emerging trends and issues; and

 

the establishment of global procedures and governance to exit business that is outside our financial crime risk appetite.

Governance framework

The global businesses and Financial Crime Compliance, supported by HSBC Technology and Services, are formally accountable for delivering business procedures, controls and the associated operating environment to implement our new policies within each global business and jurisdiction. This accountability is overseen by the Global Standards Execution Committee, which is under the chairmanship of the Group Chief Risk Officer and consists of the Chief Executive Officers of each global business and the Global Head of Financial Crime Compliance.

Correspondingly, and to promote closer integration with business as usual, a report on the implementation of Global Standards is a standing item at the Group’s Risk Management Meeting. The Financial System Vulnerabilities Committee and the Board continue to receive regular reports on the Global Standards programme as part of their continued role in providing oversight.

Risk appetite

Financial crime risk controls are a part of our everyday business and they are governed according to our global financial crime risk appetite statement. This aims to ensure sustainability in the long term. Our overarching appetite and approach to financial crime risk is that we will not tolerate operating without the systems and controls in place designed to detect and prevent financial crime and will not conduct business with individuals or entities we believe are engaged in illicit behaviour.

Enterprise-wide risk assessment

We have conducted our second annual enterprise-wide assessment of our risks and controls related to sanctions and AML compliance. The outcome of this assessment has formed the basis for risk management planning, prioritisation and resource allocation for 2015.

The Monitor

Under the agreements entered into with the US Department of Justice (‘DoJ’), the UK FCA (formerly the Financial Services Authority (‘FSA’)) and the US Federal Reserve Board (‘FRB’) in 2012, including the five-year Deferred Prosecution Agreement (‘US DPA’), an independent compliance monitor (‘the Monitor’) was appointed to evaluate our progress in fully implementing our obligations and produce regular assessments of the effectiveness of our Compliance function.

Michael Cherkasky began his work as the Monitor in July 2013, charged with evaluating and reporting upon the effectiveness of the Group’s internal controls, policies and procedures as they relate to ongoing compliance with applicable AML, sanctions, terrorist financing and proliferation financing obligations, over a five-year period.

HSBC is continuing to take concerted action to remedy AML and sanctions compliance deficiencies and to implement Global Standards. HSBC is also working to implement the agreed recommendations flowing from the Monitor’s 2013 review. We recognise we are only part way through a journey, being two years into our five-year US DPA. We look forward to maintaining a strong, collaborative relationship with the Monitor and his team.

 

 

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Streamline processes and procedures

We continue to refine our operational processes, develop our global functions, implement consistent business models and streamline IT.

Since 2011, we have changed how HSBC is managed by introducing a leaner reporting structure and establishing an operating model with global businesses and functions. These changes – together with improvements in software development productivity, process optimisation and our property portfolio – realised US$5.7bn in sustainable savings, equivalent to US$6.1bn on an annualised (run rate) basis. This exceeded our commitment to deliver US$2.5–3.5bn of sustainable savings at the outset of the organisational effectiveness programme included in the first phase of our strategy.

Sustainable savings arise from the reduction or elimination of complexity, inefficiencies or unnecessary activities, and release capital that can be reinvested in growing our business as well as increase returns to shareholders.

The reorganisation of the Group into four global businesses and eleven global functions further allows us to run globally consistent operating models. This establishes the foundation for our next stage of streamlining.

Going forward, we aim to fund investments into growth and compliance and offset inflation through efficiency gains. This requires net cost reductions. This programme will be applied to:

 

improving the end-to-end optimisation of processes and servicing channels;

 

technology simplification, reducing the number of applications used across the Group; and

 

enhancing infrastructure, including optimising our real estate utilisation and the location where certain activities are carried out.

Streamlining is expected to be achieved through a combination of simplifying and globalising our processes, products, systems and operations. ‘Simplifying’ involves identifying inefficiencies or excessive complexity and redesigning or rationalising processes to make them easier to understand and manage and more efficient. ‘Globalising’ involves developing standard global processes and implementing them around the Group.

Cost efficiency ratio

Our cost efficiency ratio for 2014 was 67.3%, up from 59.6% in 2013. This change was driven by higher legal, regulatory and conduct settlement costs; inflationary pressures; continued investment in strategic initiatives; and a rise in the bank levy. Cost increases were partly offset by realised sustainable savings of US$1.3bn.

Outcomes

Financial performance

Performance reflected lower gains on disposals and the negative effect of other significant items.

Reported results

 

   

2014

US$m

   

2013

US$m

   

2012

US$m

 

Net interest income

  34,705      35,539      37,672   

Net fee income

  15,957      16,434      16,430   

Other income

  10,586      12,672      14,228   

Net operating income16

  61,248      64,645      68,330   

LICs15

  (3,851)      (5,849   (8,311

Net operating income

  57,397      58,796      60,019   

Total operating expenses

  (41,249)      (38,556   (42,927

Operating profit

  16,148      20,240      17,092   

Income from associates16

  2,532      2,325      3,557   

Profit before tax

  18,680      22,565      20,649   

For footnotes, see page 39.

Profit before tax of US$18.7bn on a reported basis was US$3.9bn or 17% lower than that achieved in 2013. This primarily reflected lower business disposal and reclassification gains and the negative effect, on both revenue and costs, of other significant items including fines, settlements, UK customer redress and associated provisions.

Reported net operating income before loan impairment charges and other credit risk provisions (‘revenue’) of US$61bn was US$3.4bn or 5% lower than in 2013. In 2014 there were lower gains (net of losses) from disposals and reclassifications (2013 included a US$1.1bn accounting gain arising from the reclassification of Industrial Bank Co. Limited (‘Industrial Bank’) as a financial investment following its issue of additional share capital to third parties, and a US$1.1bn gain on the sale of our operations in Panama). In addition, other significant items included adverse fair value movements on non-qualifying hedges of US$0.5bn compared with favourable movements of US$0.5bn in 2013, a US$0.6bn provision arising from the ongoing review of compliance with the Consumer Credit Act in the UK as well as a net adverse movement on debit valuation adjustments on derivative contracts of US$0.4bn. These factors were partially offset by favourable fair value

 

 

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movements of US$0.4bn on our own debt designated at fair value, which resulted from changes in credit spreads, compared with adverse movements of US$1.2bn in 2013 together with a US$0.4bn gain on the sale of our shareholding in Bank of Shanghai in 2014.

Loan impairment charges and other credit risk provisions (‘LICs’) of US$3.9bn were US$2.0bn or 34% lower than in 2013, notably in North America, Europe and Latin America.

Operating expenses of US$41bn were US$2.7bn or 7% higher than in 2013, primarily as a result of significant items which were US$0.9bn higher than in 2013. These included settlements and provisions in connection with foreign exchange investigations of US$1.2bn and a charge of US$0.6bn in the US relating to a settlement agreement with the Federal Housing Finance Agency.

Income from associates of US$2.5bn was US$0.2bn or 9% higher than 2013, primarily reflecting the non-recurrence of an impairment charge of US$106m on the investment in our banking associate in Vietnam in 2013.

The Board approved a 5% increase in the fourth interim dividend in respect of 2014 to US$0.20 per share, US$0.01 higher than the fourth interim dividend in respect of 2013. Total dividends in respect of 2014 were US$9.6bn (US$0.50 per share), US$0.4bn higher than in 2013.

The transitional CET1 ratio of 10.9% was up from 10.8% at the end of 2013 and our end point basis of 11.1% was up from 10.9% at the end of 2013, as a result of continued capital generation and management actions offset by RWA growth, foreign exchange movements and regulatory changes.

Adjusted performance

For further information on non-GAAP financial measures, see page 40 for adjusted and www.hsbc.com for return on tangible equity.

 

From reported results to adjusted performance

 

To arrive at adjusted performance:

 

–    

 

we adjust for the year-on-year effects of foreign currency translation; and

 

  we adjust for the effect of significant items.

 

Reconciliations of our reported results to an adjusted basis are set out on page 44.

On an adjusted basis, profit before tax of US$23bn was broadly unchanged compared with 2013. Lower LICs, notably in North America, Europe and Latin

America, together with a marginal rise in revenue was largely offset by higher operating expenses.

The following commentary is on an adjusted basis.

Revenue was broadly unchanged. Growth in CMB, notably in our home markets of Hong Kong and the UK, was offset by decreased revenue in RBWM, GB&M and GPB

Revenue rose by US$0.1bn to US$62bn. Revenue increased in CMB following growth in average lending and deposit balances in Hong Kong, together with rising average deposit balances and wider lending spreads in the UK. Revenue also benefited from higher term lending fees in the UK.

These factors were mostly offset by lower revenue in RBWM, GB&M and GPB. In RBWM, it was primarily driven by the run-off of our US Consumer and Mortgage Lending (‘CML’) portfolio with revenue in Principal RBWM broadly unchanged. In GB&M, revenue was lower due to the introduction of the funding fair value adjustment (‘FFVA’) on certain derivative contracts which resulted in a charge of US$263m, together with a decrease from our Foreign Exchange business, partly offset by an increase in Capital Financing. In GPB, revenue was down reflecting a managed reduction in client assets as we continued to reposition the business, and reduced market volatility.

LICs fell in the majority of our regions, notably in North America, Europe and Latin America

LICs were US$1.8bn or 31% lower than in 2013, primarily in North America and mainly in RBWM, reflecting reduced levels of delinquency and new impaired loans in the CML portfolio, together with decreased lending balances from the continued portfolio run-off and loan sales. LICs were also lower in Europe, mainly reflecting a fall in individually assessed charges in the UK in CMB and GB&M, and higher net releases of credit risk provisions on available-for-sale asset-backed securities (‘ABS’s) in GB&M in the UK. LICs were lower in Latin America too, primarily in Mexico and, to a lesser extent, in Brazil. In Mexico, the decrease in LICs mainly reflected lower individually assessed charges in CMB, while in Brazil LICs were lower in both RBWM and CMB, partly offset by an increase in GB&M.

Adjusted profit before tax

(US$bn)

 

LOGO

Reported profit attributable to ordinary shareholders

(US$m)

 

LOGO

Reported earnings per share

(US$)

 

LOGO

Return on tangible equity

(%)

 

LOGO

 

 

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Operating expenses were higher, in part reflecting increases in Regulatory Programmes and Compliance costs and inflation, partly offset by further sustainable cost savings

Operating expenses were US$38bn, US2.2bn or 6% higher than in 2013. Regulatory Programmes and Compliance costs increased as a result of continued focus on Global Standards and the broader regulatory reform programme being implemented by the industry to build the necessary infrastructure to meet today’s enhanced compliance standards.

Operating expenses also increased due to inflationary pressures, including wage inflation, primarily in Asia and Latin America, and an increase in the UK bank levy charge compared with 2013. We continued to invest in strategic initiatives in support of organically growing our business, primarily in CMB. We also increased expenditure on marketing and advertising to support revenue generating initiatives, primarily in RBWM.

These factors were partially offset by further sustainable cost savings in the year of US$1.3bn, primarily by re-engineering certain of our back office processes.

The number of employees expressed in full-time equivalent numbers (‘FTE’s) at the end of 2014 increased by 3,500 or 1%. The average number of FTEs was broadly unchanged as reductions through sustainable savings programmes were offset by the initiatives related to the Regulatory Programmes and Compliance and business growth.

Income from associates rose, mainly in Asia and the Middle East and North Africa

Income from associates increased, primarily reflecting higher contributions from Bank of Communications Co, Limited (‘BoCom’) and The Saudi British Bank, principally reflecting balance sheet growth.

The effective tax rate was 21.3% compared with 21.1% in 2013.

For more details of the Group’s financial performance, see page 46.

Balance sheet strength

Total reported assets were US$2.6 trillion, 1% lower than at 31 December 2013. On a constant currency basis, total assets were US$85bn or 3% higher. Our balance sheet remained strong with a ratio of customer advances to customer accounts of 72%. This was a consequence of our business model and of our conservative risk appetite, which is based on funding the growth in customer loans with growth in customer accounts.

On a constant currency basis, loans and advances grew by US$28bn and customer accounts increased by US$47bn.

For further information on the Balance Sheet, see page 57, and on the Group’s liquidity and funding, see page 163.

Total assets

(US$bn)

 

LOGO

Post-tax return on average total assets

(%)

 

LOGO

Loans and advances to customers17

(US$bn)

 

LOGO

Customer accounts17

(US$bn)

 

LOGO

Ratio of customer advances to customer deposits17

(%)

 

LOGO

For footnote, see page 39.

 

 

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Capital strength

Our approach to managing Group capital is designed to ensure that we exceed current regulatory requirements and are well placed to meet those expected in the future.

We monitor capital adequacy, inter alia, by using capital ratios, which measure capital relative to a regulatory assessment of risks taken, and the leverage ratio, which measures capital relative to exposure.

In June 2013, the European Commission published the final Regulation and Directive, known collectively as CRD IV, to give effect to the Basel III framework in the EU. This came into effect on 1 January 2014.

Under the new regime, common equity tier 1 (‘CET1’) represents the highest form of

eligible regulatory capital against which the capital strength of banks is measured. In 2014 we managed our capital position to meet an internal target ratio on a CET1 end point basis of greater than 10%. This has since been reviewed and, in 2015, we expect to manage Group capital to meet a medium-term target for return on equity of more than 10%. This is modelled on a CET1 ratio on an end point basis in the range of 12% to 13%.

Leverage ratio

The following table presents our estimated leverage ratio in accordance with PRA instructions. The numerator is calculated using the CRD IV end point tier 1 capital definition and the exposure measure is

calculated using the EU delegated act published in January 2015 (which is based on the Basel III 2014 revised definition).

Estimated leverage ratio

 

 

2014

US$bn

 

At 31 December

Tier 1 capital under CRD IV (end point)

  142   

Exposures after regulatory adjustment

  2,953   

Estimated leverage ratio (end point)

  4.8%   

For further details of the leverage ratio, see page 251.

For further information on the Group’s capital and our risk-weighted assets, see page 239.

 

 

Capital ratios and risk-weighted assets

CRD IV1

 

Common equity tier 1 ratio (transitional) Total capital ratio (transitional) Common equity tier 1 ratio

(end point)

Risk-weighted assets

(‘RWA’s)

(%) (%) (%) (US$bn)
LOGO LOGO LOGO   LOGO  
Basel 2.51
Core tier 1 ratio Total capital ratio Risk-weighted assets
(%) (%) (US$bn)
LOGO LOGO LOGO  

For footnote, see page 39.

 

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Meeting our targets

We set financial targets against which we measure our performance.

In 2011, we articulated our ambition to be the leading international bank and specified financial metrics against which we would measure performance through 2013. Targets were set under our understanding at the time of capital requirements and included a CET1 ratio of 9.5-10.5% under Basel III; return on equity (‘ROE’) of 12-15%; and a cost efficiency ratio (‘CER’) of 48-52% supported by US$2.5-3.5bn in sustainable cost savings over three years. Over the period to 2013, we strengthened our capital position, realised US$4.9bn in sustainable savings and increased dividend pay-outs to shareholders in line with targets.

In May 2013, we defined our strategic priorities for the period from 2014 to 2016 and revisited the financial metrics used to track performance. We continued to target an ROE of 12-15% and added a further target of US$2-3bn in sustainable savings. To allow for investment in growth initiatives and to reflect the increasing requirements involved in operating as a global bank, we revised the CER target to the mid-50s, adding that revenues must grow faster than costs (‘positive jaws’). We defined a target CET1 ratio, on an end point basis, as greater than 10% and continued to seek progressive dividends for shareholders. We also set a cap on our loans to deposits ratio of 90%.

During 2014, we achieved a CET1 ratio on an end point basis of 11.1% and declared US$9.6bn of total dividends in respect of the year. We realised incremental sustainable savings of US$1.3bn and maintained a loans-to-deposits ratio of 72%. The ROE of 7.3% and the CER of 67.3% fell short of our target.

Changing regulatory and operating environment

When we set our targets in 2011, we did so based on a CET1 ratio on an end point basis of greater than 10%. Whilst this factored in foreseeable capital requirements, it did not anticipate, and could not have anticipated, the full extent of capital commitments and additional costs asked of us in the years to come. These factors have included:

  Progressively strengthening our capital levels in response to increasing capital requirements;

 

  The stepped increase in costs due to the implementation of regulatory change and enhancing risk controls, notably around financial system integrity and conduct;

 

  An increase in the bank levy;

 

  The continuing low interest rate environment; and

 

  The impact of significant items, notably the high level of fines, settlements, UK customer redress and associated provisions.

As a consequence, we are setting new targets that better reflect the present and ongoing operating environment.

From 2015, our return on equity target will therefore be replaced with a medium-term target of more than 10%. This is modelled on a CET1 ratio on an end point basis in the range of 12% to 13%.

At the same time, we are reaffirming our target of growing business revenues faster than operating expenses (on an adjusted basis).

We also remain committed to delivering a progressive dividend. The progression of dividends will be consistent with the growth of the overall profitability of the Group and is predicated on our continued ability to meet regulatory capital requirements.

We remain strongly capitalised, providing capacity for both organic growth and dividend return to shareholders.

Brand value

Maintenance of the HSBC brand and our overall reputation remains a priority for the Group.

This is our fourth year of using the Brand Finance valuation method reported in The Banker magazine as our brand value benchmark. The Brand Finance methodology provides a comprehensive measure of the strength of the brand and its impact across all business lines and customer segments. It is wholly independent and is publicly reported. Our target is a top three position in the banking peer group and we have achieved this target with an overall value of US$27.3bn

Pre-tax return on risk-weighted assets13

(%)

 

LOGO

Dividend payout ratio

(%)

 

LOGO

Brand value

(US$bn)

 

LOGO

For footnote, see page 39.

(up 2% from 2014), placing us third. We maintain an AAA rating for our brand in this year’s report.

In addition to the Brand Finance measure, we have reviewed our performance in the Interbrand Annual Best Global Brands report, published in September 2014. This showed HSBC as the top ranked banking brand with a valuation of US$13.1bn (up from US$12bn in 2013) and in second place when all financial services brands are considered.

 

 

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We believe this performance is driven by an underlying strong brand equity established in recent years and a consistent and active programme of activities in support of the brand throughout 2014.

Economic contribution

By running a sustainable business, HSBC is able to make a valuable contribution to the economy by paying dividends to our shareholders, salaries to our employees, payments to suppliers, and tax revenues to governments in the countries and territories where we operate. We also finance companies so that they, in turn, can create employment.

HSBC’s net tax paid18

 

   

2014

      US$bn

   

2013

      US$bn

 

Tax on profits

  3.6      4.7   

Employer taxes

  1.6      1.6   

UK bank levy19

  1.0      0.7   

Irrecoverable value-added tax

  0.9      0.8   

Other duties and levies

  0.8      0.8   

Year ended 31 December

  7.9      8.6   

 

For footnotes, see page 39.

 

Taxes collected for government20

 

  

  

   

2014

US$bn

   

2013

US$bn

 

Region

UK

  1.7      1.5   

Rest of Europe

  1.1      1.3   

Asia

  2.0      1.5   

North America

  1.0      1.0   

Latin America

  3.3        3.5   

Year ended 31 December

  9.1        8.8   

For footnote, see page 39.

 

Distribution of economic benefits

 

   

2014

US$bn

 

2013

US$bn

 

2012

US$bn

 

Net cash tax outflow

  7.9      8.6      9.3   

Distributions to shareholders and non-controlling interests

  10.6      10.2      8.7   

Employee compensation and benefits

  20.4      19.2      20.5   

General administrative expenses including premises and procurement

  18.6      17.1      20.0   

Pro-forma post-tax profit allocation21

 

   

    2014

%

   

    2013

%

 

Retained earnings/capital

  32      53   

Dividends

  53      35   

Variable pay

  15      12   

Year ended 31 December

  100      100   

For footnote, see page 39.

 

 

Market capitalisation and total shareholder return

 

   

Closing market price

US$0.50 ordinary shares

in issue

Market

capitalisation

London Hong Kong

American

Depositary Share22

19,218m US$182bn £6.09 HK$74.0 US$47.23

2013: 18,830m

2012: 18,476m

2013: US$207bn

2012: US$194bn

2013: £6.62

2012: £6.47

2013: HK$84.15

2012: HK$81.30

2013: US$55.13

2012: US$53.07

   

                Total shareholder return23

    Over 1 year Over 3 years Over 5 years

To 31 December 2014

97 144 109

Benchmarks:

– MSCI Banks24

100 160 132

For footnotes, see page 39.

 

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Remuneration

Our remuneration strategy rewards commercial success and compliance with our risk management framework.

The quality of our people and their commitment to the Group are fundamental to our success. We therefore aim to attract, retain and motivate the very best people who are committed to a long-term career with HSBC in the long-term interests of shareholders.

Employee remuneration

Our remuneration strategy is designed to reward competitively the achievement of long-term sustainable performance. HSBC’s reward package comprises four key elements of remuneration:

 

fixed pay;

 

benefits;

 

annual incentive; and

 

the Group Performance Share Plan (‘GPSP’).

The governance of our remuneration principles and oversight of their implementation by the Group Remuneration Committee ensures what we pay our people is aligned to our business strategy and performance is judged not only on what is achieved over the short- and long-term but also, importantly, on how it is achieved, as we believe the latter contributes to the long-term sustainability of the business.

Full details of our remuneration policy may be found under Remuneration Policy on our website (http://www.hsbc.com/investor-relations/governance).

Industry changes and key challenges

New regulatory requirements such as the bonus cap have influenced how we pay our senior executives and those of our employees identified by the PRA as having a material impact on the institution’s risk profile, being what are termed ‘material risk takers’ (‘MRTs’). This year, a new requirement has been introduced for firms to ensure that clawback (i.e. a firm’s ability

to recoup paid and/or vested awards) can be applied to all variable pay awards granted on or after 1 January 2015 for a period of at least seven years from the date of award. These requirements present challenges for HSBC in ensuring that the total compensation package for our employees in all of the markets in which we operate around the world remains competitive, in particular, relative to other banks not subject to these requirements.

Looking ahead to 2015/2016, further significant regulatory changes to executive remuneration are expected and it is possible that we will need to make changes to our remuneration policy in 2016. The number and volume of changes that have been and are being proposed hinders our ability to communicate with any certainty to our current and potential employees the remuneration policies and structures that would apply to them. It also contributes to a general misunderstanding about how our policies work and the effect of those policies on employee performance.

For full details of industry changes and key challenges, see page 300.

Variable pay pool

The total variable pay pool for 2014 was US$3.7bn, down from US$3.9bn in 2013:

 

    Group  
   

2014

    US$m

 

2013

    US$m

 

Variable pay pool25

– total

  3,660      3,920   

– as a percentage
of pre-tax profit
(pre-variable pay)

  16%      15%   

– percentage of pool deferred

  14%      18%   

For footnote, see page 39.

The Group Remuneration Committee considers many factors in determining HSBC’s variable pay pool, including the performance of the Group considered in the context of our risk appetite statement.

This ensures that the variable pay pool is shaped by risk considerations and by an integrated approach to business, risk and capital management which supports achievement of our strategic objectives.

The Group Remuneration Committee also takes into account Group profitability, capital strength, shareholder returns, the distribution of profits between capital, dividends and variable pay, the commercial requirement to remain market competitive and overall affordability.

For full details of variable pay pool determination, see pages 309.

Relative importance of expenditure on pay

The following chart provides a breakdown of total staff pay relative to the amount paid out in dividends.

Relative importance of expenditure on pay

(US$m)

 

LOGO

For footnotes, see page 39.

Directors’ remuneration

The remuneration policy for our executive and non-executive Directors was approved at the Annual General Meeting on 23 May 2014. The full policy is available in the Directors’ Remuneration Report in the Annual Report and Accounts 2013, a copy of which can be obtained by visiting the following website: http://www.hsbc.com/ investor-relations/financial-and-regulatory-reports.

The single total figure for Directors’ remuneration required by Schedule 8 of the Large and Medium-Sized Companies (Accounts and Reports) Regulations 2008 is as follows:

 

 

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Executive Directors

 

          Douglas Flint           Stuart Gulliver           Iain Mackay           Marc Moses  
         

2014

£000

         

2013

£000

         

2014

£000

         

2013

£000

         

2014

£000

         

2013

£000

         

2014

£000

         

2013

£000

 

Fixed pay

                                               

Base salary

        1,500            1,500            1,250            1,250            700            700            700              

Fixed pay allowance

                              1,700                       950                       950              

Pension

        750            750            625            625            350            350            350              
        2,250            2,250            3,575            1,875            2,000            1,050            2,000              

Variable pay

                                               

Annual incentive

                              1,290            1,833            867            1,074            1,033              

GPSP

                              2,112            3,667            1,131            2,148            1,131              
                              3,402            5,500            1,998            3,222            2,164              

Total fixed and variable pay

        2,250            2,250            6,977            7,375            3,998            4,272            4,164              

Benefits

        136            48            589            591            43            33            6              

Non-taxable benefits

        105            102            53            67            28            53            33              

Notional return on deferred cash

        41            27                                  11            7            36              

Total single figure of remuneration

            2,532                2,427                7,619                8,033                4,080                4,365                4,239                    –   

 

Douglas Flint, as Group Chairman, is not eligible for an annual incentive but was eligible under the policy to receive a one-time GPSP award for 2014.

Marc Moses, the Group Chief Risk Officer, was appointed an executive Director with effect from 1 January 2014, reflecting the criticality of the Risk function to HSBC and his leadership of the function, and recognises

his personal contribution to the Group. His 2013 figures have not been disclosed.

For full details of Directors’ remuneration, see page 307.

Remuneration policy going forward

Our remuneration policy was approved by shareholders at the 2014 Annual General

Meeting and will apply for performance year 2015. The table below summarises how each element of pay will be implemented in 2015.

External reporting

The required remuneration disclosures for Directors, MRTs and highest paid employees in the Group are made in the Directors’ Remuneration Report on pages 300 to 323.

 

 

  Purpose and link to strategy

 

   Operation and planned changes to policy
  Fixed pay   
  Base salary   

Base salary levels will remain unchanged from their 2014 levels as follows:

•  Douglas Flint: £1,500,000

•  Stuart Gulliver: £1,250,000

•  Iain Mackay: £700,000

•  Marc Moses: £700,000

  Fixed pay allowance28   

Fixed pay allowances will remain unchanged from their 2014 levels as follows:

•  Douglas Flint: Nil

•  Stuart Gulliver: £1,700,000

•  Iain Mackay: £950,000

•  Marc Moses: £950,000

  Pension   

Pension allowances to apply in 2015 as a percentage of base salary will remain unchanged as follows:

•  Douglas Flint: 50%

•  Stuart Gulliver: 50%

•  Iain Mackay: 50%

•  Marc Moses: 50%

  Benefits   
  Benefits    No changes are proposed to the benefits package for 2015.
  Variable pay   
  Annual incentive28    No changes are proposed to the annual incentive.
  GPSP    No changes are proposed to the GPSP.

For footnote, see page 39.

 

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Sustainability

Sustainability underpins our strategic priorities and enables us to fulfil our purpose as an international bank.

At HSBC, how we do business is as important as what we do. For us, sustainability means building our business for the long term by balancing social, environmental and economic considerations in the decisions we make. This enables us to help businesses thrive and contribute to the health and growth of communities.

Approach to corporate sustainability

Corporate sustainability is governed by the Conduct & Values Committee, a sub-committee of the Board which oversees and advises on a range of issues including adherence to HSBC’s values and ensuring we respond to the changing expectations of society and key stakeholders.

Sustainability priorities are set and programmes are led by the Global Corporate Sustainability function. HSBC’s country operations, global functions and global businesses work together to ensure sustainability is embedded into the Group’s business and operations and properly implemented. Executives within the Risk and the HSBC Technology and Services functions hold a specific remit to deliver aspects of the sustainability programme for the Group.

Our sustainability programme focuses on three areas: sustainable finance; sustainable operations, and sustainable communities.

Sustainable finance

We anticipate and manage the risks and opportunities associated with a changing climate, environment and economy. In a rapidly changing world, we must ensure our business anticipates and prepares for shifts in environmental priorities and societal expectations.

Sustainability risk framework

We manage the risk that the financial services which we provide to customers may have unacceptable effects on people or the environment. Sustainability risk can also lead to commercial risk for customers, credit risk for HSBC and significant reputational risk.

For over 10 years we have been working with our business customers to help them

understand and manage their environmental and social impact in relation to sensitive sectors and themes. We assess and support customers using our own policies which we regularly review and refine. We have policies covering agricultural commodities, chemicals, defence, energy, forestry, freshwater infrastructure, mining and metals, World Heritage Sites and Ramsar Wetlands. We also apply the Equator Principles.

We welcome constructive feedback from non-governmental organisations and campaign groups and regularly discuss matters of shared interest with them.

Our sustainability risk framework is based on robust policies, formal processes and well-trained, empowered people.

In 2014, we trained risk and relationship managers in sustainability risk, focusing on the recent policy updates and revised processes. Our designated Sustainability Risk Managers provided training to executives from Risk, GB&M and CMB in every geographical region.

We have used the Equator Principles since 2003. A new version of the Equator Principles – EP3 – was launched in 2013, and HSBC introduced these changes on 1 January 2014 following training and the development of clear templates to ensure the transition was smooth.

Data and the independent assurance of our application of the Equator Principles will be available at hsbc.com in April 2015.

Policy reviews and updates in 2014

In 2014, we published the reports of two independent reviews into the content and implementation of our Forest Land and Forest Products Sector Policy, by Proforest and PricewaterhouseCoopers LLP, respectively. We also issued new policies on forestry, agricultural commodities and World Heritage Sites and Ramsar Wetlands, reflecting the recommendations. These documents can be found online at hsbc.com/sus-risk.

Forestry policy

The new forestry policy, issued in March 2014, requires forestry customers to gain 100% certification by the Forest Stewardship Council (‘FSC’) or the Programme for the Endorsement of Forest Certification (‘PEFC’) in high risk countries by 31 December 2014. Certification requires that customers are operating legally and sustainably.

Feedback from stakeholders on the new policy was positive. Timber customers from affected countries such as Turkey and Mexico

were receptive to the new standards, gained certification as a result of the new requirement and benefited from advice. Other customer relationships will end as soon as contractual terms allow, in cases where customers have been unable or unwilling to meet the new standards.

Agricultural commodities policy

The new agricultural commodities policy requires palm oil customers to become members of the Roundtable on Sustainable Palm Oil (‘RSPO’) by 30 June 2014, to have at least one operation certified by the end of 2014 and all operations by the end of 2018.

A number of customer relationships will be closed where the deadline has not been met. Other customers have succeeded in joining the RSPO and having at least one operation certified by the end of 2014. One example is an Indonesian processing, refining and export company. HSBC started to engage with this and other companies in January 2014 on the changes and continued to offer advice. The management of the company sought expert advice from third parties to understand more about RSPO certification, which they found was less complex than they had imagined. Two units of the company obtained RSPO certification in June 2014, and one further is planned.

In order to encourage the shift towards sustainable palm oil we have introduced a discounted prepayment export finance product for trade flows of certified sustainable palm oil. This structured, bespoke financing was launched in Singapore and Indonesia in 2014 and in Malaysia in early 2015.

The inaugural financing using this product was for a major palm oil exporter which has been a member of the RSPO for ten years and is now fully certified. The product is available to both existing and future clients and is hoped to encourage an expansion in the proportion of palm oil that is certified sustainable.

Customers in Malaysia, Indonesia, mainland China, Taiwan, South Korea, Thailand, Turkey and Mexico have decided to certify their operations as a result of HSBC’s new policies and deadlines. A number of others were already certified. Fuller reporting on the effect of these new policies will be available in April 2015 at hsbc.com.

 

 

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The World Heritage Sites and Ramsar Wetlands policy

This is designed to protect unique sites of outstanding international significance as listed by the UN and wetlands of international importance. The policy relates to all business customers involved in major projects, particularly in sectors such as forestry, agriculture, mining, energy, property and infrastructure development.

The policy helps HSBC to make balanced and clear decisions on whether or not to finance projects which could have an effect on these sites or wetlands. HSBC has avoided financing projects in light of the policy.

Our approach to managing sustainability risk is described on page 237.

Climate business

We understand that in response to climate change there is a shift required towards a lower-carbon economy. We are committed to accelerating that shift by supporting customers involved in ‘climate business’ by seeking long-term low-carbon commercial business opportunities. Our climate business includes clients in the solar, wind, biomass, energy efficiency, low-carbon transport and water sectors. In 2014, our Climate Change Research team was recognised as the top team in the industry. We were also a leader in public markets equity-related wind financings for international companies, including the largest wind turbine equity raising since 2010 as part of the 1.4bn Vestas refinancing.

‘Green bonds’ are any type of bond instruments where the proceeds will be exclusively applied to finance climate or environmental projects. In April 2014, HSBC became a member of the International Capital Market Association Executive Committee for the Green Bond Principles. The Green Bond Principles are voluntary process guidelines that recommend transparency and disclosure and promote integrity in the development of the green bond market by clarifying the approach for issuance of a green bond.

In 2014, we commissioned a report, ‘Bonds and Climate Change: the state of the market in 2014’ from the Climate Bonds Initiative to help raise awareness of climate financing.

HSBC has been at the forefront of this fast-developing area. In 2014, we were the sole global coordinator and joint leader, manager and bookrunner for the first green bond issue by an Asian corporate issuer, Advanced Semiconductor Engineering Inc. We also acted as sole global coordinator on the first green bond issued by Abengoa, the first high-yield green bond to be issued in Europe as well as the being a joint lead manager and bookrunner for the first government issuer in the Canadian market for the Province of Ontario.

UN Environment Programme Finance Initiative Principles for Sustainable Insurance

As a signatory to the Principles for Sustainable Insurance (‘PSI’), a global sustainability framework, HSBC’s Insurance business has committed to integrating environmental, social and governance issues across its processes, and to publicly disclosing its progress in doing so on an annual basis. A global programme manager has been appointed to provide leadership, co-ordination and control of Insurance sustainability initiatives world-wide and ensure alignment with the Group’s approach and the requirements of the PSI initiative. This includes driving appropriate activities both within the Insurance business and with partners, regulators and other industry players; disseminating industry best practice, and developing global insurance sustainability initiatives.

Sustainable operations

Managing our own environmental footprint supports business efficiency and is part of our long-term contribution to society. We work together and with our suppliers to find new ways to reduce the impact of our operations on the environment. We are purchasing renewable energy, designing and operating our buildings and data centres more efficiently and reducing waste. We have committed to cut our annual per employee carbon emissions from 3.5 to 2.5 tonnes by 2020.

Sustainability Leadership Programme

To deliver our ten sustainability goals we have trained 847 senior managers through HSBC’s Sustainability Leadership Programme since 2009. The programme is a mix of hands-on learning and leadership development sessions and is aligned to the HSBC Values agenda. The programme participants are expected to embed sustainability into decision-making and project delivery in the businesses and functions where they work.

Renewable energy procurement

In 2014, we signed three power purchase agreements with renewable energy generators in the UK and India. This is expected to provide 9% of HSBC’s energy. In August, a 10-megawatt solar power plant in Hyderabad, India came online to provide the Group with clean energy. This is expected to power three Global Service Centres and a Technology Centre in India. HSBC played a key role in facilitating the project by agreeing to purchase the plant’s energy at a government backed fixed price for the next ten years. The plant will provide a clean and reliable source of energy. In addition, we have redefined our renewables target only to count energy from newly constructed renewable energy sources which have been commissioned by HSBC.

Paper use

Our paper goal is being achieved in three ways: ensuring that the paper we buy is from a sustainable source in accordance with our paper sourcing policy, reducing the volume of paper consumed by our offices and branches and providing paperless banking for all retail and commercial customers. We have continued to reduce the total amount of paper purchased and to increase the proportion of paper we use that is certified as sustainably sourced by the FSC and PEFC. Since 2011, we have achieved a 53% reduction in paper purchased. Certified sustainably sourced paper reached 92% of all paper used by the end of 2014.

 

 

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Our 10-point sustainable operations strategy

 

     1. Sustainability engagement: encourage employees to deliver improved efficiency by 2020

 

     2. Supply chain collaboration: sustainable savings through efficiency and innovation

 

     3. HSBC Eco-efficiency fund: US$50m annually to develop new ways of working, based on employee innovations

 

     4. Energy: reduce annual energy consumption per employee by 1MWh by 2020, compared to 6.2MWh in 2011

 

     5. Waste: use less, and recycle 100% of our office waste and electronic waste

 

     6. Renewables: aim to increase energy consumption from renewables to 25% by 2020 from zero

 

     7. Green buildings: design, build and run energy efficient, sustainable buildings to the highest international standards

 

     8. Data centres: achieve an energy efficiency (power usage effectiveness) rating of 1.5 by 2020

 

     9. Travel: reduce travel emissions per employee

 

   10. Paper: paperless banking available for all retail and commercial customers and 100% sustainably sourced paper by 2020

 

Carbon emissions

HSBC’s carbon dioxide emissions are calculated on the basis of the energy used in our buildings and employee business travel from over 28 countries (covering about 93% of our operations by FTE). The data gathered on energy consumption and distance travelled are converted to carbon dioxide emissions using conversion factors from the following sources, if available, in order of preference:

 

1. factors provided by the data/service providers;

 

2. factors provided by the local public environmental authorities. For electricity, if specific factors cannot be obtained from the above two sources we use the latest available carbon
  emission factors for national grid electricity from the International Energy Agency as recommended for use by the Greenhouse Gas Protocol; and

 

3. for other types of energy and travel, if no specific factors can be obtained from the first two sources, we use the latest available factors provided by the UK Department for Environment, Food and Rural Affairs and/or the Department of Energy and Climate Change in the UK.

To incorporate all of the operations over which we have financial (management) control, the calculated carbon dioxide emissions are scaled up on the basis of the FTE coverage rate to account for any missing data (typically less than 10% of FTEs). In addition, emission uplift rates are applied to allow for uncertainty on the quality and coverage of emission measurement and estimation. The rates are 4% for electricity, 10% for other energy and 6% for business travel, based on the Intergovernmental Panel on Climate Change Good Practice Guidance and Uncertainty Management in National Greenhouse Gas Inventories, and our internal analysis of data coverage and quality.

Carbon dioxide emissions in tonnes

 

    2014    2013  

Total

  752,000       889,000   

From energy

    633,000       755,000   

From travel

  119,000       134,000   

 

Carbon dioxide emissions in tonnes per FTE

 

   

          2014          2013  

Total

  2.92       3.43   

From energy

  2.46       2.91   

From travel

  0.46       0.52   

Our greenhouse gas reporting year runs from October to September. For the year ended 30 September 2014, carbon dioxide emissions from our global operations were 752,000 tonnes.

Sustainable communities

We believe that education and resources such as safe water and sanitation are essential to resilient communities which are, in turn, the basis of thriving economies and businesses.

We provide financial contributions to community projects, and thousands of employees across the world get involved by volunteering their time and sharing their skills.

Volunteering and donations

Thousands of HSBC employees globally are involved every year in volunteering for our Community Investment programmes. Further details on our programmes are available at hsbc.com and will be updated with information for 2014 in April 2015.

In 2014, we donated a total of US$114m to community projects (2013: US$117m). Of this, US$66m was donated in Europe (2013: US$64m); US$28m was donated in Asia-Pacific (2013: US$24m); US$3m was donated in the Middle East (2013: US$5m); US$10m was donated in North America (2013: US$11m); and US$7m was donated in Latin America (2013: US$12m).

Employees gave 303,922 hours of their time to volunteer during the working day (2013: 255,925 hours).

Human rights

We apply human rights considerations directly as they affect our employees and indirectly through our suppliers and customers, in the latter case in particular through our project finance lending and sustainability risk policies. Human rights issues most directly relevant for HSBC are those relating to the right to just and favourable conditions of work and remuneration, the right to equal pay for equal work, the right to form and join trade unions, the right to rest and leisure and the prohibition of slavery and child labour. Alongside our own commitments, such as our HSBC Code of Conduct for Suppliers (in place since 2005), the HSBC Global Standards Manual and HSBC Values, we have signed up to global commitments and standards, including the UN Global Compact, the Universal Declaration of Human Rights and the Global Sullivan Principles.

Further detail on our 2014 performance will be available from the end of April 2015 on our website, along with independent assurance of our application of the Equator Principles and carbon emissions.

On behalf of the Board

D J Flint

Group Chairman

HSBC Holdings plc

23 February 2015

 

 

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Footnotes to Strategic Report

 

  1 On 1 January 2014, CRD IV came into force and capital and RWAs at 31 December 2014 are calculated and presented on this basis. Prior to this, capital and RWAs were calculated and presented on a Basel 2.5 basis. In addition, capital and RWAs at 31 December 2013 were also estimated based on the Group’s interpretation of final CRD IV legislation and final rules issued by the PRA. At 31 December 2012, the CRD IV estimated capital and RWAs were based on the July 2011 draft CRD IV text.
  2 Dividends recorded in the financial statements are dividends per ordinary share declared in a year and are not dividends in respect of, or for, that year. The third interim dividend for 2013 of US$0.10 was paid on 11 December 2013. The fourth interim dividend for 2013 of US$0.19 was paid on 30 April 2014. First, second and third interim dividends for 2014, each of US$0.10 per ordinary share, were paid on 10 July 2014, 9 October 2014 and 10 December 2014, respectively. Note 9 on the Financial Statements provides more information on the dividends declared in 2014. On 23 February 2015, the Directors declared a fourth interim dividend for 2014 of US$0.20 per ordinary share in lieu of a final dividend, which will be payable to ordinary shareholders on 30 April 2015 in cash in US dollars, or in pounds sterling or Hong Kong dollars at exchange rates to be determined on 20 April 2015, with a scrip dividend alternative. The reserves available for distribution at 31 December 2014 were US$48,883m.
   Quarterly dividends of US$15.5 per 6.20% non-cumulative Series A US dollar preference share, equivalent to a dividend of US$0.3875 per Series A American Depositary Share, each of which represents one-fortieth of a Series A US dollar preference share, were paid on 17 March 2014, 16 June 2014, 15 September 2014 and 15 December 2014.
   Quarterly coupons of US$0.508 per security were paid with respect to 8.125% capital securities on 15 January 2014, 15 April 2014, 15 July 2014 and 15 October 2014.
   Quarterly coupons of US$0.50 per security were paid with respect to 8% capital securities on 17 March 2014, 16 June 2014, 15 September 2014 and 15 December 2014.
  3 The cost efficiency ratio is defined as total operating expenses divided by net operating income before loan impairment charges and other credit risk provisions.
  4 The return on average ordinary shareholders’ equity is defined as profit attributable to ordinary shareholders of the parent company divided by average ordinary shareholders’ equity.
  5 Established on 5 December 2014.
  6 Intermediation of securities, funds and insurance products, including Securities Services in GB&M.
  7 Merger and acquisition, event and project financing, and co-investments in GPB.
  8 Including Foreign Exchange, Rates, Credit and Equities.
  9 Including portfolio management.
10 Including private trust and estate planning (for financial and non-financial assets).
11 Including hedge funds, real estate and private equity.
12 The sum of balances presented does not agree to consolidated amounts because inter-company eliminations are not presented here.
13 Pre-tax return on average risk-weighted assets is calculated using average RWAs based on a Basel 2.5 basis for all periods up to and including 31 December 2013 and on a CRD IV end point basis for all periods from 1 January 2014.
14 Net operating income before loan impairment charges and other credit risk provisions, also referred to as ‘revenue’.
15 Loan impairment charges and other credit risk provisions.
16 Share of profit in associates and joint ventures.
17 From 1 January 2014, non-trading reverse repos and repos are presented as separate lines in the balance sheet. Previously, non-trading reverse repos were included within ‘Loans and advances to banks’ and ‘Loans and advances to customers’ and non-trading repos were included within ‘Deposits by banks’ and ‘Customer accounts’. Comparative data have been re-presented accordingly. Non-trading reverse repos and repos have been presented as separate lines in the balance sheet to align disclosure with market practice and provide more meaningful information in relation to loans and advances. The extent to which reverse repos and repos represent loans to/from customers and banks is set out in Note 17 on the Financial Statements.
18 Taxes paid by HSBC relate to HSBC’s own tax liabilities and is reported on a cash flow basis.
19 UK bank levy paid reflects the payments made to the tax authorities during the calendar year and may differ from the recognition of liabilities charged to the income statement.
20 Taxes collected relate to those taxes which HSBC is liable to pay as agent for taxation authorities across the world and include all employee-related taxes, together with taxes withheld from payments of interest and charged on the provision of goods and services to its customers. Taxes collected are reported on a cash flow basis.
21 Excludes movements in the fair value of own debt and before variable pay distributions.
22 Each American Depositary Share represents five ordinary shares.
23 Total shareholder return is defined as the growth in share value and declared dividend income during the relevant period.
24 The Morgan Stanley Capital International World Bank Index.
25 The 2014 Group pre-tax pre-variable pay profit calculation as described in Directors’ Remuneration Report page 309 .The percentage of variable pay deferred for the Code Staff population was 50%.
26 Dividends per ordinary share in respect of that year. For 2014, this includes the first, second and third interim dividends paid in 2014 of US$5.8bn (gross of scrip) and a fourth interim dividend of US$3.8bn.
27 Employee compensation and benefits in 2013 totalled US$19,196m which included an accounting gain arising from a change in the basis of delivering ill-health benefits in the UK of US$430m. Excluding this accounting gain, 2013 employee compensation and benefits totalled US$19,626m.
28 This approach applies to all executive Directors with the exception of the Group Chairman, Douglas Flint, who is not eligible for a fixed pay allowance or variable pay awards.

 

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Report of the Directors: Financial Review

 

 

  Financial summary

 

 

 

Use of non-GAAP financial measures

 

 

   40  
 

Return on equity and return on tangible equity

   44a

 

 

Consolidated income statement

   45  

 

 

Group performance by income and expense item

   46  

 

 

Net interest income

   46  

 

 

Net fee income

   48  

 

 

Net trading income

   49  

 

 

Net income/(expense) from financial instruments
designated at fair value

   50  

 

 

Gains less losses from financial investments

   51  

 

 

Net insurance premium income

   51  

 

 

Other operating income

   52  

 

 

Net insurance claims and benefits paid and movement in liabilities to policyholders

 

   53  

 

 

Loan impairment charges and other credit risk provisions

   53  

 

 

Operating expenses

   54  

 

 

Share of profit in associates and joint ventures

   55  

 

 

Tax expense

   56  

 

 

2013 compared with 2012

   56a

 

 

Consolidated balance sheet

   57  

 

 

Movement in 2014

   58  

 

 

Average balance sheet

   60a

 

 

Average balance sheet and net interest income

   60a

 

 

Analysis of changes in net interest income and net
interest expense

   60h

 

 

Short-term borrowings

   60l 

 

 

Loan maturity and interest sensitivity analysis

   60m

 

 

Deposits

 

   60n

 

 

Certificates of deposit and other time deposits

 

   61a

 

 

Ratio of earnings to fixed charges

 

   61b
 

Reconciliation of RoRWA measures

 

   62  

 

 

 

Critical accounting estimates and judgements

 

  

 

62  

 

    

The management commentary included in the Report of the Directors: ‘Financial Review’, together with the ‘Employees’ and ‘Corporate sustainability’ sections of ‘Corporate Governance’ and the ‘Directors’ Remuneration Report’ is presented in compliance with the IFRSs Practice Statement ‘Management Commentary’ issued by the IASB.

Use of non-GAAP financial measures

Our reported results are prepared in accordance with IFRSs as detailed in the Financial Statements on page 334. In measuring our performance, the financial measures that we use include those which have been derived from our reported results in order to eliminate factors which distort year-on-year comparisons. These are considered non-GAAP financial measures. The primary non-GAAP financial measure we use is ‘adjusted

performance’. Other non-GAAP financial measures are described and reconciled to the most relevant reported financial measure when used.

Adjusted performance

Adjusted performance is computed by adjusting reported results for the year-on-year effects of foreign currency translation differences and significant items which distort year-on-year comparisons.

Previously we used the non-GAAP financial measure of ‘underlying performance’, which was calculated by adjusting reported results for the year-on-year effects of currency translation differences, own credit spread and acquisitions, disposals and dilutions. In 2014, we modified our approach to better align it with the way we view our performance internally and with feedback received from investors. Adjusted performance builds on underlying performance by maintaining the adjustment for currency translation differences and incorporating the adjustments for own credit spread and acquisitions, disposals and dilutions into the definition of significant items. We use the term ‘significant items’ to collectively describe the group of individual adjustments which are excluded from reported results when arriving at adjusted performance. Significant items, which are detailed below, are those items which management and investors would ordinarily identify and consider separately when assessing performance in order to better understand the underlying trends in the business.

We believe adjusted performance provides useful information for investors by aligning internal and external reporting, identifying and quantifying items management believe to be significant and providing insight into how management assesses year-on-year performance.

We arrive at adjusted performance by excluding from our reported results:

 

  the year-on-year effects of foreign currency translation differences. This is done by comparing reported results for 2014 with reported results for 2013 retranslated at 2014 exchange rates. The foreign currency translation differences reflect the movements of the US dollar against most major currencies; and

 

  significant items which distort the year-on-year comparison of reported results by obscuring the underlying factors and trends which affect operations. Significant items include adjustments for own credit spread and acquisitions, disposals and dilutions which were previously part of our underlying measure. The following pages provide further details, including a reconciliation from reported to adjusted results.
 

 

HSBC HOLDINGS PLC

 

40


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

For acquisitions, disposals and changes of ownership levels of subsidiaries, associates, joint ventures and businesses, we eliminate the gain or loss on disposal or dilution and any associated gain or loss on reclassification or impairment recognised in the year incurred, and remove the operating profit or loss of the acquired, disposed of or diluted subsidiaries, associates,

joint ventures and businesses from all the years presented so we can view results on a like-for-like basis. Disposal of strategic investments other than those included in the above definition would be included in other significant items if material.

The following acquisitions, disposals and changes to ownership levels affected adjusted performance:

 

 

Disposal gains/(losses) affecting adjusted performance

 

     Date      Disposal
gain/(loss)
US$m
 

Reclassification gain in respect of our holding in Industrial Bank Co., Limited following the issue of additional share capital to third parties1

     Jan 2013         1,089   

HSBC Insurance (Asia-Pacific) Holdings Limited’s disposal of its shareholding in Bao Viet Holdings1

     Mar 2013         104   

Household Insurance Group Holding company’s disposal of its insurance manufacturing business1

     Mar 2013         (99

HSBC Seguros, S.A. de C.V., Grupo Financiero HSBC’s disposal of its property and Casualty Insurance business in Mexico1

     Apr 2013         20   

HSBC Bank plc’s disposal of its shareholding in HSBC (Hellas) Mutual Funds Management SA2

     Apr 2013         (7

HSBC Insurance (Asia-Pacific) Holdings Limited disposal of its shareholding in Hana HSBC Life Insurance Company Limited1

     May 2013         28   

HSBC Bank plc’s disposal of HSBC Assurances IARD2

     May 2013         (4

The Hongkong and Shanghai Banking Corporation Limited’s disposal of HSBC Life (International) Limited’s Taiwan branch operations2

     June 2013         (36

HSBC Markets (USA) Inc.’s disposal of its subsidiary, Rutland Plastic Technologies2

     Aug 2013         17   

HSBC Insurance (Singapore) Pte Ltd’s disposal of its Employee Benefits Insurance business in Singapore2

     Aug 2013         (8

HSBC Investment Bank Holdings plc’s disposal of its investment in associate FIP Colorado2

     Aug 2013         (5

HSBC Investment Bank Holdings plc group’s disposal of its investment in subsidiary, Viking Sea Tech1

     Aug 2013         54   

HSBC Latin America Holdings UK Limited’s disposal of HSBC Bank (Panama) S.A.2

     Oct 2013         1,107   

HSBC Latin America Holdings UK Limited’s disposal of HSBC Bank (Peru) S.A.2

     Nov 2013         (18

HSBC Latin America Holdings UK Limited’s disposal of HSBC Bank (Paraguay) S.A.2

     Nov 2013         (21

Reclassification loss in respect of our holding in Yantai Bank Co., Limited following an increase in its registered share capital1

     Dec 2013         (38

HSBC Latin America Holdings UK Limited’s disposal of HSBC Bank (Colombia) S.A.1

     Feb 2014         18   

Reclassification loss in respect of our holding in Vietnam Technological & Commercial Joint Stock Bank following the loss of significant influence1

     Jun 2014         (32

HSBC Bank Middle East Limited’s disposal of its operations in Pakistan1

     Oct 2014         (27

For footnotes, see page 109.

 

Foreign currency translation differences
(‘constant currency’)

Foreign currency translation differences reflect the movements of the US dollar against most major currencies during 2014. We exclude the translation differences when using constant currency because it allows us to assess balance sheet and income statement performance on a like-for-like basis to better understand the underlying trends in the business.

Foreign currency translation differences

 

Foreign currency translation differences for 2013 are computed by retranslating into US dollars for non-US dollar branches, subsidiaries, joint ventures and associates:

 

•     the income statements for 2013 at the average rates of exchange
for 2014; and

 

•     the balance sheet at 31 December 2013 at the prevailing rates of
exchange on 31 December 2014.

 

Foreign currency translation differences for 2012 referred to in the 2013 commentaries are computed on the same basis, by applying average rates of exchange for 2013 to the 2012 income and rates of exchange on 31 December 2013 to the balance sheet at 31 December 2012.

 

No adjustment has been made to the exchange rates used to translate foreign currency denominated assets and liabilities into the functional currencies of any HSBC branches, subsidiaries, joint ventures or associates. When reference is made to foreign currency translation differences in tables or commentaries, comparative data reported in the functional currencies of HSBC’s operations have been translated at the appropriate exchange rates applied in the current year on the basis described above.

 

 

 

HSBC HOLDINGS PLC

 

41


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Other significant items

The following tables detail the effect of other significant items in 2014 and 2013 on each of our geographical segments and global businesses.

Other significant items affecting adjusted performance – Losses/(gains)

 

    2014  
    Europe     Asia     MENA    

North

America

   

Latin

America

    Total  
    US$m     US$m     US$m     US$m     US$m     US$m  

Revenue

Debit valuation adjustment on derivative contracts

  234      69      5      16      8      332   

Fair value movements on non-qualifying hedges3

  235      4           302           541   

Gain on sale of several tranches of real estate secured accounts
in the US

                 (168        (168

Gain on sale of shareholding in Bank of Shanghai

       (428                  (428

Impairment of our investment in Industrial Bank

       271                     271   

Provisions arising from the ongoing review of compliance with the Consumer Credit Act in the UK

  632                          632   
  1,101      (84   5      150      8      1,180   

Operating expenses

Charge in relation to the settlement agreement with Federal Housing Finance Authority

                 550           550   

Settlements and provisions in connection with foreign exchange investigations

  1,187                          1,187   

Restructuring and other related costs

  123      9      2      28      116      278   

Regulatory provisions in GPB

  16      49                     65   

UK customer redress programmes

  1,275                          1,275   
          2,601      58      2              578              116              3,355   
    RBWM     CMB     GB&M     GPB     Other     Total  
    US$m     US$m     US$m     US$m     US$m     US$m  

Revenue

Debit valuation adjustment on derivative contracts

            332                332   

Fair value movements on non-qualifying hedges3

  493      (1   8      1      40      541   

Gain on sale of several tranches of real estate secured accounts
in the US

  (168                       (168

Gain on sale of shareholding in Bank of Shanghai

                      (428   (428

Impairment of our investment in Industrial Bank

                      271      271   

Provisions arising from the ongoing review of compliance with the Consumer Credit Act in the UK

  568      24           40           632   
  893      23      340      41      (117   1,180   

Operating expenses

Charge in relation to the settlement agreement with Federal Housing Finance Authority

  17           533                550   

Settlements and provisions in connection with foreign exchange investigations

            1,187                1,187   

Restructuring and other related costs

  88      37      27      6      120      278   

Regulatory provisions in GPB

                 65           65   

UK customer redress programmes

  992      138      145                1,275   
  1,097              175              1,892      71      120      3,355   

 

HSBC HOLDINGS PLC

 

42


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

         2013  
         Europe
US$m
          Asia
US$m
          MENA
US$m
         

North

America
US$m

         

Latin

America
US$m

          Total
US$m
 

Revenue

                                  

Net gain on completion of Ping An disposal

                  (553                                          (553

Debit valuation adjustment on derivative contracts

       (65         (40         (2         14            (13         (106

Fair value movements on non-qualifying hedges3

       (297         32                       (246                    (511

FX gains relating to sterling debt issued by HSBC Holdings

       (442                                                     (442

Write-off of allocated goodwill relating to the GPB Monaco business

       279                                                        279   

Loss on sale of several tranches of real estate secured accounts in the US

                                        123                       123   

Loss on sale of non-real estate secured accounts in the US

                                        271                       271   

Loss on early termination of cash flow hedges in the US run-off portfolio

                                        199                       199   

Loss on sale of an HFC Bank UK secured loan portfolio

       146                                                        146   
       (379         (561         (2         361            (13         (594

Operating expenses

                                  

Restructuring and other related costs

       217            86            4            101            75            483   

UK customer redress programmes

       1,235                                                        1,235   

Madoff-related litigation costs

       298                                                        298   

Regulatory provisions in GPB

       317            35                                             352   

US customer remediation provisions relating to CRS

                                        100                       100   

Accounting gain arising from change in basis of delivering ill-health benefits in the UK

       (430                                                     (430
               1,637                    121            4            201            75            2,038   
         RBWM
US$m
          CMB
US$m
          GB&M
US$m
          GPB
US$m
          Other
US$m
          Total
US$m
 

Revenue

                                  

Net gain on completion of Ping An disposal

                                                   (553         (553

Debit valuation adjustment on derivative contracts

                             (106                               (106

Fair value movements on non-qualifying hedges3

       (262                    18                       (267         (511

FX gains relating to sterling debt issued by HSBC Holdings

                                                   (442         (442

Write-off of allocated goodwill relating to the GPB Monaco business

                                        279                       279   

Loss on sale of several tranches of real estate secured accounts in the US

       123                                                        123   

Loss on sale of non-real estate secured accounts in the US

       271                                                        271   

Loss on early termination of cash flow hedges in the US run-off portfolio

       199                                                        199   

Loss on sale of an HFC Bank UK secured loan portfolio

       146                                                        146   
       477                       (88         279            (1,262         (594

Operating expenses

                                  

Restructuring and other related costs

       167            31            13            73            199            483   

UK customer redress programmes

       953            148            134                                  1,235   

Madoff-related litigation costs

                             298                                  298   

Regulatory provisions in GPB

                                        352                       352   

US customer remediation provisions relating to CRS

       100                                                        100   

Accounting gain arising from change in basis of delivering ill-health benefits in the UK

       (189         (160         (81                               (430
       1,031            19                    364                    425                    199                  2,038   

For footnote, see page 109

 

HSBC HOLDINGS PLC

 

43


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

The following table reconciles selected reported items for 2014 and 2013 to adjusted items. Equivalent tables

are provided for each of our global businesses and geographical segments on www.hsbc.com.

 

 

Reconciliation of reported and adjusted items

 

  2014     2013       Change5  
  US$m     US$m   %  

Revenue4

Reported

  61,248      64,645      (5

Currency translation adjustment6

  (686

Own credit spread7

  (417   1,246   

Acquisitions, disposals and dilutions

  (9   (2,757

Other significant items

  1,180      (594

Adjusted

  62,002      61,854        

Loan impairment charges and other credit risk provisions

Reported

  (3,851   (5,849   34   

Currency translation adjustment6

  168   

Acquisitions, disposals and dilutions

       67   

Other significant items

         

Adjusted

  (3,851   (5,614   31   

Total operating expenses

Reported

  (41,249   (38,556   (7

Currency translation adjustment6

  348   

Acquisitions, disposals and dilutions

  40      488   

Other significant items

  3,355      2,038   

Adjusted

  (37,854   (35,682   (6

Adjusted cost efficiency ratio

  61.1%      57.7%   

Share of profit in associates and joint ventures

Reported

  2,532      2,325      9   

Currency translation adjustment6

  11   

Acquisitions, disposals and dilutions

       87   

Other significant items

         

Adjusted

  2,532      2,423      4   

Profit before tax

Reported

  18,680      22,565      (17

Currency translation adjustment6

  (159

Own credit spread7

  (417   1,246   

Acquisitions, disposals and dilutions

  31      (2,115

Other significant items

  4,535      1,444   

Adjusted

          22,829              22,981      (1

For footnotes, see page 109.

Adjusted profit before tax

 

  2014     2013       Change5  
  US$m     US$m   %  

By global business

Retail Banking and Wealth Management

  7,648      7,959      (4

Commercial Banking

  8,940      7,910      13   

Global Banking and Markets

  8,114      9,208      (12

Global Private Banking

  738      900      (18

Other

  (2,611   (2,996   13   

Year ended 31 December

  22,829      22,981      (1

By geographical region

Europe

  3,905      4,301      (9

Asia8

  14,635      14,309      2   

Middle East and North Africa

  1,854      1,673      11   

North America

  2,111      2,048      3   

Latin America

  324      650      (50

Year ended 31 December

          22,829              22,981      (1

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

 

44


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Report of the Directors: Financial Review (continued)

 

 

Return on Equity and Return on Tangible Equity

 

ROTE is computed by adjusting reported results for the movements in the present value of in-force long-term insurance business (‘PVIF’), impairments of goodwill, and adjusting the reported equity for goodwill, intangibles and PVIF. The adjustment to reported results and reported equity excludes amounts

attributable to non-controlling interests.

We provide ROTE as an additional measure to ROE to provide a way to look at our performance which is closely aligned to our capital position.

The following table details the adjustments made to the reported results and equity:

 

 

    2014
US$m
    2013
US$m
    2012
US$m
 

Profit

Profit attributable to the ordinary shareholders of the parent company

  13,115      15,631      13,454   

Goodwill impairment (net of tax)

       279        

Increase in PVIF (net of tax)

  (213   (397   (537

Profit attributable to the ordinary shareholders, excl. goodwill impairment and PVIF

  12,901      15,513      12,917   

Equity

Average ordinary shareholders’ equity

  178,898      169,260      159,564   

Effect of Goodwill and intangibles (net of deferred tax)

  (23,423   (24,042   (24,859

Effect of PVIF (net of deferred tax)

  (4,317   (3,982   (3,557

Average tangible equity

      151,158          141,236          131,148   
    %     %     %  

Ratio

Return on equity

  7.3      9.2      8.4   

Return on tangible equity

  8.5      11.0      9.8   

 

HSBC HOLDINGS PLC

44a


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Consolidated income statement

Five-year summary consolidated income statement

 

   

2014

US$m

   

2013

US$m

   

2012

US$m

   

2011

US$m

   

2010

US$m

 

Net interest income

  34,705      35,539      37,672      40,662      39,441   

Net fee income

  15,957      16,434      16,430      17,160      17,355   

Net trading income

  6,760      8,690      7,091      6,506      7,210   

Net income/(expense) from financial instruments designated
at fair value

  2,473      768      (2,226   3,439      1,220   

Gains less losses from financial investments

  1,335      2,012      1,189      907      968   

Dividend income

  311      322      221      149      112   

Net insurance premium income

  11,921      11,940      13,044      12,872      11,146   

Gains on disposal of US branch network, US cards business and Ping An Insurance (Group) Company of China, Ltd

            7,024             

Other operating income

  1,131      2,632      2,100      1,766      2,562   

Total operating income

      74,593          78,337          82,545          83,461          80,014   

Net insurance claims and benefits paid and movement in liabilities to policyholders

  (13,345   (13,692   (14,215   (11,181   (11,767

Net operating income before loan impairment charges and other credit risk provisions

  61,248      64,645      68,330      72,280      68,247   

Loan impairment charges and other credit risk provisions

  (3,851   (5,849   (8,311   (12,127   (14,039

Net operating income

  57,397      58,796      60,019      60,153      54,208   

Total operating expenses

  (41,249   (38,556   (42,927   (41,545   (37,688

Operating profit

  16,148      20,240      17,092      18,608      16,520   

Share of profit in associates and joint ventures

  2,532      2,325      3,557      3,264      2,517   

Profit before tax

  18,680      22,565      20,649      21,872      19,037   

Tax expense

  (3,975   (4,765   (5,315   (3,928   (4,846

Profit for the year

  14,705      17,800      15,334      17,944      14,191   

Profit attributable to shareholders of the parent company

  13,688      16,204      14,027      16,797      13,159   

Profit attributable to non-controlling interests

  1,017      1,596      1,307      1,147      1,032   

Five-year financial information

 

  

   

2014

US$

   

2013

US$

   

2012

US$

   

2011

US$

   

2010

US$

 

Basic earnings per share

  0.69      0.84      0.74      0.92      0.73   

Diluted earnings per share

  0.69      0.84      0.74      0.91      0.72   

Dividends per ordinary share9

  0.49      0.48      0.41      0.39      0.34   
    %     %     %     %     %  

Dividend payout ratio10

  71.0      57.1      55.4      42.4      46.6   

Post-tax return on average total assets

  0.5      0.7      0.6      0.6      0.6   

Return on average ordinary shareholders’ equity

  7.3      9.2      8.4      10.9      9.5   

Average foreign exchange translation rates to US$:

US$1: £

  0.607      0.639      0.631      0.624      0.648   

US$1:

  0.754      0.753      0.778      0.719      0.755   

For footnotes, see page 109.

Unless stated otherwise, all tables in the Annual Report and Accounts 2014 are presented on a reported basis.

For a summary of our financial performance in 2014, see page 28.

 

HSBC HOLDINGS PLC

45


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Group performance by income and expense item

Net interest income

 

   

2014

US$m

   

2013

US$m

   

2012

US$m

 

Interest income

  50,955      51,192      56,702   

Interest expense

  (16,250   (15,653   (19,030

Net interest income11

  34,705      35,539      37,672   

Average interest-earning assets

      1,786,536          1,669,368          1,625,068   

Gross interest yield12

  2.85%      3.07%      3.49%   

Less: cost of funds

  (1.05%   (1.10%   (1.36%

Net interest spread13

  1.80%      1.97%      2.13%   

Net interest margin14

  1.94%      2.13%      2.32%   

For footnotes, see page 109.

Summary of interest income by type of asset

 

    2014     2013     2012  
   

Average

balance

US$m

   

Interest

income

US$m

   

Yield

%

   

Average

balance

US$m

   

Interest

income

US$m

   

Yield

%

   

Average

balance

US$m

   

Interest

income

US$m

   

Yield

%

 

Short-term funds and loans and advances to banks27

  237,148      3,068      1.29      236,377      2,851      1.21      235,831      3,505      1.49   

Loans and advances to customers27

  931,311      37,429      4.02      897,322      38,529      4.29      891,699      40,870      4.58   

Reverse repurchase agreements – non-trading26,27

  198,273      1,800      0.91      114,324      995      0.87      83,105      975      1.17   

Financial investments

  399,816      8,323      2.08      393,309      8,002      2.03      387,329      9,078      2.34   

Other interest-earning assets

  19,988      335      1.68      28,036      815      2.91      27,104      2,274      8.39   

Total interest-earning assets

  1,786,536      50,955      2.85      1,669,368      51,192      3.07      1,625,068      56,702      3.49   

Trading assets and financial assets designated at fair value15,16,26

  238,958      5,596      2.34      354,817      5,763      1.62      368,406      6,931      1.88   

Impairment provisions

  (14,015   (15,954   (17,421

Non-interest-earning assets

  668,564            683,785            730,901         

Year ended 31 December

    2,680,043        56,551      2.11        2,692,016        56,955        2.12        2,706,954        63,633      2.35   

 

For footnotes, see page 109.

 

Summary of interest expense by type of liability and equity

 

  

  

    2014     2013     2012  
   

Average

balance

US$m

   

Interest

expense

US$m

   

Cost

%

   

Average

balance

US$m

   

Interest

expense

US$m

   

Cost

%

   

Average

balance

US$m

   

Interest

expense

US$m

   

Cost

%

 

Deposits by banks17,27

  61,217      481      0.79      61,616      555      0.90      78,023      1,001      1.28   

Financial liabilities designated at fair value – own debt issued18

  66,374      837      1.26      72,333      967      1.34      75,016      1,325      1.77   

Customer accounts19,27

  1,088,493      9,131      0.84      1,035,500      8,794      0.85      1,012,056      10,650      1.05   

Repurchase agreements – non-trading26,27

  190,705      652      0.34      94,410      405      0.43      55,536      387      0.70   

Debt securities in issue

  129,724      4,554      3.51      150,976      4,182      2.77      161,348      4,755      2.95   

Other interest-bearing liabilities

  10,120      595      5.88      11,345      750      6.61      19,275      912      4.73   

Total interest-bearing liabilities

  1,546,633      16,250      1.05      1,426,180      15,653      1.10      1,401,254      19,030      1.36   

Trading liabilities and financial liabilities designated at fair value (excluding own debt issued)26

  178,518      2,856      1.60      301,353      3,027      1.00      318,883      3,445      1.08   

Non-interest bearing current accounts

  185,990      184,370      177,085   

Total equity and other non-interest bearing liabilities

  768,902            780,113            809,732         

Year ended 31 December

  2,680,043      19,106      0.71      2,692,016      18,680      0.69      2,706,954      22,475      0.83   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

46


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reported net interest income of US$35bn decreased by US$834m or 2% compared with 2013. This included the

significant items and currency translation summarised in the table below.

 

 

Significant items and currency translation

 

   

2014

          US$m

   

2013

          US$m

 

Significant items

Provisions arising from the ongoing review of compliance with the Consumer Credit Act in the UK

  (632     

Acquisitions, disposals and dilutions

  38      386   
  (594   386   

Currency translation

       518   

Year ended 31 December

  (594   904   

 

On a reported basis, net interest spread and margin both fell, reflecting lower yields on customer lending in North America and Europe. In North America, this was due to changes in the composition of the lending portfolios towards lower yielding secured assets and to the run-off of the CML portfolio. In Europe, it was principally due to a significant item, namely provisions arising from the ongoing review of compliance with the Consumer Credit Act (‘CCA’) in the UK. These factors were partially offset by a lower cost of funds.

Excluding the significant items and currency translation tabulated above, net interest income rose by US$664m or 2% from 2013, driven by increases in Asia, partly reflecting growth in customer lending volumes.

Interest income

Reported interest income was broadly unchanged, as decreases in interest income from customer lending (which included the effect of the CCA provisions) were offset by increases in income from short-term funds, as well as a rise due to the change in the management of reverse repo transactions (see page 48).

Interest income on loans and advances to customers decreased, principally in North America and Latin America, partially offset by increases in Asia. In North America, this was a consequence of the disposal of the higher yielding non-real estate loan portfolio and the reduction in the CML portfolio from run-off and sales. In addition, new lending to customers in RBWM and CMB was at lower yields, reflecting a shift in the portfolio towards higher levels of lower yielding first lien real estate secured loans. In Latin America, interest income on customer lending also decreased, reflecting a fall in yields in both Brazil and Mexico, despite the rise in average balances in term lending in both countries. In Brazil, the falling yield reflected the shift in product and client mix to more secured, relationship-led lending while, in Mexico, it was driven by reductions in Central Bank interest rates. The region was also affected by the disposal of non-strategic businesses.

By contrast, we recorded increased interest income on customer lending in Asia, driven by growth in term lending volumes and, to a lesser extent, residential mortgages during the year. This increase in balances

was partially offset by compressed yields. In Europe, excluding the effect of the CCA provisions noted above, interest income on customer lending rose due to increases in mortgage and term lending balances.

Interest income on short-term funds and financial investments increased both in Latin America and Asia, as interest rates rose in certain countries in these regions (notably in Brazil, Argentina and mainland China) and average balances grew. However, in Europe, interest income on short-term funds and financial investments fell as maturing positions were replaced by longer-term but lower-yielding bonds.

Interest expense

Reported interest expense increased in the year. We recorded increased interest expense on customer accounts in Asia and Latin America, partly offset by a reduction in North America. In Asia, the growth was principally from an increase in the average balances of customer accounts. In Latin America, interest expense on customer accounts rose as reductions in average balances were more than offset by the increase in the cost of funds due to interest rate rises, notably in Brazil. However, the effects of this were partly offset by a fall in the cost of funds in Mexico as Central Bank rates fell, and the disposal of non-strategic businesses. Conversely, in North America, interest expense on customer deposits declined as a result of a strategic decision to re-price deposits downwards. In addition, other interest expense decreased due to a release of accrued interest associated with an uncertain tax position.

Interest expense on debt issued rose. We recorded an increase in the cost of funds which was partly offset by decreased overall balances. Interest expense rose in Latin America, notably in Brazil, in line with interest rate rises and increased medium-term loan note balances. By contrast, in North America the business disposals led to a decline in our funding requirements. The cost of funds also fell as higher coupon debt matured and was repaid. In Europe, interest expense on debt also decreased, as average outstanding balances fell as a result of net redemptions and the cost of funds reduced.

 

 

HSBC HOLDINGS PLC

47


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Repos and reverse repos

During the final quarter of 2013, GB&M changed the way it managed reverse repurchase (‘reverse repo’) and repurchase (‘repo’) activities. This had the effect of reducing the net interest margin as average interest earning assets and interest bearing liabilities increased significantly. These reverse repo and repo agreements have a lower gross yield and cost of funds, respectively, than the remainder of our portfolio.

 

‘Net interest income’ includes the expense of internally funded trading assets, while related revenue is reported in ‘Net trading income’. The internal cost of funding these assets decreased, as average trading asset balances fell to a greater extent than trading liabilities. In reporting our global business results, this cost is included within ‘Net trading income’.

 

 

Net fee income

 

   

2014

US$m

   

2013

US$m

   

2012

US$m

 

Account services

  3,407      3,581      3,563   

Funds under management

  2,658      2,673      2,561   

Cards

  2,460      2,455      3,030   

Credit facilities

  1,890      1,907      1,761   

Broking income

  1,371      1,388      1,350   

Imports/exports

  1,115      1,157      1,196   

Unit trusts

  1,005      891      739   

Underwriting

  872      866      739   

Remittances

  833      849      819   

Global custody

  726      698      737   

Insurance

  516      551      696   

Other

  2,692      2,957      2,958   

Fee income

                19,545                    19,973                    20,149   

Less: fee expense

  (3,588   (3,539   (3,719

Year ended 31 December

  15,957      16,434      16,430   

 

Reported net fee income fell by US$477m, primarily in Latin America and North America. In Latin America, the decrease included the effect of currency translation and the continued repositioning and disposal of businesses, notably the sale of our Panama operations in 2013. In North America, net fee income was lower following the expiry of the Transition Servicing Agreements we entered into with the buyer of the Card and Retail Services (‘CRS’) business, and adverse adjustments to mortgage servicing rights valuations.

Account services fee income decreased, notably in Latin America and Europe. In Latin America, the fall was due to a reduction in customer numbers in Mexico, as we continued to reposition the business, and in Brazil, due to strong market competition. In Europe, account services fees were lower, primarily in Switzerland due

to the repositioning of our GPB business, and in the UK, in part reflecting the implementation of the Retail Distribution Review in 2013.

By contrast, unit trust fees rose, primarily in Asia, due to increased sales of equity funds in Hong Kong.

Other fee income declined in North America due to the expiry of the Transition Servicing Agreements and in Latin America following the sale of our operations in Panama in 2013 and the continued repositioning of the business in Mexico.

In addition, fee expenses were higher due to adverse adjustments to mortgage servicing rights valuations in North America, reflecting mortgage interest rate decreases in 2014 which compared with increases in 2013.

 

 

HSBC HOLDINGS PLC

48


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Net trading income

 

   

2014

            US$m

   

2013

            US$m

   

2012

            US$m

 

Trading activities20

  5,419      6,921      5,249   

Ping An contingent forward sale contract

       (682   (553

Net interest income on trading activities

  1,907      2,047      2,683   

Gain/(loss) on termination of hedges

  1      (194     

Other trading income – hedge ineffectiveness:

– on cash flow hedges

  34      22      35   

– on fair value hedges

  19      65      (27

Fair value movement on non-qualifying hedges21

  (620   511      (296

Year ended 31 December

  6,760      8,690      7,091   

For footnotes, see page 109.

 

Reported net trading income of US$6.8bn was US$1.9bn lower, predominantly in Europe. The reduction in net

trading income was partly driven by the significant items summarised in the table below.

 

 

Significant items and currency translation

 

   

2014

            US$m

   

2013

            US$m

 

Significant items

Included within trading activities:

  (332   548   

– Debit valuation adjustment on derivative contracts

  (332   106   

– FX gains relating to sterling debt issued by HSBC Holdings

       442   

Included in other net trading income:

  (539   (346

– Ping An contingent forward sale contract22

       (682

– Loss on early termination of cash flow hedges in the US run-off portfolio

       (199

– Fair value movement on non-qualifying hedges

  (541   511   

– Acquisitions, disposals and dilutions

  2      24   

 

          
                        
  (871   202   

Currency translation

       (11

Year ended 31 December

  (871   191   

For footnote, see page 109.

 

Excluding the significant items and currency translation tabulated above, net trading income from trading activities decreased by US$0.6bn, notably in Markets within GB&M. This was predominantly driven by our Foreign Exchange business, which was affected by lower volatility and reduced client flows. In Equities, revenue decreased, as 2013 benefited from higher revaluation gains which more than offset a rise in 2014 in revenue from increased client flows and higher derivatives income.

In 2014, we revised our estimation methodology for valuing uncollateralised derivative portfolios by introducing the funding fair value adjustment (‘FFVA’), resulting in a reduction in net trading income of US$263m, primarily in Rates (US$164m) and Credit (US$97m). Excluding the FFVA, Credit was also affected by adverse movements on credit spreads and a reduction in revenue in Legacy Credit. By contrast, Rates was affected by favourable market movements, notably in

Asia, along with minimal fair value movements on our own credit spread on structured liabilities compared with adverse movements in 2013. These factors were partly offset by a fall in Rates in Europe.

Included within net trading income from trading activities, there were favourable foreign exchange movements on assets held as economic hedges of foreign currency debt designated at fair value, compared with adverse movements in 2013. These movements offset fair value movements on the foreign currency debt which are reported in ‘Net income/(expense) from financial instruments designated at fair value’.

In addition, net interest income from trading activities fell due to lower average balances, notably relating to reverse repo and repo agreements, in line with the change in the way GB&M manages these agreements. The net interest income from these activities is now recorded in ‘Net interest income’.

 

 

HSBC HOLDINGS PLC

49


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Net income/(expense) from financial instruments designated at fair value

 

    2014
            US$m
    2013
            US$m
    2012
            US$m
 

Net income/(expense) arising from:

– financial assets held to meet liabilities under insurance and investment contracts

  2,300      3,170      2,980   

– liabilities to customers under investment contracts

  (435   (1,237   (996

– HSBC’s long-term debt issued and related derivatives

  508      (1,228   (4,327

– change in own credit spread on long-term debt (significant item)

  417      (1,246   (5,215

– other changes in fair value22

  91      18      888   

– other instruments designated at fair value and related derivatives

  100      63      117   

Year ended 31 December

  2,473      768      (2,226

For footnote, see page 109.

 

Assets and liabilities from which net income/(expense) from financial instruments designated at fair value arose

 

  

  

   

2014

US$m

   

2013

US$m

   

2012

US$m

 

Financial assets designated at fair value at 31 December

  29,037      38,430      33,582   

Financial liabilities designated at fair value at 31 December

  76,153      89,084      87,720   

Including:

Financial assets held to meet liabilities under:

– insurance contracts and investment contracts with DPF

  10,650      10,717      8,376   

– unit-linked insurance and other insurance and investment contracts

  16,333      25,423      23,655   

Long-term debt issues designated at fair value

              69,681                  75,278                  74,768   

 

The accounting policies for the designation of financial instruments at fair value and the treatment of the associated income and expenses are described in Note 2 on the Financial Statements.

The majority of the financial liabilities designated at fair value are fixed-rate long-term debt issues, the interest rate profile of which has been changed to floating through swaps as part of a documented interest rate management strategy. The movement in fair value of these long-term debt issues and the related hedges includes the effect of our credit spread changes and any ineffectiveness in the economic relationship between the related swaps and own debt. The size and direction of the changes in the credit spread on our debt and ineffectiveness, which are recognised in the income statement, can be volatile from year to year, but do not alter the cash flows expected as part of the documented interest rate management strategy. As a consequence, fair value movements arising from changes in our own credit spread on long-term debt and other fair value movements on the debt and related derivatives are not regarded internally as part of managed performance and are therefore not allocated to global businesses, but are reported in ‘Other’. Credit spread movements on own debt designated at fair value are excluded from adjusted results, and related fair value movements are not included in the calculation of regulatory capital.

Reported net income from financial instruments designated at fair value was US$2.5bn in 2014, compared with US$768m in 2013. The former included favourable movements in the fair value of our own long-term debt of US$417m due to changes in credit spread, compared with adverse movements of US$1.2bn in 2013. Excluding

this significant item, net income from financial instruments designated at fair value increased by US$42m.

Net income arising from financial assets held to meet liabilities under insurance and investment contracts of US$2.3bn was US$870m lower than in 2013. This was driven by weaker equity market performance in the UK and France, partly offset by improved equity market performance in Hong Kong and higher net income on the bonds portfolio in Brazil.

Investment gains or losses arising from equity markets result in a corresponding movement in liabilities to customers, reflecting the extent to which unit-linked policyholders, in particular, participate in the investment performance of the associated asset portfolio. Where these relate to assets held to back investment contracts, the corresponding movement in liabilities to customers is also recorded under ‘Net income/(expense) from financial instruments designated at fair value’. This is in contrast to gains or losses related to assets held to back insurance contracts or investment contracts with discretionary participation features (‘DPF’), where the corresponding movement in liabilities to customers is recorded under ‘Net insurance claims and benefits paid and movement in liabilities to policyholders’.

Other changes in fair value reflected a net favourable movement due to interest and exchange rate hedging ineffectiveness. This was partly offset by net adverse foreign exchange movements on foreign currency debt designated at fair value and issued as part of our overall funding strategy (offset from assets held as economic hedges in ‘Net trading income’).

 

 

HSBC HOLDINGS PLC

50


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Gains less losses from financial investments

 

   

2014

            US$m

   

2013

            US$m

   

2012

            US$m

 

Net gains/(losses) from disposal of:

– debt securities

  665      491      781   

– equity securities

  1,037      1,697      823   

– other financial investments

  6      (1   5   
  1,708      2,187      1,609   

Impairment of available-for-sale equity securities

  (373   (175   (420

Year ended 31 December

  1,335      2,012      1,189   

 

Reported gains less losses from financial investments were US$1.3bn, a decrease of US$677m from 2013. The decrease

primarily reflected the significant items summarised below.

 

 

Significant items and currency translation

 

   

2014

            US$m

   

2013

            US$m

 

Significant items

Gain on sale of shareholding in Bank of Shanghai

  428        

Impairment on our investment in Industrial Bank

  (271     

Net gain on completion of Ping An disposal22

       1,235   

Acquisitions, disposals and dilutions

       5   
  157      1,240   

Currency translation

       (10

Year ended 31 December

  157      1,230   

For footnote, see page 109.

 

Excluding the significant items and currency translation noted above, gains less losses from financial investments increased by US$396m, primarily driven by higher net gains on the disposal of debt securities as we actively managed the Legacy Credit portfolio. In addition, we

reported higher gains on sale of available-for-sale equity securities and lower impairments on available-for-sale equity securities from improved market conditions and business performance of the underlying portfolio.

 

 

Net insurance premium income

 

   

2014

US$m

   

2013

US$m

   

2012

US$m

 

Gross insurance premium income

              12,370                  12,398                  13,602   

Reinsurance premiums

  (449   (458   (558

Year ended 31 December

  11,921      11,940      13,044   

 

Reported net insurance premium income was broadly unchanged, with reductions in Europe and Latin America largely offset by higher premium income in Asia.

In Asia, premium income rose, primarily in Hong Kong, due to increased new business from deferred annuity, universal life and endowment contracts. This was partly offset by lower new business from unit-linked contracts.

In Europe, premium income decreased, mainly in the UK, reflecting lower sales following the withdrawal of

external independent financial adviser distribution channels for certain linked insurance contracts in the second half of 2013. This was partly offset by increases in France, mainly reflecting higher sales of investment contracts with DPF.

Net insurance premium income also fell in Latin America, primarily in Brazil, reflecting lower sales, in part due to changes in our distribution channel.

 

 

HSBC HOLDINGS PLC

51


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Other operating income

 

   

2014

            US$m

   

2013

            US$m

   

2012

            US$m

 

Rent received

  162      155      210   

Gains/(losses) recognised on assets held for sale

  220      (729   485   

Gains on investment properties

  120      113      72   

Gain on disposal of property, plant and equipment, intangible assets and non-financial investments

  32      178      187   

Gains/(losses) arising from dilution of interest in Industrial Bank and other associates and joint ventures

  (32   1,051        

Gain on disposal of HSBC Bank (Panama) S.A.

       1,107        

Change in present value of in-force long-term insurance business

  261      525      737   

Other

  368      232      409   

Year ended 31 December

  1,131      2,632      2,100   

 

Change in present value of in-force long-term insurance business

 

   

2014

US$m

   

2013

US$m

   

2012

US$m

 

Value of new business

  870      924      1,027   

Expected return

  (545   (505   (420

Assumption changes and experience variances

  (116   88      69   

Other adjustments

  52      18      61   

Year ended 31 December

  261      525      737   

 

Reported other operating income of US$1.1bn decreased by US$1.5bn from 2013. This was largely due to the significant items summarised in the table below.

 

 

 

Significant items and currency translation

 

    2014
            US$m
    2013
            US$m
 

Significant items

Included within gains/(losses) recognised on assets held for sale:

  168      (772

– write-off of allocated goodwill relating to the GPB Monaco business

       (279

– gain/(loss) on sale of the non-real estate portfolio in the US

       (271

– gain/(loss) on sale of several tranches of real estate secured accounts in the US

  168      (123

– Household Insurance Group Holding company’s disposal of its insurance manufacturing business2

       (99

Included within the remaining line items:

  (41   2,193   

– reclassification gain in respect of our holding in Industrial Bank Co., Limited following the issue of additional share capital to third parties2

       1,089   

– HSBC Latin America Holdings UK Limited’s disposal of HSBC Bank (Panama) S.A.3

       1,107   

– HSBC Insurance (Asia-Pacific) Holdings Limited’s disposal of its shareholding in Bao Viet Holdings2

       104   

– loss on sale of an HFC Bank UK secured loan portfolio

       (146

– acquisitions, disposals and dilutions

  (41   39   

Currency translation

       (18

Year ended 31 December

  127      1,403   

 

Excluding the significant items and currency translation tabulated above, other operating income decreased by US$0.2bn compared with 2013. This was primarily from lower favourable movements in 2014 in present value of in-force (‘PVIF’) long-term insurance business, and lower disposal and revaluation gains on investment properties, mainly in Hong Kong. The decrease was partly offset by gains reported in Legacy Credit in GB&M in the UK as we actively managed the portfolio.

Lower favourable movements in the PVIF long-term insurance business asset in 2014 were mainly due to the following factors:

  a reduction in the value of new business, mainly in Brazil, due to higher interest rates and lower volumes; and

 

  adverse assumption changes and experience variances in 2014 compared with favourable movements in 2013. This was mainly driven by falling interest rates in France and adverse actuarial assumption updates in Hong Kong, partly offset by the favourable effects of interest rate fluctuations, mainly in Asia and Brazil.
 

 

HSBC HOLDINGS PLC

52


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Net insurance claims and benefits paid and movement in liabilities to policyholders

 

    2014
            US$m
    2013
            US$m
    2012
            US$m
 

Net insurance claims and benefits paid and movement in liabilities to policyholders:

– gross

  13,723      13,948      14,529   

– less reinsurers’ share

  (378   (256   (314

Year ended 31 December24

  13,345      13,692      14,215   

For footnote, see page 109.

 

Reported net insurance claims and benefits paid and movement in liabilities to policyholders were US$347m lower than in 2013.

Movements in claims resulting from investment returns on the assets held to support policyholder contracts, where the policyholder bears investment risk, decreased. This reflected weaker equity market performance in the UK and France, partly offset by improved equity market performance in Hong Kong and higher net income on the

bonds portfolio in Brazil. The gains or losses recognised on the financial assets designated at fair value held to support these insurance and investment contract liabilities are reported in ‘Net income from financial instruments designated at fair value’.

Reductions in claims resulting from a decrease in new business written in Europe and Latin America were mostly offset by increases in Hong Kong as explained under ‘Net earned insurance premiums’.

 

 

Loan impairment charges and other credit risk provisions

 

    2014
            US$m
    2013
            US$m
    2012
            US$m
 

Loan impairment charges:

– new allowances net of allowance releases

  5,010      7,344      9,306   

– recoveries of amounts previously written off

  (955   (1,296   (1,146
    4,055      6,048      8,160   

Individually assessed allowances

  1,780      2,320      2,139   

Collectively assessed allowances

  2,275      3,728      6,021   

Impairment/(releases of impairment) on available-for-sale debt securities

  (319   (211   99   

Other credit risk provisions

  115      12      52   

Year ended 31 December

  3,851      5,849      8,311   

Impairment charges on loans and advances to customers as a percentage of average gross loans and advances to customers27

  0.4%      0.7%      0.9%   

For footnote, see page 109.

 

Reported loan impairment charges and other credit risk provisions (‘LICs’) of US$3.9bn were US$2.0bn lower than in 2013, primarily in North America, Europe and Latin America. The percentage of impairment charges to average gross loans and advances fell to 0.4% at 31 December 2014 from 0.7% at 31 December 2013.

Individually assessed charges decreased by US$540m, primarily in Europe, partly offset by an increase in Asia and the Middle East and North Africa. In Europe, they were lower, mainly in CMB in the UK, reflecting improved quality in the portfolio and the economic environment, as well as in GB&M. In Asia, the increase was on a small number of exposures in Hong Kong and in mainland China, primarily in CMB and GB&M, while in the Middle East and North Africa we recorded net charges compared with net releases in 2013, mainly due to lower releases on a particular UAE-related exposure in GB&M.

Collectively assessed charges declined by US$1.5bn, primarily due to decreases in North America and Latin America. In North America, the reduction was mainly in RBWM, reflecting reduced levels of delinquency and new impaired loans in the CML portfolio. A decrease in

lending balances from continued portfolio run-off and loan sales was partly offset by an increase relating to less favourable market value adjustments of underlying properties as improvements in housing market conditions were less pronounced in 2014 than in 2013. In Latin America, the reduction in collectively assessed charges was driven by the adverse effect of changes to the impairment model and assumption revisions for restructured loan portfolios in Brazil which occurred in 2013, both in RBWM and CMB. Charges were also lower due to reduced Business Banking provisions reflecting improved delinquency rates and the effect of the disposal of non-strategic businesses.

Net releases of credit risk provisions of US$204m were broadly unchanged, as higher releases on available-for-sale ABSs in GB&M in Europe were offset by provisions in Latin America and North America. In Latin America, a provision was made in Brazil against a guarantee in GB&M. In North America we recorded provisions in Canada, compared with releases in 2013, and in the US reflecting a deterioration in the underlying asset values of a specific GB&M exposure.

 

 

HSBC HOLDINGS PLC

53


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Operating expenses

 

    2014     2013     2012  
    US$m     US$m     US$m  

By expense category

Employee compensation and benefits

  20,366      19,196      20,491   

Premises and equipment (excluding depreciation and impairment)

  4,204      4,183      4,326   

General and administrative expenses

  14,361      12,882      15,657   

Administrative expenses

  38,931      36,261      40,474   

Depreciation and impairment of property, plant and equipment

  1,382      1,364      1,484   

Amortisation and impairment of intangible assets

  936      931      969   

Year ended 31 December

  41,249      38,556      42,927   

Staff numbers (full-time equivalents)

 

    2014     2013     2012  

Geographical regions

Europe

  69,363      68,334      70,061   

Asia8

  118,322      113,701      112,766   

Middle East and North Africa

  8,305      8,618      8,765   

North America

  20,412      20,871      22,443   

Latin America

  41,201      42,542      46,556   

At 31 December

          257,603              254,066              260,591   

For footnote, see page 109.

 

Reported operating expenses of US$41bn were US$2.7bn or 7% higher than in 2013. The increase in operating expenses was partly driven by the significant items noted in the table below, including settlements

and provisions in connection with foreign exchange investigations, of which US$809m was recorded in the fourth quarter of 2014 (see Note 40 on the Financial Statements for further details).

 

 

Significant items and currency translation

 

    2014     2013  
    US$m     US$m  

Significant items

Accounting gain arising from change in basis of delivering ill-health benefits in the UK

       (430

Charge in relation to settlement agreement with Federal Housing Finance Authority

  550        

Madoff-related litigation costs

       298   

Settlements and provisions in connection with foreign exchange investigations

  1,187        

Regulatory provisions in GPB

  65      352   

UK customer redress programmes

  1,275      1,235   

US customer remediation provision relating to CRS

       100   

Restructuring and other related costs

  278      483   

Acquisitions, disposals and dilutions

  40      488   
  3,395      2,526   

Currency translation

       348   

Year ended 31 December

              3,395                  2,874   

 

Excluding significant items and currency translation, operating expenses were US$2.2bn or 6% higher than in 2013.

Regulatory Programmes and Compliance costs increased as a result of the continued focus on Global Standards and the broader regulatory reform programme being implemented by the industry to build the necessary infrastructure to meet today’s enhanced compliance standards, along with implementation costs to meet obligations such as stress tests in different jurisdictions and structural reform.

During 2014, we accelerated the deployment of Global Standards throughout the Group. Our global businesses and Compliance function have developed operating procedures to meet our new global AML and sanctions policies and these are now being implemented in every

country, encompassing local requirements as necessary. During 2014, we invested in developing our financial crime compliance expertise and building strategic infrastructure solutions for customer due diligence, transaction monitoring and sanctions screening.

We continued to invest in strategic initiatives in support of organically growing our business, primarily in CMB in both Asia, in Business Banking and Global Trade and Receivables Finance and, to a lesser extent, in Europe. We also increased expenditure on marketing and advertising to support revenue generating initiatives, primarily in RBWM’s core propositions of Premier and Advance and personal lending products.

 

 

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The increase in costs also reflected:

 

  inflationary pressures, including wage inflation, primarily in Asia and Latin America;

 

  the UK bank levy charge, which increased to US$1.1bn in 2014 from US$904m in 2013, mainly due to an increase in the rate of the levy. Both years also included adjustments relating to the previous year’s bank levy charge (2014: US$45m favourable adjustment; 2013: US$12m adverse adjustment); and

 

  the Financial Services Compensation Scheme levy in the UK, as a result of the timing of the recognition.

During 2014, we generated further sustainable savings of US$1.3bn, primarily driven by re-engineering our back office processes, which in part offset the investments and inflation noted above.

The average number of FTEs was broadly unchanged as reductions through sustainable savings programmes were broadly offset by the initiatives related to Regulatory Programmes and Compliance and business growth.

 

 

Reported cost efficiency ratios25

 

   

2014

%

   

2013

%

   

2012

%

 

HSBC

  67.3      59.6      62.8   

Geographical regions

Europe

  93.7      84.0      108.4   

Asia8

  44.0      40.7      39.4   

Middle East and North Africa

  47.7      51.5      48.0   

North America

  78.9      72.9      60.8   

Latin America

  71.7      56.1      58.7   

Global businesses

Retail Banking and Wealth Management

  71.2      64.5      58.4   

Commercial Banking

  45.9      43.1      45.9   

Global Banking and Markets

  67.7      51.9      54.2   

Global Private Banking

  74.8      91.4      67.6   

 

For footnotes, see page 109.

 

Share of profit in associates and joint ventures

    2014
US$m
    2013
US$m
    2012
US$m
 

Associates

Bank of Communications Co., Limited

  1,974      1,878      1,670   

Ping An Insurance (Group) Company of China, Ltd

            763   

Industrial Bank Co., Limited

            670   

The Saudi British Bank

  455      403      346   

Other

  64      5      72   

Share of profit in associates

  2,493      2,286      3,521   

Share of profit in joint ventures

  39      39      36   

Year ended 31 December

          2,532              2,325              3,557   

 

HSBC’s reported share of profit in associates and joint ventures was US$2.5bn, an increase of US$207m or 9%, in part due to the non-recurrence of an impairment charge of US$106m on our banking associate in Vietnam in 2013. Excluding this, our share of profit in associates and joint ventures increased, driven by higher contributions from BoCom and The Saudi British Bank.

Our share of profit from BoCom rose as a result of balance sheet growth and increased trading income, partly offset by higher operating expenses and a rise in loan impairment charges.

At 31 December 2014, we performed an impairment review of our investment in BoCom and concluded that it was not impaired, based on our value in use calculation

(see Note 20 on the Financial Statements for further details).

In future periods, the value in use may increase or decrease depending on the effect of changes to model inputs. It is expected that the carrying amount will increase in 2015 due to retained profits earned by BoCom. At the point where the carrying amount exceeds the value in use, HSBC would continue to recognise its share of BoCom’s profit or loss, but the carrying amount would be reduced to equal the value in use, with a corresponding reduction in income, unless the market value has increased to a level above the carrying amount.

Profits from The Saudi British Bank rose, reflecting strong balance sheet growth.

 

 

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Tax expense

 

   

2014

US$m

   

2013

US$m

   

2012

US$m

 

Profit before tax

  18,680      22,565      20,649   

Tax expense

  (3,975   (4,765   (5,315

Profit after tax for the year ended 31 December

          14,705              17,800              15,334   

Effective tax rate

  21.3%      21.1%      25.7%   

 

The effective tax rate for 2014 of 21.3% was lower than the blended UK corporation tax rate for the year of 21.5%.

The effective tax rate in the year reflected the following recurring benefits: tax exempt income from government bonds and equities held by a number of Group entities and recognition of the Group’s share of post-tax profits of associates and joint ventures within our pre-tax income. In addition, the effective tax rate reflected a current tax credit for prior periods. This was partly offset by non-tax deductible settlements and provisions in connection with foreign exchange investigations.

The tax expense decreased by US$0.8bn to US$4.0bn for 2014, primarily due to a reduction in accounting profits and the benefit of the current tax credit for previous years.

In 2014, the tax borne and paid by the Group to the relevant tax authorities, including tax on profits, bank levy and employer-related taxes, was US$7.9bn (2013: US$8.6bn). The amount differs from the tax charge reported in the income statement due to indirect taxes such as VAT and the bank levy which are included in pre-tax profit, and the timing of payments.

We also play a major role as tax collector for governments in the jurisdictions in which we operate. Such taxes include employee-related taxes and taxes withheld from payments to deposit holders. In 2014, we collected US$9.1bn (2013: US$8.8bn).

 

 

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2013 compared with 2012

2013 compared with 2012 commentaries have not been updated to reflect our change from underlying performance to adjusted performance. For comparison, adjusted PBT would have been US$23.0bn and US$20.5bn for 2013 and 2012 respectively as compared with underlying PBT of US$21.6bn and US$15.3bn for 2013 and 2012 respectively. Constant currency, underlying and adjusted are reconciled on pages 105(b) to 105(au).

Consolidated income statement

Reported profit before tax of US$22.6bn in 2013 was US$1.9bn or 9% higher than in 2012. This was primarily due to lower adverse fair value movements of US$4.0bn on own debt designated at fair value resulting from changes in credit spreads and decreases in both loan impairment charges and other credit risk provisions (‘LICs’) of US$2.5bn and operating expenses of US$4.4bn. These factors were partially offset by lower gains (net of losses) from disposals and reclassifications of US$2.2bn, compared with US$7.8bn in 2012. Gains on disposals in 2013 included the gain of US$1.1bn on sale of our operations in Panama and US$1.1bn from the reclassification of Industrial Bank Co. Limited (‘Industrial Bank’) as a financial investment following its issue of share capital to third parties.

The Board approved a 6% increase in the final dividend in respect of 2013 to US$0.19 per share, US$0.01 higher than the final dividend in respect of 2012. Total dividends in respect of 2013 were US$9.2bn (US$0.49 per share), US$0.9bn higher than in 2012. The core tier 1 capital ratio strengthened from 12.3% to 13.6%, and the estimated CRD IV end point basis common equity tier 1 ratio also improved from 9.5% to 10.9%. This was driven by a combination of capital generation and a reduction in risk-weighted assets from management actions. Uncertainty remains, however, around the precise amount of capital that banks will be required to hold under CRD IV as key technical standards and consultations from regulatory authorities are pending. These include the levels, timing and interaction of CRD IV capital buffers and a review of the Pillar 2 framework.

On an underlying basis, profit before tax rose by 41% to US$21.6bn, primarily from higher net operating income before loan impairment charges and other credit risk provisions (‘revenue’), lower LICs, notably in North America, Europe and Middle East and North Africa, and lower operating expenses, mainly from the non-recurrence of a charge in 2012 arising from US investigations and reduced charges relating to UK customer redress.

Underlying profit before tax in our global businesses rose with the exception of GPB which decreased by US$0.7bn to US$0.2bn as we continued to address legacy issues and reposition the customer base.

The following commentary is on an underlying basis.

Revenue across the Group was stable, underpinned by a resilient performance in GB&M and growth in CMB

Underlying revenue rose by US$1.7bn or 3% to US$63.3bn. This reflected a number of factors including net favourable fair value movements on non-qualifying hedges of US$0.8bn, a net gain recognised on completion of the disposal of our investment in Ping An of US$0.6bn offsetting the adverse fair value movements on the contingent forward sale contract recorded in 2012, and foreign exchange gains on sterling debt issued by HSBC Holdings of US$0.4bn.

Revenue increased in CMB following average balance sheet growth partly offset by spread compression together with higher lending fees and improved collaboration with other global businesses. In GB&M, revenue was higher, in part reflecting a resilient performance in a majority of our customer-facing businesses. These factors were partially offset by lower revenue in RBWM, primarily from the run-off of our US CML portfolio and, in GPB, from the loss on write-off of goodwill relating to our Monaco business and the repositioning of our client base.

LICs fell in the majority of our regions, notably in North America, Europe and in the Middle East and North Africa

Underlying LICs were US$1.9bn or 25% lower than in 2012, primarily in North America where the decline was, in part, due to improvements in housing market conditions, reduced lending balances from continued portfolio run-off and loan sales, and lower levels of new impaired loans and delinquency in the CML portfolio. LICs were also lower in Europe, mainly in GB&M and CMB, and in the Middle East and North Africa, which benefited from an overall improvement in the loan portfolio. By contrast, LICs were higher in Latin America, particularly in Mexico from specific impairments in CMB relating to homebuilders due to a change in the public housing policy and higher collective impairments in RBWM. In Brazil, although credit quality improved following the modification of credit strategies in previous periods to mitigate rising delinquency rates, LICs increased, reflecting impairment model changes and assumption revisions for restructured loan account portfolios in RBWM and CMB, and higher specific impairments in CMB.

Operating expenses were lower, primarily driven by the non-recurrence of certain notable items in 2012 and further sustainable cost savings

Underlying operating expenses were US$2.6bn or 6% less than in 2012, primarily due to the non-recurrence of a 2012 charge following US anti-money laundering (‘AML’), Bank Secrecy Act (‘BSA’) and Office of Foreign Asset Control (‘OFAC’) investigations, lower UK customer redress charges and reduced restructuring and related costs.

 

 

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Excluding these items, operating expenses were higher, mainly due to a rise in the UK bank levy, increased litigation-related expenses, notably a provision in respect of regulatory investigations in GPB, a Madoff-related charge in GB&M and investment in strategic initiatives, risk management and compliance. Higher operational costs also contributed, in part driven by general inflationary pressures and rental costs. These factors were partially offset by sustainable cost savings in the year and an accounting gain relating to changes in delivering ill-health benefits to certain employees in the UK.

The additional US$1.5bn of sustainable cost savings across all regions, took our total annualised cost savings to US$4.9bn since 2011 as we continued with our organisational effectiveness programmes during 2013. Together with business disposals, these led to a fall in the number of FTEs of more than 6,500 to 254,000.

Income from associates rose, mainly driven by strong results in mainland China

Underlying income from associates increased, primarily from Bank of Communications Co., Limited (‘BoCom’), where balance sheet growth and increased fee income were partially offset by higher operating expenses and a rise in LICs.

The effective tax rate was 21.1% compared with 25.7% in 2012

The effective tax rate was lower than in 2012, reflecting non-taxable gains on profits associated with the reclassification of Industrial Bank as a financial investment and the disposal of our operations in Panama and our investment in Ping An Insurance (Group) Company of China, Ltd (‘Ping An’). In addition, the 2012 tax expense included the non-tax deductible effect of fines and penalties paid as part of the settlement of the US AML, BSA and OFAC investigations.

Group performance by income and expense item

Net interest income

The commentary in the following sections is on a constant currency basis unless stated otherwise.

Reported net interest income of US$35.5bn decreased by 6% compared with 2012 and on a constant currency basis, net interest income fell by US$1.5bn. Both net interest spread and margin also fell, reflecting lower yields on customer lending following the disposal in 2012 of the CRS business in the US, which was higher yielding relative to the average yield of our portfolio, and lower yields on our surplus liquidity. These factors were partially offset by a lower cost of funds, principally on customer accounts and debt issued by the Group.

On an underlying basis, which excludes the net interest income earned by the businesses sold during 2013 (see page 50) from both years (2013: US$273m; 2012: US$2.0bn) and currency translation movements of US$682m, net interest income increased by 1%. This reflected balance sheet growth in Hong Kong and Europe, partly offset by lower net interest income earned in North America as a result of the run-off and disposal of

CML portfolios in the US and the consumer finance business in Canada.

Interest income

On a constant currency basis, interest income fell. This was driven by lower interest income from customer lending, including loans classified within ‘Assets held for sale’, as a consequence of the disposal of the CRS business in the US in 2012 and the CML non-real estate loan portfolio and select tranches of CML first lien mortgages in the US in 2013. In addition, average yields on customer lending in Latin America fell, notably in Brazil, following lower average interest rates; re-pricing in line with local competition; a change in the composition of the lending portfolios as we focused on growing secured, lower yielding, lending balances for corporate and Premier customers. Interest income earned in Panama, where we disposed of the business, also fell. By contrast interest income on customer lending in Asia rose, driven by growth in residential mortgage balances in RBWM and term and trade-related and commercial real estate and other property-related lending in CMB. This increase in interest income was partially offset by compressed yields on trade lending and lower yields as interest rates declined in a number of countries across the region.

Interest income in Balance Sheet Management also decreased. Yields on financial investments and cash placed with banks and central banks declined as the proceeds from maturities and sales of available-for-sale debt securities were invested at prevailing rates, which were lower. This was partly offset by growth in customer deposits leading to an overall increase in the size of the Balance Sheet Management portfolio.

Interest expense

Interest expense fell in the year, though to a lesser extent than interest income, driven by a lower cost of funds relating to customer accounts. The reduction in interest rates paid to customers in Europe and Asia more than offset the effect of the growth in the average balances of customer accounts. There was also a decline in the interest expense on customer accounts in Latin America, principally in Brazil, reflecting the managed reduction in term deposits as we continued to change the funding base, substituting wholesale customer deposits for medium-term loan notes, together with a lower average base interest rate. The disposal of the business in Panama also reduced interest expense.

Interest expense on debt issued by the Group decreased too. In North America, as a result of the business disposals and the run-off of the CML portfolio, our funding requirements declined and led to a fall in average outstanding balances. In Europe, average outstanding balances fell as a result of net redemptions. Additionally, the effective rate of interest declined as new issuances were at lower prevailing rates.

 

 

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Repos and reverse repos

During the final quarter, GB&M changed the way it manages reverse repurchase (‘reverse repo’) and repurchase (‘repo’) activities. For full details, see page 68. This had the effect of reducing the net interest margin as average interest earning assets and interest bearing liabilities increased significantly. These reverse repo and repo agreements have a lower gross yield and cost of funds, respectively, when compared with the remainder of our portfolio.

‘Net interest income’ includes the expense of internally funded trading assets, while related revenue is reported in ‘Net trading income’. The internal cost of funding these assets declined, reflecting a decrease in the average trading asset balances in most regions and reductions in our average cost of funds in these regions. In reporting our global business results, this cost is included within ‘Net trading income’.

Net fee income

Net fee income was broadly unchanged on a reported basis and increased by US$207m on a constant currency basis.

Fees from unit trusts grew, primarily in Hong Kong, as we captured improved market sentiment and strong customer demand. Fees from funds under management increased, primarily in Europe and Hong Kong, reflecting improved market conditions. Fee income from credit facilities rose, mainly in Europe in CMB.

Underwriting fees rose, notably in Europe and Hong Kong, as client demand for equity and debt capital financing increased and the collaboration between CMB and GB&M strengthened.

These factors were partly offset by the sale of the CRS business in North America, which led to a reduction in cards and insurance fee income and fee expenses. Fee income related to the sale fell following the expiry of the majority of the transition service agreements entered into during 2012. This is reported in other fee income while associated costs are reported in ‘Operating expenses’.

Net trading income

Reported net trading income of US$8.7bn was US$1.6bn higher than in 2012. On a constant currency basis, income increased by US$1.8bn, notably in Europe. Net income from trading activities primarily arose from our Markets business within GB&M, which recorded a resilient performance during 2013.

The rise in net income from trading activities was due in part to lower adverse foreign exchange movements on assets held as economic hedges of foreign currency debt designated at fair value. These adverse movements offset favourable foreign exchange movements on the foreign currency debt which are reported in ‘Net expense from financial instruments designated at fair value’. In addition, we made foreign exchange gains of US$442m on sterling debt issued by HSBC Holdings. We also recorded a favourable debit valuation adjustment (‘DVA’) of US$105m on derivative contracts, compared with a net reported charge of US$385m in 2012, as a result of a change in estimation methodology in respect

of credit valuation adjustments (‘CVA’s) of US$903m and a DVA of US$518m, to reflect evolving market practices.

Net income from trading activities in Markets also rose. Trading revenue in Credit grew driven by revaluation gains from price appreciation on assets in the legacy portfolio together with increased customer activity. Foreign Exchange revenue rose as a result of increased client demand for hedging solutions, in part from increased collaboration, although this was partly offset by margin compression and reduced market volatility in the second half of 2013. Equities revenue also grew, from higher client flows and increased revaluation gains in Europe, together with minimal fair value movements on own credit spreads on structured liabilities, compared with adverse fair value movements in 2012.

Rates trading income in 2012 included a charge following a change in the CVA methodology, as noted above. In 2013, we won new client mandates and reported smaller adverse fair value movements on our credit spreads on structured liabilities. These factors were broadly offset by reduced revenue as in 2012 we benefited from a significant tightening of spreads on eurozone bonds following the ECB’s liquidity intervention. Revenue in 2013 was also affected by uncertainty regarding the tapering of quantitative easing in the US.

During 2013, we reported adverse fair value movements of US$682m compared with US$553m in 2012 on the contingent forward sale contract relating to Ping An in Asia.

Net interest income from trading activities also declined. This was driven by lower yields on debt securities in part reflecting the downward movement in interest rates.

In addition, net trading income was adversely affected by losses of US$194m relating to the termination of qualifying accounting hedges, mainly in HSBC Finance Corporation (‘HSBC Finance’) of US$199m, as a result of anticipated changes in funding.

In 2013, there were favourable movements on non-qualifying hedges compared with adverse movements in 2012. In North America, we reported favourable fair value movements on non-qualifying hedges as US long-term interest rates increased, compared with adverse fair value movements in 2012. There were also favourable fair value movements on non-qualifying hedges in Europe, compared with adverse movements in 2012

Net income from financial instruments designated at fair value

The accounting policies for the designation of financial instruments at fair value and the treatment of the associated income and expenses are described in Notes 2 and 25 on the Financial Statements, respectively.

The majority of the financial liabilities designated at fair value are fixed-rate long-term debt issues, the interest rate profile of which has been changed to floating through swaps as part of a documented interest rate management strategy. The movement in fair value of these long-term debt issues and the related hedges

 

 

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includes the effect of our credit spread changes and any ineffectiveness in the economic relationship between the related swaps and own debt. As credit spreads widen or narrow, accounting profits or losses, respectively, are booked. The size and direction of the changes in the credit spread on our debt and ineffectiveness, which are recognised in the income statement, can be volatile from year to year, but do not alter the cash flows expected as part of the documented interest rate management strategy. As a consequence, fair value movements arising from changes in our own credit spread on long-term debt and other fair value movements on the debt and related derivatives are not regarded internally as part of managed performance and are therefore not allocated to global businesses, but are reported in ‘Other’. Credit spread movements on own debt designated at fair value are excluded from underlying results, and related fair value movements are not included in the calculation of regulatory capital.

We reported net income from financial instruments designated at fair value of US$768m in 2013 compared with a net expense of US$2.2bn in 2012. This included credit spread-related movements in the fair value of our own long-term debt, on which we experienced adverse fair value movements of US$1.2bn in 2013 compared with US$5.2bn in 2012. Adverse fair value movements were less extensive in 2013 than in 2012 as HSBC spreads tightened significantly in Europe and North America, having widened during 2011.

Net income arising from financial assets held to meet liabilities under insurance and investment contracts increased reflecting higher net investment returns in 2013 than in 2012. These returns reflected favourable equity market movements in the UK and France, partly offset by weaker equity market performance and falling bond prices in Hong Kong and lower net income on the bond portfolio in Brazil.

Investment gains or losses arising from equity markets result in a corresponding movement in liabilities to customers, reflecting the extent to which unit-linked policyholders, in particular, participate in the investment performance of the associated asset portfolio. Where these relate to assets held to back investment contracts, the corresponding movement in liabilities to customers is also recorded under ‘Net income/(expense) from financial instruments designated at fair value’. This is in contrast to gains or losses related to assets held to back insurance contracts or investment contracts with discretionary participation features (‘DPF’), where the corresponding movement in liabilities to customers is recorded under ‘Net insurance claims incurred and movement in liabilities to policyholders’.

Other changes in fair value reflected lower favourable foreign exchange movements in 2013 than in 2012 on foreign currency debt designated at fair value and issued as part of our overall funding strategy (offset from assets held as economic hedges in ‘Net trading income’), and higher adverse movements due to hedging ineffectiveness in 2013.

Gains less losses from financial investments

Gains less losses from financial investments rose by US$823m on a reported basis and by US$840m on a constant currency basis.

This was driven by a significant increase in net gains from the disposal of available-for-sale equity securities in Asia following the completion of the sale of our remaining shareholding in Ping An and an increase in disposal gains in Principal Investments. These increases were partly offset by the non-recurrence of gains in from the sale of our shares in four Indian banks in 2012.

The year on year decline in impairments on available-for-sale equity securities also contributed to the rise in gains less losses from financial investments. This was driven by a reduction in write downs in our Principal Investments business.

Net gains on the disposal of debt securities fell as 2012 included significant gains on the sale of available-for-sale government debt securities, notably in Europe, arising from structural interest rate risk management of the balance sheet.

Net insurance premium income

Net earned insurance premiums decreased by US$1.1bn on a reported basis, and by US$1.0bn on constant currency basis.

The reduction was primarily due to lower net earned premiums in Europe, Latin America and North America, partly offset by an increase in Hong Kong.

In Europe, net earned premiums decreased, mainly as a result of lower sales of investment contracts with DPF in France. In addition, 2012 benefited from a number of large sales through independent financial adviser channels which are now in run off.

In Latin America, net earned premiums decreased in Brazil due to lower sales of unit-linked pension products, primarily as a result of changes to the distribution channel. In addition, the sale of the non-life business in Argentina in 2012 contributed to the decrease.

The reduction in net earned premiums in North America was due to the sale of our insurance manufacturing business in the first half of 2013.

In Hong Kong, premium income increased as a result of higher renewal premiums for insurance contracts with DPF and unit-linked insurance contracts, partly offset by lower sales of new business in 2013 and the disposal of the non-life business during 2012.

Gains on disposal of US branch network, US cards business and Ping An

In 2012, we made significant progress in exiting non-strategic markets and disposing of businesses and investments not aligned with the Group’s long-term strategy. These included three major disposals:

 

  In May 2012, HSBC USA Inc., HSBC Finance and HSBC Technology and Services (USA) Inc. sold their
 

 

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  US Card and Retail Services business, realising a gain on sale of US$3.1bn.

 

  In May 2012, HSBC Bank USA, N.A. (‘HSBC Bank USA’) sold 138 out of 195 branches, primarily in upstate New York, realising a gain of US$661m. In August 2012, it sold the remaining 57 branches to the same purchaser, realising a gain of US$203m.

 

  In December 2012, HSBC Insurance Holdings Limited and The Hongkong and Shanghai Banking Corporation agreed to sell their entire shareholdings in Ping An, representing 15.57% of the issued share capital of Ping An, in two tranches. The first tranche was completed on 7 December 2012, at which point we ceased to account for Ping An as an associate and recognised a gain on disposal of US$3.0bn. The remaining shareholding in respect of the second tranche was recognised as a financial investment.

The fixing of the sale price in respect of the second tranche gave rise to a contingent forward sale contract, for which there was an adverse fair value movement of US$553m recorded in ‘Net trading income’ in 2012. The disposal of our investment in Ping An was completed in 2013. We realised a gain of US$1.2bn, which was recorded in ‘Gains less losses from financial investments’. This was partly offset by the adverse fair value movement of US$682m on the contingent forward sale contract recorded in ‘Net trading income’, leading to a net gain in the year of US$553m.

Other operating income

Other operating income of US$2.6bn increased by US$532m in 2013 on a reported basis and by US$727m on a constant currency basis.

Reported other operating income included net gains on the disposals and the reclassifications listed on page 49 of US$2.2bn in 2013, principally relating to an accounting gain arising from the reclassification of Industrial Bank as a financial investment following its issue of additional share capital to third parties and a gain on the disposal of our operations in Panama, compared with net gains of US$736m in 2012.

On an underlying basis, which excludes the net gains above, the results of disposed of operations and the effects of foreign currency translation, other operating income decreased. This was driven by losses totalling US$424m on the sales of our CML non-real estate personal loan portfolio and several tranches of real estate secured loans, and a loss of US$279m following the write-off of goodwill relating to our GPB business in Monaco. In addition, we recognised a loss of US$146m on the sale of the HFC Bank UK secured loan portfolio in RBWM in Europe. These factors were partly offset by higher disposal and revaluation gains on investment properties in Hong Kong.

There were lower favourable movements on the present value of the in-force (‘PVIF’) long-term insurance

business asset compared with 2012. This was largely due to lower values of new business in Europe and Asia, reflecting lower sales. Additionally, expected returns increased due to the growth of the opening PVIF asset year on year, particularly in Hong Kong and Brazil.

These factors were partly offset by higher favourable assumption changes in Hong Kong, which exceeded the adverse experience and assumption changes in Latin America. The lower other PVIF movements in 2013 compared with 2012 were driven by Latin America, notably the favourable effect of the recognition of a PVIF asset in Brazil in 2012 which did not recur.

Net insurance claims and benefits paid and movement in liabilities to policyholders

Net insurance claims incurred and movement in liabilities to policyholders decreased by 4% on a reported basis, and by 3% on a constant currency basis.

The reduction largely reflected the decrease in premiums, notably in Latin America, North America and France, and included the effect of business disposals described under ‘Net earned insurance premiums’.

This reduction was partly offset by increases in reserves attributable to increased renewal premiums in Hong Kong and higher investment returns on the assets held to support policyholder contracts where the policyholder bears investment risk. These returns reflected favourable equity market movements in the UK and France, partly offset by weaker equity market performance and falling bond prices in Hong Kong and lower net income on the bond portfolio in Brazil.

The gains or losses recognised on the financial assets designated at fair value held to support these insurance and investment contract liabilities are reported in ‘Net income from financial instruments designated at fair value’.

Loan impairment charges and other credit risk provisions

On a reported basis, loan impairment charges and other credit risk provisions (‘LICs’) were US$2.5bn lower than in 2012, decreasing in the majority of regions, most notably in North America, Europe and the Middle East and North Africa. Underlying LICs declined by US$1.9bn to US$5.8bn.

The percentage of impairment charges to average gross loans and advances reduced to 0.7% at 31 December 2013 from 0.9% at 31 December 2012.

On a constant currency basis, LICs fell by US$2.3bn, a reduction of 28%. Collectively assessed charges decreased by US$2.1bn while individually assessed impairment charges increased by US$198m. Credit risk provisions on available-for-sale debt securities reflected net releases of US$211m in 2013 compared with charges in 2012.

The fall in collectively assessed charges largely arose in North America, in part due to improvements in housing market conditions. In addition, the decrease reflected lower lending balances, reduced new impaired loans and

 

 

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Report of the Directors: Financial Review (continued)

 

 

lower delinquency levels in the CML portfolio. This was partially offset by increases in Latin America, principally in Mexico due to higher collective impairments in RBWM. In Brazil, improvements in credit quality were broadly offset by higher charges from model changes and assumption revisions for restructured loan portfolios in RBWM and Business Banking in CMB.

The increase in individually assessed loan impairment charges reflected higher levels of impairment in Latin America, particularly on exposures to homebuilders in Mexico and across a number of corporate exposures in Brazil. These were partly offset by releases in the Middle East and North Africa, mainly in GB&M for a small number of customers as a result of an overall improvement in the loan portfolio compared with charges in 2012. In Europe, higher provisions in GB&M were broadly offset by decreases in CMB, mainly in the UK and Greece.

The movement in credit risk provisions on available-for-sale debt securities was largely in GB&M as a result of net releases in Europe compared with charges in 2012, and a credit risk provision on an available-for-sale debt security in 2012 in Asia.

In North America, LICs decreased by US$2.3bn to US$1.2bn, mainly in the US, in part due to improvements in housing market conditions. In addition, the decrease reflected lower lending balances from continued run-off and loan sales, and lower levels of new impaired loans and delinquency in the CML portfolio. US$322m of the decline in loan impairment charges was due to the sale of the CRS business in 2012. These factors were partly offset by an increase of US$130m relating to a rise in the estimated average period of time from a loss event occurring to writing off real estate loans to twelve months (previously a period of ten months was used). In CMB, loan impairment charges increased by US$77m, reflecting higher collectively assessed charges in the US as a result of increased lending balances in key growth markets and higher individually assessed impairments on a small number of exposures mainly in Canada.

In Europe, LICs decreased by 20% to US$1.5bn. In the UK, GB&M reported net releases of credit risk provisions on available-for-sale asset backed securities (‘ABS’s), compared with impairment charges in 2012, offset in part by higher individually assessed provisions. In addition, there were lower loan impairment charges in CMB due to lower collectively and individually assessed provisions, and in RBWM due to lower collectively assessed provisions reflecting recoveries from debt sales. In other countries in Europe, lower individually assessed impairment provisions in Greece were partly offset by increases in Turkey, where there was growth in unsecured lending in RBWM and a rise in Spain, where the challenging economic conditions continued to affect the market.

In the Middle East and North Africa, LICs reflected a net release of US$42m compared with a charge of US$282m in 2012. We recorded provision releases, mainly in GB&M, for a small number of UAE-related exposures, reflecting an overall improvement in the loan portfolio

compared with charges in 2012. In addition, loan impairment charges declined, due to lower individually assessed loan impairments in the UAE in CMB, and lower provisions in RBWM on residential mortgages following a repositioning of the book towards higher quality lending and improved property prices.

In Latin America, LICs increased by US$693m, primarily in Mexico due to specific impairments in CMB relating to homebuilders from a change in the public housing policy, and higher collective impairments in RBWM as a result of increased volumes and higher delinquency in our unsecured lending portfolio. In Brazil, LICs increased due to changes to the impairment model and assumption revisions for restructured loan account portfolios in RBWM and CMB, following a realignment of local practices to Group standard policy. LICs were also adversely affected by higher specific impairments in CMB across a number of corporate exposures. These factors were partly offset by improvements in credit quality in Brazil following the modification of credit strategies in previous years to mitigate rising delinquency rates.

LICs in Asia were in line with 2012 as higher charges in Hong Kong due to a revision to the assumptions used in our collective assessment models in RBWM and a rise in individual impairment charges in CMB, were broadly offset by the non-recurrence of a large individually assessed impairment of a corporate exposure in Australia and a credit risk provision on an available-for-sale debt security in GB&M.

Operating expenses

Reported operating expenses of US$38.6bn were US$4.4bn or 10% lower than 2012. On an underlying basis, costs fell by 6%.

On a constant currency basis, operating expenses in 2013 were US$3.7bn or 9% lower than in 2012, primarily due to the non-recurrence of a charge for US AML, BSA, and OFAC investigations of US$1.9bn, and a reduction in restructuring and other related costs of US$369m. UK customer redress programmes were also lower than in 2012. These included:

 

  a charge for additional estimated redress for possible mis-selling in previous years of payment protection insurance (‘PPI’) policies of US$756m (US$1.7bn in 2012);

 

  US$261m in respect of interest rate protection products (US$586m in 2012);

 

  US$149m in respect of wealth management products; and

 

  The provision for the UK customer redress programmes at 31 December 2013 is US$2.1bn.

The business disposals, primarily the disposal of the CRS business and the non-strategic branches in the US in 2012, resulted in a lower cost base in 2013.

Excluding the above, expenses were US$808m higher than in 2012. The UK bank levy charge of US$904m in 2013 increased compared with US$571m in 2012, mainly due to an increase in its rate. In addition,

 

 

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operating expenses in both years included adjustments relating to the prior year charge for the UK bank levy (2013: US$12m adverse adjustment; 2012: US$99m favourable adjustment).

Litigation-related expenses increased primarily due to a provision in respect of regulatory investigations in GPB, Madoff-related litigation costs in GB&M, and a customer remediation provision connected with our former CRS business.

During 2013:

 

  we increased our investment in digital and wealth management capabilities in RBWM;

 

  in CMB we continued our ongoing expansion into the large corporate market in the US; and

 

  increased investment spend on regulatory requirements particularly through the Global Standards programme.

In addition, other costs rose due to higher operational expenses in part driven by general inflationary pressures including wage inflation across the Group and rental costs in Asia. Cost growth in the Middle East and North Africa resulted from a customer redress programme in RBWM relating to fees charged on overseas credit card transactions, the acquisition of the Lloyds business in the UAE in 2012 and the merger with Oman International Bank S.A.O.G. (‘OIB’). Operating expenses also increased in Hong Kong and North America as a result of changes to the recognition of pension costs.

These cost increases were in part offset by further sustainable cost savings of US$1.5bn from our ongoing organisational effectiveness programmes. In addition, we recorded an accounting gain of US$430m from changes in delivering ill-health benefits to certain employees in the UK (see Note 6 on the Financial Statements).

The number of employees expressed in full-time equivalent numbers (‘FTE’s) at the end of 2013 was 3% lower than at the end of 2012 due to sustainable cost savings initiatives and business disposals. Average staff numbers fell by 6% compared with 2012

Share of profit in associates and joint ventures

The share of profit in associates and joint ventures was US$2.3bn, a decrease of 35% compared with 2012 on both a reported and constant currency basis. This was driven by the disposal of Ping An in 2012 and the reclassification in 2013 of Industrial Bank as a financial investment.

The recognition of profits ceased from Ping An following the agreement to sell our shareholding in December 2012, and from Industrial Bank following the issuance of additional share capital to third parties in January 2013, which resulted in our diluted shareholding being classified as a financial investment. In addition, in 2013, we recorded an impairment charge of US$106m on our banking associate in Vietnam.

Our share of profit from BoCom rose as a result of balance sheet growth and increased fee income, partly

offset by higher operating expenses and a rise in loan impairment charges.

At 31 December 2013, we performed an impairment review of our investment in BoCom and concluded that it was not impaired at the year end, based on our value in use calculation (see Note 21 on the Financial Statements for further details). In future years, the value in use will remain relatively stable if the current calculation assumptions remain broadly the same. However, it is expected that the carrying amount will increase in 2014 due to retained profits earned by BoCom. At the point where the carrying amount exceeds the value in use, the carrying amount would be reduced to equal value in use, with a corresponding reduction in income, unless the market value has increased to a level above the carrying amount.

Profits from The Saudi British Bank rose, reflecting strong lending growth and effective cost management.

Tax expense

The effective tax rate for 2013 of 21.1% was lower than the UK corporation tax rate of 23.25%.

The lower effective tax rate reflected the geographical distribution of our profit, the non-taxable gain on profits resulting from the reclassification of our holding in Industrial Bank as a financial investment and the disposal of our operations in Panama and our investment in Ping An.

The tax expense decreased by US$0.6bn to US$4.8bn despite a US$2.0bn increase in accounting profit before tax, due to the combination of benefits noted above and because the 2012 tax expense included the non-tax deductible effect of fines and penalties paid as part of the settlement of investigations into past inadequate compliance with anti-money laundering and sanction laws.

In 2013, the tax borne and paid by the Group to the relevant tax authorities, including tax on profits, bank levy and employer-related taxes, was US$8.6bn (2012: US$9.3bn). The amount differs from the tax charge reported in the income statement due to indirect taxes such as VAT and the bank levy included in pre-tax profit, and the timing of payments.

We also play a major role as tax collector for governments in the jurisdictions in which we operate. Such taxes include employee-related taxes and taxes withheld from payments to deposit holders. In 2013, we collected US$8.8bn (2012: US$8.5bn).

 

 

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Report of the Directors: Financial Review (continued)

 

 

Consolidated balance sheet

Five-year summary consolidated balance sheet

 

   

2014

US$m

   

2013

US$m

   

2012

US$m

   

2011

US$m

   

2010

US$m

 

ASSETS

Cash and balances at central banks

  129,957      166,599      141,532      129,902      57,383   

Trading assets26

  304,193      303,192      408,811      330,451      385,052   

Financial assets designated at fair value

  29,037      38,430      33,582      30,856      37,011   

Derivatives

  345,008      282,265      357,450      346,379      260,757   

Loans and advances to banks27

  112,149      120,046      117,085      139,078      141,869   

Loans and advances to customers27,28

  974,660      992,089      962,972      899,010      897,847   

Reverse repurchase agreements – non-trading26,27

  161,713      179,690      70,112      83,328      126,921   

Financial investments

  415,467      425,925      421,101      400,044      400,755   

Other assets

  161,955      163,082      179,893      196,531      147,094   

Total assets at 31 December

      2,634,139          2,671,318          2,692,538          2,555,579          2,454,689   

LIABILITIES AND EQUITY

Liabilities

Deposits by banks27

  77,426      86,507      95,480      95,205      87,221   

Customer accounts27

  1,350,642      1,361,297      1,311,396      1,223,140      1,190,763   

Repurchase agreements – non-trading26,27

  107,432      164,220      40,567      48,402      60,325   

Trading liabilities26

  190,572      207,025      304,563      265,192      300,703   

Financial liabilities designated at fair value

  76,153      89,084      87,720      85,724      88,133   

Derivatives

  340,669      274,284      358,886      345,380      258,665   

Debt securities in issue

  95,947      104,080      119,461      131,013      145,401   

Liabilities under insurance contracts

  73,861      74,181      68,195      61,259      58,609   

Other liabilities

  121,459      120,181      123,141      134,171      109,954   

Total liabilities at 31 December

  2,434,161      2,480,859      2,509,409      2,389,486      2,299,774   

Equity

Total shareholders’ equity

  190,447      181,871      175,242      158,725      147,667   

Non-controlling interests

  9,531      8,588      7,887      7,368      7,248   

Total equity at 31 December

  199,978      190,459      183,129      166,093      154,915   

Total liabilities and equity at 31 December

  2,634,139      2,671,318      2,692,538      2,555,579      2,454,689   

Five-year selected financial information

 

   

2014

            US$m

   

2013

            US$m

   

2012

            US$m

   

2011

            US$m

   

2010

            US$m

 

Called up share capital

  9,609      9,415      9,238      8,934      8,843   

Capital resources29,30

  190,730      194,009      180,806      170,334      167,555   

Undated subordinated loan capital

  2,773      2,777      2,778      2,779      2,781   

Preferred securities and dated subordinated loan capital31

  47,208      48,114      48,260      49,438      54,421   

Risk-weighted assets29

  1,219,765      1,092,653      1,123,943      1,209,514      1,103,113   

Financial statistics

Loans and advances to customers as a percentage of customer accounts27

  72.2      72.9      73.4      73.5      75.4   

Average total shareholders’ equity to average total assets

  7.01      6.55      6.16      5.64      5.53   

Net asset value per ordinary share at year-end32 (US$)

  9.28      9.27      9.09      8.48      7.94   

Number of US$0.50 ordinary shares in issue (millions)

  19,218      18,830      18,476      17,868      17,686   

Closing foreign exchange translation rates to US$:

US$1: £

  0.642      0.605      0.619      0.646      0.644   

US$1:

  0.823      0.726      0.758      0.773      0.748   

For footnotes, see page 109.

A more detailed consolidated balance sheet is contained in the Financial Statements on page 337.

 

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Movement in 2014

Total reported assets were US$2.6 trillion, 1% lower than at 31 December 2013. On a constant currency basis, total assets were US$85bn or 3% higher.

Our balance sheet remains strong with a ratio of customer advances to customer accounts of 72%. Although customer loans and customer accounts have fallen on a reported basis, both have increased on a constant currency basis, notably rising in Asia.

The following commentary is on a reported basis unless otherwise stated.

Assets

Cash and balances at central banks decreased by US$37bn, notably in Europe, in part reflecting net reductions in repurchase and reverse repurchase agreements.

Trading assets were broadly unchanged. Excluding adverse foreign exchange movements of US$18bn, trading assets grew, primarily from the holdings of debt securities in Asia to support GB&M’s Rates business. In Europe, trading assets were broadly unchanged as increased holdings of equity securities were broadly offset by reductions in several other asset classes.

Financial assets designated at fair value decreased by US$9bn, notably in Europe, largely from the transfer to ‘Assets held for sale’ of balances relating to the UK Pension business of HSBC Life (UK) Limited.

Derivative assets increased by 22%, notably in Europe relating to interest rate and foreign exchange derivative contracts reflecting market movements, including changes in yield curves and foreign exchange rates.

Loans and advances to customers marginally decreased by US$17bn or 2% including adverse foreign exchange movements of US$45bn. Excluding these movements, customer lending grew by US$28bn, or 3%, largely from growth in Asia of US$32bn and, to a lesser extent, in North America and Latin America. By contrast, balances decreased in Europe by US$15bn, as term lending growth in CMB and GB&M was more than offset by a fall in corporate overdraft balances relating to a small number of customers, as explained further below.

In Asia, term lending to CMB and GB&M customers grew, which included growth in commercial real estate and other property-related lending. Mortgage balances also increased, mainly in Hong Kong. In North America, the growth in balances was driven by increased term lending to corporate and commercial customers in CMB and GB&M, partly offset by a decline in RBWM from the continued reduction in the US run-off portfolio and the transfer to ‘Assets held for sale’ of US first lien mortgage balances. Balances also rose in Latin America, mainly in CMB in Brazil and GB&M in Mexico.

The fall in lending in Europe of US$15bn was driven by a reduction in corporate overdraft balances. In the UK, a small number of clients benefit from the use of net interest arrangements across their overdraft and deposit positions. During the year, as we aligned our approach in our Payments and Cash Management business to be more globally consistent, many of these clients increased the frequency with which they settled these balances, reducing their overdraft and deposit balances which fell by US$28bn. Other customer loans and advances increased by US$13bn, mainly in CMB and GB&M, driven by an increase in term lending to corporate and commercial customers, notably in the second half of the year.

Reverse repurchase agreements decreased by US$18bn, driven by a managed reduction in Europe as we reassessed the overall returns of these activities in light of new regulatory requirements. This decrease was partly offset by increases in Asia and North America.

Liabilities

Repurchase agreements decreased by US$57bn or 35%, driven by a decrease in Europe, notably in the UK and France, reflecting the managed reduction in reverse repurchase agreements in Europe as noted above.

Customer accounts decreased marginally by US$11bn, and included adverse foreign exchange movements of US$58bn. Excluding these movements, balances increased by US$47bn or 4%, with growth in all regions, notably Asia, of US$36bn. The increase in Asia reflected growth in our Payments and Cash Management business in CMB and GB&M, an increase in balances in Securities Services in GB&M and a rise in RBWM, in part reflecting successful deposit campaigns. In Europe, balances increased marginally despite a US$28bn fall in corporate current accounts, mainly in GB&M, in line with the fall in corporate overdraft balances, and a reduction in client deposits in GPB. These factors were more than offset by growth in CMB and, to a lesser extent, in GB&M as deposits from our Payments and Cash Management business increased together with a rise in RBWM balances reflecting customers’ continued preference for holding balances in current and savings accounts.

Trading liabilities fell by US$16bn including adverse foreign exchange movements of US$12bn. Excluding these, balances fell reflecting changes in client demand.

Financial liabilities designated at fair value reduced by US$13bn, mainly in Europe reflecting the transfer to ‘Liabilities held for sale’ of balances relating to the UK Pension business of HSBC Life (UK) Limited.

The increase in derivative liabilities was in line with that of ‘Derivative assets’ as the underlying risk is broadly matched.

 

 

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Equity

Total shareholders’ equity rose by 5%, driven by profits generated in the year, which were partially offset by dividends paid. In addition, shareholders’ equity increased as we issued new contingent convertible securities of US$5.7bn during 2014. For further details

of these securities, see Note 35 on the Financial Statements. These movements were partly offset by a reduction of US$9bn in our foreign exchange reserve reflecting the notable appreciation in the US dollar against sterling and the euro, particularly in the second half of the year.

 

 

Reconciliation of consolidated reported and constant currency assets and liabilities

 

    31 December 2014 compared with 31 December 2013  
   

31 Dec 13

as

reported

US$m

   

Currency

translation

adjustment33

US$m

   

31 Dec 13

at 31 Dec 14

exchange

rates

US$m

   

31 Dec 14

as

reported
US$m

 

Reported

change
%

 

Constant

currency

change
%

 

Cash and balances at central banks

  166,599      (9,384   157,215      129,957      (22   (17

Trading assets

  303,192      (18,176   285,016      304,193           7   

Financial assets designated at fair value

  38,430      (2,467   35,963      29,037      (24   (19

Derivative assets

  282,265      (16,582   265,683      345,008      22      30   

Loans and advances to banks27

  120,046      (4,923   115,123      112,149      (7   (3

Loans and advances to customers27

  992,089      (45,494   946,595      974,660      (2   3   

Reverse repurchase agreements – non-trading26,27

  179,690      (9,961   169,729      161,713      (10   (5

Financial investments

  425,925      (15,285   410,640      415,467      (2   1   

Other assets

  163,082      (385   162,697      161,955      (1     

Total assets

  2,671,318      (122,657   2,548,661      2,634,139      (1   3   

Deposits by banks27

  86,507      (3,317   83,190      77,426      (10   (7

Customer accounts27

  1,361,297      (57,673   1,303,624      1,350,642      (1   4   

Repurchase agreements – non-trading26, 27

  164,220      (7,730   156,490      107,432      (35   (31

Trading liabilities

  207,025      (12,208   194,817      190,572      (8   (2

Financial liabilities designated at fair value

  89,084      (3,930   85,154      76,153      (15   (11

Derivative liabilities

  274,284      (16,214   258,070      340,669      24      32   

Debt securities in issue

  104,080      (5,089   98,991      95,947      (8   (3

Liabilities under insurance contracts

  74,181      (4,447   69,734      73,861           6   

Other liabilities

  120,181      (4,221   115,960      121,459      1      5   

Total liabilities

  2,480,859      (114,829   2,366,030      2,434,161      (2   3   

Total shareholders’ equity

  181,871      (7,720   174,151      190,447      5      9   

Non-controlling interests

  8,588      (108   8,480      9,531      11      12   

Total equity

  190,459      (7,828   182,631      199,978      5      9   

Total liabilities and equity

      2,671,318          (122,657       2,548,661          2,634,139      (1   3   

For footnotes, see page 109.

 

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Report of the Directors: Financial Review (continued)

 

 

Combined view of lending and deposits26,27

 

   

2014

US$m

   

2013

US$m

    Change
%
 

Customers – amortised cost

Loans and advances to customers

  974,660      992,089      (2

Loans and advances to customers reported in ‘Assets held for sale’34

  577      1,703      (66

Reverse repurchase agreements – non-trading

  66,310      88,215      (25

Combined customer lending

          1,041,547              1,082,007      (4

Customer accounts

  1,350,642      1,361,297      (1

Customer accounts reported in ‘Liabilities of disposal groups held for sale’

  145      2,187      (93

Repurchase agreements – non-trading

  79,556      121,515      (35

Combined customer deposits

  1,430,343      1,484,999      (4

Banks – amortised cost

Loans and advances to banks

  112,149      120,046      (7

Reverse repurchase agreements – non-trading

  95,403      91,475      4   

Combined bank lending

  207,552      211,521      (2

Deposits by banks

  77,426      86,507      (10

Repurchase agreements – non-trading

  27,876      42,705      (35

Combined bank deposits

  105,302      129,212      (19

Customers and banks – fair value

Trading assets – reverse repos

  1,297      10,120      (87

– loans and advances to customers

  908      7,180      (87

– loans and advances to banks

  389      2,940      (87

Trading liabilities – repos

  3,798      17,421      (78

– customer accounts

  898      9,611      (91

– deposits by banks

  2,900      7,810      (63

For footnotes, see page 109.

Financial investments

 

    2014     2013  
   

Equity

        securities
US$bn

   

Debt

        securities
US$bn

    Total
US$bn
   

Equity

        securities
US$bn

   

Debt

        securities
US$bn

    Total
        US$bn
 

Balance Sheet Management

       306.8      306.8           314.4      314.4   

Insurance entities

       48.5      48.5           46.4      46.4   

Structured entities

  0.1      14.9      15.0      0.1      22.6      22.7   

Principal Investments

  2.0           2.0      2.7           2.7   

Other

  8.6      34.6      43.2      6.3      33.4      39.7   

At 31 December

  10.7      404.8      415.5      9.1      416.8      425.9   

 

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Average balance sheet

Average balance sheet and net interest income

 

Average balances and related interest are shown for the domestic operations of our principal commercial banks by geographical region. ‘Other operations’ comprise the operations of our principal commercial banking and consumer finance entities outside their domestic markets and all other banking operations, including investment banking balances and transactions.

Average balances are based on daily averages for the principal areas of our banking activities with monthly or less frequent averages used elsewhere. Balances and transactions with fellow subsidiaries are reported gross in the principal commercial banking and consumer finance entities and the elimination entries are included within ‘Other operations’.

Net interest margin numbers are calculated by dividing net interest income as reported in the income statement by the average interest-earning assets from which interest income is reported within the ‘Net interest income’ line of the income statement. Total interest-earning assets include loans where the carrying amount has been adjusted as a result of impairment allowances. In accordance with IFRSs, we recognise interest income on assets after the carrying amount has been adjusted as a result of impairment. Fee income which forms an integral part of the effective interest rate of a financial instrument is recognised as an adjustment to the effective interest rate and recorded in ‘Interest income’.

 

 

Assets

 

    2014     2013     2012  
   

Average

balance

   

Interest

income

    Yield    

Average

balance

   

Interest

income

    Yield    

Average

balance

   

Interest

income

    Yield  
    US$m     US$m     %     US$m     US$m     %     US$m     US$m     %  

Summary

Interest-earning assets measured at amortised cost (itemised below)

  1,786,536      50,955      2.85      1,669,368      51,192      3.07      1,625,068      56,702      3.49   

Trading assets and financial assets designated at fair value61,62

  238,958      5,596      2.34      354,817      5,763      1.62      368,406      6,931      1.88   

Impairment provisions

  (14,015   (15,954   (17,421

Non-interest-earning assets

  668,564            683,785            730,901         

Total assets and interest income

    2,680,043        56,551      2.11        2,692,016        56,955      2.12        2,706,954        63,633      2.35   

Average yield on all interest-earning assets

  2.79      2.81      3.19   

Short-term funds and loans and advances to banks27

Europe

HSBC Bank   96,638      997      1.03      89,921      880      0.98      82,206      1,000      1.22   
HSBC Private Banking Holdings (Suisse)   9,704      10      0.10      15,400      10      0.06      2,072      9      0.43   
  HSBC France   7,055      66      0.94      10,603      93      0.88      13,204      115      0.87   

Asia63

Hang Seng Bank   15,374      279      1.81      16,496      251      1.52      16,396      283      1.73   

The Hongkong and Shanghai Banking Corporation

  57,141      822      1.44      53,372      809      1.52      54,148      837      1.55   
  HSBC Bank Malaysia   5,060      158      3.12      5,487      162      2.95      4,243      123      2.90   
MENA HSBC Bank Middle East   4,678      29      0.62      5,018      27      0.54      5,530      32      0.58   

North America  

HSBC Bank USA   28,148      105      0.37      24,907      84      0.34      23,707      104      0.44   
  HSBC Bank Canada   606      4      0.66      425      3      0.71      389      4      1.03   

Latin America

HSBC Mexico   2,675      86      3.21      2,846      109      3.83      3,053      119      3.90   
Brazilian operations   5,416      498      9.19      5,579      388      6.95      9,008      735      8.16   
  HSBC Bank Argentina   1,083      12      1.11      1,199      18      1.50      82      18      21.95   
Other operations   3,570      2      0.06      5,124      17      0.33      21,793      126      0.58   
  237,148      3,068      1.29      236,377      2,851      1.21      235,831      3,505      1.49   

 

HSBC HOLDINGS PLC

60a


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

        2014     2013     2012  
       

Average

balance

   

Interest

income

    Yield    

Average

balance

   

Interest

income

    Yield    

Average

balance

   

Interest

income

    Yield  
        US$m     US$m     %     US$m     US$m     %     US$m     US$m     %  

Loans and advances to customers27

Europe

HSBC Bank

  302,817      10,423      3.44      292,200      10,631      3.64      281,255      10,565      3.76   

HSBC Private Banking Holdings (Suisse)

  13,026      159      1.22      15,235      194      1.27      12,591      199      1.58   

HSBC France

  43,736      1,626      3.72      47,404      1,656      3.49      45,030      1,649      3.66   
 

HSBC Finance

                 173      10      5.78      886      42      4.74   

Asia63

Hang Seng Bank

  79,586      2,410      3.03      72,537      2,179      3.00      64,907      1,895      2.92   

The Hongkong and Shanghai Banking Corporation

  263,732      8,517      3.23      237,915      8,022      3.37      208,961      7,627      3.65   
 

HSBC Bank Malaysia

  13,548      672      4.96      13,928      683      4.90      13,456      707      5.25   

MENA

HSBC Bank Middle East

  26,618      1,133      4.26      25,537      1,124      4.40      24,012      1,214      5.06   

North America  

HSBC Bank USA

  63,770      1,791      2.81      56,538      1,776      3.14      53,555      1,715      3.20   

HSBC Finance

  26,446      2,171      8.21      34,146      3,064      8.97      43,565      3,903      8.96   
 

HSBC Bank Canada

  37,472      1,371      3.66      39,199      1,431      3.65      41,151      1,551      3.77   

Latin America

HSBC Mexico

  15,770      1,542      9.78      15,335      1,658      10.81      14,411      1,613      11.19   

Brazilian operations

  27,275      4,579      16.79      25,688      4,604      17.92      27,621      5,468      19.80   
 

HSBC Bank Argentina

  3,078      798      25.93      3,615      799      22.10      3,644      718      19.70   

Other operations

  14,437      237      1.64      17,872      698      3.91      56,654      2,004      3.54   
      931,311          37,429      4.02        897,322        38,529      4.29        891,699        40,870      4.58   

Reverse repurchase agreements – non-trading27

Europe

HSBC Bank

  66,360      450      0.68      28,131      113      0.40      12,621      71      0.56   
 

HSBC France

  29,703      62      0.21      45,929      48      0.10      43,986      125      0.28   

Asia63

The Hongkong and Shanghai Banking Corporation

  23,562      333      1.41      11,722      272      2.32      7,585      206      2.72   
 

HSBC Bank Malaysia

  991      31      3.13      378      11      2.91      1,132      34      3.00   

MENA

HSBC Bank Middle East

  18      2      11.11      620      7      1.13      392      9      2.30   

North America

HSBC Bank USA

  1,196      10      0.84      1,837      13      0.71      6,312      29      0.46   

HSBC Finance

                                322      1      0.31   
 

HSBC Bank Canada

  7,169      84      1.17      9,196      93      1.01      4,810      50      1.04   

Latin America

HSBC Mexico

  90      3      3.33      133      5      3.76                  

Brazilian operations

  7,241      753      10.40      5,541      404      7.29      5,602      420      7.50   
 

HSBC Bank Argentina

  88      10      11.36      138      13      9.42      314      27      8.60   

Other operations

  61,855      62      0.10      10,699      16      0.15      29      3      10.34   
  198,273      1,800      0.91      114,324      995      0.87      83,105      975      1.17   

Financial investments

Europe

HSBC Bank

  100,609      867      0.86      88,406      1,223      1.38      80,475      1,275      1.58   

HSBC Private Banking Holdings (Suisse)

  10,890      114      1.05      13,509      183      1.35      5,722      107      1.87   
 

HSBC France

  12,685      113      0.89      13,733      94      0.68      11,208      130      1.16   

Asia63

Hang Seng Bank

  33,246      655      1.97      31,502      601      1.91      29,319      590      2.01   

The Hongkong and Shanghai Banking Corporation

  118,096      2,109      1.79      104,740      1,781      1.70      94,790      1,821      1.92   
 

HSBC Bank Malaysia

  2,749      94      3.42      2,197      72      3.28      1,798      59      3.28   

MENA

HSBC Bank Middle East

  10,515      104      0.99      11,838      113      0.95      10,266      113      1.10   

North America

HSBC Bank USA

  47,963      774      1.61      56,302      884      1.57      61,510      1,092      1.78   

HSBC Finance

                                941      67      7.12   
 

HSBC Bank Canada

  17,970      246      1.37      20,364      279      1.37      21,179      297      1.40   

Latin America

HSBC Mexico

  9,914      409      4.13      7,782      351      4.51      8,021      379      4.73   

Brazilian operations

  8,350      1,003      12.01      7,404      740      9.99      9,527      1,019      10.70   
 

HSBC Bank Argentina

  518      130      25.10      451      71      15.74      701      96      13.69   

Other operations

  26,311      1,705      6.48      35,081      1,610      4.59      51,872      2,033      3.92   
  399,816      8,323      2.08      393,309      8,002      2.03      387,329      9,078      2.34   

 

HSBC HOLDINGS PLC

60b


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Assets (continued)

 

      2014     2013     2012  
     

Average

balance

   

Interest

income

    Yield    

Average

balance

   

Interest

income

    Yield    

Average

balance

   

Interest

income

    Yield  
      US$m     US$m     %     US$m     US$m     %     US$m     US$m     %  

Other interest-earning assets

Europe

HSBC Bank

  85,604      25      0.03      73,607      64      0.09      119,175      153      0.13   

HSBC Private Banking Holdings (Suisse)

  5,220      32      0.61      7,441      69      0.93      14,461      189      1.31   
 

HSBC France

  6,016      97      1.61      14,294      111      0.78      13,107      121      0.92   

Asia63

Hang Seng Bank

  2,504      14      0.56      2,088      14      0.67      1,003      9      0.90   

The Hongkong and Shanghai Banking Corporation

  86,361      583      0.68      62,369      498      0.80      59,191      481      0.81   
 

HSBC Bank Malaysia

  152                456      2      0.44      553      4      0.72   

MENA

HSBC Bank Middle East

  2,221      32      1.44      1,888      87      4.61      1,914      72      3.76   

North America  

HSBC Bank USA

  6,936      123      1.77      6,386      103      1.61      12,324      872      7.08   

HSBC Finance

  6,081      5      0.08      6,821      19      0.28      7,723      656      8.49   
 

HSBC Bank Canada

  292      5      1.71      1,691      42      2.48      2,340      69      2.95   

Latin America

HSBC Mexico

  324                265      6      2.26      614      39      6.35   

Brazilian operations

  1,215      136      11.19      2,394      107      4.47      1,338      100      7.47   
 

HSBC Bank Argentina

  61                93                106      4      4   

Other operations

  (182,999   (717   (151,757   (307   (206,745   (495
    19,988      335      1.68      28,036      815      2.91      27,104      2,274      8.39   

Total interest-earning assets

Europe

HSBC Bank

  652,028      12,762      1.96      572,265      12,911      2.26      575,732      13,064      2.27   

HSBC Private Banking Holdings (Suisse)

  38,840      315      0.81      51,585      456      0.88      34,846      504      1.45   
 

HSBC France

  99,195      1,964      1.98      131,963      2,002      1.52      126,535      2,140      1.69   

Asia63

Hang Seng Bank

  130,710      3,358      2.57      122,623      3,045      2.48      111,625      2,777      2.49   

The Hongkong and Shanghai Banking Corporation

  548,892      12,364      2.25      470,118      11,382      2.42      424,675      10,972      2.58   
 

HSBC Bank Malaysia

  22,500      955      4.24      22,446      930      4.14      21,182      927      4.38   

MENA

HSBC Bank Middle East

  44,050      1,300      2.95      44,901      1,358      3.02      42,114      1,440      3.42   

North America

HSBC Bank USA

  148,013      2,803      1.89      145,970      2,860      1.96      157,408      3,812      2.42   

HSBC Finance

  32,527      2,176      6.69      40,967      3,083      7.53      54,342      4,627      8.51   
 

HSBC Bank Canada

  63,509      1,710      2.69      70,875      1,848      2.61      69,869      1,971      2.82   

Latin America

HSBC Mexico

  28,773      2,040      7.09      26,361      2,129      8.08      26,099      2,150      8.24   

Brazilian operations

  49,497      6,969      14.08      46,606      6,243      13.40      53,096      7,742      14.58   
 

HSBC Bank Argentina

  4,828      950      19.68      5,496      901      16.39      4,847      863      17.80   

Other operations

  (76,826   1,289      (82,808   2,044      (77,302   3,713   
  1,786,536      50,955      2.85      1,669,368      51,192      3.07      1,625,068      56,702      3.49   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

60c


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Equity and liabilities

 

      2014     2013     2012  
     

Average

balance

   

Interest

expense

    Cost    

Average

balance

   

Interest

expense

    Cost    

Average

balance

   

Interest

expense

    Cost  
      US$m     US$m     %     US$m     US$m     %     US$m     US$m     %  

Summary

Interest-bearing liabilities measured at amortised cost (itemised below)

  1,546,633      16,250      1.05      1,426,180      15,653      1.10      1,401,254      19,030      1.36   

Trading liabilities and financial liabilities designated at fair value (excluding own debt issued)

  178,518      2,856      1.60      301,353      3,027      1.00      318,883      3,445      1.08   

Non-interest bearing current accounts

  185,990      184,370      177,085   

Total equity and other non-interest bearing liabilities

  768,902            780,113            809,732         

Total equity and liabilities

  2,680,043      19,106      0.71      2,692,016      18,680      0.69      2,706,954      22,475      0.83   

Average cost on all interest-bearing liabilities

  1.11      1.08      1.31   

Deposits by banks27,64

Europe

HSBC Bank

  20,508      139      0.68      21,230      165      0.78      26,708      402      1.51   

HSBC Private Banking Holdings (Suisse)

  354      1      0.28      351      1      0.28      657      2      0.30   
 

HSBC France

  6,191      53      0.86      7,747      69      0.89      14,833      142      0.96   

Asia63

Hang Seng Bank

  960      9      0.94      1,095      15      1.37      1,305      15      1.15   

The Hongkong and Shanghai Banking Corporation

  19,589      79      0.40      15,663      90      0.57      17,154      122      0.71   
 

HSBC Bank Malaysia

  1,095      26      2.37      864      20      2.31      961      20      2.08   

MENA

HSBC Bank Middle East

  982      3      0.31      1,471      3      0.20      1,586      6      0.38   

North America  

HSBC Bank USA

  6,436      12      0.19      8,131      16      0.20      7,552      19      0.25   
 

HSBC Bank Canada

  371      1      0.27      607      2      0.33      648      3      0.46   

Latin America

HSBC Mexico

  2,078      73      3.51      1,018      46      4.52      1,103      52      4.71   

Brazilian operations

  2,309      84      3.64      3,356      94      2.80      3,931      154      3.92   
 

HSBC Bank Argentina

  10      1      10.00      20      2      10.00      44      3      6.82   

Other operations

  334                63      32      50.79      1,541      61      3.96   
  61,217      481      0.79      61,616      555      0.90      78,023      1,001      1.28   

Financial liabilities designated at fair value – own debt issued65

Europe

HSBC Holdings

  18,745      234      1.25      19,719      366      1.86      23,864      446      1.87   

HSBC Bank

  27,762      421      1.52      28,969      443      1.53      28,046      556      1.98   
 

HSBC France

  8,232      66      0.80      9,173      67      0.73      7,147      118      1.65   

North America

HSBC Bank USA

  2,032      33      1.62      1,933      35      1.81      1,853      38      2.05   
 

HSBC Finance

  7,195      58      0.81      8,878      80      0.90      12,147      184      1.51   

Other operations

  2,408      25      1.04      3,661      (24   (0.66   1,959      (17   (0.87
  66,374      837      1.26      72,333      967      1.34      75,016      1,325      1.77   

 

HSBC HOLDINGS PLC

60d


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Equity and liabilities (continued)

 

      2014     2013     2012  
     

Average

balance

   

Interest

expense

    Cost    

Average

balance

   

Interest

expense

    Cost    

Average

balance

   

Interest

expense

    Cost  
      US$m     US$m     %     US$m     US$m           US$m     US$m     %  

Customer accounts27,66

 

Europe

HSBC Bank

  372,151      2,268      0.61      329,867      2,229      0.68      303,178      2,421      0.80   

HSBC Private Banking Holdings (Suisse)

  8,165      31      0.38      16,414      70      0.43      15,912      84      0.53   
 

HSBC France

  20,988      189      0.90      24,519      237      0.97      23,912      320      1.34   

Asia63

Hang Seng Bank

  98,794      472      0.48      91,778      360      0.39      85,425      365      0.43   

The Hongkong and Shanghai Banking Corporation

  377,748      2,743      0.73      344,968      2,548      0.74      320,028      2,628      0.82   
 

HSBC Bank Malaysia

  13,457      291      2.16      13,673      295      2.16      13,567      310      2.28   

MENA

HSBC Bank Middle East

  16,533      75      0.45      18,387      106      0.58      17,477      163      0.93   

North America  

HSBC Bank USA

  57,015      78      0.14      56,411      104      0.18      63,581      223      0.35   
 

HSBC Bank Canada

  40,682      319      0.78      41,905      330      0.79      41,842      328      0.78   

Latin America

HSBC Mexico

  15,050      300      1.99      15,316      383      2.50      16,718      489      2.92   

Brazilian operations

  18,542      1,828      9.86      20,602      1,467      7.12      29,569      2,351      7.95   
 

HSBC Bank Argentina

  2,758      373      13.52      3,318      343      10.34      3,594      268      7.46   

Other operations

  46,610      164      0.35      58,342      322      0.55      77,253      700      0.91   
  1,088,493      9,131      0.84      1,035,500      8,794      0.85      1,012,056      10,650      1.05   

Repurchase agreements – non-trading27

 

Europe

HSBC Bank

  72,481      213      0.29      29,019      111      0.38      7,660      57      0.74   

HSBC Private Banking Holdings (Suisse)

  74                67           0.14      14           0.00   
 

HSBC France

  29,539      59      0.20      37,554      34      0.09      35,255      112      0.32   

Asia63

Hang Seng Bank

  11                6           4.24                  

The Hongkong and Shanghai Banking Corporation

  1,760      56      3.18      779      32      4.11      1,207      52      4.31   
 

HSBC Bank Malaysia

  35      1      2.86      65      1      1.54      57      1      1.75   

MENA

HSBC Bank Middle East

  2                17      1      5.88      2           0.00   

North America

HSBC Bank USA

  11,485      20      0.17      9,269      12      0.13      4,588      1      0.02   
 

HSBC Bank Canada

  2,167      25      1.15      2,996      30      1.00      4,239      22      0.52   

Latin America

HSBC Mexico

  4,748      152      3.20      1,842      90      4.89      1,017      39      3.83   

Brazilian operations

  910      96      10.55      1,104      87      7.88      1,175      100      8.51   
 

HSBC Bank Argentina

  3                                           

Other operations

  67,490      30      0.04      11,692      7      0.06      322      3      0.93   
  190,705      652      0.34      94,410      405      0.43      55,536      387      0.70   

Debt securities in issue

 

Europe

HSBC Holdings

  16,781      945      5.63      13,405      807      6.02      12,719      797      6.27   

HSBC Bank

  56,949      589      1.03      64,528      768      1.19      69,294      989      1.43   
 

HSBC France

  10,846      52      0.48      13,365      54      0.40      14,801      118      0.80   

Asia63

Hang Seng Bank

  1,155      8      0.69      1,393      12      0.86      1,606      15      0.93   

The Hongkong and Shanghai Banking Corporation

  6,365      176      2.77      7,586      186      2.45      7,732      241      3.12   
 

HSBC Bank Malaysia

  461      19      4.12      967      26      2.69      1,016      25      2.46   

MENA

HSBC Bank Middle East

  2,262      45      1.99      3,057      64      2.09      3,769      83      2.20   

North America

HSBC Bank USA

  15,935      414      2.60      14,012      415      2.96      12,738      390      3.06   

HSBC Finance

  13,045      483      3.70      19,888      739      3.72      29,198      1,059      3.63   
 

HSBC Bank Canada

  10,232      257      2.51      13,158      342      2.60      12,675      390      3.08   

Latin America

HSBC Mexico

  1,061      57      5.37      813      41      5.04      897      51      5.69   

Brazilian operations

  12,707      1,565      12.32      10,963      863      7.87      9,114      732      8.03   
 

HSBC Bank Argentina

  1                52      10      19.23      121      20      16.53   

Other operations

  (18,076   (56        (12,211   (145        (14,332   (155     
  129,724      4,554      3.51      150,976      4,182      2.77      161,348      4,755      2.95   

 

HSBC HOLDINGS PLC

60e


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

      2014     2013     2012  
     

Average

balance

   

Interest

expense

    Cost    

Average

balance

   

Interest

expense

    Cost    

Average

balance

   

Interest

expense

    Cost  
      US$m     US$m     %     US$m     US$m     %     US$m     US$m     %  

Other interest-bearing liabilities

 

Europe

HSBC Bank

  103,819      646      0.62      96,464      659      0.68      126,279      671      0.53   

HSBC Private Banking Holdings (Suisse)

  7,903      23      0.29      7,869      13      0.17      4,195      4      0.10   

HSBC France

  12,838      34      0.26      26,159      77      0.29      20,853      28      0.13   
 

HSBC Finance

                 23                303      2      0.66   

Asia63

Hang Seng Bank

  1,918      45      2.35      2,021      48      2.38      1,715      39      2.27   

The Hongkong and Shanghai Banking Corporation

  91,468      635      0.69      60,056      490      0.82      52,040      477      0.92   
 

HSBC Bank Malaysia

  1,342      14      1.04      1,339      8      0.60      1,069      16      1.50   

MENA

HSBC Bank Middle East

  2,617      57      2.18      2,557      58      2.27      1,681      76      4.52   

North America  

HSBC Bank USA

  17,632      11      0.06      17,793      176      0.99      26,255      408      1.55   

HSBC Finance

  5,817      258      4.44      5,265      220      4.18      3,196      162      5.07   
 

HSBC Bank Canada

  599      4      0.67      3,007      25      0.83      772      4      0.52   

Latin America  

HSBC Mexico

  1,031      13      1.26      1,658      19      1.15      1,305      19      1.46   

Brazilian operations

  3,927      357      9.09      3,497      189      5.40      4,705      362      7.69   
 

HSBC Bank Argentina

  40      7      17.50      29      3      10.34      26      3      11.54   

Other operations

  (240,831   (1,509   (216,392   (1,235   (225,119   (1,359
  10,120      595      5.88      11,345      750      6.61      19,275      912      4.73   

Total interest-bearing liabilities

 

Europe

HSBC Holdings

  35,526      1,179      3.32      33,125      1,173      3.54      36,583      1,243      3.40   

HSBC Bank

  653,670      4,276      0.65      570,077      4,375      0.77      561,165      5,096      0.91   

HSBC Private Banking Holdings (Suisse)

  16,496      55      0.33      24,701      84      0.34      20,778      90      0.43   

HSBC France

  88,634      453      0.51      118,517      538      0.45      116,801      838      0.72   
 

HSBC Finance

                 23                303      2      0.66   

Asia63

Hang Seng Bank

  102,927      535      0.52      96,293      435      0.45      90,051      434      0.48   

The Hongkong and Shanghai Banking Corporation

  496,930      3,689      0.74      428,959      3,346      0.78      398,161      3,520      0.88   
 

HSBC Bank Malaysia

  16,390      351      2.14      16,908      350      2.07      16,670      372      2.23   

MENA

HSBC Bank Middle East

  22,994      190      0.83      25,489      232      0.91      24,515      328      1.34   

North America

HSBC Bank USA

  110,535      568      0.51      107,549      758      0.70      116,567      1,079      0.93   

HSBC Finance

  26,057      799      3.07      34,031      1,039      3.05      44,541      1,405      3.15   
 

HSBC Bank Canada

  54,051      606      1.12      61,673      729      1.18      60,176      747      1.24   

Latin America

HSBC Mexico

  23,968      595      2.48      20,647      579      2.80      21,040      650      3.09   

Brazilian operations

  38,395      3,930      10.24      39,522      2,700      6.83      48,494      3,699      7.63   
 

HSBC Bank Argentina

  2,812      381      13.55      3,419      358      10.47      3,785      294      7.77   

Other operations

  (142,752   (1,357   (154,753   (1,043   (158,376   (767
  1,546,633      16,250      1.05      1,426,180      15,653      1.10      1,401,254      19,030      1.36   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

60f


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Net interest margin67

 

                  2014                 2013                 2012  
      %     %     %  

Total

 

  1.94      2.13      2.32   

Europe

HSBC Bank

  1.30      1.49      1.38   

HSBC Private Banking Holdings (Suisse)

  0.67      0.72      1.19   

HSBC France

  1.52      1.11      1.03   
 

HSBC Finance

       5.78      4.50   

Asia63

Hang Seng Bank

  2.16      2.13      2.10   

The Hongkong and Shanghai Banking Corporation

  1.58      1.70      1.75   
 

HSBC Bank Malaysia

  2.68      2.58      2.62   

MENA

HSBC Bank Middle East

  2.52      2.51      2.64   

North America

HSBC Bank USA

  1.51      1.44      1.74   

HSBC Finance

  4.23      4.99      5.93   
 

HSBC Bank Canada

  1.74      1.58      1.75   

Latin America

HSBC Mexico

  5.02      5.88      5.75   

Brazilian operations

  6.14      7.60      7.61   
 

HSBC Bank Argentina

  11.79      9.88      11.74   

Distribution of average total assets

 

      2014     2013     2012  
      %     %     %  

Europe

HSBC Bank

  39.2      40.1      44.8   

HSBC Private Banking Holdings (Suisse)

  1.5      2.0      1.7   
 

HSBC France

  9.0      11.4      11.5   

Asia63

Hang Seng Bank

  5.7      5.3      4.8   

The Hongkong and Shanghai Banking Corporation

  26.3      25.0      23.3   
 

HSBC Bank Malaysia

  0.9      1.0      1.0   

MENA

HSBC Bank Middle East

  1.9      2.0      1.8   

North America

HSBC Bank USA

  8.5      8.7      10.2   

HSBC Finance

  1.3      1.7      2.1   
 

HSBC Bank Canada

  3.0      3.2      3.2   

Latin America

HSBC Mexico

  1.5      1.5      1.5   

Brazilian operations

  2.4      2.3      2.7   
 

HSBC Bank Argentina

            0.2   

Other operations (including consolidation adjustments)

  (1.2   (4.2   (8.8
  100.0      100.0      100.0   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

60g


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Analysis of changes in net interest income and net interest expense

The following tables allocate changes in net interest income and net interest expense between volume and rate for 2014 compared with 2013, and for 2013 compared with 2012. We isolate volume variances and allocate any change arising from both volume and rate to rate.

Interest income

 

           

Increase/(decrease)

in 2014 compared
with 2013

         

Increase/(decrease)

in 2013 compared
with 2012

       
      2014     Volume     Rate     2013     Volume     Rate     2012  
      US$m     US$m     US$m     US$m     US$m     US$m     US$m  

Short-term funds and loans and advances to banks27

Europe

HSBC Bank

  997      66      51      880      94      (214   1,000   

HSBC Private Banking Holdings (Suisse)

  10      (4   4      10      57      (56   9   
 

HSBC France

  66      (31   4      93      (23   1      115   

Asia63

Hang Seng Bank

  279      (17   45      251      2      (34   283   

The Hongkong and Shanghai Banking Corporation

  822      57      (44   809      (12   (16   837   
 

HSBC Bank Malaysia

  158      (13   9      162      36      3      123   

MENA

HSBC Bank Middle East

  29      (2   4      27      (3   (2   32   

North America

HSBC Bank USA

  105      11      10      84      5      (25   104   
 

HSBC Bank Canada

  4      1           3           (1   4   

Latin America

HSBC Mexico

  86      (7   (16   109      (8   (2   119   

Brazilian operations

  498      (11   121      388      (280   (67   735   
 

HSBC Bank Argentina

  12      (2   (4   18      245      (245   18   

Other operations

  2      (5   (10   17      (97   (12   126   
  3,068      9      208      2,851      8      (662   3,505   

Loans and advances to customers27

Europe

HSBC Bank

  10,423      386      (594   10,631      412      (346   10,565   

HSBC Private Banking Holdings (Suisse)

  159      (28   (7   194      42      (47   199   

HSBC France

  1,626      (128   98      1,656      87      (80   1,649   
 

HSBC Finance

       (10        10      (34   2      42   

Asia63

Hang Seng Bank

  2,410      211      20      2,179      223      61      1,895   

The Hongkong and Shanghai Banking Corporation

  8,517      870      (375   8,022      1,057      (662   7,627   
 

HSBC Bank Malaysia

  672      (19   8      683      25      (49   707   

MENA

HSBC Bank Middle East

  1,133      48      (39   1,124      77      (167   1,214   

North America

HSBC Bank USA

  1,791      227      (212   1,776      95      (34   1,715   

HSBC Finance

  2,171      (691   (202   3,064      (844   5      3,903   
 

HSBC Bank Canada

  1,371      (63   3      1,431      (74   (46   1,551   

Latin America

HSBC Mexico

  1,542      47      (163   1,658      103      (58   1,613   

Brazilian operations

  4,579      284      (309   4,604      (383   (481   5,468   
 

HSBC Bank Argentina

  798      (119   118      799      (6   87      718   

Other operations

  237      (134   (327   698      (1,373   67      2,004   
      37,429      1,458      (2,558       38,529      258      (2,599       40,870   

 

HSBC HOLDINGS PLC

60h


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Interest income (continued)

 

           

Increase/(decrease)

in 2014 compared

with 2013

         

Increase/(decrease)

in 2013 compared
with 2012

       
      2014         Volume     Rate     2013         Volume     Rate     2012  
          US$m     US$m         US$m         US$m     US$m         US$m         US$m  

Reverse repurchase agreements – non-trading27

Europe

HSBC Bank

  450      153      184      113      87      (45   71   
 

HSBC France

  62      (16   30      48      5      (82   125   

Asia63

The Hongkong and Shanghai Banking Corporation

  333      275      (214   272      113      (47   206   
 

HSBC Bank Malaysia

  31      18      2      11      (23        34   

MENA

HSBC Bank Middle East

  2      (7   2      7      5      (7   9   

North America    

HSBC Bank USA

  10      (5   2      13      (21   5      29   

HSBC Finance

                      (1        1   
 

HSBC Bank Canada

  84      (20   11      93      46      (3   50   

Latin America

HSBC Mexico

  3      (2        5           5        

Brazilian operations

  753      124      225      404      (5   (11   420   
 

HSBC Bank Argentina

  10      (5   2      13      (15   1      27   

Other operations

  62      77      (31   16      1,103      (1,090   3   
  1,800      730      75      995      365      (345   975   

Financial investments

Europe

HSBC Bank

  867      168      (524   1,223      125      (177   1,275   

HSBC Private Banking Holdings (Suisse)

  114      (35   (34   183      146      (70   107   
 

HSBC France

  113      (7   26      94      29      (65   130   

Asia63

Hang Seng Bank

  655      33      21      601      44      (33   590   

The Hongkong and Shanghai Banking Corporation

  2,109      227      101      1,781      126      (166   1,821   
 

HSBC Bank Malaysia

  94      18      4      72      13           59   

MENA

HSBC Bank Middle East

  104      (13   4      113      17      (17   113   

North America

HSBC Bank USA

  774      (131   21      884      (93   (115   1,092   

HSBC Finance

                      (67        67   
 

HSBC Bank Canada

  246      (33        279      (11   (7   297   

Latin America

HSBC Mexico

  409      96      (38   351      (11   (17   379   

Brazilian operations

  1,003      94      169      740      (227   (52   1,019   
 

HSBC Bank Argentina

  130      11      48      71      (34   9      96   

Other operations

  1,705      (403   498      1,610      (658   235      2,033   
  8,323      132      189      8,002      140      (1,216   9,078   

For footnote, see page 109.

 

HSBC HOLDINGS PLC

60i


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Interest expense

 

            Increase/(decrease)
in 2014 compared
with 2013
         

Increase/(decrease)

in 2013 compared
with 2012

       
      2014         Volume     Rate     2013         Volume     Rate     2012  
          US$m     US$m         US$m         US$m     US$m         US$m         US$m  

Deposits by banks27

Europe

HSBC Bank   139      (6   (20   165      (83   (154   402   

HSBC Private Banking Holdings (Suisse)

  1                1      (1        2   
 

HSBC France

  53      (14   (2   69      (68   (5   142   

Asia63

Hang Seng Bank   9      (2   (4   15      (2   2      15   

The Hongkong and Shanghai Banking Corporation

  79      22      (33   90      (11   (21   122   
 

HSBC Bank Malaysia

  26      5      1      20      (2   2      20   

MENA

HSBC Bank Middle East   3      (1   1      3           (3   6   

North America    

HSBC Bank USA   12      (3   (1   16      1      (4   19   
 

HSBC Bank Canada

  1      (1        2           (1   3   

Latin America

HSBC Mexico   73      48      (21   46      (4   (2   52   

Brazilian operations

  84      (29   19      94      (23   (37   154   
 

HSBC Bank Argentina

  1      (1        2      (2   1      3   

Other operations

       138      (170   32      (59   30      61   
  481      (4   (70   555      (210   (236   1,001   

Customer accounts27

Europe

HSBC Bank   2,268      288      (249   2,229      214      (406   2,421   

HSBC Private Banking Holdings (Suisse)

  31      (35   (4   70      3      (17   84   
 

HSBC France

  189      (34   (14   237      8      (91   320   

Asia63

Hang Seng Bank   472      27      85      360      27      (32   365   

The Hongkong and Shanghai Banking Corporation

  2,743      243      (48   2,548      205      (285   2,628   
 

HSBC Bank Malaysia

  291      (5   1      295      2      (17   310   

MENA

HSBC Bank Middle East   75      (11   (20   106      8      (65   163   

North America

HSBC Bank USA   78      1      (27   104      (25   (94   223   
 

HSBC Bank Canada

  319      (10   (1   330           2      328   

Latin America

HSBC Mexico   300      (7   (76   383      (41   (65   489   

Brazilian operations

  1,828      (147   508      1,467      (713   (171   2,351   
 

HSBC Bank Argentina

  373      (58   88      343      (21   96      268   

Other operations

  164      (65   (93   322      (172   (206   700   
  9,131      450      (113   8,794      246      (2,102   10,650   

 

HSBC HOLDINGS PLC

60j


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

           

Increase/(decrease)

in 2014 compared

with 2013

         

Increase/(decrease)

in 2013 compared
with 2012

       
      2014         Volume     Rate     2013         Volume     Rate     2012  
          US$m     US$m         US$m         US$m     US$m         US$m         US$m  

Repurchase agreements – non-trading27

Europe

HSBC Bank

  213      165      (63   111      158      (104   57   
 

HSBC France

  59      (7   32      34      7      (85   112   

Asia63

The Hongkong and Shanghai Banking Corporation

  56      40      (16   32      (18   (2   52   
 

HSBC Bank Malaysia

  1      (1   1      1                1   

MENA

HSBC Bank Middle East

       (1        1           1        

North America    

HSBC Bank USA

  20      3      5      12      1      10      1   
 

HSBC Bank Canada

  25      (8   3      30      (6   14      22   

Latin America

HSBC Mexico

  152      141      (79   90      32      19      39   

Brazilian operations

  96      (15   24      87      (6   (7   100   
 

HSBC Bank Argentina

                                  

Other operations

  30      33      (10   7      106      (102   3   
  652      414      (167   405      272      (254   387   

Financial liabilities designated at fair value – own debt issued

Debt securities in issue

Europe

HSBC Holdings

  945      203      (65   807      43      (33   797   

HSBC Bank

  589      (90   (89   768      (68   (153   989   
 

HSBC France

  52      (10   8      54      (11   (53   118   

Asia63

Hang Seng Bank

  8      (2   (2   12      (2   (1   15   

The Hongkong and Shanghai Banking Corporation

  176      (28   18      186      (7   (48   241   
 

HSBC Bank Malaysia

  19      (14   7      26      (1   2      25   

MENA

HSBC Bank Middle East

  45      (17   (2   64      (16   (3   83   

North America

HSBC Bank USA

  414      57      (58   415      39      (14   390   

HSBC Finance

  483      (255   (1   739      (338   18      1,059   
 

HSBC Bank Canada

  257      (76   (9   342      15      (63   390   

Latin America

HSBC Mexico

  57      12      4      41      (5   (5   51   

Brazilian operations

  1,565      137      565      863      148      (17   732   
 

HSBC Bank Argentina

       (10        10      (11   1      20   

Other operations

  (56        89      (145        10      (155
  4,554      (589   961      4,182      (306   (267   4,755   

For footnote, see page 109.

 

HSBC HOLDINGS PLC

60k


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Short-term borrowings

Short-term borrowings in the form of repurchase agreements are shown separately on the face of the balance sheet. Other forms of short-term borrowings are included within customer accounts, deposits by banks, debt securities in issue and trading liabilities. Short-term borrowings are defined by the US Securities and Exchange Commission as Federal funds purchased and securities sold under agreements to repurchase, commercial paper and other short-term borrowings.

Our only significant short-term borrowings are securities sold under agreements to repurchase and certain debt securities in issue. For securities sold under agreements to repurchase, we run matched repo and reverse repo trading books. We generally observe lower year-end demand in our reverse repo lending business which results in lower repo balances at the balance sheet date. Additional information on these is provided in the table below.

 

 

Repos and short-term bonds

 

    2014   2013   2012  
    US$m   US$m   US$m  

Securities sold under agreements to repurchase

Outstanding at 31 December

  111,230      181,641      170,790   

Average amount outstanding during the year

  195,482      218,580      206,352   

Maximum quarter-end balance outstanding during the year

  227,637      210,452      176,162   

Weighted average interest rate during the year

  0.3%      0.3%      0.4%   

Weighted average interest rate at the year-end

  0.6%      0.5%      0.5%   

Short-term bonds

Outstanding at 31 December

  38,868      40,667      44,240   

Average amount outstanding during the year

  39,547      46,455      40,349   

Maximum quarter-end balance outstanding during the year

  41,117      54,933      44,240   

Weighted average interest rate during the year

  1.7%      1.4%      1.4%   

Weighted average interest rate at the year-end

  1.6%      0.7%      1.3%   

Contractual obligations

The table below provides details of our material contractual obligations as at 31 December 2014.

 

    Payments due by period  
    Total    

Less than

1 year

    1–3 years     3–5 years     More than
5 years
 
    US$m     US$m     US$m     US$m     US$m  

Long-term debt obligations

  198,051      56,704      46,735      27,135      67,477   

Term deposits and certificates of deposit

  128,790      121,865      3,825      2,528      572   

Capital (finance) lease obligations

  87      32      29      5      21   

Operating lease obligations

  5,372      1,022      1,555      1,000      1,795   

Purchase obligations

  656      540      40      53      23   

Short positions in debt securities and equity shares

  64,917      44,466      6,913      2,729      10,809   

Current tax liability

  1,213      1,213                  

Pension/healthcare obligation

  17,466      1,536      3,198      3,398      9,334   
      416,552          227,378          62,295          36,848          90,031   

 

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Report of the Directors: Financial Review (continued)

 

 

Loan maturity and interest sensitivity analysis

At 31 December 2014, the geographical analysis of loan maturity and interest sensitivity by loan type on a contractual repayment basis was as follows:

 

    Europe     Asia     MENA     North
America
    Latin
America
    Total  
    US$m     US$m     US$m     US$m     US$m     US$m  

Maturity of 1 year or less

Loans and advances to banks

  16,736      58,142      10,013      6,957      9,025      100,873   

Commercial loans to customers

Manufacturing and international trade and services

  76,974      88,223      9,441      11,333      14,894      200,865   

Real estate and other property related

  10,708      23,722      1,395      3,634      1,511      40,970   

Non-bank financial institutions

  14,887      10,458      1,876      4,978      958      33,157   

Governments

  1,104      250      1,072      10      398      2,834   

Other commercial

  31,419      19,586      2,047      2,780      3,468      59,300   
    135,092        142,239        15,831        22,735        21,229        337,126   

Maturity after 1 year but within 5 years

Loans and advances to banks

  4,667      3,497      483      370      335      9,352   

Commercial loans to customers

Manufacturing and international trade and services

  29,570      21,185      1,969      15,257      4,984      72,965   

Real estate and other property related

  17,122      36,462      664      8,082      618      62,948   

Non-bank financial institutions

  7,115      3,436      1,336      3,868      403      16,158   

Governments

  235      359      481      33      172      1,280   

Other commercial

  18,377      14,714      1,563      7,829      2,477      44,960   
  72,419      76,156      6,013      35,069      8,654      198,311   

Interest rate sensitivity of loans and advances to banks and commercial loans to customers

Fixed interest rate

  14,799      2,182      1,277      3,988      3,150      25,396   

Variable interest rate

  62,289      77,471      5,219      31,451      5,839      182,269   
  77,088      79,653      6,496      35,439      8,989      207,665   

Maturity after 5 years

Loans and advances to banks

  523      1,321           80           1,924   

 

Commercial loans to customers

Manufacturing and international trade and services

  9,742      1,175      677      2,193      361      14,148   

Real estate and other property related

  7,482      9,873      185      3,774      442      21,756   

Non-bank financial institutions

  941      103      78      187      31      1,340   

Governments

  923      585           121      400      2,029   

Other commercial

  9,064      4,666      1,092      2,946      998      18,766   
  28,152      16,402      2,032      9,221      2,232      58,039   

Interest rate sensitivity of loans and advances to banks and commercial loans to customers

Fixed interest rate

  7,698      1,220      695      724      351      10,688   

Variable interest rate

  20,977      16,503      1,337      8,577      1,881      49,275   
  28,675      17,723      2,032      9,301      2,232      59,963   

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Deposits

The following tables summarise the average amount of bank deposits, customer deposits and certificates of deposit (‘CD’s) and other money market instruments (which are included within ‘Debt securities in issue’ in

the balance sheet), together with the average interest rates paid thereon for each of the past three years. The geographical analysis of average deposits is based on the location of the office in which the deposits are recorded and excludes balances with HSBC companies.

 

 

Deposits by banks27

 

    2014     2013     2012  
   

Average

balance

  Average
rate
    Average
balance
 

Average

rate

   

Average

balance

 

Average

rate

 
    US$m   %     US$m   %     US$m   %  

Europe

  36,427      42,687        52,274   

Demand and other – non-interest bearing

  8,819           13,198           9,377        

Demand – interest bearing

  5,778      0.4      5,154      0.5      8,988      0.4   

Time

  14,191      1.0      17,465      1.1      24,698      1.5   

Other

  7,639      0.4      6,870      0.7      9,211      2.0   

Asia63

  26,524      26,928      26,676   

Demand and other – non-interest bearing

  5,189           9,606           7,222        

Demand – interest bearing

    13,828      0.5      12,181      0.6      11,832      0.6   

Time

  3,581      0.7      4,282      0.8      5,891      1.2   

Other

  3,926      0.3      859      1.6      1,731      0.9   

Middle East and North Africa

  1,546      2,529      1,890   

Demand and other – non-interest bearing

  563           1,058           301        

Demand – interest bearing

  3           12           8      6.5   

Time

  938      0.2      1,422      0.2      1,543      0.4   

Other

  42           37           38      1.4   

North America

  10,497      12,237      12,696   

Demand and other – non-interest bearing

  3,686           3,488           4,470        

Demand – interest bearing

  2,557      0.1      2,787      0.1      2,996      0.1   

Time

  3,308      0.3      5,110      0.3      4,756      0.4   

Other

  946      0.1      852           474      0.2   

Latin America

  4,642      4,703      6,070   

Demand and other – non-interest bearing

  162           118           212        

Demand – interest bearing

  837      3.8      333      4.5      333      3.9   

Time

  2,244      3.0      2,783      3.1      3,665      3.7   

Other

  1,399      4.4      1,469      4.4      1,860      5.1   

Total

  79,636        89,084      99,606   

Demand and other – non-interest bearing

  18,419           27,467           21,582        

Demand – interest bearing

  23,003      0.6      20,468      0.5      24,157      0.5   

Time

  24,262      1.0      31,062      1.1      40,553      1.4   

Other

  13,952      0.7      10,087      1.2      13,314      2.2   
                            
                                              

For footnotes, see page 109.

 

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Report of the Directors: Financial Review (continued)

 

 

Customer accounts27

 

    2014     2013     2012  
   

Average

balance

 

Average

rate

   

Average

balance

 

Average

rate

   

Average

balance

 

Average

rate

 
    US$m   %     US$m   %     US$m   %  

Europe

  490,511      462,669      436,756   

Demand and other – non-interest bearing

  73,088           75,480           71,342        

Demand – interest bearing

  314,374      0.4      272,973      0.4      242,769      0.4   

Savings

  57,464      1.4      63,585      1.4      62,626      1.8   

Time

  43,760      1.0      50,010      1.1      59,034      1.3   

Other

  1,825      2.6      621      8.2      985      4.0   

Asia63

  566,595      533,002      505,395   

Demand and other – non-interest bearing

  62,988           59,023           55,628        

Demand – interest bearing

  374,026      0.2      347,526      0.2      314,762      0.3   

Savings

  108,074      2.3      104,099      2.2      107,176      2.1   

Time

  21,381      0.9      20,978      0.7      26,633      1.0   

Other

  126      2.4      1,376      0.4      1,196      0.8   

Middle East and North Africa

  39,076      40,451      37,604   

Demand and other – non-interest bearing

  18,410           16,801           14,564        

Demand – interest bearing

  11,587      0.4      13,248      0.4      10,967      0.6   

Savings

  7,974      2.1      9,981      2.6      11,555      3.0   

Time

  1,074      1.2      357      1.4      452      2.2   

Other

  31           64           66      1.5   

North America

  135,692      137,181      145,230   

Demand and other – non-interest bearing

  27,361           27,992           28,403        

Demand – interest bearing

  38,843      0.3      37,837      0.3      38,419      0.3   

Savings

  60,075      0.5      63,565      0.6      68,039      0.7   

Time

  9,290      0.2      7,673      0.3      9,587      0.4   

Other

  123      0.8      114      1.8      782      0.4   

Latin America

  50,918      54,585      71,212   

Demand and other – non-interest bearing

  12,452           13,092           14,203        

Demand – interest bearing

  7,412      1.2      7,237      1.8      8,258      2.2   

Savings

  22,062      10.0      24,652      7.4      35,294      7.5   

Time

  8,850      2.8      9,459      4.4      13,095      4.0   

Other

  142      5.6      145      9.7      362      4.1   

Total

  1,282,792      1,227,888      1,196,197   

Demand and other – non-interest bearing

  194,299           192,388           184,140        

Demand – interest bearing

  746,242      0.3      678,821      0.3      615,175      0.4   

Savings

  255,649      2.3      265,882      2.1      284,690      2.4   

Time

  84,355      1.1      88,477      1.3      108,801      1.5   

Other

  2,247      2.6      2,320      3.1      3,391      2.0   
                            
                                              

For footnotes, see page 109.

 

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Report of the Directors: Financial Review (continued)

 

 

Customer accounts by country

 

   

2014

US$m

   

2013     

US$m     

Europe

  545,959    581,933     

UK

  439,313    462,796

France35

  40,750    45,149

Germany

  15,757    16,615

Switzerland

  11,058    16,796

Turkey

  7,856    7,795

Other

  31,225    32,782

Asia8

  577,491    548,483     

Hong Kong

  389,094    365,905

Australia

  19,312    19,812

India

  11,678    11,549

Indonesia

  5,788    5,865

Mainland China

  46,588    40,579

Malaysia

  16,292    17,093

Singapore

  43,731    43,988

Taiwan

  14,901    12,758

Other

  30,107    30,934

Middle East and North Africa (excluding Saudi Arabia)

  39,720    38,683     

Egypt

  7,663    7,401

UAE

  19,771    18,433

Other

  12,286    12,849

North America

  138,884    140,809     

US

  84,894    80,037

Canada

  43,871    47,872

Other

  10,119    12,900

Latin America

  48,588    51,389     

Argentina

  4,384    4,468

Brazil

  23,204    23,999

Mexico

  18,360    21,529

Other

  2,640    1,393

 

           
                     

At 31 December

  1,350,642    1,361,297     

For footnotes, see page 109.

 

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Report of the Directors: Financial Review (continued)

 

 

Certificates of deposit and other money market instruments

 

    2014     2013     2012  
   

        Average

balance

   

Average

rate

   

        Average

balance

   

Average

rate

   

        Average

balance

   

Average

rate

 
    US$m     %     US$m     %     US$m     %  

Europe

  20,970      0.4      28,680      0.5      32,602      0.4   

Asia

  2,441      1.6      3,199      2.0      5,321      2.4   

North America

  5,406      0.3      5,583      0.6      9,339      0.6   

Latin America

  12,035      12.1      9,335      8.3      7,344      8.5   
    40,852      3.9      46,797      2.3      54,606      1.8   

Certificates of deposit and other time deposits

The maturity analysis of certificates of deposit (‘CD’s) and other wholesale time deposits is expressed by remaining maturity. The majority of CDs and time deposits are in amounts of US$100,000 and over or the equivalent in other currencies.

 

    At 31 December 2014  
   

        3 months

or less

   

After 3
months
        but within

6 months

   

After 6
months
but within

        12 months

   

After

        12 months

    Total  
    US$m     US$m     US$m     US$m                 US$m  

Europe

  48,787      11,442      5,078      4,515      69,822   

Certificates of deposit

  8,315      6,115      1,005           15,435   

Time deposits:

         

– banks

  10,446      1,160      321      2,166      14,093   

– customers

  30,026      4,167      3,752      2,349      40,294   

Asia

  23,299      1,177      1,039      1,023      26,538   

Certificates of deposit

  641      221      44      717      1,623   

Time deposits:

         

– banks

  2,080      34      4      21      2,139   

– customers

  20,578      922      991      285      22,776   

Middle East and North Africa

  913      150      721      215      1,999   

Time deposits:

         

– banks

  541      134      13           688   

– customers

  372      16      708      215      1,311   

North America

  13,336      3,028      713      526      17,603   

Time deposits:

         

– banks

  3,369      2           87      3,458   

– customers

  9,967      3,026      713      439      14,145   

Latin America

  10,189      1,131      864      646      12,830   

Certificates of deposit

  983      697      31      496      2,207   

Time deposits:

         

– banks

  1,900      135      725      123      2,883   

– customers

  7,306      299      108      27      7,740   

 

                            
                                                            

Total

  96,524      16,928      8,415      6,925      128,792   

Certificates of deposit

  9,939      7,033      1,080      1,213      19,265   

Time deposits:

         

– banks

  18,336      1,465      1,063      2,397      23,261   

– customers

  68,249      8,430      6,272      3,315      86,266   

 

                            
                                                            

 

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Report of the Directors: Financial Review (continued)

 

 

Ratio of earnings to fixed charges69

 

            2014               2013           2012           2011           2010  

Ratio of earnings to fixed charges

– excluding interest on deposits

  3.39      3.84      3.03      2.82      2.71   

– including interest on deposits

  1.86      2.09      1.76      1.68      1.73   

Ratio of earnings to combined fixed charges and preference share dividends

– excluding interest on deposits

  3.07      3.50      2.79      2.64      2.56   

– including interest on deposits

  1.79      2.01      1.71      1.64      1.69   

For footnote, see page 109.

 

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Report of the Directors: Financial Review (continued)

 

 

Reconciliation of RoRWA measures

 

Performance Management

 

During 2014, we targeted a return on average ordinary shareholders’ equity of 12%–15%. For internal management purposes we monitored global businesses and geographical regions by pre-tax return on RWAs, a metric which combines return on equity and regulatory capital efficiency objectives. We targeted a return on average risk-weighted assets of 2.2%-2.6% in 2014.

In addition to the return on average risk-weighted assets (‘RoRWA’) we measure our performance internally using the non-GAAP measure of adjusted RoRWA, which is adjusted profit before tax as a percentage of average risk-weighted assets adjusted for the effects of foreign

currency translation differences and the effects of significant items. Excluded from adjusted RoRWA are certain items which distort year-on-year performance as explained on page 40.

We also present the non-GAAP measure of adjusted RoRWA which is further adjusted for the effect of operations that are not regarded as contributing to the long-term performance of the Group. These include the run-off portfolios and the CRS business which was sold in 2012.

The CRS average RWAs in the table below represent the average of the associated operational risk RWAs that were not immediately released on disposal and have not already been adjusted as part of the adjusted RoRWA calculation. At the end of 2014, the residual CRS operational risk RWAs relating to the CRS portfolio were fully amortised.

 

 

Reconciliation of adjusted RoRWA (excluding run-off portfolios and Card and Retail Services)

 

          2014          2013  
       

 

Pre-tax

return

  

  

       

 

Average

RWAs

  

36 

       RoRWA 36        

 

Pre-tax

return

  

  

       

 

Average

RWAs

  

36 

       RoRWA 36 
          US$m           US$bn          %          US$m           US$bn          %  

Reported

        18,680            1,209           1.5           22,565            1,104           2.0   

 

Adjusted37

                22,829                      1,207           1.9                   22,981                      1,071           2.1   

Run-off portfolios

        870            115           0.8           443            121           0.4   

Legacy credit in GB&M

        172            48           0.4           186            33           0.6   

US CML and other38

        698            67           1.0           257            88           0.3   

Card and Retail Services

                                                  4             

Adjusted (excluding run-off portfolios and CRS)

        21,959            1,092           2.0           22,538            946           2.4   

Reconciliation of reported and adjusted average risk-weighted assets

 

          Year ended 31 December  
          2014           2013                   Change  
                  US$bn                   US$bn           %  

Average reported RWAs36

        1,209            1,104            9.5   

Currency translation adjustment33

                   (8      

Acquisitions, disposals and dilutions

        (2         (21      

Other significant items

                   (4            

Average adjusted RWAs36

        1,207            1,071            12.6   

For footnotes, see page 109.

 

Critical accounting

estimates and judgements

The results of HSBC reflect the choice of accounting policies, assumptions and estimates that underlie the preparation of HSBC’s consolidated financial statements. The significant accounting policies, including the policies which include critical accounting estimates and judgements, are described in Note 1 and in the individual Notes on the Financial Statements. The accounting policies listed below are highlighted as they involve a high degree of judgement and estimation uncertainty and have a material impact on the financial statements:

 

  Impairment of loans and advances: Note 1(k) on page 349;
  Deferred tax assets: Note 8 on page 365;

 

  Valuation of financial instruments: Note 13 on page 378;

 

  Impairment of interests in associates: Note 20 on page 403;

 

  Goodwill impairment: Note 21 on page 407; and

 

  Provisions: Note 29 on page 420.

In view of the inherent uncertainties and the high level of subjectivity involved in the recognition or measurement of the items above, it is possible that the outcomes in the next financial year could differ from those on which management’s estimates are based, resulting in the recognition and measurement of materially different amounts from those estimated by management in the 2014 Financial Statements.

 

 

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Report of the Directors: Financial Review (continued)

 

 

  Global businesses

 

  

 

Summary

   63  

 

 

Retail Banking and Wealth Management

   64  

 

 

Commercial Banking

   67  

 

 

Global Banking and Markets

   70  

 

 

Global Private Banking

   72  

 

 

Other

   75  

 

 

Analysis by global business

   76  

 

          

Summary

HSBC reviews operating activity on a number of bases, including by geographical region and by global business.

The commentaries below present global businesses followed by geographical regions (page 78). Performance is discussed in this order because certain strategic themes, business initiatives and trends affect more than one geographical region. All commentaries are on an

adjusted basis (page 40) unless stated otherwise, while tables are on a reported basis unless stated otherwise.

 

Basis of preparation

 

The results of global businesses are presented in accordance with the accounting policies used in the preparation of HSBC’s consolidated financial statements. Our operations are closely integrated and, accordingly, the presentation of global business data includes internal allocations of certain items of income and expense. These allocations include the costs of certain support services and global functions, to the extent that these can be meaningfully attributed to operational business lines. While such allocations have been made on a systematic and consistent basis, they necessarily involve some subjectivity.

 

Where relevant, income and expense amounts presented include the results of inter-segment funding along with inter-company and inter-business line transactions. All such transactions are undertaken on arm’s length terms.

 

The expense of the UK bank levy is included in the Europe geographical region as HSBC regards the levy as a cost of being headquartered in the UK. For the purposes of the presentation by global business, the cost of the levy is included in ‘Other’.

 

 

 

Profit/(loss) before tax

 

         2014          2013          2012  
         US$m          %          US$m          %          US$m          %  

Retail Banking and Wealth Management

       5,651           30.3           6,649           29.5           9,575           46.4   

Commercial Banking

       8,744           46.8           8,441           37.4           8,535           41.3   

Global Banking and Markets

       5,889           31.5           9,441           41.8           8,520           41.3   

Global Private Banking

       626           3.4           193           0.9           1,009           4.9   

Other39

       (2,230        (12.0        (2,159        (9.6        (6,990        (33.9

Year ended 31 December

                   18,680           100.0                       22,565           100.0                       20,649           100.0   

 

Total assets40

                             
                               2014          2013  
                               US$m          %          US$m          %  

Retail Banking and Wealth Management

  

       499,083           18.9           517,085           19.4   

Commercial Banking

  

       372,739           14.2           360,623           13.5   

Global Banking and Markets

  

       1,839,644           69.8           1,975,509           74.0   

Global Private Banking

  

       88,342           3.4           97,655           3.7   

Other

  

       164,537           6.2           171,812           6.4   

Intra-HSBC items

  

       (330,206        (12.5        (451,366        (17.0

At 31 December

  

       2,634,139           100.0           2,671,318           100.0   

 

For footnotes, see page 109.

 

Risk-weighted assets

 

                             
                               2014          2013  
                               US$bn          %          US$bn          %  

Retail Banking and Wealth Management

  

       205.1           16.8           233.5           21.4   

Commercial Banking

  

       432.4           35.4           391.7           35.8   

Global Banking and Markets

  

       516.1           42.3           422.3           38.6   

Global Private Banking

  

       20.8           1.8           21.7           2.0   

Other

  

       45.4           3.7           23.5           2.2   

At 31 December

  

       1,219.8           100.0           1,092.7           100.0   

 

Principal Retail Banking and Wealth Management business

RBWM comprises the Principal RBWM business, the US run-off portfolio and the disposed-of US CRS business. We believe that looking at the Principal RBWM business allows management to more clearly discuss the cause of material changes from year-to-year in the ongoing

business and to assess the factors and trends in the business which are expected to have a material effect in future years. The reconciliation of RBWM to Principal RBWM is on page 64. Tables which reconcile reported to adjusted financial measures are available on www.hsbc.com.

 

 

HSBC HOLDINGS PLC

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Report of the Directors: Financial Review (continued)

 

 

Retail Banking and Wealth Management

RBWM provides banking and wealth management services for our personal customers to help them secure their future prosperity and realise their ambitions.

 

                               US             
         Total          US          run-off          Principal  
         RBWM          CRS          portfolio          RBWM  
         US$m          US$m          US$m          US$m  

2014

                   

Net interest income

       16,782                     1,390           15,392   

Net fee income

       6,668                     (4        6,672   

Other income/(expense)42

       1,144                     (49        1,193   

Net operating income4

       24,594                     1,337           23,257   

LICs43

       (1,819                  (30        (1,789

Net operating income

       22,775                1,307           21,468   

Total operating expenses

       (17,522                  (738        (16,784

Operating profit

       5,253                     569           4,684   

Income from associates44

       398                               398   

Profit before tax

       5,651                     569           5,082   

RoRWA36

       2.6%                     0.8%           3.3%   

2013

                   

Net interest income

       18,339                     2,061           16,278   

Net fee income

       7,021                     11           7,010   

Other income/(expense)42

       1,380                     (400        1,780   

Net operating income4

       26,740                     1,672           25,068   

LICs43

       (3,227                  (705        (2,522

Net operating income

       23,513                     967           22,546   

Total operating expenses

       (17,248                  (1,166        (16,082

Operating profit/(loss)

       6,265                     (199        6,464   

Income/(expense) from associates44

       384                     (1        385   

Profit/(loss) before tax

       6,649                     (200        6,849   

RoRWA36

       2.6%                     (0.2%        4.4%   

2012

                   

Net interest income

       20,298           1,267           2,563           16,468   

Net fee income

       7,205           395           33           6,777   

Other income/(expense)42

       6,358           3,155           (200        3,403   

Net operating income4

       33,861           4,817           2,396           26,648   

LICs43

       (5,515        (322        (2,569        (2,624

Net operating income/ (expense)

       28,346           4,495           (173        24,024   

Total operating expenses

       (19,769        (729        (1,103        (17,937

Operating profit/(loss)

       8,577           3,766           (1,276        6,087   

Income from associates44

       998                     2           996   

Profit/(loss) before tax

       9,575           3,766           (1,274        7,083   

RoRWA36

       3.1%           14.7%           (1.1%        4.2%   

For footnotes, see page 109.

Principal RBWM RoRWA

3.3%

Global mobile application

downloads surpass

6 million

Best Mobile Banking Application 2014

(Global Finance Magazine)

 

Strategic direction

 

RBWM provides retail banking and wealth management services for personal customers in markets where we have, or can build, the scale in our target customer segments to do so cost effectively.

 

We focus on three strategic imperatives:

 

•  building a consistent, high standard, customer needs-driven wealth management service for retail customers drawing on our Insurance and Asset Management businesses;

 

•  using our global expertise to improve customer service and productivity to provide a high standard of banking solutions and service to our customers efficiently; and

 

•  simplifying and re-shaping the RBWM portfolio of businesses to focus our capital and resources on key markets.

 

Our three growth priorities are customer growth in target segments, deepening customer relationships through wealth management and relationship-led lending, and enhancing distribution capabilities, including digital.

 

Implementing Global Standards, enhancing risk management control models and simplifying processes also remain top priorities for RBWM.

 

Review of reported performance

 

  On a reported basis, RBWM profit before tax reduced by US$1.0bn to US$5.7bn, while Principal RBWM profit before tax fell by US$1.8bn to US$5.1bn. The reduction in RBWM partly reflected the effects of significant items (see page 42) including provisions of US$568m arising from the ongoing review of compliance with the CCA in the UK, adverse movements in non-qualifying hedges of US$493m in 2014 compared with favourable movements of US$262m in 2013, UK customer redress provisions of US$992m compared with US$953m in 2013, and disposals.

 

  In the US run-off portfolio, a profit before tax was recorded compared with a loss in 2013. A reduction in revenue was more than offset by lower LICs reflecting decreased lending balances, reduced new impaired loans and lower delinquency levels. Operating expenses also fell, mainly from the non-recurrence of a customer remediation provision relating to our former CRS business and lower divestiture costs.
 

 

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Report of the Directors: Financial Review (continued)

 

 

Review of adjusted performance45

The commentary that follows reflects performance in our Principal RBWM46 business (see page 63).

Profit before tax (US$m)

 

LOGO

 

  Profit before tax fell by US$0.7bn to US$6.9bn. Revenue was broadly unchanged, while lower LICs were more than offset by higher operating expenses.

Revenue (US$m)

 

LOGO

 

  Revenue was broadly unchanged despite the effect of de-risking initiatives and against a backdrop of continued low interest rates and muted growth in certain key markets. Higher income from current accounts, savings and deposits was broadly offset by lower revenues from personal lending and wealth management products.

Principal RBWM: management view of adjusted revenue

 

    2014
US$m
    2013
US$m
 

Current accounts, savings and deposits

  5,839      5,606   

Wealth management products

  6,201      6,263   

– investment distribution47

  3,456      3,568   

– life insurance manufacturing

  1,603      1,602   

– asset management

  1,142      1,093   

Personal lending

  11,300      11,455   

– mortgages

  3,169      3,182   

– credit cards

  4,339      4,310   

– other personal lending48

  3,792      3,963   

Other49

  645      873   

Net operating income4

      23,985          24,197   

For footnotes, see page 109.

  Revenue from current accounts, savings and deposits increased by 4%. This reflected an increase in customer account balances, of 4% compared with 2013, mainly in Hong Kong and the UK. In addition, higher revenue reflected increased spreads on savings products in the UK and, to a lesser extent, on deposits in mainland China where market interest rates increased.

 

  Revenue from wealth management products reduced by 1%. Investment distribution income declined, mainly as a result of lower fees in the UK, in part reflecting the Retail Distribution Review undertaken in 2013, and in Brazil reflecting a change in product mix. Life insurance manufacturing income was broadly unchanged. This reflected higher new business sales and investment income in Hong Kong, and a net favourable movement in the PVIF asset in Brazil, offset by a reduction in the PVIF asset in France where a fall in long-term yields increased the cost of guarantees on savings business.

 

  Personal lending revenue was down by 1%. While mortgage and credit card revenues were broadly unchanged, other personal lending income declined by 4%, notably in the UK due to the cessation of certain overdraft fees.

 

  LICs decreased by 22% with reductions across all regions, mainly in Brazil due to impairment model changes and assumption revisions for restructured loans in 2013 which were not repeated in 2014. LICs also reduced in the US and the UK, partly reflecting lower delinquency levels and reduced outstanding credit card and UK loan balances.

Operating expenses (US$m)

 

 

LOGO

 

  Operating expenses increased by 7%, reflecting inflationary pressures, particularly in Latin America, in addition to higher costs associated with Regulatory Programmes and Compliance. The increase also reflected the timing of the recognition of the Financial Services Compensation Scheme levy in the UK and higher marketing costs across the regions. These factors were partly offset by sustainable cost savings of over US$200m.
 

 

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Report of the Directors: Financial Review (continued)

 

 

Growth priorities

Focus on relationship-led personal lending to drive balance sheet growth

 

  In 2014, we continued to focus on improving the quality of our revenue through the ongoing implementation of de-risking initiatives, although these have weighed on income. They included the introduction of a new discretionary incentive framework for our Retail Banking customer-facing staff similar to the one launched for Wealth Management relationship managers (‘RM’s) in 2013, removing the formulaic link between product sales and variable pay for front line staff. We also continued to simplify our product range, improve our risk governance and align our practices following regulatory changes.

 

  We aim to deepen relationships with our existing customers and use personal lending to generate new business, targeting different segments and offerings in each market. To achieve this we continued to use improved analytics to support product decisions. Based on pricing and customer response measures, we enhanced revenue and grew balances in certain targeted segments, including the re-launch of the Advance segment in 17 markets in 2014. Lending and deposit balances and revenue per customer for Advance increased compared with 2013.

 

  We maintained discipline around growing lending within our risk appetite in our home and priority growth markets. Home loan average balances increased by 3% in 2014, reflecting growth in our priority markets, notably with double-digit growth in approximately half of these countries as we re-balanced the product mix towards secured loans, although this mix change translated into lower spreads. In our home markets, we continued to target growth in unsecured lending, with average balances marginally higher including an increase in average card balances in Hong Kong, partly offset by a reduction in the UK. Despite overall balance growth, LICs remained lower than in 2013.

 

  Customer recommendation levels improved in several markets during 2014, with the total volume of complaints related to products and services decreasing by more than 20% in the second half of the year, compared with the equivalent period in 2013. Further work is required and is ongoing to better meet our customer needs as they continue to evolve.

Continue to develop wealth management with a focus on growing customer balances

 

  We remain committed to capturing opportunities from wealth creation, primarily through our Premier offering with its customers generating nearly four times the average revenue of non-Premier clients.

 

  Although revenue from wealth management products remained lower than expected we continued to grow wealth balances, which comprise investment and insurance balances. These balances increased compared with 2013 across insurance, mutual funds and equities trading.

 

  In 2014, Global Asset Management continued its strategy of strengthening collaboration across the global businesses to serve their customers. This helped to attract US$29bn of net new money principally in fixed income and liquidity products, in particular with GB&M clients. The investment performance in over 74% of Global Asset Management’s eligible funds by value were above the market median.

 

  In 2014, we improved our RMs’ productivity through new training programmes and tools. Client contact and coverage rates increased from 2013 with higher numbers of client appointments, financial reviews and needs fulfilled per RM.

Develop digital capabilities to support customers and reduce cost

 

  We continue to develop our digital channels and streamline processes to improve the customer experience and to deliver cost savings through our distribution network.

 

  In 2014, downloads of our global mobile application, now with enriched functionality, were over 3m with the total number of downloads surpassing 6m. Global Finance magazine presented HSBC with the award for Best Mobile Banking App at its 2014 World’s Best Internet Bank event based on the application’s global reach and functionality.

 

  In addition, we launched our first straight-through on-line mortgage application service in the UK and, by the end of 2014, 14% of our annual approvals were produced online. We also deployed new Premier platforms, digital capabilities and tablet-based tools to enhance the end-to-end delivery process and customer experience. Across our priority growth markets, the revenue derived from digital channels increased by 18% compared with 2013.
 

 

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Report of the Directors: Financial Review (continued)

 

 

Commercial Banking

CMB offers a full range of commercial financial services and tailored solutions to more than 2.5 million customers ranging from small and medium-sized enterprises to publicly quoted companies in almost 60 countries.

 

          2014
US$m
          2013
US$m
          2012
US$m
 

Net interest income

        10,506            10,200            10,361   

Net fee income

        4,738            4,717            4,470   

Other income42

        1,059            1,448            1,720   

Net operating income4

        16,303            16,365            16,551   

LICs43

        (1,675         (2,384         (2,099

Net operating income

        14,628            13,981            14,452   

Total operating expenses

        (7,489         (7,049         (7,598

Operating profit

        7,139            6,932            6,854   

Income from associates44

        1,605            1,509            1,681   

Profit before tax

        8,744            8,441            8,535   

RoRWA36

        2.1%            2.2%            2.2%   

Record reported profit before tax of

US$8.7bn

10%

Growth in customer lending balances

(excluding the effect of currency translation)

Best Global Cash Management Bank for

Corporates and Financial Institutions

for the third consecutive year

(Euromoney 2014)

 

Strategic direction

 

CMB aims to be the banking partner of choice for our customers building on our rich heritage, international capabilities and relationships to enable global connectivity.

 

We have four growth priorities:

 

•  providing consistency and efficiency for our customers through a business model organised around global customer segments and products;

 

•  utilising our distinctive geographical network to support and facilitate global trade and capital flows;

 

•  delivering excellence in our core flow products – specifically in Trade and in Payments and Cash Management; and

 

•  enhancing collaboration with other global businesses.

 

Implementing Global Standards, enhancing risk management controls and simplifying processes also remain top priorities for CMB.

For footnotes, see page 109.

Review of reported performance

 

  In 2014, CMB reported a record profit before tax of US$8.7bn, 4% higher than in 2013. Reported profit before tax included the effect of a number of significant items (see page 42), notably the gain on sale of our operations in Panama of US$479m in 2013. The increase in reported profit before tax was also driven by a reduction in LICs, although this was partly offset by higher operating expenses.

Review of adjusted performance45

Profit before tax (US$m)

 

LOGO

 

  Profit before tax grew by 13% to US$8.9bn. This was driven by increased revenue and a reduction in LICs, partly offset by a rise in operating expenses.

Revenue (US$m)

 

LOGO

 

  Revenue grew by 5%, driven by Credit and Lending and Payments and Cash Management, notably in our home markets of Hong Kong and the UK. This was due to higher net interest income from growth in average lending and deposit balances in Hong Kong and rising average deposit balances and wider lending spreads in the UK. Higher net fee income was driven by an increase in term lending fees in the UK.

 

  Despite lending spread compression compared with 2013, spreads in 2014 stabilised and showed signs of recovery in certain markets. In addition, we saw notable growth in our UK lending balances in the second half of 2014.
 

 

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Report of the Directors: Financial Review (continued)

 

 

Management view of adjusted revenue

 

    2014
US$m
    2013
US$m
 

Global Trade and Receivables Finance

  2,680      2,625   

Credit and Lending

  6,316      5,938   

Payments and Cash Management, current accounts and savings deposits

  5,018      4,709   

Markets products, Insurance and Investments and Other51

  2,298      2,207   

Net operating income4

  16,312      15,479   

For footnotes, see page 109.

The table above has been restated to reclassify Foreign Exchange revenue. In 2014, ‘Markets products, Insurance and Investments and Other’ included Foreign Exchange revenue of US$207m previously included within ‘Global Trade and Receivables Finance’ (2013: US$213m) and US$516m previously included within ‘Payments and Cash Management’ (2013: US$462m).

 

  Global Trade and Receivables Finance revenue increased by 2% compared with 2013. Average balances rose, with growth in Asia, Europe and Latin America. The effect was partly offset by spread compression in Latin America, reflecting a change in portfolio mix in Brazil. In 2014, spread compression stabilised and showed signs of recovery in certain markets.

 

  Credit and Lending revenue increased by 6% compared with 2013, reflecting higher average balances in Hong Kong and the US and, to a lesser extent, in Brazil. Revenue also increased in the UK due to wider lending spreads and increased fee income from term lending due to higher new business volumes. These factors were partly offset by spread compression in Latin America, primarily in Brazil as discussed above and in Mexico due to the repositioning of the business, and in mainland China.

 

  Payments and Cash Management revenue increased by 7% compared with 2013. This reflected strong deposit growth, notably in the UK and Hong Kong, along with an increase in high value payment transaction volumes. This was partly offset by spread compression, notably in Europe.

 

  Markets products, Insurance and Investments and Other revenue was 4% higher, primarily in North America. In Canada, this reflected the non-recurrence of a write-down of an investment property held for sale in 2013 and a gain on sale of an investment portfolio in 2014. In the US, higher revenue was driven by a gain on sale of a real estate portfolio.

 

  LICs decreased by US$663m, mainly in Europe and Latin America. Lower LICs in Europe reflected a reduction in individually assessed loan impairment charges in the UK. The reduction in Latin America was driven by lower individually assessed charges in Mexico, in particular relating to homebuilders, and lower collectively assessed impairments in Brazil due to impairment model changes and assumption revisions for restructured loans in the Business Banking portfolios in 2013 not repeated in 2014. These factors were partly offset by higher individually
   

assessed charges in Asia, notably in mainland China and Hong Kong.

Operating expenses (US$m)

 

LOGO

 

  Operating expenses increased by 8%, principally in Europe, Latin America and Asia. In Europe and Asia, higher costs reflected increased investment in staff to support business growth and inflationary pressures, while in Latin America costs rose due to inflation which was largely attributable to union-agreed salary increases in Brazil and Argentina. In addition, operating expenses increased due to higher Regulatory Programmes and Compliance costs.

 

  Income from associates increased by 4% due to the improved performance of BoCom and The Saudi British Bank.

Growth priorities

Providing consistency through a globally led business model

 

  Our business strategy is built on the foundation of global scale and consistency, focusing on customer segments and customer behaviour to ensure we provide tailored products to suit their needs. We continue to invest in providing global product coverage for our business segments. This enables us to manage risk more efficiently.

 

  The creation of new senior management positions and a more defined global strategy within our customer segments enabled us to improve client coverage. In 2014, we appointed a new Global Head of International Subsidiary Banking to drive investment in supporting our international customers across our network. We also established dedicated RM teams for international subsidiary banking in key markets to focus on meeting the needs of these subsidiaries and growing the associated revenue streams.

 

  We appointed a new Global Head of Lending and Transaction Management with a remit to support all segments. This globally-aligned product group is designed to optimise capital allocation and improve revenue mix within our risk appetite.

 

 

In 2014, we redefined our Large Corporate segment to focus on a smaller number of higher-value clients. The Large Corporate segment experienced strong

 

 

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Report of the Directors: Financial Review (continued)

 

 

 

growth in most markets fuelled by multi-country flow mandates and increased event-driven capital markets activity. The increased focus on ‘global wallet’ and connectivity led to increased awareness amongst our customers of our franchise and capabilities, resulting in stronger global strategic partnerships.

 

  In addition, we increased our market presence in six of our key MME markets (Hong Kong, the UK, Canada, the US, Mexico and Brazil). We made further progress by appointing regional and country heads of MME and by enhancing our client management system.

 

  In Business Banking, we invested in additional RMs in key markets, increased training worldwide and continued to deploy a globally consistent customer management system within our relationship-managed portfolios. Six major campaigns were launched in 2014 to help SME customers achieve their growth ambitions and expand overseas, including offering funds in the UK, France, the US, Canada, Australia and Turkey totalling US$18bn.

Utilising our geographical network to support our customers’ international growth ambitions

 

  HSBC’s network across the major global trade corridors continued to assist us to provide value-added solutions for our clients. For example, we helped one of the largest retailers in the US to improve its supply chain management by providing holistic financing and liquidity solutions including working capital, trade and supply chain finance.

 

  In Payments and Cash Management, CMB remained well positioned to benefit from global trends such as the increase in cross-border payment flows as we are strategically located where more than 85% of the world’s payment activity originates. For example, new customer mandates increased by 23% on 2013. In addition, we improved our digital offering, migrating
   

over 80,000 customers to date from legacy platforms to core electronic banking channels, and continued to develop innovative products. These included the enhancement of our Global Liquidity Solutions, which enables customers in mainland China to connect their operating cash with their liquidity structures globally.

Delivering excellence in our core products

 

  HSBC is one of the largest trade finance banks in the world with access to more than 85% of the world’s trade and capital flows. We continued to enhance our open account financing capabilities through investment in Receivables Finance and Supply Chain, specifically the launch of a new Supply Chain Solutions platform and the consolidation of the existing Receivables platform into regional hubs. This offers customers broader access to expertise and liquidity and gives us the ability to deploy our capabilities rapidly in new markets, providing better risk management and lower operating costs.

 

  Against the backdrop of declining commodity prices, we achieved double-digit asset balance growth in Commodity and Structured Trade Finance compared with 2013.

Enhancing collaboration with other global businesses

 

  We maintained our focus on strengthening CMB’s collaboration with GB&M and GPB by increasing product coverage across the Group to our customers. In 2014, CMB customers generated over 80% of HSBC’s total collaboration revenues. Revenue from collaboration remained broadly unchanged compared with 2013. This was driven by lower sales of Markets products to CMB customers, notably in the Foreign Exchange business, offset by growth in the sale of Capital Financing products with regard to mergers and acquisitions and debt capital markets.
 

 

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Report of the Directors: Financial Review (continued)

 

 

Global Banking and Markets

GB&M provides tailored financial solutions to major government, corporate and institutional clients worldwide.

 

         2014          2013          2012  
               US$m                US$m                US$m  

Net interest income

       7,022           6,766           6,960   

Net fee income

       3,560           3,482           3,329   

Net trading income50

       5,861           6,780           5,690   

Other income42

       1,335           2,148           2,294   

Net operating income4

       17,778           19,176           18,273   

LICs43

       (365        (207        (670

Net operating income

       17,413           18,969           17,603   

Total operating expenses

       (12,028        (9,960        (9,907

Operating profit

       5,385           9,009           7,696   

Income from associates44

       504           432           824   

Profit before tax

       5,889           9,441           8,520   

RoRWA36

       1.2%           2.3%           2.1%   

Client flows up in Equities,

although subdued in Foreign Exchange

Sustained growth in revenues in

Payments and Cash Management

Bond and Derivatives

House of the year

(International Finance Review 2014)

 

 

Strategic direction

 

GB&M’s business model and strategy is well established with the objective of being a ‘top 5’ bank to our priority clients and in our chosen products and geographies.

 

We focus on the following growth priorities:

 

•  connecting clients to international growth opportunities;

 

•  continuing to be well positioned in products that will benefit from global trends; and

 

•  leveraging our distinctive international expertise and geographical network which connects developed and faster-growing regions.

 

Enhancing risk management controls, implementing Global Standards and collaborating with other global businesses also remain top priorities for GB&M.

 

For footnotes, see page 109.

Review of reported performance

 

  GB&M’s reported profit before tax of US$5.9bn was down by US$3.6bn, primarily in Europe and North America, from higher operating expenses and lower revenue. The increase in operating expenses and decrease in revenue reflected a number of significant items (see page 42). Operating expenses included settlements and provisions of US$1.2bn in connection with foreign exchange investigations, of which US$809m was recorded in the fourth quarter of 2014, and a charge of US$533m in the US relating to a settlement agreement with the Federal Housing Finance Agency, which are included in significant items.

Review of adjusted performance45

Profit before tax (US$m)

 

LOGO

 

  Profit before tax of US$8.1bn was US$1.1bn lower than in 2013, driven by higher operating expenses and a fall in revenue, which included the introduction of the FFVA on certain derivative contracts that resulted in a charge of US$263m.

Revenue (US$m)

 

LOGO

 

  Revenue was lower principally due to the effect of the FFVA and a reduction in our Foreign Exchange business which was partly offset by an increase in Capital Financing.
 

 

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Report of the Directors: Financial Review (continued)

 

 

Management view of adjusted revenue

 

   

2014

US$m

   

2013

US$m

 

Markets52

  6,262      6,933   

– Credit

  567      801   

– Rates

  1,563      1,678   

– Foreign Exchange

  2,916      3,140   

– Equities

  1,216      1,314   

Capital Financing

  4,066      3,981   

Payments and Cash Management

  1,794      1,743   

Securities Services

  1,698      1,653   

Global Trade and Receivables Finance

  767      723   

Balance Sheet Management

  3,020      3,046   

Principal Investments

  531      450   

Other53

  (32   3   

Total operating income4

      18,106          18,532   

For footnotes, see page 109.

 

  The table below outlines the effect on businesses and total adjusted operating income of the FFVA:

Effect of FFVA on total operating income

 

   

2014

US$m

   

2013

US$m

 

Total operating income

    18,106      18,532   

– FFVA in Rates

    (164     

– FFVA in Credit

    (97     

– FFVA in other businesses

    (2     

Total operating income excluding FFVA

        18,369          18,532   

– of which Rates excluding FFVA

    1,727      1,678   

– of which Credit excluding FFVA

    664      801   

 

  Excluding the above, revenue in the majority of our Markets businesses was lower. This was predominantly driven by a decline in our Foreign Exchange business, which was affected by lower volatility, notably in the first half of 2014, and reduced client flows. Credit revenue also decreased due to adverse movements in credit spreads and a reduction in Legacy Credit. Equities revenue fell too, as 2013 benefited from higher revaluation gains which more than offset a rise in revenue from increased client flows and higher derivatives income in 2014. By contrast, Rates revenue rose due to favourable market movements, notably in Asia, along with minimal fair value movements on our own credit spread on structured liabilities compared with adverse movements in 2013. These factors were partly offset by a fall in Rates revenue in Europe.

 

  In Capital Financing, revenue grew by US$85m, as the effects of increased volumes and market share gains across our advisory, equity capital markets and lending products were partly offset by spread and fee compression.

 

  Payments and Cash Management revenue was marginally higher, due to both increased deposit balances, notably in Asia, and a rise in high value transaction volumes, partly offset by spread compression. We also experienced growth in Securities Services revenue, in part from new business in Europe, and Global Trade and Receivables Finance from growth in lending balances.
  LICs were higher due to a revision to certain estimates used in our corporate collective loan impairment calculation and increased individually assessed provisions, including a provision against a guarantee in Brazil recorded as a credit risk provision. These were partially offset by higher net releases on available-for-sale ABSs in our legacy portfolio than in 2013.

Operating expenses (US$m)

 

LOGO

 

  Operating expenses increased by 6%, primarily due to higher Regulatory Programmes and Compliance related costs and from increased staff costs. These factors were partially offset by sustainable savings of over US$80m.

Growth priorities

Connecting clients to international growth opportunities

 

  Following the re-shaping of GB&M in 2013, as part of which we brought together all our financing businesses into Capital Financing, including lending, debt capital markets and equity capital markets, we continued to focus on better aligning our resources with clients’ needs. We segmented our client base and created a Client Strategy Group to ensure that GB&M’s product, sector and coverage expertise supports clients in the growth of their business activities. Strong collaboration between these teams was recently demonstrated by our appointment as the joint global coordinator and joint book runner on the largest European corporate equity rights issue since 2011. This was our fifth transaction with this client in the last 12 months.

 

  We are utilising our global network to provide solutions for our clients in both established markets and faster-growing regions. Our ability to connect clients to opportunities was highlighted by the first Sukuk bond issued outside the Islamic world on which we acted as sole structuring advisor, joint lead manager and joint book runner.

 

  We continued to strengthen our Foreign Exchange franchise by enhancing our risk management capabilities and further developing our distribution platforms and electronic pricing capabilities. This will improve our systems and governance whilst enabling us to better serve clients with a robust and efficient offering.
 

 

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Report of the Directors: Financial Review (continued)

 

 

Continuing to be well positioned in products that will benefit from global trends

 

  Capturing new opportunities arising from the internationalisation of the renminbi continues to be one of our key growth priorities. Recently, we acted as joint lead manager, book runner and financial advisor on a pioneering Formosa bond issue, which simultaneously listed on three exchanges worldwide. We were also voted ‘Best Overall for Products and Services’ by Asiamoney Offshore RMB Services Survey 2014 for the third consecutive year, demonstrating our continued leading position in the overseas renminbi market.

 

  In November 2014 we launched the Stock Connect programme, a mechanism linking trading and clearing between the Shanghai and Hong Kong securities markets. This will give our clients direct access to the Chinese A-share market and the ability to fund equity purchases in renminbi.

 

  Geographical expansion of large corporates and rising world trade are expected to increase the demand for cross-border payments and related services. Our strength in Payments and Cash Management was recognised by Euromoney, who named HSBC the ‘Best Global Cash Manager for Non-financial Institutions’ and ‘Best Global Cash Manager for Corporate and Financial Institutions’, for the second and third consecutive years, respectively. We were also able to win a mandate for renminbi cash management and additional foreign exchange and deposit business from a global automotive group which is seeking to expand into mainland China.

Leveraging our distinctive international expertise and geographical network which connects developed and faster-growing regions

 

  Our distinctive geographical network and global expertise allows us to provide a truly international service to our clients. We recently demonstrated the value of our global capital markets capabilities and leading position in faster-growing markets to a European automotive group. We advised and acted as joint sub-underwriter on a domestic securitisation in mainland China which was structured to attract both international and domestic investors. We were the first foreign bank to advise on the structuring of an internationally rated ABS transaction in mainland China.

 

  GB&M continues to focus on collaborating with other global businesses and supporting clients in accessing a range of products across our Markets and Capital Financing businesses. In 2014, collaboration revenue between GB&M and CMB was broadly unchanged, driven by a reduction in Foreign Exchange which was offset by growth in Capital Financing, notably in advisory.

Global Private Banking

GPB serves high net worth individuals and families with complex and international needs within the Group’s priority markets.

 

        2014         2013         2012  
        US$m         US$m         US$m  

Net interest income

      994          1,146          1,294   

Net fee income

      1,056          1,150          1,232   

Other income42

      327          143          646   

Net operating income4

      2,377          2,439          3,172   

LICs43

      8          (31       (27

Net operating income

      2,385          2,408          3,145   

Total operating expenses

      (1,778       (2,229       (2,143

Operating profit

      607          179          1,002   

Income from associates44

      19          14          7   

Profit before tax

              626                  193              1,009   

RoRWA36

      2.9%          0.9%          4.6%   

Positive net new money of

US$14bn

in areas targeted for growth

since December 2013

Performance continued to be affected by

actions taken to reposition the customer

base

Best Family Office Offering

(Private Banker International Global Wealth Awards)

 

 

Strategic direction

 

GPB aims to build on HSBC’s commercial banking heritage to be the leading private bank for high net worth business owners by:

 

•  capturing growth opportunities in home and priority growth markets, particularly from intra-Group collaboration by accessing owners and principals of CMB and GB&M clients; and

 

•  repositioning the business to concentrate on onshore markets and a smaller number of target offshore markets, aligned with Group priorities.

 

Implementing Global Standards, enhancing risk management controls, tax transparency and simplifying processes also remain top priorities for GPB.

 

For footnotes, see page 109.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Review of reported performance

 

  Reported profit before tax of US$626m was US$433m higher than in 2013. This was due to a small number of significant items (see page 42), most notably in 2013 from the loss on write-off of allocated goodwill relating to our Monaco business of US$279m and regulatory provisions of US$352m.

 

  We expect our GPB results in 2015 to be affected by the reduction in our client assets as we continue to reposition our business model, including reducing the number of clients in non-priority markets.

Review of adjusted performance45

Profit before tax (US$m)

 

LOGO

 

  Profit before tax fell by US$162m to US$738m, mainly due to reduced revenue as we continued to reposition the business, partly offset by lower operating expenses and LICs.

Revenue (US$m)

 

LOGO

 

  Revenue decreased by 11% compared with 2013, due to lower trading income and net fee income reflecting a managed reduction in client assets and lower market volatility. Net interest income also declined, mainly in Europe and Asia, driven by a reduction in deposit balances and lower treasury income, respectively, both reflecting actions to reposition the business. In addition, lending spreads narrowed compared with 2013.

 

  Net loan impairment releases in 2014 compared with charges of US$33m in 2013, largely due to releases of collective impairment allowances in the UK and in the US.

Operating expenses (US$m)

 

LOGO

 

  Operating expenses decreased by 5%, primarily due to the release of a UK customer redress provision recognised in 2012, the non-recurrence of the UK provision relating to a bilateral Rubik tax agreement between the UK and Swiss governments, and the managed reduction in staff numbers.

Reported client assets54

 

    2014     2013  
        US$bn         US$bn  

At 1 January

  382      398   

Net new money

  (3   (26

Of which: areas targeted for growth

  14      (7

Value change

  8      12   

Disposals

  (11   (3

Exchange and other

  (11   1   

At 31 December

  365      382   

Reported client assets by geography

 

    2014     2013  
        US$bn         US$bn  

Europe

  179      197   

Asia

  112      108   

North America

  63      65   

Latin America

  11      12   

At 31 December

  365      382   

For footnote, see page 109.

 

  On a reported basis, client assets, which include funds under management and cash deposits, decreased, mainly in Europe, due to the effect of the sale of a portfolio of clients in Switzerland, the disposal of our HSBC Trinkaus & Burkhardt AG business in Luxembourg and negative net new money. In addition there were unfavourable foreign exchange movements, mainly in Europe. This was partly offset by favourable market movements. Negative net new money of US$3bn was mainly driven by the continued repositioning of our business, though we attracted positive net new money of US$14bn in areas that we have targeted for growth, including our home and priority growth markets and the high net worth client segment.
 

 

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Report of the Directors: Financial Review (continued)

 

 

  On a reported basis, our return on assets, defined as the percentage of revenue to average client assets, was 63bps in 2014, broadly unchanged compared with 2013. On an adjusted basis, our return on assets was 6bps lower in 2014, reflecting the effect of the repositioning and reduced market volatility. Our client return on assets, which excludes treasury and capital revenue, also decreased by 4bps.

 

  In January 2015, the Swiss National Bank removed its currency cap with the euro which resulted in the appreciation of the Swiss franc. We monitor the impact of foreign exchange rate fluctuations on a continuing basis and do not expect any significant effect on the reported results of our GPB business.

Strategic direction

Capture growth in our home and priority growth markets and focus on collaboration revenues

 

  In 2014, new referrals from other global businesses generated net new money of over US$10bn, which was US$5.5bn higher than in 2013. In total, 74% of our net new money from areas targeted for growth in 2014 came from Group-referred clients, helped by adopting a more coordinated and systematic approach to identifying client needs in conjunction with the other global businesses.

 

  We integrated our collaboration efforts with GB&M and CMB into one team, the Corporate Client Group (‘CCG’). This was established to improve client introductions to and from GPB by standardising best practices and developing tailored offerings to meet client needs more effectively. The CCG is also responsible for enhancing coverage of existing personal and corporate relationships through a coordinated approach. In addition, the Global Solutions Group was established to deliver bespoke solutions to ultra-high net worth and global priority clients. This involves working closely with GB&M and CMB to enhance the service we offer to these sophisticated clients.

 

  We also established the Wealth Client Group with responsibility for ensuring greater alignment and increased collaboration with RBWM, including utilising RBWM’s transactional banking capabilities.

 

  To support client growth, we expanded our product offering with investment opportunities in three new Alternatives products, comprising one private equity fund and two real estate funds. We strengthened our investment group by ensuring that the majority of
   

clients with assets greater than US$5m now have access to a dedicated investment counsellor. We partnered with the GB&M Global Research team to improve the advisory services for our clients supported by easy client access to a wider range of investment research reports. We plan to deploy this globally by the end of 2015. We also worked closely with HSBC Securities Services to provide our ultra-high net worth and family office clients with access to our institutional global custody platform in Europe and the Middle East and North Africa, providing clients with access to trade capture, clearing and settlement, safekeeping and investment administration services.

Repositioning the business

 

  We continued to reposition the GPB business model and client base in 2014 by reviewing our portfolio and seeking to ensure that all clients comply with our Global Standards, including financial crime compliance and tax transparency standards.

 

  We remain focused on clients with wider Group connectivity within our home and priority growth markets. Following the announcement of the sale of a portfolio of clients in Switzerland to LGT Bank (Switzerland) Ltd earlier this year, we completed the migration of US$8bn of client assets in the second half of 2014. We also continued to reduce the number of clients in non-priority markets.

 

  In 2014, we continued to streamline and rationalise the business, closing a number of non-strategic representative offices, and we announced the consolidation of our trust business in Europe into a regional hub in Jersey. We also commenced development of a new global IT banking platform. This is expected to deliver improved efficiency, enhanced services and a consistent client offering by consolidating GPB’s multiple systems onto a single banking platform. We remain on track to deliver the first phase of the implementation in 2015.

 

  We enhanced our digital capabilities with the deployment of a new mobile application in Switzerland, Monaco, Luxembourg and Guernsey, enabling clients to view their investment holdings and transactions while on the move. We introduced a secure tablet application for front office staff in Switzerland delivering digital document browsing during client visits, and also deployed video meeting capabilities in the US. Wider deployment of these and other applications is scheduled for 2015.
 

 

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Report of the Directors: Financial Review (continued)

 

 

Other39

‘Other’ contains the results of HSBC’s holding company and financing operations, central support and functional costs with associated recoveries, unallocated investment activities, centrally held investment companies, certain property transactions and movements in fair value of own debt.

 

    2014     2013     2012  
        US$m         US$m         US$m  

Net interest expense

  (501   (737   (730

Net fee income/(expense)

  (65   64      194   

Net trading income/(expense)50

  (92 )    6      (537

Changes in fair value of long-term debt issued and related derivatives

  508      (1,228   (4,327

Changes in other financial instruments designated at fair value

  (9   (576   (1,136

Net income/(expense) from financial instruments designated at fair value

  499      (1,804   (5,463

Other income

  6,524      8,122      8,868   

Net operating income4

  6,365      5,651      2,332   

LICs43

              

Net operating income

  6,365      5,651      2,332   

Total operating expenses

  (8,601   (7,796   (9,369

Operating loss

  (2,236   (2,145   (7,037

Income/(expense) from associates44

  6      (14   47   

Loss before tax

  (2,230   (2,159   (6,990

For footnotes, see page 109.

Review of reported performance

Reported loss before tax of US$2.2bn was 3% higher than in 2013. This was driven by increased operating costs partly offset by higher revenue.

The increase in loss before tax of US$71m included favourable movements in the fair value of own debt of US$417m in 2014 compared with adverse movements of US$1.2bn in 2013. These results also included the following items in 2013:

 

  gain on derecognition of Industrial Bank as an associate (US$1.1bn);

 

  net gain on disposal of Ping An Insurance (Group) Company of China, Ltd (‘Ping An’) (US$553m); and

 

  foreign exchange gains relating to sterling debt issued by HSBC Holdings (US$442m);

and the following items in 2014:

 

  gain on sale of our shareholding in Bank of Shanghai in 2014 (US$428m); and

 

  an impairment on our investment in Industrial Bank (US$271m).

For further details of all significant items, see page 42.

Review of adjusted performance45

Loss before tax (US$m)

 

LOGO

 

  The loss before tax decreased, reflecting increased revenue partly offset by higher operating costs.

Revenue (US$m)

 

LOGO

 

  Revenue rose by US$1.3bn, primarily due to favourable movements in 2014 of US$96m on interest and exchange rate ineffectiveness in the hedging of long-term debt designated at fair value issued principally by HSBC Holdings and its European subsidiaries, compared with adverse movements of US$551m in 2013. In addition, recoveries of certain expenses from global businesses increased, reflecting higher operating expenses, and we recorded a gain arising from the external hedging of an intra-Group financing transaction in Europe. There was also a release of accrued interest on uncertain tax reserves in the US. These factors were partly offset by the expiry of the TSAs relating to the sale of the CRS business in the US and lower income from investment properties in Asia.

Operating expenses (US$m)

 

LOGO

 

 

HSBC HOLDINGS PLC

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Report of the Directors: Financial Review (continued)

 

 

  Operating expenses increased by US$946m due to higher costs associated with Regulatory Programmes and Compliance, an increase in Global Resourcing costs in India and mainland China and the 2013 release of a litigation provision in Asia. In addition, the UK bank levy charge of
   

US$1.1bn in 2014 was higher than the charge of US$916m in 2013, primarily due to an increase in the rate of the levy. This was partly offset by a reduction in North America by the expiry of the TSAs relating to the sale of the CRS business.

 

 

Analysis by global business

HSBC profit/(loss) before tax and balance sheet data

 

    2014  
 
 

 
 
 

Retail
Banking

and Wealth
Management
US$m

  
 

  
  
  

 

 

 

Commercial

Banking

US$m

  

  

  

 
 
 
 
Global
Banking and
Markets
US$m
 
 
 
  
 
 
 
 
Global
Private
Banking
US$m
 
 
 
  
 

 

Other

US$m

39 

  

 
 

 

 

Inter-
segment

elimination

US$m

 
  

55
 

  

 
 
Total
US$m
 
  
Profit/(loss) before tax

Net interest income/(expense)

  16,782      10,506      7,022      994      (501   (98   34,705   

Net fee income/(expense)

  6,668      4,738      3,560      1,056      (65        15,957   
             

Trading income/(expense) excluding net interest income

  (28   620      4,063      298      (100        4,853   

Net interest income/(expense) on trading activities

  9      (2   1,798      (4   8      98      1,907   

Net trading income/(expense) 50

  (19   618      5,861      294      (92   98      6,760   
             

Changes in fair value of long- term debt issued and related derivatives

                      508           508   

Net income/(expense) from other financial instruments designated at fair value

  1,675      288      12      (1   (9        1,965   

Net income/(expense) from financial instruments designated at fair value

  1,675      288      12      (1   499           2,473   

Gains less losses from financial investments

  14      31      1,117      9      164           1,335   

Dividend income

  24      18      80      5      184           311   

Net insurance premium income

  10,570      1,296      5      50                11,921   

Other operating income

  719      248      124      33      6,176      (6,169   1,131   

Total operating income

  36,433      17,743      17,781      2,440      6,365      (6,169   74,593   

Net insurance claims56

  (11,839   (1,440   (3   (63             (13,345

Net operating income4

  24,594      16,303      17,778      2,377      6,365      (6,169   61,248   

Loan impairment (charges)/recoveries and other credit risk provisions

  (1,819   (1,675   (365   8                (3,851

Net operating income

  22,775      14,628      17,413      2,385      6,365      (6,169   57,397   

Employee expenses57

  (5,038   (2,439   (3,655   (732   (8,502        (20,366

Other operating expenses

  (12,484   (5,050   (8,373   (1,046   (99   6,169      (20,883

Total operating expenses

  (17,522   (7,489   (12,028   (1,778   (8,601   6,169      (41,249

Operating profit/(loss)

  5,253      7,139      5,385      607      (2,236        16,148   

Share of profit in associates and joint ventures

  398      1,605      504      19      6           2,532   

Profit/(loss) before tax

  5,651      8,744      5,889      626      (2,230        18,680   
  %      %      %      %      %      %   

Share of HSBC’s profit before tax

  30.3      46.8      31.5      3.4      (12.0   100.0   

Cost efficiency ratio

  71.2      45.9      67.7      74.8      135.1      67.3   
Balance sheet data40
    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  359,744      313,999      254,463      44,102      2,352      974,660   

Total assets

  499,083      372,739      1,839,644      88,342      164,537      (330,206   2,634,139   

Customer accounts27

  581,421      363,654      319,121      85,465      981      1,350,642   

 

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Report of the Directors: Financial Review (continued)

 

 

    2013  
 
 
 
 
Retail Banking
and Wealth
Management
US$m
 
 
 
  
 

 
 

Commercial

Banking
US$m

  

 
  

 
 
 
 
Global
Banking and
Markets
US$m
 
 
 
  
 
 
 
 
Global
Private
Banking
US$m
 
 
 
  
 

 

Other

US$m

39 

  

 
 

 

 

Inter-
segment

elimination

US$m

 
  

55 

  

 
 
Total
US$m
 
  
Profit/(loss) before tax

Net interest income/(expense)

  18,339      10,200      6,766      1,146      (737   (175   35,539   

Net fee income

  7,021      4,717      3,482      1,150      64           16,434   
             

Trading income/(expense) excluding net interest income

  689      649      4,953      390      (38        6,643   

Net interest income/(expense) on trading activities

  (3        1,827      4      44      175      2,047   

Net trading income50

  686      649      6,780      394      6      175      8,690   
             

Changes in fair value of long-term debt issued and related derivatives

                      (1,228        (1,228

Net income/(expense) from other financial instruments designated at fair value

  1,638      332      599      4      (576   (1   1,996   

Net income/(expense) from financial instruments designated at fair value

  1,638      332      599      4      (1,804   (1   768   

Gains less losses from financial investments

  55      1      747      (3   1,212           2,012   

Dividend income

  21      15      129      8      149           322   

Net insurance premium income

  10,543      1,375      6      16                11,940   

Other operating income/(expense)

  544      621      670      (239   6,761      (5,725   2,632   

Total operating income

  38,847      17,910      19,179      2,476      5,651      (5,726   78,337   

Net insurance claims56

  (12,107   (1,545   (3   (37             (13,692

Net operating income4

  26,740      16,365      19,176      2,439      5,651      (5,726   64,645   

Loan impairment charges and other credit risk provisions

  (3,227   (2,384   (207   (31             (5,849

Net operating income

  23,513      13,981      18,969      2,408      5,651      (5,726   58,796   
             

Employee expenses57

  (5,219   (2,327   (3,549   (776   (7,325        (19,196

Other operating expenses

  (12,029   (4,722   (6,411   (1,453   (471   5,726      (19,360

Total operating expenses

  (17,248   (7,049   (9,960   (2,229   (7,796   5,726      (38,556

Operating profit/(loss)

  6,265      6,932      9,009      179      (2,145        20,240   

Share of profit/(loss) in associates and joint ventures

  384      1,509      432      14      (14        2,325   

Profit/(loss) before tax

  6,649      8,441      9,441      193      (2,159        22,565   
  %      %      %      %      %      %   

Share of HSBC’s profit before tax

  29.5      37.4      41.8      0.9      (9.6   100.0   

Cost efficiency ratio

  64.5      43.1      51.9      91.4      138.0      59.6   
Balance sheet data40
    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  375,086      297,852      272,473      44,224      2,454      992,089   

Total assets

  517,085      360,623      1,975,509      97,655      171,812      (451,366   2,671,318   

Customer accounts27

  579,994      354,298      328,800      96,770      1,435      1,361,297   

For footnotes, see page 109.

 

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Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax and balance sheet data (continued)

 

    2012  
 

 

 

 

 

Retail

Banking

and Wealth

Management

US$m

  

  

  

  

  

 

 

 

Commercial

Banking

US$m

  

  

  

 

 

 

 

Global

Banking and

Markets

US$m

  

  

  

  

 

 

 

 

Global

Private

Banking

US$m

  

  

  

  

 

 

Other

US$m

38 

  

 

 

 

 

Inter–

segment

elimination

US$m

  

  

55 

  

 

 

Total

US$m

  

  

Profit/(loss) before tax

Net interest income/(expense)

  20,298      10,361      6,960      1,294      (730   (511   37,672   

Net fee income

  7,205      4,470      3,329      1,232      194           16,430   
             

Trading income/(expense) excluding net interest income

  276      617      3,588      476      (549        4,408   

Net interest income on trading activities

  28      16      2,102      14      12      511      2,683   

Net trading income/(expense)49

  304      633      5,690      490      (537   511      7,091   
             

Changes in fair value of long-term debt issued and related derivatives

                      (4,327        (4,327

Net income/(expense) from other financial instruments designated at fair value

  1,893      250      1,094           (1,136        2,101   

Net income/(expense) from financial instruments designated at fair value

  1,893      250      1,094           (5,463        (2,226

Gains less losses from financial investments

  96      22      730      (3   344           1,189   

Dividend income

  24      18      148      6      25           221   

Net insurance premium income

  11,191      1,786      25      42                13,044   

Gains on disposal of US branch network, US cards business and Ping An

  3,735      277                3,012           7,024   

Other operating income

  1,472      536      313      151      5,487      (5,859   2,100   

Total operating income

  46,218      18,353      18,289      3,212      2,332      (5,859   82,545   

Net insurance claims56

  (12,357   (1,802   (16   (40             (14,215

Net operating income1

  33,861      16,551      18,273      3,172      2,332      (5,859   68,330   

Loan impairment charges and other credit risk provisions

  (5,515   (2,099   (670   (27             (8,311

Net operating income

  28,346      14,452      17,603      3,145      2,332      (5,859   60,019   

Employee expenses57

  (5,532   (2,247   (3,764   (915   (8,033        (20,491

Other operating expenses

  (14,237   (5,351   (6,143   (1,228   (1,336   5,859      (22,436

Total operating expenses

  (19,769   (7,598   (9,907   (2,143   (9,369   5,859      (42,927

Operating profit/(loss)

  8,577      6,854      7,696      1,002      (7,037        17,092   

Share of profit in associates and joint ventures

  998      1,681      824      7      47           3,557   

Profit/(loss) before tax

  9,575      8,535      8,520      1,009      (6,990        20,649   
  %      %      %      %      %      %   

Share of HSBC’s profit before tax

  46.4      41.3      41.3      4.9      (33.9   100.0   

Cost efficiency ratio

  58.4      45.9      54.2      67.6           62.8   

Balance sheet data40

    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  378,022      288,033      249,209      45,213      2,495      962,972   

Total assets

  536,244      363,659      1,942,470      118,440      201,741      (470,016   2,692,538   

Customer accounts27

  562,151      338,405      303,561      105,708      1,571      1,311,396   

For footnotes, see page 109.

 

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Report of the Directors: Financial Review (continued)

 

 

  Geographical regions

 

 

Summary

     78     
 

Europe

     79     
 

Asia

     84     
 

Middle East and North Africa

     91     
 

North America

     96     
 

Latin America

     101     
            

Summary

Additional information on results in 2014 may be found in the ‘Financial Summary’ on pages 40 to 62.

In the analysis of profit and loss by geographical regions that follows, operating income and operating expenses include intra-HSBC items of US$2,972m (2013: US$2,628m; 2012: US$2,684m).

From 1 January 2014, the geographical region ‘Asia’ replaced the geographical regions previously reported as ‘Hong Kong’ and ‘Rest of Asia-Pacific’. This aligns with changes made in the financial information used internally to manage the business. Comparative data have been represented accordingly.

All commentaries are on an adjusted basis (page 40) unless otherwise stated, while tables are on a reported basis unless otherwise stated.

 

 

Profit/(loss) before tax

 

         2014          2013          2012  
         US$m          %          US$m          %          US$m          %  

Europe

       596           3.2           1,825           8.1           (3,414        (16.5

Asia8

             14,625           78.3                 15,853           70.3                 18,030           87.3   

Middle East and North Africa

       1,826           9.8           1,694           7.5           1,350           6.5   

North America

       1,417           7.6           1,221           5.4           2,299           11.1   

Latin America

       216           1.1           1,972           8.7           2,384           11.6   

Year ended 31 December

       18,680           100.0           22,565           100.0           20,649           100.0   

Total assets40

 

         2014          2013  
         US$m          %          US$m          %  

Europe

       1,290,926           49.0           1,392,959           52.1   

Asia8

       878,723           33.4           831,791           31.1   

Middle East and North Africa

       62,417           2.4           60,810           2.3   

North America

       436,859           16.6           432,035           16.2   

Latin America

       115,354           4.4           113,999           4.3   

Intra-HSBC items

       (150,140        (5.8        (160,276        (6.0

At 31 December

       2,634,139           100.0           2,671,318           100.0   

Risk-weighted assets58

 

                   
         2014          2013  
         US$bn          %          US$bn          %  

At 31 December

       1,219.8           100.0           1,092.7           100.0   

Europe

       375.4           30.1           300.1           27.1   

Asia8

       499.8           40.0           430.7           38.9   

Middle East and North Africa

       63.0           5.0           62.5           5.7   

North America

       221.4           17.8           223.8           20.2   

Latin America

       88.8           7.1           89.5           8.1   

For footnotes, see page 109.

 

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Report of the Directors: Financial Review (continued)

 

 

Europe

Our principal banking operations in Europe are HSBC Bank plc in the UK, HSBC France, HSBC Bank A.S. in Turkey, HSBC Private Bank (Suisse) SA and HSBC Trinkaus & Burkhardt AG. Through these subsidiaries we provide a wide range of banking, treasury and financial services to personal, commercial and corporate customers across Europe.

 

    2014     2013     2012  
    US$m     US$m     US$m  

Net interest income

        10,611            10,693            10,394   

Net fee income

  6,042      6,032      6,169   

Net trading income

  2,534      4,423      2,707   

Other income/(expense)

  2,384      (181   (1,662

Net operating income4

  21,571      20,967      17,608   

LICs43

  (764   (1,530   (1,921

Net operating income

  20,807      19,437      15,687   

Total operating expenses

  (20,217   (17,613   (19,095

Operating profit/(loss)

  590      1,824      (3,408

Income/(expense) from associates44

  6      1      (6

Profit/(loss) before tax

  596      1,825      (3,414

Cost efficiency ratio

  93.7%      84.0%      108.4%   

RoRWA36

  0.2%      0.6%      (1.0%

Year-end staff numbers

  69,363      68,334      70,061   

Best Debt House in Western Europe

for the second consecutive year

(Euromoney Awards)

UK No1 Trade Bank

(Global Finance Magazine)

US$3.1bn

of regulatory fines, provisions,

penalties and UK customer redress

 

For footnotes, see page 109.

Economic background

The UK recovery continued through the second half of 2014, though the pace of expansion moderated towards the end of the year. Preliminary estimates indicate that the annual rate of growth of real Gross Domestic Product (‘GDP’) was 2.6%. The unemployment rate fell to 5.7% in the three months to December and wage growth accelerated slightly from a very low level. The annual Consumer Price Index (‘CPI’) measure of inflation reached a 14-year low of 0.5% in December. After a period of rapid activity in 2013 and the early months of 2014, there were signs that both economic activity and price inflation in the housing market were moderating as the year ended. The Bank of England kept the Bank Rate steady at 0.5%.

The recovery in eurozone economic activity in 2014 was slow and uneven across member states. Real GDP in the region as a whole grew by 0.9% in the year. The German and Spanish economies grew by 1.6% and 1.5%, respectively, while French GDP grew by a more modest 0.4%. Eurozone inflation fell to minus 0.2% in December, prompting fears that the region could move towards a sustained period of deflation. The likelihood that low growth and inflation could persist for an extended period prompted the European Central Bank (‘ECB’) to cut the main refinancing rate and the deposit rate to 0.05% and minus 0.2%, respectively, in September and embark on a policy of balance sheet expansion starting with purchases of covered bonds and asset-backed securities.

Financial overview

Profit before tax (US$m)

 

LOGO

Our European operations reported a profit before tax of US$596m in 2014 compared with US$1.8bn in 2013. The decrease in reported profit before tax was driven by a number of significant items and increased operating expenses, partly offset by reduced LICs. The former included charges relating to UK customer redress of US$1.3bn, settlements and provisions in relation to regulatory investigations into foreign exchange of US$1.2bn, of which US$809m was recorded in the fourth quarter of 2014, and provisions arising from the on-going review of compliance with the CCA in the UK of US$632m. For further details of all significant items, see page 42.

 

 

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Profit/(loss) before tax by country within global businesses

 

   

Retail Banking
and Wealth

Management

US$m

   

Commercial
Banking

US$m

   

Global
Banking and

Markets

US$m

    Global
Private
Banking
US$m
    Other
US$m
    Total
US$m
 

UK

  589      2,193      (801   191      (2,228   (56

France35

  (181   240      354           (199   214   

Germany

  28      71      162      27      (10   278   

Switzerland

       5      2      38      (3   42   

Turkey

  (155   5      92           (6   (64

Other

  33      34      240      59      (184   182   

Year ended 31 December 2014

  314      2,548      49      315      (2,630   596   

UK

  1,471      1,684      1,246      252      (3,493   1,160   

France35

  285      255      351      21      (162   750   

Germany

  30      70      183      44      (25   302   

Switzerland

       2      2      (291        (287

Turkey

  (74   36      108      (1   1      70   

Other

  41      41      (89   (190   27      (170

Year ended 31 December 2013

  1,753      2,088      1,801      (165   (3,652   1,825   

UK

  343      832      (111   235      (6,355   (5,056

France35

  135      203      514      (11   (263   578   

Germany

  29      64      283      40      (72   344   

Switzerland

       2      1      133           136   

Turkey

  (32   71      104           1      144   

Other

  34      36      195      102      73      440   

Year ended 31 December 2012

  509      1,208      986      499      (6,616   (3,414

For footnote, see page 109.

 

Adjusted profit before tax decreased by US$396m, primarily reflecting an increase in costs which was partly offset by a reduction in LICs; revenue was broadly in line with 2013.

Country business highlights

In the UK, overall CMB lending increased by 7% compared with 2013, with new lending and re-financing before attrition and amortisation increasing by 38% and over 85% of small business loan applications approved. In addition, Business Banking launched a campaign to offer further support and lending to SME customers. As part of this, £5.8bn (US$9.9bn) of future lending was made available to help finance growth across the UK. Lending in Global Trade and Receivables Finance also grew by 3% as we built on our position in the market in Trade Finance and reduced attrition from our existing clients in Receivables Finance.

In RBWM, we approved £11.4bn (US$18.8bn) of new mortgage lending to over 118,000 customers, including £3.5bn (US$5.8bn) to over 27,500 first-time buyers. However, our aggregate amount of mortgage balances drawn down decreased marginally. The loan-to-value (‘LTV’) ratio on new lending was 60% compared with an average of 43.7% for the total mortgage portfolio. In October 2014, we expanded our mortgage distribution channels to include an intermediary in order to reach the growing proportion of the mortgage market in the UK that wishes to source its finance that way.

As part of the re-shaping of the GB&M business in 2013, we brought together all our financing businesses into Capital Financing, including lending, debt capital markets and equity capital markets. We increased our sector expertise and

enhanced our geographical spread by appointing two new co-heads of UK Banking. In 2014, the advisory and equity capital markets businesses within Capital Financing experienced volume growth that outstripped the market.

In France, in GB&M, we acted as sole advisor on one of the largest mergers and acquisitions (‘M&A’) transactions in Europe. In CMB, our Payments and Cash Management business implemented the Single Euro Payments Area platform (‘SEPA’) for euro-denominated credit transfer and direct debit payments across our European locations. This allows our clients to make and receive payments in euros from their HSBC accounts in the 34 countries that have implemented SEPA, all governed by a consistent set of standards, rules and conditions. In addition, in CMB, we allocated a further 1.5bn (US$2.0bn) to the SME fund and approved over 2.0bn (US$2.7bn) of lending in 2014. In RBWM, we experienced strong growth in home loans.

In Germany, as part of our growth initiative, we opened three branches in Dortmund, Mannheim and Cologne, increased the number of relationship managers by 26% and held a number of roadshows in countries including France, mainland China and the UK to reinforce Germany as a key international hub. In GPB, we disposed of our HSBC Trinkaus & Burkhardt AG business in Luxembourg.

In Turkey, the regulator imposed interest rate caps on credit cards and overdrafts which affected revenue. Despite this, in September 2014 CMB launched a TRL2bn (US$914m) international fund in order to provide sustainable support and global connectivity for international business, of which TRL1.1bn (US$519m) was drawn down.

 

 

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In Switzerland, we continued to reposition the GPB business and focused on growth through the high net worth client segment. Client assets, which include funds under management and cash deposits, decreased due to this repositioning, as well as the sale of a portfolio of client assets.

In November 2014, we sold the Kazakhstan business in line with the Group strategy.

Review of adjusted performance45

Revenue increased by US$76m, primarily in the UK, partly offset by reductions elsewhere, including France, Switzerland and Turkey.

Revenue (US$m)

 

LOGO

Country view of adjusted revenue

 

    2014     2013  
    US$m     US$m  

UK

  16,080      15,365   

France

  2,937      3,097   

Germany

  945      960   

Switzerland

  736      831   

Turkey

  791      827   

Other

  790      1,123   

Year ended 31 December

          22,279              22,203   

In the UK, revenue increased by US$715m. This was driven by favourable fair value movements of US$222m from interest and exchange rate ineffectiveness in the hedging of long-term debt issued principally by HSBC Holdings in 2014, compared with adverse movements of US$480m in 2013, and a gain arising from external hedging of an intra-Group financing transaction.

Revenue also rose in CMB due to growth in deposit volumes in Payments and Cash Management and net interest income improved due to wider spreads in term lending. In addition, net fee income grew, partly reflecting increased volumes of new business lending in the Large Corporate and Mid-Market segments.

By contrast, GB&M revenue decreased compared with 2013, primarily driven by Markets. This included the introduction of the FFVA on certain derivative contracts which resulted in a charge affecting Rates and Credit. Revenue also fell in Foreign Exchange, reflecting lower volatility and reduced client flows. Furthermore, revenue decreased in Equities, as 2013 benefited from higher revaluation gains, which more than offset the increase

in revenue from increased client flows and higher derivative income.

RBWM revenue reduced marginally due to spread compression, primarily on mortgages. In addition, fee income fell as a result of higher fees payable under partnership agreements and lower fee income from investment products and overdrafts. These factors were partly offset by improved spreads on savings products and higher current account balances.

In the rest of Europe, revenue decreased in France, Switzerland and Turkey. Revenue in France fell principally in RBWM in the Insurance business due to adverse movements of US$203m in the PVIF asset, reflecting a fall in long-term yields which increased the cost of guarantees on the savings business, compared with favourable movements of US$48m in 2013. This was coupled with a fall in GB&M in Rates, due to lower volatility and levels of market activity. In Switzerland, the fall in revenue reflected the repositioning of the GPB business and a reduction in client assets. Revenue also decreased in Turkey, principally in RBWM due to interest rate caps on cards and overdrafts imposed by the local regulator, partly offset by an increase in card fees.

LICs reduced, primarily in the UK and, to a lesser extent, in Spain. In the UK in CMB, individually assessed provisions fell, reflecting the quality of the portfolio and improved economic conditions. GB&M also recorded reduced loan impairment charges due to lower individually assessed provisions, and higher net releases of credit risk provisions on available-for-sale ABSs. This was partly offset by an increase due to a revision in certain estimates in our corporate collective loan impairment calculation. Loan impairment charges in RBWM decreased as a result of lower delinquency levels in the improved economic environment and as customers continued to reduce outstanding credit card and loan balances. Loan impairment charges in Spain decreased due to lower individually assessed provisions.

The decreases in the UK and Spain were partly offset by increases in Turkey and France. Loan impairment charges increased in Turkey due to growth in card delinquency rates following regulatory changes. Loan impairment charges in France increased, predominantly in GB&M and CMB due to higher individually assessed provisions.

Operating expenses (US$m)

 

LOGO

 

 

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Operating expenses rose by US$1.3bn, mainly in the UK, reflecting growth in Regulatory Programmes and Compliance costs in all businesses and increased staff costs. In addition, the UK bank levy charge of US$1.1bn in respect of 2014 was US$0.2bn higher than in 2013, primarily due to an increase in the rate of the levy. Expenses also increased due to the timing of the recognition of the Financial Services Compensation Scheme levy in the UK. These increases were partly offset by sustainable cost savings of over US$330m.

2013 compared with 2012

Economic background

UK Gross Domestic Product (‘GDP’) growth rose to 1.9% in 2013, higher than in previous years, though the level of real GDP remained below the level seen prior to the recession. The recovery was driven in part by stronger household consumption. The Bank of England policy rate remained at 0.5% and the Asset Purchase Scheme came to a halt. The Bank of England announced a ‘forward guidance’ policy in August in which it indicated Bank Rate would not rise until unemployment had fallen towards 7%. Labour market conditions improved more rapidly than expected and the headline unemployment rate fell to 7.1% in December. The annual rate of Consumer Prices Index (CPI) inflation fell in December to 2.0%, the lowest level of inflation in almost four years.

The eurozone emerged from recession in the second quarter of 2013 with the improvement early in the year driven by Germany and France. However, activity failed to gain momentum since quarterly GDP growth averaged just 2.0% in the second half of the year. Domestic demand improved on the back of improving real wage growth and a slower pace of austerity but recovery remained heavily dependent on external demand. Given the weakness of the economy in early 2013, the ECB cut its refinancing rate from 0.75% to 0.5% in May and then in July adopted a forward guidance policy under which it committed to keep rates ‘at present or lower levels for an extended period’. Despite the return to growth, CPI inflation dropped to 0.7% in October 2013 prompting the ECB to cut the refinancing rate by a further 0.25% in November. A combination of improving growth and the ECB’s Outright Monetary Transactions programme, which enables it to buy eurozone government bonds in time of market stress, helped alleviate the sovereign crisis evident in former years and bond yields in Italy and Spain fell to their lowest levels since 2010.

Review of performance

2013 compared with 2012 commentaries are on a constant currency basis and have not been updated to reflect our change to adjusted performance. For comparison, adjusted profit before tax would have been US$4.1bn and US$3.5bn for 2013 and 2012 respectively as compared with constant currency profit before tax of US$1.8bn and a loss before tax of US$3.4bn for 2013 and 2012 respectively. Constant currency, underlying and adjusted are reconciled on pages 105(b) to 105(au).

Our European operations reported a profit before tax of US$1.8bn in 2013 compared with a loss of US$3.4bn in 2012 (US$3.3bn on a constant currency basis). On an underlying basis, excluding fair value movements on own debt, the effects of foreign currency translation and acquisitions and disposals, profit before tax increased by US$2.1bn. This was due to significantly lower operating expenses, driven by a decrease in charges relating to UK customer redress programmes, an accounting gain of US$430m relating to changes in delivering ill-health benefits to certain employees in the UK and sustainable cost savings in 2013.

In the UK, we continued to support the housing market during 2013, approving £14.4bn (US$22.5bn) of new mortgage lending to over 135,000 customers. This included £3.8bn (US$6.0bn) to over 30,000 first time buyers. The loan-to-value ratio on new lending was 59.5% compared with an average of 48.3% for the total mortgage portfolio. In addition, we implemented the Global Wealth Incentive Plan to better align customer and business interests.

CMB repositioned its Business Banking segment towards international and internationally aspirant customers while streamlining and re-engineering core processes, which enabled it to obtain efficiencies in a number of areas and supported its continued investment in corporate banking and Global Trade and Receivables Finance. Following the success of the 2012 International SME fund, CMB launched a further fund in 2013, continuing its support for UK businesses that trade or aspire to trade internationally with approved lending of £4.8bn (US$7.5bn), including the renewal of overdraft and other lending facilities. In addition, CMB won awards for ‘Best Service from a Business Bank’ and ‘Best Online Banking Provider’ at the Business Moneyfacts awards. GB&M’s debt capital markets activity in the Credit and Capital Financing businesses was successful in capturing growth in issuance demand, which resulted in leading market positions and increased market share in the sterling markets. We were ranked first by Bloomberg for primary debt capital market issuances in 2013.

In France, CMB launched a similar SME fund to that in the UK, targeted at international trade customers, approving 1.5bn (US$2.0bn) of lending in 2013. GB&M acted as joint book runner of a 6.2bn (US$8.2bn) hybrid bond for a premier French corporate client, demonstrating our ability to deliver large and complex transactions. In RBWM, we increased our market share in the highly competitive home loans market.

In Turkey, unsecured lending grew in RBWM, notably in the credit card business due to new product features and channel capabilities including mobile banking. We launched a similar SME fund to those in the UK and France targeted at international trade customers, approving Turkish lira 1.1bn (US$0.6bn) of lending in 2013.

We continued to support the programme of renminbi internationalisation during the year with flagship client events taking place in the UK, France and Germany.

 

 

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Report of the Directors: Financial Review (continued)

 

 

In Switzerland we continued to address legacy issues and reposition the customer base.

Net interest income increased by 3%, primarily in the UK. In GB&M, Balance Sheet Management net interest income was higher, reflecting both portfolio growth from rising deposit balances and reduced funding costs. In addition, net interest income increased due to higher lending spreads in Capital Financing and a rise in legacy credit. In RBWM net interest income increased, driven by growth in residential mortgage balances and improved lending spreads. RBWM customer account balances also increased as customers held balances in readily accessible current and savings accounts, although the benefit was restricted by deposit spread compression. In CMB, net interest income in the UK rose as a result of growth in term lending revenue from higher spreads on new and renewed business, as well as deposit growth in Payments and Cash Management. The spreads resulted in increased portfolio margins overall.

In France, net interest income increased due to improved spreads and growth in home loan balances.

These factors were partly offset by a decline, mainly in Switzerland in GPB, as higher yielding positions matured and opportunities for reinvestment were limited by lower prevailing yields. Narrower lending and deposit spreads and reduced average deposit balances also contributed to a fall in net interest income in Switzerland.

Net fee income decreased by US$138m, mainly in Switzerland in GPB with lower brokerage fees due to a reduction in client transaction volumes, in part reflecting decreased market volatility and fewer large deals.

In the UK, net fee income decreased in RBWM due to higher fees payable under partnership agreements and lower creditor insurance fees. In GB&M, net fee income fell because of higher fees paid to other regions relating to increased foreign exchange trading activities. This was partly offset by increased issuance demand in debt capital markets and event-driven fee income in equity underwriting from increased deal volumes. In addition, we experienced a rise in lending fees in CMB.

In Turkey, net fee income rose due to the growth in card revenue as the business expanded.

Net trading income increased by US$1.7bn to US$4.4bn. This was primarily in the UK, driven in part by lower adverse foreign exchange movements on assets held as economic hedges of foreign currency debt designated at fair value, with the offset reported in ‘Net income from financial instruments designated at fair value’. In addition, there was a foreign exchange gain on sterling debt issued by HSBC Holdings and increased favourable fair value movements on non-qualifying hedges compared with 2012.

In GB&M, net trading income included a favourable DVA of US$65m in 2013. 2012 included a net charge of US$312m as a result of a change in estimation methodology in respect of CVAs of US$615m and DVAs of US$303m, reflecting evolving market practices.

Also in GB&M, Foreign Exchange income rose following increased customer activity, although the rise was offset in part by margin compression and reduced market volatility in the second half of 2013. Net trading income was also higher in the Equities business due to increased deal volumes and revaluation gains. Rates revenue declined due to the benefit in 2012 from tightening spreads following the ECB liquidity intervention, despite new client mandates and increased market participation, particularly in European government bonds. We also experienced lower adverse fair value movements from own credit spreads on structured liabilities.

In France, trading income on non-qualifying hedges increased as long-term interest rates rose.

Net income from financial instruments designated at fair value was US$0.4bn compared with net expense of US$2.2bn in 2012. In the UK, we reported lower adverse movements on the fair value of our own debt of US$1.0bn, compared with adverse movements of US$4.1bn in 2012. Excluding this, net income declined, driven by lower favourable foreign exchange movements on foreign currency debt than in 2012, with the offset reported in ‘Net trading income’. In addition, there were higher adverse fair value movements from interest and exchange rate ineffectiveness in the hedging of long-term debt issued principally by HSBC Holdings and its European subsidiaries than in 2012.

By contrast, in the UK and France, we recognised higher net investment gains on the fair value of assets held to meet liabilities under insurance and investment contracts than in 2012, as market conditions improved.

Gains less losses from financial investments increased by US$19m as in the UK we reported gains in RBWM in the Asset Management Group. In GB&M, higher disposal gains and lower impairments on available-for-sale equity securities in Principal Investments were more than offset by lower net gains on the disposal of available-for-sale debt securities in Balance Sheet Management, as part of structural interest rate risk management of the balance sheet.

Net earned insurance premiums decreased by 15%, mainly in RBWM in France reflecting lower sales of investment contracts with DPF and the run-off of business from independent financial adviser channels in 2013.

Other operating income decreased by US$600m due to a loss recognised in GPB following the write-off of goodwill relating to our Monaco business and a loss on sale in RBWM on the disposal of an HFC Bank UK secured loan portfolio.

Net insurance claims incurred and movement in liabilities to policyholders was broadly in line with 2012. Lower reserves established for new business, reflecting the decline in net premium income in France, were partly offset by higher net investment gains on the fair value of assets held to support policyholder contracts in 2013 than in 2012.

 

 

HSBC HOLDINGS PLC

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Report of the Directors: Financial Review (continued)

 

 

LICs decreased by 20% to US$1.5bn. In the UK, GB&M recorded net releases of credit risk provisions on available-for-sale ABSs compared with impairment charges in 2012, offset in part by higher individually assessed provisions. In addition, loan impairment charges in CMB fell due to lower collectively and individually assessed provisions, and in RBWM due to lower collectively assessed provisions reflecting recoveries from debt sales.

In other countries in Europe, lower individually assessed impairment provisions in Greece were partly offset by increases in Turkey, where there was growth in unsecured lending in RBWM, and a rise in Spain, where the challenging economic conditions continued to affect the market.

Operating expenses decreased by 7%, driven by lower charges relating to UK customer redress programmes, with US$1.2bn reported in 2013 compared with US$2.3bn (US$2.3bn as reported) in 2012. The charges in 2013 included additional estimated redress for possible mis-selling in previous years of US$756m in respect of PPI compared with US$1.7bn in 2012, US$261m in respect of interest rate protection products compared with US$586m in 2012 and US$149m in respect of

Wealth Management products in 2013. Restructuring costs also fell by US$78m from 2012. In addition, 2012 included a charge relating to the US OFAC investigation of US$375m in HSBC Holdings which did not recur.

Excluding these items, operating expenses were broadly unchanged compared with 2012. We benefited from sustainable cost savings of over US$650m as we continued to streamline the business, and a decline in performance-related costs, notably in GB&M. In addition, we reported an accounting gain of US$430m relating to changes in delivering ill-health benefits to certain employees in the UK. These factors were partially offset by the higher UK bank levy charge of US$904m in respect of 2013 compared with a charge of US$571m in 2012, mainly due to an increase in its rate. In addition, operating expenses in both years included adjustments relating to the prior year charge (2013: US$12m adverse adjustment; 2012: US$99m favourable adjustment). In other countries in the region, we experienced higher Madoff-related litigation charges in GB&M in Ireland and a provision in respect of regulatory investigations in GPB in Switzerland.

 

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax and balance sheet data – Europe

 

    2014  
 
 

 
 
 

Retail
Banking

and Wealth
Management
US$m

  
  

  
  
  

 

 
 

Commercial

Banking
US$m

  

  
  

 
 
 
 
Global
Banking and
Markets
US$m
  
  
  
  
 
 
 
 
Global
Private
        Banking
US$m
  
  
  
  
 

 

Other

        US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

 
  

55 

  

 

 

Total

        US$m

  

  

Profit/(loss) before tax

Net interest income/(expense)

  5,196      3,616      1,956      594      (654   (97   10,611   

Net fee income/(expense)

  2,456      1,900      1,087      626      (27        6,042   

Trading income/(expense) excluding net interest income

  (260   33      1,943      140      (92        1,764   

Net interest income/(expense) on trading activities

  14      2      660      (4   1      97      770   

Net trading income/(expense)50

  (246   35      2,603      136      (91   97      2,534   

Changes in fair value of long-term debt issued and related derivatives

                      614           614   

Net income/(expense) from other financial instruments designated at fair value

  616      119      14      (1   (11        737   

Net income/(expense) from financial instruments designated at fair value

  616      119      14      (1   603           1,351   

Gains less losses from financial investments

  12      10      730      9      11           772   

Dividend income

  3      7      50      2      3           65   

Net insurance premium income/(expense)

  2,741      217           50                3,008   

Other operating income/(expense)

  (127   45      (3   29      1,249      (186   1,007   

Total operating income

  10,651      5,949      6,437      1,445      1,094      (186   25,390   

Net insurance claims56

  (3,450   (306        (63             (3,819

Net operating income4

  7,201      5,643      6,437      1,382      1,094      (186   21,571   

Loan impairment (charges)/ recoveries and other credit risk provisions

  (268   (502        4      2           (764

Net operating income

  6,933      5,141      6,437      1,386      1,096      (186   20,807   

Total operating expenses

  (6,621   (2,594   (6,391   (1,071   (3,726   186      (20,217

Operating profit/(loss)

  312      2,547      46      315      (2,630        590   

Share of profit in associates and joint ventures

  2      1      3                     6   

Profit/(loss) before tax

  314      2,548      49      315      (2,630        596   
  %      %      %      %      %      %   

Share of HSBC’s profit before tax

  1.7      13.6      0.3      1.7      (14.1   3.2   

Cost efficiency ratio

  91.9      46.0      99.3      77.5      340.6      93.7   

Balance sheet data40

    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  165,112      106,342      113,136      24,766      377      409,733   

Total assets

  221,679      120,819      948,951      64,676      64,182      (129,381   1,290,926   

Customer accounts27

  202,413      135,837      166,075      41,380      254      545,959   

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

    2013  
 

 

 

 

Retail Banking

and Wealth

Management

US$m

  

  

  

  

 

 
 

Commercial

Banking
US$m

  

  
  

 

 

 

 

Global

Banking and

Markets

US$m

  

  

  

  

 

 

 
 

Global

Private

        Banking
US$m

  

  

  
  

 

 

Other

        US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 

 

Total

        US$m

  

  

Profit/(loss) before tax

Net interest income/(expense)

  5,600      3,353      1,774      722      (694   (62   10,693   

Net fee income/(expense)

  2,545      1,789      957      744      (3        6,032   

Trading income excluding net interest income

  206      30      2,181      192      698           3,307   

Net interest income on trading activities

  2      5      1,013      4      30      62      1,116   

Net trading income50

  208      35      3,194      196      728      62      4,423   

Changes in fair value of long-term debt issued and related derivatives

                      (936        (936

Net income/(expense) from other financial instruments designated at fair value

  1,059      271      591      4      (570   (1   1,354   

Net income/(expense) from financial instruments designated at fair value

  1,059      271      591      4      (1,506   (1   418   

Gains less losses from financial investments

  52           344      (17             379   

Dividend income

  4      2      65      4                75   

Net insurance premium income/(expense)

  2,782      361      (1   16                3,158   

Other operating income/(expense)

  (103   9      110      (253   766           529   

Total operating income/(expense)

  12,147      5,820      7,034      1,416      (709   (1   25,707   

Net insurance claims56

  (4,136   (567        (37             (4,740

Net operating income/(expense)4

  8,011      5,253      7,034      1,379      (709   (1   20,967   

Loan impairment charges and other credit risk provisions

  (329   (935   (242   (24             (1,530

Net operating income/(expense)

  7,682      4,318      6,792      1,355      (709   (1   19,437   

Total operating expenses

  (5,934   (2,231   (4,987   (1,519   (2,943   1      (17,613

Operating profit/(loss)

  1,748      2,087      1,805      (164   (3,652        1,824   

Share of profit/(loss) in associates and joint ventures

  5      1      (4   (1             1   

Profit/(loss) before tax

  1,753      2,088      1,801      (165   (3,652        1,825   
  %      %      %      %      %      %   

Share of HSBC’s profit before tax

  7.8      9.2      8.0      (0.7   (16.2   8.1   

Cost efficiency ratio

  74.1      42.5      70.9      110.2      (415.1   84.0   

Balance sheet data40

    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  177,357      105,498      145,136      27,289      830      456,110   

Total assets

  238,499      124,242      1,054,506      75,718      72,174      (172,180   1,392,959   

Customer accounts27

  205,288      134,120      191,715      49,789      1,021      581,933   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax and balance sheet data – Europe (continued)

 

    2012  
 
 

 
 
 

Retail
Banking

and Wealth
Management
US$m

  
  

  
  
  

 

 
 

Commercial

Banking
US$m

  

  
  

 

 

 

 

Global

Banking and

Markets

US$m

  

  

  

  

 

 

 

 

Global

Private

        Banking

US$m

  

  

  

  

 

 

Other

         US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
        US$m
  
  

Profit/(loss) before tax

Net interest income/(expense)

  5,437      3,228      1,409      820      (543   43      10,394   

Net fee income

  2,622      1,658      1,032      848      9           6,169   

Trading income excluding net interest income

  67      26      848      216      25           1,182   

Net interest income on trading activities

  7      14      1,500      14      33      (43   1,525   

Net trading income49

  74      40      2,348      230      58      (43   2,707   

Changes in fair value of long-term debt issued and related derivatives

                      (3,091        (3,091

Net income/(expense) from other financial instruments designated at fair value

  770      139      1,073           (1,106        876   

Net income/(expense) from financial instruments designated at fair value

  770      139      1,073           (4,197        (2,215

Gains less losses from financial investments

  (5   (1   375      (3   (2        364   

Dividend income

       1      104      3      3           111   

Net insurance premium income

  3,150      438           42                3,630   

Other operating income

  84      58      88      61      796      (9   1,078   

Total operating income/(expense)

  12,132      5,561      6,429      2,001      (3,876   (9   22,238   

Net insurance claims56

  (4,054   (536        (40             (4,630

Net operating income/(expense)1

  8,078      5,025      6,429      1,961      (3,876   (9   17,608   

Loan impairment charges and other credit risk provisions

  (347   (1,109   (436   (29             (1,921

Net operating income/(expense)

  7,731      3,916      5,993      1,932      (3,876   (9   15,687   

Total operating expenses

  (7,225   (2,708   (4,999   (1,431   (2,741   9      (19,095

Operating profit/(loss)

  506      1,208      994      501      (6,617        (3,408

Share of profit/(loss) in associates and joint ventures

  3           (8   (2   1           (6

Profit/(loss) before tax

  509      1,208      986      499      (6,616        (3,414
  %      %      %      %      %      %   

Share of HSBC’s profit before tax

  2.5      5.9      4.8      2.4      (32.0   (16.5

Cost efficiency ratio

  89.4      53.9      77.8      73.0      (70.7   108.4   

Balance sheet data40

    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  170,002      105,796      129,499      29,963      881      436,141   

Total assets

  240,744      132,718      1,044,507      76,145      75,513      (180,387   1,389,240   

Customer accounts27

  191,024      121,648      164,743      57,061      739      535,215   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Asia7

HSBC’s principal banking subsidiaries in Hong Kong are The Hongkong and Shanghai Banking Corporation Limited and Hang Seng Bank Limited. The former is the largest bank incorporated in Hong Kong and is our flagship bank in Asia.

We offer a wide range of banking and financial services in mainland China, through our local subsidiaries HSBC Bank (China) Company Limited and Hang Seng Bank (China) Limited. We also participate indirectly in mainland China through our associate, Bank of Communications.

Outside Hong Kong and mainland China, we conduct business in 18 countries and territories in Asia, with particularly strong coverage in Australia, India, Indonesia, Malaysia and Singapore.

 

    2014     2013     2012  
    US$m     US$m     US$m  

Net interest income

  12,273      11,432      10,707   

Net fee income

  5,910      5,936      5,418   

Net trading income

  2,622      2,026      2,516   

Other income

  2,872      5,038      6,691   

Net operating income4

  23,677      24,432      25,332   

LICs43

  (647   (498   (510

Net operating income

  23,030      23,934      24,822   

Total operating expenses

  (10,427   (9,936   (9,980

Operating profit

  12,603      13,998      14,842   

Income from associates44

  2,022      1,855      3,188   

Profit before tax

  14,625      15,853      18,030   

Cost efficiency ratio

  44.0%      40.7%      39.4%   

RoRWA36

  3.1%      3.8%      4.4%   

Year-end staff numbers

     118,322         113,701         112,766   

10%

Growth in customer lending balances

excluding the effect of currency translation

  

  

  

 

Market leader for

Asia ex-Japan Bonds

(Bloomberg)

  

  

  

Best Bank in Asia

(The Euromoney Awards of Excellence 2014)

  

  

For footnotes, see page 109.   

Economic background

Hong Kong’s real GDP growth slowed in 2014 relative to 2013 due to weaker domestic demand, partly attributable to the slowdown in the annual growth of retail sales. Labour market conditions softened with unemployment rising, albeit from historically low levels. Tourism arrivals to Hong Kong held up overall, up by 16% in the year compared with 2013, driven by the growth of visitors from mainland China. Headline CPI inflation averaged just over 4% for 2014, with a number of expiring government subsidies offsetting lower inflation in fuel and food prices.

In mainland China, real GDP growth slowed from 7.7% in 2013 to 7.4% in 2014, largely due to a slowdown in activity in construction and manufacturing investment which was only partially offset by resilient infrastructure investment. Headline annual CPI inflation fell steadily to 1.5% in December, significantly below the government’s target of 3.5%. The People’s Bank of China eased monetary policy in November by cutting policy interest rates for the first time since July 2012. The one-year deposit rate was lowered by 25bps to 2.75% and the one-year lending rate by 40bps to 5.6%. Further measures were announced in December to support bank lending and spur economic activity.

Japan experienced significant economic volatility during 2014 from the imposition of a 3 percentage point consumption tax increase, which took effect on 1 April. The economy recorded annualised GDP growth of 5.8% in the first quarter of 2014, but growth slowed sharply after the tax rise, as government stimuli and exports were unable to offset the decline in private consumption. GDP grew at an annualised rate of 2.2% in the fourth quarter after falls of 6.7% and 1.9% in the preceding quarters. The Bank of Japan announced another round of quantitative easing on 31 October 2014, prompting further depreciation of the yen.

In India, a new government with a strong mandate for reform boosted market sentiment regarding the long-term prospects for the country’s economy. However, the recovery remained constrained in 2014 with many infrastructure projects delayed pending government clearance. The steep decline in international commodity prices during the second half of the year helped push down goods price inflation and reduce the current account deficit. Following an interest rate rise early in 2014, the central bank kept monetary policy stable throughout the year.

The downward trend in global commodity prices permitted Indonesia and Malaysia to cut costly fuel subsidies, which is expected to reduce external imbalances and improve their fiscal position. Domestic demand in these countries remained relatively robust throughout 2014, supporting economic growth. In Singapore, GDP growth slowed in 2014 from weaker export growth and domestic economic restructuring. The Monetary Authority maintained its policy of gradual currency appreciation.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax by country within global businesses

 

        

Retail Banking
and Wealth

Management

US$m

        

Commercial

Banking

US$m

        

Global

Banking and

Markets

US$m

        

Global

Private

        Banking

US$m

        

Other

        US$m

        

Total

        US$m

 

Hong Kong

       3,727           2,264           1,807           146           198           8,142   

Australia

       78           126           232                     (4        432   

India

       4           121           442           11           122           700   

Indonesia

       10           53           110                     25           198   

Mainland China

       292           1,533           954           (3        175           2,951   

Malaysia

       156           122           190                     28           496   

Singapore

       129           168           243           57           (8        589   

Taiwan

       19           35           166                     1           221   

Other

       57           320           432                     87           896   

Year ended 31 December 2014

       4,472           4,742           4,576           211           624           14,625   

Hong Kong

       3,742           2,110           1,971           208           58           8,089   

Australia

       100           131           189                     26           446   

India

       (21        113           418           7           136           653   

Indonesia

       12           106           126                     36           280   

Mainland China

       223           1,536           842           (4        1,644           4,241   

Malaysia

       148           105           236                     25           514   

Singapore

       147           120           262           74           22           625   

Taiwan

       7           30           158                     5           200   

Other

       61           207           473           (1        65           805   

Year ended 31 December 2013

       4,419           4,458           4,675           284           2,017           15,853   

Hong Kong

       3,694           2,188           1,518           249           (67        7,582   

Australia

       97           38           184                     (44        275   

India

       41           89           497           7           175           809   

Indonesia

       29           124           146                     7           306   

Mainland China

       838           1,724           1,257           (4        2,525           6,340   

Malaysia

       183           131           242                     8           564   

Singapore

       201           139           296           97           (65        668   

Taiwan

       62           36           136                               234   

Other

       66           321           567           59           239           1,252   

Year ended 31 December 2012

       5,211           4,790           4,843           408           2,778           18,030   

 

In Australia, real GDP growth rose to an annual rate of around 2.8% in 2014 and unemployment remained roughly unchanged at 6.1%. Mining investment fell sharply and was only partly offset by an improvement in other sectors of the economy. Low interest rates continued to drive an increase in housing market activity and credit growth picked up modestly. The Australian dollar weakened during the year but remained well above its long-run average level.

In Taiwan, economic activity accelerated with the level of GDP in 2014 rising 3.5% in the year as a whole. This was the strongest annual rate of growth since 2011 and an improvement on the 2.1% growth seen in 2013. Growth was driven by a combination of strong exports and domestic consumption thanks to low unemployment and rising wage growth. The central bank in Taiwan kept its key policy rate unchanged throughout 2014 at 1.875%, which is the level it has been since 2011.

Financial overview

Profit before tax (US$m)

 

LOGO

Our operations in Asia reported a profit before tax of US$14.6bn in 2014 compared with US$15.9bn in 2013, a decrease of 8%. The reduction reflected a decrease in revenue and an increase in costs and LICs, partly offset by a higher share of profits from associates. Revenue included the effect of a number of significant items, notably in 2013, an accounting gain arising from the reclassification of Industrial Bank as a financial investment (US$1.1bn) and the net gain on completion of the Ping An disposal (US$553m).

 

 

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Report of the Directors: Financial Review (continued)

 

 

Analysis of mainland China profit/(loss) before tax

 

        

Retail Banking

and Wealth

Management

US$m

        

Commercial

Banking

US$m

        

Global

Banking and

Markets

US$m

        

Global

Private

        Banking
US$m

        

Other

        US$m

        

Total

        US$m

 

BoCom and other associates

       255           1,421           296                     1           1,973   

Mainland China operations

       37           112           658           (3        174           978   

Industrial Bank

                                                           

Ping An

                                                           

Year ended 31 December 2014

       292           1,533           954           (3        175           2,951   

BoCom and other associates

       247           1,360           284                     (38        1,853   

Mainland China operations

       (24        176           558           (4        40           746   

Industrial Bank

                                               1,089           1,089   

Ping An

                                               553           553   

Year ended 31 December 2013

       223           1,536           842           (4        1,644           4,241   

BoCom and other associates

       214           1,193           248                               1,655   

Mainland China operations

       (52        176           606           (4        66           792   

Industrial Bank

       54           273           343                               670   

Ping An

       622           82           60                     2,459           3,223   

Year ended 31 December 2012

       838           1,724           1,257           (4        2,525           6,340   

 

In 2014, significant items included the gain on sale of our investment in Bank of Shanghai (US$428m) and an impairment of our investment in Industrial Bank (US$271m). See page 42 for further details of significant items.

On an adjusted basis, profit before tax rose by US$326m or 2%, driven by higher revenue partly offset by increased operating expenses and LICs.

Country business highlights

We continued to focus on our strategic priorities for Asia, using our international network to drive organic growth and connect customers across borders. We completed the sale of our investment in Bank of Shanghai and implemented a discretionary incentive framework that removes the formulaic link between product sales and remuneration. We also saw continued adoption of our mobile banking applications, extended the contact-less payment systems to Android phones and enhanced our digital banking capabilities.

In Hong Kong, average mortgage balances in RBWM increased by 7%, with average LTV ratios of 47% on new mortgage drawdowns and an estimated 29% on the portfolio as a whole. In November 2014, to coincide with the launch of the Hong Kong-Shanghai Stock Connect platform, we rolled out new services allowing retail customers to trade and invest in eligible shares that are listed on the Shanghai Stock Exchange. We strengthened our cards offering with the launch of the ‘Visa Signature’ card product in Hong Kong and continued building new merchant partnerships across the region. We also re-launched our Advance offering to emerging affluent customers in Hong Kong and nine other regional markets. We were awarded ‘International Retail Bank of the Year’ by Asian Banking and Finance.

In CMB, we were one of the first foreign banks to announce renminbi cross-border pooling capability in the Shanghai Free Trade Zone. The collaboration between CMB and GB&M continued throughout the year, as a

consequence of which 157 primary markets transactions were completed in 2014, up from 122 in 2013, primarily for debt capital market issuances and leveraged asset finance mandates. In addition, we were named ‘Best Commercial Bank’ by FinanceAsia Achievement Awards 2014.

In GB&M, we maintained our market leadership in Asia ex-Japan G3 currency and investment grade bonds, and led the market in Hong Kong dollar bond issuances. We were involved in three of the five largest equity capital market transactions during 2014, as well as the first Sukuk sovereign bond issuance in Hong Kong. Furthermore, we continued to lead the market in offshore renminbi bond issuance in Hong Kong, becoming one of the Hong Kong Monetary Authority’s primary liquidity providers for offshore renminbi. We also acted as a joint book runner for an offshore preference share issuance for a mainland Chinese bank, the first mainland Chinese Basel III compliant additional tier-1 capital offering. We remain well-positioned to service our institutional investors using Stock Connect through our integrated Custody Plus platform.

In mainland China, we continued to develop our branch network, which comprised 173 HSBC outlets, 25 HSBC rural bank outlets and 50 Hang Seng Bank outlets at the end of the year. In RBWM, we were one of the first foreign banks to launch renminbi derivative products linked to the US dollar/renminbi rate and were awarded ‘Best Foreign Retail Bank’ by The Asian Banker for the sixth consecutive year. During 2014, we were the first foreign custodian bank to service renminbi qualified foreign institutional investors based in Singapore and South Korea. We also became a member of the Shanghai Gold Exchange’s international board, a newly established trading platform connecting mainland China’s gold market to global investors. In addition, we received regulatory approval to be one of the first market makers to directly trade renminbi, euro and Singaporean dollars in mainland China’s interbank foreign exchange market.

 

 

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In Payments and Cash Management, we launched the Global Payments System which supports all cross-border payments in and out of mainland China in all currencies, including renminbi. In Global Trade and Receivables Finance, we launched trade link initiatives to connect mainland China with the rest of Asia, Germany and the US, to enhance international connectivity and promote activity between key trade routes. In mergers and acquisitions (‘M&A’), we were adviser to a number of state owned enterprises on significant overseas investments and acquisitions.

Elsewhere in Asia, in India, we continued to grow our balance sheet in CMB, including term lending and Payments and Cash Management deposits, particularly helping UK corporations to invest in India. In GB&M, we were adviser on two of the largest M&A transactions in 2014, and in Wealth Management we launched Managed Solutions, a multi-asset fund series. In Australia, we were a mandated lead arranger for the largest mining project financing deal and for the largest transport infrastructure project during 2014. In CMB, we also announced an A$250m (US$225m) International Growth Fund, providing credit facilities to local SMEs to explore business opportunities abroad.

Review of adjusted performance45

Revenue (US$m)

 

LOGO

Revenue was US$1.2bn or 5% higher, driven by Hong Kong and mainland China, mainly in CMB and RBWM from balance sheet growth, as well as in GB&M from portfolio growth in Balance Sheet Management and increased term lending. Revenue was also higher in India and Australia.

Country view of adjusted revenue

 

    2014     2013  
            US$m             US$m  

Hong Kong

  13,725      13,211   

Australia

  975      898   

India

  1,826      1,666   

Indonesia

  561      559   

Mainland China

  2,463      1,948   

Malaysia

  1,066      1,063   

Singapore

  1,339      1,319   

Taiwan

  491      501   

Other

  1,183      1,289   

Year ended 31 December

  23,629      22,454   

 

In Hong Kong, revenue increased by 4%, primarily in CMB and RBWM and, to a lesser extent, in GB&M. Higher revenue in CMB was due to increased net interest income from growth in term lending across a range of sectors, higher average Payments and Cash Management deposit balances and higher fees from remittance volumes, as well as improved lending spreads.

In RBWM, revenue growth was driven by higher net interest income from increased average lending balances, mainly credit cards and other personal lending, and from growth in average deposit balances, though the benefit of higher volumes was partly offset by spread compression. Net fee income also increased, principally from volume growth in unit trusts, credit card transactions and securities brokerage. In our insurance operations, revenue growth reflected higher premium income, which also contributed to growth in the debt securities portfolio, although this was partly offset by less favourable movements in the PVIF asset from annual actuarial assumption updates.

Revenue in GB&M also increased, mainly in Balance Sheet Management due to portfolio growth, and in Capital Financing from higher average term lending balances. This was partly offset by lower net fee income in Markets due to reduced client flows and in Capital Financing reflecting fee compression.

In mainland China, revenue increased by 26% compared with 2013. In GB&M, we reported greater net interest income from Balance Sheet Management due to portfolio growth and higher reinvestment rates, and a rise in average term lending balances. Additionally, trading income improved in Rates from higher interest income on debt securities and revaluation gains on trading bonds as yields fell, and in Foreign Exchange from increased client flows. Revenue in RBWM increased, mainly from wider deposit spreads as market interest rates rose in the first half of 2014, while in CMB revenue growth was driven by higher average deposit and lending balances.

Elsewhere in Asia, revenue in India rose by 10%, primarily in GB&M from higher Rates trading income due to favourable credit valuation adjustments (‘CVA’s) on derivatives, coupled with higher net interest income from portfolio growth in Balance Sheet Management. In Australia, we reported an increase in revenue of 9%, predominantly in GB&M from higher trading income in Rates and Foreign Exchange. This was partly offset by lower revenue in South Korea following the run-off of our RBWM operations in 2013.

LICs rose by US$167m or 35%, principally in GB&M and CMB from a rise in a small number of individually assessed impairment charges in Hong Kong and mainland China. This was partly offset by a reduction in individually assessed impairment charges in CMB in New Zealand, Malaysia and Vietnam.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Operating expenses (US$m)

 

LOGO

Operating expenses rose by US$753m following investment in the region, notably in Regulatory Programmes and Compliance, and increased use of our Global Services Centres across the Group. Cost growth also reflected wage inflation and additional headcount, notably in Hong Kong and mainland China to support business growth, mainly in CMB, as well as increased marketing activity. These factors were partly offset by around US$270m of sustainable cost savings achieved in 2014.

Share of profit from associates and joint ventures rose by US$71m, mainly from BoCom, reflecting higher revenue from balance sheet growth and trading income, partly offset by increases in operating expenses and LICs.

 

 

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2013 compared with 2012

Economic background

Hong Kong’s GDP grew at a faster pace in 2013 than in 2012. This was driven mainly by domestic demand, which offset an ongoing weakness in external orders. Labour market conditions remained resilient and strong nominal wage growth continued to support private consumption. Measures announced in February 2013 by the government and the Hong Kong Monetary Authority to dampen demand in the property market led to a softening in prices and some moderation of demand in the third quarter of the year. Headline CPI inflation fell in the fourth quarter, largely due to lower food prices and housing costs. Underlying inflation averaged 4% in 2013, lower than it was in 2012.

In mainland China, the annual pace of GDP growth was unchanged at 7.7% in 2013, above the official GDP growth target of 7.5%. The rebound in activity in the second half of the year was mainly due to measures announced by the government during the summer. Export growth remained moderate through most of 2013, only accelerating in the final months. Annual growth in fixed asset investment remained steady at an annual rate of nearly 20% and consumer spending remained resilient. Headline annual CPI inflation rose modestly to 2.6%, remaining below the government’s target of 3.5%. The People’s Bank of China maintained a relatively restrictive credit policy but overall liquidity conditions remained loose as the ‘M2’ measure of money growth expanded by 13.6% on the year.

Economic activity in Japan picked up considerably in 2013, thanks to large-scale stimuli from both the government and the Bank of Japan. Annualised growth slowed to just over 1% in the third quarter although it accelerated in the final months of the year as consumer spending rose in advance of the sales tax increase due in April 2014.

Singapore’s economic recovery also gathered pace, led by net external demand.

During the course of the summer, there were concerns in financial markets that global liquidity may become more expensive and less abundant as the US Federal Reserve Board indicated it may begin to ‘taper’ its purchases of financial assets. Interest rates on US Treasuries rose, attracting global capital back to developed markets. Some emerging economies suffered considerable capital outflows with large declines in the value of their currencies against the US dollar and central banks were forced to raise interest rates to attract capital. This in turn led to a slowdown in activity.

In Asia, India and Indonesia were most affected. The current account positions of both economies had significantly deteriorated in recent years, leaving them vulnerable to changes in external financing conditions. In India, structural constraints on growth, including infrastructure bottlenecks, also contributed to a slowdown in activity. The central bank tightened monetary policy during the second half of 2013 in

response to concerns over inflation.

Similar constraints in Indonesia saw GDP growth slow in 2013. However, concerted measures to reduce fuel subsidies and narrow the current account deficit should make the economy more resilient to any tightening in monetary conditions in the West. Economic activity also reduced in Malaysia as the boost to growth in 2012 from public spending abated.

Taiwan’s trade-dependent economy was weak in the first half of 2013, but strengthened in the second half as global trade improved.

Australian GDP growth slowed to an annual rate of around 2.5% in 2013 and unemployment rose to 5.7% towards the end of the year. This reflected a slowdown in mining investment after years of strong growth. To stimulate growth elsewhere, the Reserve Bank of Australia cut its cash rate from 3.0% to 2.5% during the year. Low interest rates drove a strong rise in housing prices. The Australian dollar remained well above its long run average levels in 2013, but fell towards the end of the year.

Review of performance

2013 compared with 2012 commentaries are on a constant currency basis and have not been updated to reflect our change to adjusted performance. Adjusted profit before tax would have been US$14.3bn and US$13.1bn for 2013 and 2012, respectively, as compared with constant currency profit before tax of US$15.9bn and US$17.8bn for 2013 and 2012, respectively. Constant currency, underlying and adjusted are reconciled on pages 105(b) to 105(au).

Our operations in Asia reported a pre-tax profit of US$15.9bn compared with US$18.0bn in 2012, a decrease of 12%. The reduction reflected a 2012 gain following the disposal of our shareholding in Ping An of US$3.0bn, together with a reduction in our share of profit from associates of US$1.4bn as a result of this disposal and the effect of the reclassification of Industrial Bank as a financial investment following its issue of share capital to third parties. These items were partly offset by an accounting gain of US$1.1bn in 2013 on the reclassification of Industrial Bank.

On an underlying basis, which excludes the items above as well as other disposals and the results of disposed-of operations, profit before tax increased by 16% due to the net gain of US$553m on completion of the sale of our investment in Ping An in 2013, compared with adverse fair value movements of US$553m on the Ping An contingent forward sale contract recorded in 2012. Excluding these items, underlying profit before tax increased by 7%, driven by higher net interest income and net fee income in Hong Kong.

The implementation of our strategy to reduce fragmentation across the region continued, leading to the disposal of non-core insurance businesses in Vietnam, South Korea, Taiwan and Singapore, and we announced the closure of a retail brokerage in India and our retail banking operations in South Korea. We also completed the sale of our investment in Ping An in mainland China.

 

 

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Report of the Directors: Financial Review (continued)

 

 

In Hong Kong, we grew our average mortgage balances by 8% with average loan-to-value ratios of 44% on new mortgage drawdowns and an estimated 32% on the portfolio as a whole. We continued to develop our digital capabilities and launched our mobile banking application in Hong Kong. We also developed our wealth management capabilities, growing revenue by over 10%. In addition, we enhanced our wealth management systems, simplified the product range and implemented the Global Wealth Incentive Plan to better align customer and business interests.

We further strengthened the collaboration between CMB and GB&M, raising financing for our clients of over US$14bn from debt capital markets and nearly US$4bn from equity capital markets, including the largest IPO in Hong Kong for a mainland Chinese consumer company. In addition, we were awarded Best Trade Finance Bank in Hong Kong by Global Finance.

In GB&M, we continued to lead the market in Hong Kong dollar bond issuance and are now one of the top five houses for both equity capital markets and mergers and acquisitions in Hong Kong. We were voted Best Debt House in Hong Kong in the Euromoney 2013 Awards for Excellence and were involved in seven of the ten largest IPOs in Hong Kong this year.

We led the market in offshore renminbi (‘RMB’) bond issuance in Hong Kong, including the RMB3bn (US$491m) government bond issue in December 2013 by mainland China’s Ministry of Finance, and were voted ‘Best provider of offshore renminbi products and services’ for the second year running by Asiamoney. We also won the award for RMB House of the Year from Asia Risk.

We announced the sale of our shareholding in Bank of Shanghai in 2013, a transaction which is expected to complete in the first half of 2014.

In mainland China, where we continued to expand our branch network, we had 162 HSBC outlets, 23 HSBC rural bank outlets and 48 Hang Seng Bank outlets at the end of the year. We were also one of the first foreign banks to be approved to distribute domestic funds to retail investors. In addition, we were the market leader in mainland China’s state-owned enterprise bond issuances and we were awarded Best Foreign Commercial Bank in China by FinanceAsia.

We continued to promote the internationalisation of the renminbi as regulations developed. We were the first foreign bank in mainland China to implement a customised renminbi cross-border centralised settlement solution and were also the first foreign bank to complete a two-way cross-border renminbi lending transaction.

In India, we revised our Wealth Management product offering to ensure customers’ needs were being met and to improve customer satisfaction levels. In Payments and Cash Management, we were awarded the ‘Best Domestic Cash Management Bank’ in 2013 by Euromoney. Our strength in debt capital markets (‘DCM’) continued, acting as a joint lead manager and bookrunner for the

largest US dollar-denominated single tranche bond issuance by an Indian corporate in 2013.

In Singapore, we led the market in foreign currency DCM issuance, continuing to demonstrate our ability to structure DCM transactions. In CMB, we began to offer a renminbi settlement service.

We continued to develop our Payments and Cash Management product offering across the region and were awarded the ‘Best Cash Management House in Asia’ by Euromoney. We also strengthened our Project and Export Finance capabilities and were named the Best Project Finance House in Asia by Euromoney for the third consecutive year. Our strength in DCM continued, and we were the No.1 bookrunner in Asia-ex Japan bonds. We were awarded the Domestic Bond House of the Year by IFR Asia.

Net interest income rose by US$839m, primarily in Hong Kong, led by RBWM and supported by GB&M and CMB. The increase was mainly due to higher average lending balances, wider spreads on mortgages in RBWM reflecting lower funding costs, and growth in the insurance debt securities portfolio. Mortgage lending in RBWM in Hong Kong increased, although the rate of growth began to slow during 2013 as transaction volumes in the property market reduced.

Average residential mortgage balances also grew in mainland China and Australia, as we focused on secured lending, and in Singapore reflecting growth in 2012.

In addition, there was strong loan growth in both CMB and GB&M, driven by trade-related lending in the first half of 2013 and an increase in commercial real estate and other property-related lending in the second half of the year, though the benefit of this growth was partly offset by spread compression reflecting competition and increased liquidity in the markets.

Average deposit balances increased, in part reflecting new Premier customers in RBWM and increased Payments and Cash Management balances in CMB, though the benefit of this growth was more than offset by narrower deposit spreads due to a fall in short-term interbank interest rates.

Net fee income rose by US$595m in 2013, led by RBWM in Hong Kong as strong customer demand and favourable market sentiment led to higher fees from unit trusts and increased brokerage income. Fee income also increased due to a rise in debt and equity underwriting and corporate finance activity compared with 2012, in part reflecting collaboration between GB&M and CMB. In CMB, fee income growth reflected an increase in trade and Payments and Cash Management volumes.

Net trading income was US$434m lower, in part from further adverse fair value movements in mainland China on the Ping An contingent forward sale contract of US$682m, compared with US$553m in 2012. In addition, in GB&M, net trading income included a favourable DVA of US$40m in 2013, while 2012 included a favourable DVA of US$136m, arising from a change in estimation methodology reflecting evolving market practices. Rates revenues decreased, largely from reduced bond holdings

 

 

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Report of the Directors: Financial Review (continued)

 

 

in a number of countries and revaluation losses as bond yields rose, notably in mainland China. Foreign Exchange revenues also fell as market conditions in 2012 were not repeated. This was partly offset by favourable movements on the CVA in 2013, compared with adverse movements in 2012 arising from the change in estimation methodology as noted above.

Net income from financial instruments designated at fair value was US$314m compared with US$554m in 2012, primarily due to lower net investment returns on assets held by the insurance business reflecting weaker equity markets and falling bond prices. To the extent that these investment returns were attributed to policyholders holding unit-linked insurance policies and insurance contracts with DPF, there was a corresponding movement in Net insurance claims incurred and movement in liabilities to policyholders.

Gains less losses from financial investments were US$936m higher, primarily in mainland China due to the gain on completion of disposal of our investment in Ping An of US$1.2bn, which was partly offset by the adverse fair value movement of US$682m on the contingent forward sale contract included in ‘Net trading income’ leading to a net gain of US$553m. Gains less losses from financial investments were also partly offset by the non-recurrence of the gain on sale of our shares in four Indian banks in 2012.

We reported a gain on disposal of Ping An of US$3.0bn in 2012.

Dividend income was US$153m compared with US$26m in 2012, mainly due to the dividend from Industrial Bank following its reclassification as a financial investment during the year.

Net earned insurance premiums grew by 2%, driven by Hong Kong, due to increased renewals of deferred annuity and unit-linked insurance contracts, partly offset by the absence of non-life insurance premiums following the disposal of the HSBC and Hang Seng Bank general insurance businesses in 2012, and lower new business premiums. The growth in premiums resulted in a corresponding increase in Net insurance claims incurred and movement in liabilities to policyholders.

Other operating income increased by US$812m. We recorded an accounting gain of US$1.1bn on the reclassification of Industrial Bank as a financial investment following its issue of additional share capital to third parties, and a gain on the disposal of our investment in Bao Viet Holdings of US$104m. In 2012, we recorded gains totalling US$305m on a reported basis following the sales of our RBWM business in Thailand, our GPB business in Japan and our interest in a property company in the Philippines.

LICs were in line with 2012 as higher charges in Hong Kong due to a revision to the assumptions used in our collective assessment models in RBWM and a rise in individual impairment charges in CMB, were broadly offset by the non-recurrence of a large individually assessed impairment of a corporate exposure in Australia and a credit risk provision on an available-for-sale debt security in GB&M.

Operating expenses rose by US$139m in 2013, primarily in Hong Kong, reflecting higher marketing expenditure, costs relating to the introduction of updated payment cards and information technology platforms, as well as increased property rental and maintenance costs. In addition, staff costs increased as a result of changes to the recognition of pension costs. Costs rose in India from increased use of the service centres and in mainland China from wage inflation, higher staff numbers and branch expansion. These increases were offset by the partial write back of a litigation provision in Singapore and Australia compared with a charge in 2012.

Share of profit from associates and joint ventures reduced by US$1.4bn following the disposal of Ping An, the reclassification of Industrial Bank as a financial investment and an impairment charge of US$106m on our banking associate in Vietnam. Excluding these factors, income from associates rose, primarily in BoCom as a result of balance sheet growth and increased fee income, partly offset by higher operating expenses and a rise in loan impairment charges.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Profit before tax and balance sheet data – Asia

 

    2014  
 

 

 
 
 

Retail

Banking

and Wealth
Management
US$m

  

  

  
  
  

 

 

 

Commercial

Banking

US$m

  

  

  

 

 
 

 

Global

Banking and
Markets

US$m

  

  
  

  

 

 

 

 

Global

Private

Banking

US$m

  

  

  

  

 

 

Other

US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 

 

Total

US$m

  

  

Profit before tax

Net interest income/(expense)

  5,003      3,439      3,579      177      (16   91      12,273   

Net fee income

  2,792      1,529      1,311      272      6           5,910   

Trading income/(expense) excluding net interest income

  216      382      1,220      142      (5        1,955   

Net interest income/(expense) on trading activities

  (13   (9   771           9      (91   667   

Net trading income50

  203      373      1,991      142      4      (91   2,622   

Changes in fair value of long-term debt issued and related derivatives

                      (4        (4

Net income/(expense) from other financial instruments designated at fair value

  543      (6   (2        2           537   

Net income/(expense) from financial instruments designated at fair value

  543      (6   (2        (2        533   

Gains less losses from financial investments

  1      5      46           148           200   

Dividend income

  1           1           177           179   

Net insurance premium income

  6,596      794                          7,390   

Other operating income

  516      95      141      3      2,734      (1,158   2,331   

Total operating income

  15,655      6,229      7,067      594      3,051      (1,158   31,438   

Net insurance claims56

  (6,979   (782                       (7,761

Net operating income4

  8,676      5,447      7,067      594      3,051      (1,158   23,677   

Loan impairment (charges)/ recoveries and other credit risk provisions

  (317   (228   (103   1                (647

Net operating income

  8,359      5,219      6,964      595      3,051      (1,158   23,030   

Total operating expenses

  (4,191   (1,897   (2,686   (384   (2,427   1,158      (10,427

Operating profit

  4,168      3,322      4,278      211      624           12,603   

Share of profit in associates and joint ventures

  304      1,420      298                     2,022   

Profit before tax

  4,472      4,742      4,576      211      624           14,625   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  23.9      25.4      24.5      1.1      3.4      78.3   

Cost efficiency ratio

  48.3      34.8      38.0      64.6      79.5      44.0   

Balance sheet data40

    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  115,643      132,509      99,934      12,894      1,975      362,955   

Total assets

  166,577      158,747      548,865      14,905          79,477      (89,848   878,723   

Customer accounts27

  286,670      155,608                104,896              29,847      470            577,491   

 

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Report of the Directors: Financial Review (continued)

 

 

    2013  
 
 
 
 
Retail Banking
and Wealth
Management
US$m
  
  
  
  
 

 
 

Commercial

Banking
US$m

  

  
  

 
 
 
 
Global
Banking and
Markets
US$m
  
  
  
  
 

 
 
 

Global

Private
Banking
US$m

  

  
  
  

 

 

Other

US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
US$m
  
  

Profit before tax

Net interest income/(expense)

  4,895      3,103      3,245      205      (124   108      11,432   

Net fee income/(expense)

  2,758      1,518      1,419      249      (8        5,936   

Trading income/(expense) excluding net interest income

  238      377      1,483      175      (739        1,534   

Net interest income/(expense) on trading activities

  (16   (6   608           14      (108   492   

Net trading income/(expense)50

  222      371      2,091      175      (725   (108   2,026   

Changes in fair value of long-term debt issued and related derivatives

                      (1        (1

Net income/(expense) from other financial instruments designated at fair value

  315           7           (7        315   

Net income/(expense) from financial instruments designated at fair value

  315           7           (8        314   

Gains less losses from financial investments

  (1        58      14      1,204           1,275   

Dividend income

       1      6           145           152   

Net insurance premium income

  6,263      654      1                     6,918   

Other operating income

  764      97      163      12      3,871      (1,232   3,675   

Total operating income

  15,216      5,744      6,990      655      4,355      (1,232   31,728   

Net insurance claims56

  (6,609   (687                       (7,296

Net operating income4

  8,607      5,057      6,990      655      4,355      (1,232   24,432   

Loan impairment charges and other credit risk provisions

  (347   (144   (3   (4             (498

Net operating income

  8,260      4,913      6,987      651      4,355      (1,232   23,934   

Total operating expenses

  (4,138   (1,786   (2,560   (367   (2,317   1,232      (9,936

Operating profit

  4,122      3,127      4,427      284      2,038           13,998   

Share of profit/(loss) in associates and joint ventures

  297      1,331      248           (21        1,855   

Profit before tax

  4,419      4,458      4,675      284      2,017                   15,853   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  19.6      19.8      20.7      1.3      8.9      70.3   

Cost efficiency ratio

  48.1      35.3      36.6      56.0      53.2      40.7   

Balance sheet data40

    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  111,769      122,882      89,722            10,904              1,620      336,897   

Total assets

  158,456      146,898      515,023      12,994      82,453      (84,033   831,791   

Customer accounts27

  278,392      141,958      96,546      31,250      337      548,483   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Report of the Directors: Financial Review (continued)

 

 

Profit before tax and balance sheet data – Asia (continued)

 

    2012  
 

 
 
 

Retail Banking

and Wealth
Management
US$m

  

  
  
  

 

 
 

Commercial

Banking
US$m

  

  
  

 
 
 
 
Global
Banking and
Markets
US$m
  
  
  
  
 

 
 
 

Global

Private
Banking
US$m

  

  
  
  

 

 

Other

US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
US$m
  
  

Profit before tax

Net interest income/(expense)

  4,638      3,025      3,243      251      (345   (105   10,707   

Net fee income

  2,623      1,349      1,214      226      6           5,418   

Trading income/(expense) excluding net interest income

  272      351      1,668      237      (594        1,934   

Net interest income/(expense) on trading activities

  4      (1   452           22      105      582   

Net trading income/(expense)49

  276      350      2,120      237      (572   105      2,516   

Changes in fair value of long-term debt issued and related derivatives

                      (4        (4

Net income/(expense) from other financial instruments designated at fair value

  620      (52   20           (31        557   

Net income/(expense) from financial instruments designated at fair value

  620      (52   20           (35        553   

Gains less losses from financial investments

  (1   2      (8   7      338           338   

Dividend income

       1      6           22           29   

Net insurance premium income

  5,863      898      8                     6,769   

Gain on disposal of Ping An

                      3,012           3,012   

Other operating income

  922      317      159      81      2,723      (1,128   3,074   

Total operating income

  14,941      5,890      6,762      802      5,149      (1,128   32,416   

Net insurance claims56

  (6,280   (797   (7                  (7,084

Net operating income1

  8,661      5,093      6,755      802      5,149      (1,128   25,332   

Loan impairment (charges)/ recoveries and other credit risk provisions

  (331   (151   (31   3                (510

Net operating income

  8,330      4,942      6,724      805      5,149      (1,128   24,822   

Total operating expenses

  (4,057   (1,712   (2,542   (397   (2,400   1,128      (9,980

Operating profit

  4,273      3,230      4,182      408      2,749           14,842   

Share of profit/(loss) in associates and joint ventures

  938      1,560      661           29           3,188   

Profit before tax

  5,211      4,790      4,843      408      2,778           18,030   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  25.2      23.2      23.5      2.0      13.4      87.3   

Cost efficiency ratio

  46.8      33.6      37.6      49.5      46.6      39.4   

Balance sheet data40

    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  108,542      106,912      83,895      9,702      1,614      310,665   

Total assets

  151,694      131,179            458,069      32,847            105,619      (74,699   804,709   

Customer accounts27

  264,879      135,017      98,488            30,661      709            529,754   

For footnotes, see page 109.

 

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Report of the Directors: Financial Review (continued)

 

 

Middle East and North Africa

The network of branches of HSBC Bank Middle East Limited, together with HSBC’s subsidiaries and associates, gives us wide coverage in the region. Our associate in Saudi Arabia, The Saudi British Bank (40% owned), is the Kingdom’s sixth largest bank by total assets.

 

    2014     2013     2012  
    US$m     US$m     US$m  

Net interest income

  1,519      1,486      1,470   

Net fee income

  650      622      595   

Net trading income

  314      357      390   

Other income

  65      38      (25

Net operating income4

  2,548      2,503      2,430   

LICs43

  6      42      (286

Net operating income

  2,554      2,545      2,144   

Total operating expenses

  (1,216   (1,289   (1,166

Operating profit

  1,338      1,256      978   

Income from associates44

  488      438      372   

Profit before tax

        1,826            1,694            1,350   

Cost efficiency ratio

  47.7%      51.5%      48.0%   

RoRWA36

  2.9%      2.7%      2.2%   

Year-end staff numbers

  8,305      8,618      8,765   

Best Investment Bank in the

Middle East

(Euromoney 2014)

Record reported profit before tax of

US$1.8bn

Completed disposal of our operations in

Jordan and Pakistan

in line with the Group’s

six filters investment criteria

For footnotes, see page 109.

For footnotes, see page 109.

Economic background

Economic activity across the Middle East and North Africa remained strong during 2014, despite heightened geopolitical uncertainties and weaker global oil prices towards the end of the year. The region’s energy exporters fared particularly well, buoyed by an oil-funded fiscal stimulus and an expansionary monetary stance. Saudi Arabia, the Middle East’s largest oil exporter, grew strongly as the Kingdom pushed ahead with its infrastructure and industrial expansion programme. The United Arab Emirates (‘UAE’), however, showed the most significant gains in momentum, boosted by growth in both its export-orientated non-oil sector and an increasingly expansionary fiscal stance. Though showing some gains as growth picked up speed, inflation remained muted at under 5% across the Gulf.

Egypt showed further signs of stabilisation in 2014. Although still below the trend levels that prevailed prior to the 2011 revolution, some momentum in growth was achieved in the second half of the year, boosted by the receipt of further concessional funding and an improvement in political order and policy making following the May presidential election. Inflation rose and the budget deficit remained high, recording a third successive double-digit deficit as a percentage of GDP. International reserves fell in the latter months of the year, highlighting ongoing pressure on the currency which remained subject to significant controls.

Financial overview

Profit before tax (US$m)

 

LOGO

Our operations in the Middle East and North Africa reported a profit before tax of US$1.8bn, an increase of 8% on a reported basis, despite the effects of business disposals, including the loss on sale of our Pakistan business. See page 42 for further details of our significant items.

On an adjusted basis, profit before tax grew by 11% driven by higher revenue and increased income from our associate, The Saudi British Bank.

 

 

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Profit/(loss) before tax by country within global businesses

 

   

Retail Banking
and Wealth

Management

US$m

    Commercial
    Banking
US$m
   

Global
Banking and

Markets

US$m

   

Global

Private
        Banking
US$m

    Other
        US$m
    Total
        US$m
 

Egypt

  64      94      177                335   

United Arab Emirates

  154      190      364           (46   662   

Saudi Arabia

  91      168      203      19      5      486   

Other

  14      152      182           (5   343   

Year ended 31 December 2014

  323      604      926      19      (46   1,826   

Egypt

  31      37      166           (29   205   

United Arab Emirates

  142      290      275      1      (72   636   

Saudi Arabia

  82      146      188      15      7      438   

Other

  3      172      240                415   

Year ended 31 December 2013

  258      645      869      16      (94   1,694   

Egypt

  67      71      157           (5   290   

United Arab Emirates

  143      235      141      1      (56   464   

Saudi Arabia

  60      120      170      9      18      377   

Other

  (18   161      113           (37   219   

Year ended 31 December 2012

  252      587      581      10      (80   1,350   

 

Country business highlights

In the UAE, we made significant progress in executing the strategic plan we announced in 2013. In RBWM, we expanded our range of products in Wealth Management, including the launch of the International Bonds and Portfolio Advisory Service to widen our offering for Premier clients. The introduction of a financial health check to better understand customer needs coupled with the opening of a Customer Service Unit in Abu Dhabi illustrated our focus on putting the customer first.

In CMB, we enhanced our services to customers that trade internationally by completing the implementation of our International Subsidiary Business model across the region in order to better meet their cross-border banking requirements and cement our strategic relationships. We also launched a second tranche of the International Growth Fund for AED1bn (US$272m). We continued to invest in our Payments and Cash Management business including recruiting client-facing and specialised staff and won the Best Regional Cash Management Provider in the Middle East award.

In GB&M, we advised a major regional airline on its investment in a European air carrier and a large investment company in Dubai on its inaugural US$1bn bond issue. In addition, we increased our collaboration with CMB, particularly in Capital Financing, focusing on existing clients and taking advantage of our connectivity with other regions.

The drop in oil prices did not have a material impact on our financial performance in the UAE.

In Egypt, in RBWM, we expanded our product offering with enhanced features and reduced pricing for credit cards, and were ranked number one in the customer recommendation index. In GB&M, we acted as the global coordinator, structuring bank, mandated lead arranger and facility agent for a government entity. This reflected our commitment to supporting the Egyptian

government’s plan for the development of the country’s infrastructure.

In Saudi Arabia, through our associates, The Saudi British Bank and HSBC Saudi Arabia Limited, we acted as joint financial advisor, joint lead manager and a receiving bank on the US$6bn National Commercial Bank initial public offering (‘IPO’). This was the Middle East’s largest ever IPO and the world’s second largest in 2014.

Review of adjusted performance45

Revenue (US$m)

 

LOGO

Revenue increased in the majority of our markets, most notably in Egypt in all global businesses and in the UAE.

Country view of adjusted revenue

 

    2014     2013  
    US$m     US$m  

UAE

  1,448      1,401   

Egypt

  531      451   

Rest of MENA

  566      550   

Year ended 31 December

        2,545            2,402   

In Egypt, revenue increased by US$80m, reflecting higher net interest income in RBWM due to improved deposit spreads as a result of re-pricing, and the non-recurrence of losses on disposal of available-for-sale debt securities

 

 

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Report of the Directors: Financial Review (continued)

 

 

in GB&M in 2013. In addition, the Central Bank resumed interest payments on overnight placements during 2014, which contributed to the rise in revenue in all global businesses.

In the UAE, revenue increased by US$47m, primarily in GB&M reflecting a rise in Capital Financing due to increased advisory mandates in Project and Export Finance and a gain on restructuring a specific loan in Credit and Lending. In addition, revenue rose in our Equities and Securities Services businesses from increased customer flows, which in part reflected the upgrade of the UAE to emerging markets status in the MSCI Index. In RBWM, revenue increased, but to a lesser extent, reflecting higher net interest income as mortgage balances rose and deposit spreads improved due to re-pricing initiatives. This was partially offset by reduced revenue in CMB from lower spreads on lending balances, reflecting a highly liquid and competitive market coupled with lower charges on foreign exchange transactions in Payments and Cash Management.

In the rest of the region, revenue was higher with increases in Oman and Qatar partly offset by a reduction in Algeria. Higher revenue in Oman in part reflected growth in customer advances in CMB. The increase in Qatar was driven by fees in GB&M reflecting increased customer flows in our Securities Services business, which in part reflected the upgrade of Qatar to emerging markets status in the MSCI Index. The reduction in Algeria reflected regulatory restrictions on foreign exchange spreads charged on corporate customer transactions.

Net loan impairment releases were lower by US$44m, primarily driven by lower impairment releases for a particular UAE-related exposure in GB&M.

Operating expenses (US$m)

 

LOGO

Operating expenses of US$1,183m decreased by US$31m, mainly due to reductions in Egypt and the UAE. In Egypt, expenses fell following charges recorded in 2013 relating to changes in the interpretation of tax regulations. In the UAE, expenses reduced due to the non-recurrence of charges incurred in 2013 on customer redress programmes in RBWM relating to fees charged on overseas credit card transactions. This was partly offset by wage inflation, investment in Regulatory Programmes and Compliance, growth in customer-facing staff in RBWM and increased service and product support staff in CMB.

Share of profits from associates and joint ventures increased by 12%, mainly from The Saudi British Bank. This was driven by higher revenue resulting from strong balance sheet growth.

 

 

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2013 compared with 2012

Economic background

Real GDP in the Middle East and North Africa grew by an estimated 4.0% in 2013, led by the Gulf Cooperation Council (‘GCC’) and Saudi Arabia’s expansionary fiscal policy and infrastructure investment programme. With oil prices steady in the US$100-110 per barrel range throughout the year, revenues were more than sufficient to fund this spending, and the region ended 2013 with both current and fiscal accounts amply in surplus. The UAE saw an accelerating recovery in 2013 led by real estate and services, but boosted towards the end of the year by an increasingly expansionary fiscal policy. Despite strong demand and loose fiscal policy, inflation remained very subdued across the region throughout 2013, apart from UAE real estate.

For Egypt, political uncertainty gave rise to a third year of sub-par growth and rising unemployment. Real GDP grew by 2.2% in the 2012/13 fiscal year, while the budget deficit widened to 14% of GDP. The country’s external position improved substantially in July, following the receipt of concessionary financing from the GCC. However, while reserves and the currency stabilised, stringent exchange rate and capital controls were still in place at the end of December 2013.

Review of performance

2013 compared with 2012 commentaries are on a constant currency basis and have not been updated to reflect our change to adjusted performance. For comparison, adjusted profit before tax would have been US$1.7bn and US$1.4bn for 2013 and 2012 respectively as compared with constant currency profit before tax of US$1.7bn and US$1.3bn for 2013 and 2012 respectively. Constant currency, underlying and adjusted are reconciled on pages 105(b) to 105(au).

Our operations in the Middle East and North Africa reported a profit before tax of US$1.7bn, an increase of 25% compared with 2012. On a constant currency basis, pre-tax profits increased by 29%.

Our reported results in 2013 included adverse movements of US$4m on our own debt designated at fair value resulting from tightening of credit spreads. Our reported results in 2012 included an investment loss on a subsidiary of US$85m and adverse movements of US$12m on our own debt designated at fair value resulting from tightening credit spreads, partly offset by gains recognised on acquisitions totalling US$21m. On an underlying basis, excluding the items noted above and the results of a deconsolidated subsidiary and the Private Equity business disposed of in 2012, profit before tax increased by 26%, mainly due to lower loan impairment charges and higher income from our associate, The Saudi British Bank.

In the UAE, we inaugurated a new strategic plan for growth with investment committed across all businesses, and with commensurate investment in the risk management functions including Regulatory and Financial Crime Compliance. In RBWM, we focused on

improving our retail customer experience through the new ‘Customer at the Heart’ campaign and were ranked number one in the Customer Recommendation Index for banks in the UAE. We also invested in mobile and digital technologies to enhance our Wealth Management offering and to grow our retail foreign exchange revenues.

In CMB, our fourth international trade fund for SMEs of AED1bn (US$272m) was launched to support new and existing customers with cross-border trading requirements or with aspirations to grow internationally.

In GB&M, there was a focus on cross-border connectivity and CMB collaboration, with tailored risk management solutions. We supported sovereign wealth funds and government-related entities and won several Euromoney awards including ‘The Best Investment Bank in Middle East’, ‘The Best Risk Advisor in Middle East’, ‘Best Cash Management House in the Middle East’ and ‘No 1 Debt House for MENA and GCC issuer bonds’.

We were awarded the ‘Best Trade Bank in the MENA region’ by GTR Leaders in Trade 2013 and we enhanced Global Trade and Receivables Finance by investing in sales staff and giving priority to commodity structured trade finance and receivables finance. The level of service provided by our Payments and Cash Management business was reflected in our fifth consecutive Euromoney award.

In Egypt, we continued to manage risk in the uncertain political and economic environment. Surplus liquidity levels in Egyptian pounds, which arose following the introduction of foreign currency restrictions at the end of 2012, were managed through the downward re-pricing of deposits. Despite these difficult operating conditions, we continued to invest in the business, through the deployment of new automated teller machines (‘ATMs’) and the launch of a new mobile banking application. Our RBWM business was ranked number 1 in the Customer Recommendation Index while our CMB business launched an Egypt SME Fund for EGP300m (US$44m) targeting international SME growth and trade customers.

We renewed our primary dealer licence for trading in Government of Egypt treasury bills and bonds, ranking as one of the largest primary dealers in the Egyptian market.

In Oman, following the completion of the merger in June 2012 with OIB, we completed the conversion to HSBC systems of our merged operation. We made a number of improvements to our mobile banking and internet banking applications, introducing enhanced security features including the HSBC secure key for internet banking. We also upgraded our e-platform for cash management services for our corporate banking customers. HSBC Bank Oman won Euromoney’s ‘Best Domestic Cash Management Bank’ in Oman award for the second consecutive year.

In Saudi Arabia, our associate, The Saudi British Bank, won The Banker magazine’s award as ‘The Best Bank in Saudi Arabia, 2013’ and achieved a record net profit before tax exceeding US$1bn.

 

 

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In line with our commitment to drive growth and improve returns in businesses that do not meet our six filters criteria (see page 15), we entered into an agreement to sell our operation in Jordan. The transaction is expected to complete in 2014.

Net interest income rose by 4%, mainly in Egypt in GB&M, driven by higher yields and balances on available-for-sale investment portfolios and higher balances on corporate deposits as more liquid assets were held in the volatile political environment. In Oman, net interest income increased, notably in RBWM, following the merger with OIB in June 2012. The higher net interest income in the UAE from growth in GB&M in the Credit and Lending portfolio and in RBWM from the Lloyds business acquired in 2012, was more than offset by a decline in CMB, where the business was repositioned to lower risk segments.

Net fee income increased by 7%, primarily in the UAE in GB&M due to an increase in advisory mandates in Capital Financing and higher institutional equities fee income from increased deal volumes, partially offset by lower fees from reduced volumes on Global Trade and Receivables Finance products in CMB. In Egypt, net fee income increased, notably in RBWM from cards and consumer loan fees.

Net trading income decreased by 6%, notably in Egypt from lower foreign exchange revenues, reflecting the political instability, and lower Rates trading income driven by a reduction in deal volumes. The decrease in trading income also reflected the deconsolidation of a subsidiary in 2012. These factors were partly offset by CVA releases on trading positions relating to a small number of exposures in the UAE in GB&M, compared with charges in 2012.

Gains less losses from financial investments decreased by US$27m, driven by losses on the disposal of the available-for-sale debt securities in Egypt in the first half of 2013 as we adjusted our risk positions.

Other operating income increased by US$76m, due to the non-recurrence of an US$85m investment loss on a subsidiary in 2012.

A net loan impairment release of US$42m was recorded in 2013 compared with a charge of US$282m in 2012. There were provision releases, mainly in GB&M, for a small number of UAE related exposures, reflecting an overall improvement in the loan portfolio compared with charges in 2012. In addition, loan impairment charges declined, due to lower individually assessed loan impairments in the UAE in CMB and lower provisions in RBWM on residential mortgages following a repositioning of the book towards higher quality lending and improved property prices.

Operating expenses increased by 13%, mainly in the UAE from the Lloyds business acquired in 2012, expenses for regulatory projects, operational losses and charges from a customer redress programme in RBWM relating to fees charged on overseas credit card transactions. Expenses also increased in Egypt from changes in the interpretation of tax regulations and in Oman following the merger with OIB. These factors were partly offset by approximately US$40m of sustainable savings from our organisational effectiveness programmes.

Share of profits from associates and joint ventures increased by 18%, mainly from The Saudi British Bank. This was driven by higher revenue resulting from strong balance sheet growth, and the effective management of costs.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax and balance sheet data – Middle East and North Africa

 

    2014  
 
 

 
 
 

Retail
Banking

and Wealth
Management
US$m

  
  

  
  
  

 

 
 

  Commercial

Banking
US$m

  

  
  

 
 

 

 

Global
    Banking and

Markets

US$m

  
  

  

  

 

 
 
 

Global

Private
        Banking
US$m

  

  
  
  

 

 

        Other

US$m

  

  

 

 

 

 

Inter-

segment

elimination

US$m

  

  

55 

  

 

 

Total

        US$m

  

  

Profit/(loss) before tax

Net interest income

  615      467      410           3      24      1,519   

Net fee income/(expense)

  152      268      240           (10        650   

Trading income/(expense) excluding net interest income

  58      68      207           (5        328   

Net interest income on trading activities

            10                (24   (14

Net trading income/(expense)50

  58      68      217           (5   (24   314   

Net expense from financial instruments designated at fair value

                      (3        (3

Gains less losses from financial investments

  1      1      20                     22   

Dividend income

  1      1      12                     14   

Other operating income

  8           27           108      (111   32   

Total operating income

  835      805      926           93      (111   2,548   

Net insurance claims56

                                  

Net operating income4

  835      805      926           93      (111   2,548   

Loan impairment (charges)/recoveries and other credit risk provisions

  (26   (21   53                     6   

Net operating income

  809      784      979           93      (111   2,554   

Total operating expenses

  (578   (348   (256        (145   111      (1,216

Operating profit/(loss)

  231      436      723           (52        1,338   

Share of profit in associates and joint ventures

  92      168      203      19      6           488   

Profit/(loss) before tax

  323      604      926      19      (46        1,826   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  1.7      3.2      5.0      0.1      (0.2   9.8   

Cost efficiency ratio

  69.2      43.2      27.6           155.9      47.7   

 

Balance sheet data40

    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  6,318      13,104      9,641                29,063   

Total assets

  7,073      14,911      39,229      77      2,900      (1,773   62,417   

Customer accounts27

  18,024      11,809      9,630           257      39,720   

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

    2013  
 

 

 

 

Retail Banking

and Wealth

Management

US$m

  

  

  

  

 

 
 

  Commercial

Banking
US$m

  

  
  

 
 
 
 
Global
    Banking and
Markets
US$m
  
  
  
  
 

 
 

 

Global

Private
        Banking

US$m

  

  
  

  

 

 

        Other

US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
        US$m
  
  
Profit/(loss) before tax

Net interest income

  585      486      390           4      21      1,486   

Net fee income/(expense)

  161      269      197           (5        622   

Trading income excluding net interest income

  59      85      220                     364   

Net interest income on trading activities

            14                (21   (7

Net trading income50

  59      85      234                (21   357   

Net expense from financial instruments designated at fair value

                      (2        (2

Gains less losses from financial investments

            (18                  (18

Dividend income

            9                     9   

Other operating income

  25      30      15           99      (120   49   

Total operating income

  830      870      827           96      (120   2,503   

Net insurance claims56

                                  

Net operating income4

  830      870      827           96      (120   2,503   

Loan impairment (charges)/ recoveries and other credit risk provisions

  (49   (20   110      1                42   

Net operating income

  781      850      937      1      96      (120   2,545   

Total operating expenses

  (606   (350   (256        (197   120      (1,289

Operating profit/(loss)

  175      500      681      1      (101        1,256   

Share of profit in associates and joint ventures

  83      145      188      15      7           438   

Profit/(loss) before tax

  258      645      869      16      (94        1,694   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  1.1      2.9      3.8      0.1      (0.4   7.5   

Cost efficiency ratio

  73.0      40.2      31.0           205.2      51.5   
Balance sheet data40
    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  6,152      11,814      9,241           4      27,211   

Total assets

  7,016      13,776      39,302      64      3,340      (2,688   60,810   

Customer accounts27

  18,771      12,402      7,432      1      77      38,683   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax and balance sheet data – Middle East and North Africa (continued)

 

    2012  
 
 

 
 
 

Retail
Banking

and Wealth
Management
US$m

  
  

  
  
  

 

 
 

  Commercial

Banking
US$m

  

  
  

 
 
 
 
Global
    Banking and
Markets
US$m
  
  
  
  
 

 
 
 

Global

Private
        Banking
US$m

  

  
  
  

 

 

Other

        US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
        US$m
  
  
Profit/(loss) before tax

Net interest income

  597      492      367      1      42      (29   1,470   

Net fee income/(expense)

  164      279      160      1      (9        595   

Trading income excluding net interest income

  68      94      208           3           373   

Net interest income/(expense) on trading activities

       2      30           (44   29      17   

Net trading income/(expense)50

  68      96      238           (41   29      390   

Net income from financial instruments designated at fair value

                      (12        (12

Gains less losses from financial investments

            9                     9   

Dividend income

            5                     5   

Other operating income/(expense)

  (16   21      14      1      47      (94   (27

Total operating income

  813      888      793      3      27      (94   2,430   

Net insurance claims56

                                  

Net operating income1

  813      888      793      3      27      (94   2,430   

Loan impairment charges and other credit risk provisions

  (55   (110   (119   (2             (286

Net operating income

  758      778      674      1      27      (94   2,144   

Total operating expenses

  (561   (311   (264        (124   94      (1,166

Operating profit/(loss)

  197      467      410      1      (97        978   

Share of profit in associates and joint ventures

  55      120      171      9      17           372   

Profit/(loss) before tax

  252      587      581      10      (80        1,350   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  1.2      2.8      2.8           (0.3   6.5   

Cost efficiency ratio

  69.0      35.0      33.3           459.3      48.0   

 

Balance sheet data40

    US$m     US$m     US$m     US$m     US$m           US$m  

Loans and advances to customers (net)27

  5,828      13,559      8,699                28,086   

Total assets

  6,562      15,651      36,582      50      6,840      (3,080   62,605   

Customer accounts27

  19,802      12,826      6,880      3      72      39,583   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

North America

Our principal North American businesses are located in the US and Canada. Operations in the US are primarily conducted through HSBC Bank USA, N.A., and HSBC Finance, a national consumer finance company. HSBC Markets (USA) Inc. is the intermediate holding company of, inter alia, HSBC Securities (USA) Inc. Canadian operations are conducted through HSBC Bank Canada.

 

   

2014

      US$m

   

2013

    US$m

   

2012

      US$m

 

Net interest income

  5,015      5,742      8,117   

Net fee income

  1,940      2,143      2,513   

Net trading income

  411      948      507   

Gains on disposals of US branch network and cards business

            4,012   

Other income/(expense)

  786      (30   (456

Net operating income4

  8,152      8,803      14,693   

LICs43

  (322   (1,197   (3,457

Net operating income

  7,830      7,606      11,236   

Total operating expenses

  (6,429   (6,416   (8,940

Operating profit

  1,401      1,190      2,296   

Income from associates44

  16      31      3   

Profit before tax

  1,417      1,221      2,299   

Cost efficiency ratio

  78.9%      72.9%      60.8%   

RoRWA36

  0.6%      0.5%      0.8%   

Year-end staff numbers

  20,412      20,871      22,443   

Best Export Finance Arranger in

North America

(Trade Finance Awards for Excellence – 2014)

11%

increase in

CMB customer lending balances

on a reported basis

73%

decrease in

loan impairment charges

on a reported basis

For footnotes, see page 109.

Economic background

In the US, real GDP rose by 2.4% in 2014, after 2.2% growth in 2013. Both consumer spending and business fixed investment increased at a moderate pace in 2014, climbing 2.5% and 5.2%, respectively. Growth in residential investment slowed markedly, however, to 1.8% in 2014, from 11.9% in 2013. Government expenditure fell by 0.2% in 2014, as a decline in federal government spending more than offset an increase in state and local government expenditure. The unemployment rate fell from 6.7% at the end of 2013 to 5.6% at the end of 2014. CPI inflation averaged 1.6% in 2014, after averaging 1.5% in 2013. The Federal Reserve continued to pursue a highly accommodative monetary policy in 2014, keeping the federal funds rate in a 0.00% to 0.25% range. It gradually reduced its monthly purchases of longer-term Treasury securities and agency mortgage-backed securities during the first ten months of the year, bringing its asset purchase programme to a conclusion at the end of October.

Canadian real GDP grew at a 2.4% annual rate through the first three quarters of 2014, an improvement on the 1.8% increase observed during the comparable period in 2013. Exports were supported by US economic growth and rising oil production. Business investment was largely unchanged in 2014. The annual rate of CPI inflation rose to a peak of 2.4% in late 2013 and early 2014. However, as the oil price fell late in the year, fuel prices declined and the annual rate of inflation dropped to 1.5% in December, below the Bank of Canada’s 2% inflation target. Monetary policy remained accommodative with the Bank of Canada keeping its policy rate at 1% throughout 2014, where it has been since September 2010.

Financial overview

Profit before tax (US$m)

 

LOGO

Our operations in North America reported a profit before tax of US$1.4bn in 2014 compared with US$1.2bn in 2013. The increase of US$196m primarily reflected lower LICs, mainly in the US CML portfolio. This was partly offset by lower revenue, primarily reflecting continued CML run-off and a reduction in GB&M in the US. Costs were broadly unchanged as portfolio run-off broadly offset a US$550m charge in relation to a settlement with the Federal Housing Finance Authority.

See page 42 for further details of significant items.

 

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax by country within global businesses

 

   

Retail Banking
and Wealth

Management

US$m

      Commercial
Banking
US$m
   

Global
  Banking and

Markets

US$m

   

Global

Private
        Banking
US$m

    Other
          US$m
    Total
          US$m
 

US

  513      400      (403   82      (60   532   

Canada

  96      514      242           (23   829   

Other

  23      (1   49      3      (18   56   

Year ended 31 December 2014

  632      913      (112   85      (101   1,417   

US

  (358   296      633      53      (350   274   

Canada

  131      506      280           (3   914   

Other

  20      (16   16      4      9      33   

Year ended 31 December 2013

  (207   786      929      57      (344   1,221   

US

  2,746      637      661      72      (2,901   1,215   

Canada

  207      577      314      (1   (16   1,081   

Other

  42      (15   (18   1      (7   3   

Year ended 31 December 2012

  2,995      1,199      957      72      (2,924   2,299   

 

Adjusted profit before tax was US$63m higher , reflecting a reduction in LICs and operating expenses, partially offset by a decrease in revenue.

Country business highlights

In the US, CMB added US$4.0bn in 2014 to its SME fund which supports businesses that trade or aspire to trade internationally, raising the programme’s total available funding to US$5.0bn. Of this, US$3.7bn was utilised at 31 December 2014. Corporate lending balances rose as we continued to be successful in our markets targeted for expansion, with balances in both the Midwest and the West Coast increasing by more than 25% year on year.

In RBWM, we continued to optimise the mortgage origination process to improve the customer experience and expanded our digital channel capabilities. The re-launch of our Global Premier programme along with other related campaigns led to approximately 22,000 new Premier customers being added in 2014, an increase of 25%.

Despite lower revenue in GB&M, we continued to execute our growth strategy utilising GB&M’s unique client franchise, its geographical network and product capabilities to connect our markets. In addition collaboration with CMB resulted in revenue from its clients rising by 19%.

In Canada, CMB continued to focus on the acquisition of new clients, to whom advances reached over US$1.3bn. We created a dedicated International Subsidiary Banking team to manage and support our international clients on a consistent basis. GB&M focused on increasing its multinational client base, and the Project and Export Finance business continued to reflect growth. Our focus in RBWM continued to be on developing the Premier customer base, building mortgage, credit card, and deposit balances and growing assets under management.

We continued to make progress in our strategy to accelerate the run-off and sale of our US CML portfolio. We completed the sale of several tranches of real estate secured accounts with an aggregate unpaid principal

balance of US$2.9bn during 2014 and recognised a cumulative gain on sale of US$168m. Gross lending balances in the CML portfolio, including loans held for sale, were US$25bn at 31 December 2014, a decline of US$5.8bn from 2013.

Review of adjusted performance45

Revenue (US$m)

 

LOGO

Revenue fell in the US in RBWM, partly reflecting continued CML run-off, and in GB&M. Revenue also reduced in Canada, mainly reflecting the continued run-off of the Consumer Finance business.

Country view of adjusted revenue

 

   

2014

            US$m

   

2013

            US$m

 

US

  6,083      7,071   

Canada

  1,921      1,975   

Other

  264      293   

Year ended 31 December

  8,268      9,339   

In the US, revenue decreased by US$988m, mainly in RBWM where lower average lending balances driven by the continued run-off and loan sales of the CML portfolio led to lower net interest income. In addition, loan yields fell, partly reflecting the sale of our higher yielding CML non-real estate personal loan portfolio, which resulted in a significant shift in product mix towards increased levels of lower yielding first lien real estate loans. Revenue also declined due to lower deposit volumes and narrower deposit spreads. The fall in revenue was partly offset by releases of mortgage loan repurchase obligations related to loans previously sold, which compared with provisions in 2013.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Revenue decreased in GB&M, driven by a reduction in Balance Sheet Management income due to lower reported gains on sales of available-for-sale debt securities as a result of our ongoing portfolio repositioning for risk management purposes, and the adverse performance of economic hedges used to manage interest rate risk. Credit revenue also reduced, primarily in our legacy credit portfolio partly reflecting net adverse fair value movements on the portfolio.

By contrast, revenue increased in CMB, mainly reflecting increased lending balances in markets targeted for expansion and higher income in GB&M from increased collaboration in acquisition financing activity.

In Canada, revenue decreased by US$54m, mainly in RBWM reflecting a fall in net interest income due to lower average lending balances from the continued run-off of the Consumer Finance business. Excluding this, RBWM revenues rose, driven by higher fees partly reflecting increased sales of wealth management products. In CMB, revenues also increased, largely because of the non-recurrence of a reduction in the fair value of an investment property held for sale and recognised in 2013. By contrast, GB&M revenue decreased, reflecting lower trading income from foreign exchange and a reduction in reported gains on sales of available-for-sale debt securities.

LICs fell, mainly in the CML portfolio reflecting reduced levels of delinquency, new impaired loans and lower lending balances from the continued run-off and loan sales. This was partly offset by less favourable market value adjustments to underlying property prices because improvements in housing market conditions were less pronounced in 2014 than in 2013. LICs also fell in Principal RBWM, mainly reflecting lower levels of delinquency, and in Canada in CMB from lower individually and collectively assessed impairment charges.

Operating expenses (US$m)

 

LOGO

Operating expenses decreased by US$285m, primarily in the US, reflecting lower divestiture costs as our former Cards business reached the end of the data separation process, and lower average staff numbers and costs resulting from the continued run-off and sales of tranches of our CML portfolio. In addition, we also achieved over US$185m of sustainable cost savings, primarily reflecting organisational effectiveness initiatives. Partly offsetting the lower operating expenses were higher legal costs and the growth in costs associated with Regulatory Programmes and Compliance, reflecting our continued investment in Global Standards.

 

 

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Report of the Directors: Financial Review (continued)

 

 

2013 compared with 2012

Economic background

In the US, real GDP rose by 1.9% in 2013, after 2.8% growth in 2012. Both consumer spending and business fixed investment grew at a moderate pace in 2013. Residential investment rose by 12.1% in 2013, following 12.9% growth in 2012. Sales of new and existing homes increased in 2013, and average national home prices rose over the course of the year. Export growth slowed to 2.8% in 2013 from 3.5% in 2012. Budgetary caps on federal spending contributed to a 5.1% decline in federal government expenditure in 2013, in real terms. State and local government expenditure also contracted, though by less than in 2012. The unemployment rate fell during the year reaching 6.7% in December although, in part, this reflected the long-term unemployed leaving the labour market rather than job creation. Both headline and core CPI inflation moderated in 2013 as subdued growth in hourly wages continued to constrain labour costs. A lack of consensus between the main political parties about how best to reduce the US fiscal deficit led to a government ‘shutdown’ on 1 October. An agreement was finally reached on 16 October which allowed the US debt ceiling to be raised and ended the shutdown. The Federal Reserve Board continued to pursue a highly accommodative monetary policy in 2013, keeping the Federal Funds rate in a zero to 0.25% range. It continued with monthly purchases of longer-term treasury securities and agency mortgage-backed securities but announced in December that it would begin to ‘taper’ asset purchases from January 2014.

The Canadian economy grew by 1.6% during the first three quarters of 2013, down from 1.9% in the comparable period in 2012. Led by auto sales, consumer spending rose by 1.8%, contributing 1.2 percentage points to the expansion in 2013. Exports grew by 1.0% in 2013, which was well below the 3% export growth in 2012. Housing starts fell by 14% in 2013 though the level of activity improved during the year after a very weak start. The annual rate of CPI inflation remained close to 1% throughout the year, well below the Bank of Canada’s 2% inflation target. The Bank of Canada’s policy rate has remained at 1% since September 2010.

Review of performance

2013 compared with 2012 commentaries are on a constant currency basis and have not been updated to reflect our change to adjusted performance. For comparison, adjusted profit before tax would have been US$2.1bn and US$0.5bn for 2013 and 2012 respectively as compared with constant currency profit before tax of US$1.2bn and US$2.3bn for 2013 and 2012 respectively and underlying profit before tax of US$1.6bn and US$(1.5)bn for 2013 and 2012 respectively. Constant currency, underlying currency and adjusted are reconciled on pages 105(b) to 105(au).

Our operations in North America reported a profit before tax of US$1.2bn in 2013, compared with US$2.3bn in 2012 on both a reported and constant currency basis.

Reported profits in both years included gains and losses on disposal of businesses not aligned to our long-term strategy, notably gains in the US of US$3.1bn and US$864m following the sales of the CRS business and 195 non-strategic retail branches, respectively, in 2012.

On an underlying basis, pre-tax profit was US$1.6bn in 2013 compared with a pre-tax loss of US$1.5bn in 2012. This was mainly due to a decline in loan impairment charges in 2013 in the US, primarily in the CML portfolio, and a reduction in operating expenses, as 2012 included a US$1.5bn expense as part of the settlement of investigations into inadequate compliance with AML laws in the past. These were partly offset by losses on certain portfolio disposals described further below.

Underlying profit before tax in Canada reduced due to the closure to new business in 2012 of the Canadian consumer finance company and lower revenues, reflecting spread compression due to the low interest rate environment and competitive market. These were partly offset by lower costs following cost control and sustainable savings from organisational effectiveness initiatives.

We continued to make progress in our strategy to accelerate the run-off and sales of our CML portfolio, and simplify operations. We completed the sale of the CML non-real estate personal loan portfolio with an unpaid principal balance of US$3.7bn on 1 April 2013 and recognised a loss on sale of US$271m. We completed the sales of several tranches of real estate secured accounts with an aggregate unpaid principal balance of US$5.7bn during 2013 and recognised a cumulative loss on sale of US$153m. Gross lending balances in the CML portfolio, including loans held for sale, at 31 December 2013 were US$30.4bn, a decline of US$12.3bn from 31 December 2012.

We identified real estate secured loan balances with unpaid principal of US$3.5bn that we plan to actively market in multiple transactions over the next 15 months. The carrying value of these loans was approximately US$230m greater than their estimated fair value at 31 December 2013.

In the US, we made progress on re-engineering our processes, such as account opening and customer information management, creating standardisation and alignment with our target business and operating models and a simpler relationship experience for our customers. The US has been at the forefront of foundational work to implement Global Standards. We also launched a US$1bn SME fund in CMB to support those businesses that trade or aspire to trade internationally.

In Canada, we continued to deliver internationally oriented organic business growth and streamlined processes and procedures. In CMB, we focused on positioning ourselves as the leading international trade and business bank, and deployed several new Global Trade products to assist international clients with working capital management. In GB&M, we launched Project and Export Financing and had a strong pipeline of business going into 2014. In RBWM, we continued to work on increasing the Premier customer base, resulting in 3% growth.

 

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Net interest income decreased by 29% to US$5.7bn, primarily due to the sale of the CRS business and retail branches, lower average lending balances from the continued run-off of the CML portfolio and other portfolio disposals during the year, lower reinvestment rates in Balance Sheet Management and the closure of the Canada consumer finance company to new business in 2012.

Net fee income decreased by 14% to US$2.1bn, primarily due to the sale of the CRS business and the retail branches in 2012 and the expiry of the majority of the Transition Servicing Agreements with the buyer of the CRS business. This was partly offset by favourable adjustments to mortgage servicing rights valuations as a result of interest rate increases in 2013.

Net trading income was US$948m, an increase of 89%, primarily due to favourable fair value movements on non-qualifying hedges in HSBC Finance of US$315m in 2013 due to a rise in interest rates (compared with adverse movements of US$227m in 2012) and lower provisions for mortgage loan repurchase obligations related to loans previously sold. The increase was partly offset by a loss of US$199m arising from the early termination of qualifying accounting hedges in 2013 as a result of expected changes in funding.

Net trading income increased in GB&M as a result of favourable fair value movements on structured liabilities, in addition to higher Credit trading revenue from revaluation gains on securities, monoline reserve releases in the legacy portfolio and reduced losses from credit default swaps. Net trading income also benefited from the performance of economic hedges used to manage interest rate risk, which was positively affected by favourable interest rate movements. This was partly offset by lower Foreign Exchange revenue as a result of reduced trading volumes, and lower Rates trading revenue due to a decline in trading activities.

Net expense from financial instruments designated at fair value was US$288m compared with US$1.2bn in 2012. The increase was due to lower adverse fair value movements on our own debt designated at fair value as credit spreads tightened to a lesser extent in 2013 than in 2012.

Gains less losses from financial investments increased by 18% as Balance Sheet Management recognised higher

gains on sales of available-for-sale debt securities as a result of the continued re-balancing of the portfolio for risk management purposes in the low interest rate environment.

Net earned insurance premiums decreased by US$159m due to the sale of our US insurance business. The reduction in net earned insurance premiums resulted in a corresponding decrease in Net insurance claims incurred and movement in liabilities to policyholders.

Other operating expense was US$108m in 2013 compared with income of US$408m in 2012. This was primarily due to the loss of US$424m on the sales of the CML non-real estate personal loan portfolio and several tranches of real estate secured loans. In addition, the decrease reflected the sale of our US insurance business and the non-recurrence of the gain on sale of the full service retail brokerage business in Canada in 2012.

LICs decreased by US$2.3bn to US$1.2bn, mainly in the US due in part to improvements in housing market conditions. In addition, the decrease reflected lower lending balances from continued run-off and loan sales, and reduced levels of new impaired loans and delinquency in the CML portfolio. US$322m of the decline in loan impairment charges was due to the sale of the CRS business in 2012. These factors were partly offset by an increase of US$130m relating to a rise in the estimated average period of time from a loss event occurring to writing off real estate loans to 12 months (previously a period of 10 months was used). In CMB, loan impairment charges increased by US$77m, reflecting higher collectively assessed charges in the US as a result of increased lending balances in key growth markets and higher individually assessed impairments on a small number of exposures mainly in Canada.

Operating expenses were US$2.5bn, 28% lower than in 2012, primarily due to the non-recurrence of a US$1.5bn settlement of investigations into inadequate compliance with AML laws in the past, lower average staff numbers and costs following business disposals in the US and Canada, and a reduction in litigation provisions and consultancy expenses in relation to US mortgage foreclosure servicing matters. Resources working on the independent foreclosure review were no longer required following the February 2013 Independent Foreclosure Review Settlement Agreement. We also achieved over US$330m of sustainable cost savings, primarily reflecting organisational effectiveness initiatives.

 

 

HSBC HOLDINGS PLC

98b


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax and balance sheet data – North America

 

    2014  
 
 
 
 
Retail Banking
and Wealth
Management
US$m
  
  
  
  
 

 

 

Commercial

Banking

US$m

  

  

  

 
 
 
 
Global
Banking and
Markets
US$m
  
  
  
  
 

 
 
 

Global

Private
Banking
US$m

  

  
  
  

 

 

Other

US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
US$m
  
  
Profit/(loss) before tax

Net interest income

  2,645      1,455      587      204      157      (33   5,015   

Net fee income/(expense)

  497      572      775      130      (34        1,940   

Trading income/(expense) excluding net interest income

  (165   34      302      13      3           187   

Net interest income/(expense) on trading activities

  7      1      183                33      224   

Net trading income/(expense)50

  (158   35      485      13      3      33      411   

Changes in fair value of long-term debt issued and related derivatives

                      (99        (99

Net income from other financial instruments designated at fair value

                                  

Net expense from financial instruments designated at fair value

                      (99        (99

Gains less losses from financial investments

       15      237           5           257   

Dividend income

  13      8      16      3      4           44   

Net insurance premium income

                                  

Other operating income

  268      61      101      1      1,872      (1,719   584   

Total operating income

  3,265      2,146      2,201      351      1,908      (1,719   8,152   

Net insurance claims56

                                  

Net operating income4

  3,265      2,146      2,201      351      1,908      (1,719   8,152   

Loan impairment (charges)/recoveries and other credit risk provisions

  (117   (148   (63   8      (2        (322

Net operating income

  3,148      1,998      2,138      359      1,906      (1,719   7,830   

Total operating expenses

  (2,516   (1,101   (2,250   (274   (2,007   1,719      (6,429

Operating profit/(loss)

  632      897      (112   85      (101        1,401   

Share of profit in associates and joint ventures

       16                          16   

Profit/(loss) before tax

  632      913      (112   85      (101        1,417   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  3.4      4.9      (0.6   0.5      (0.5   7.6   

Cost efficiency ratio

  77.1      51.3      102.2      78.1      105.2      78.9   
Balance sheet data40
    US$m     US$m     US$m             US$m             US$m                   US$m  

Loans and advances to customers (net)27

  60,365      41,966      21,110      6,346           129,787   

Total assets

  74,680      48,411      319,819      8,386      16,823      (31,260   436,859   

Customer accounts27

  51,258      45,275      30,301      12,050           138,884   

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

    2013  
 
 
 
 
Retail Banking
and Wealth
Management
US$m
  
  
  
  
 

 

 

Commercial

Banking

US$m

  

  

  

 
 
 
 
Global
Banking and
Markets
US$m
  
  
  
  
 

 
 
 

Global

Private
Banking
US$m

  

  
  
  

 

 

Other

US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
US$m
  
  
Profit/(loss) before tax

Net interest income

  3,483      1,430      582      195      89      (37   5,742   

Net fee income

  605      593      741      125      79           2,143   
             

Trading income excluding net interest income

  48      40      613      19      7           727   

Net interest income on trading activities

  11      1      172                37      221   

Net trading income50

  59      41      785      19      7      37      948   

Changes in fair value of long-term debt issued and related derivatives

                      (288        (288

Net income from other financial instruments designated at fair value

                                  

Net expense from financial instruments designated at fair value

                      (288        (288

Gains less losses from financial investments

  4           282           8           294   

Dividend income

  12      9      48      4      4           77   

Net insurance premium income

  34                               34   

Other operating income/(expense)

  (454        229      1      1,829      (1,713   (108

Total operating income

  3,743      2,073      2,667      344      1,728      (1,713   8,842   

Net insurance claims56

  (39                            (39

Net operating income4

  3,704      2,073      2,667      344      1,728      (1,713   8,803   

Loan impairment charges and other credit risk provisions

  (950   (223   (20   (4             (1,197

Net operating income

  2,754      1,850      2,647      340      1,728      (1,713   7,606   

Total operating expenses

  (2,960   (1,096   (1,718   (283   (2,072   1,713      (6,416

Operating profit/(loss)

  (206   754      929      57      (344        1,190   

Share of profit/(loss) in associates and joint ventures

  (1   32                          31   

Profit/(loss) before tax

  (207   786      929      57      (344        1,221   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  (0.9   3.5      4.1      0.3      (1.6   5.4   

Cost efficiency ratio

  79.9      52.9      64.4      82.3      119.9      72.9   
Balance sheet data40
    US$m     US$m     US$m             US$m             US$m                   US$m  

Loans and advances to customers (net)27

  66,192      37,735      18,070      5,956           127,953   

Total assets

  82,530      45,706      313,701      8,542      13,211      (31,655   432,035   

Customer accounts27

  53,600      49,225      24,113      13,871           140,809   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

100


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax and balance sheet data – North America (continued)

 

    2012  
 

 

 
 
 

Retail

Banking

and Wealth
Management
US$m

 

  

  
  
  

 

 

 

Commercial

Banking

US$m

  

68 

  

 
 
 
 
Global
Banking and
Markets
US$m
  
  
  
  
 

 
 
 

Global

Private
Banking
US$m

  

  
  
  

 

 

Other

US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
US$m
  
  
Profit/(loss) before tax

Net interest income

  5,481      1,443      948      192      118      (65   8,117   

Net fee income

  923      562      716      124      188           2,513   

Trading income/(expense) excluding net interest income

  (216   47      466      20      16           333   

Net interest income on trading activities

  17      1      91                65      174   

Net trading income/(expense)50

  (199   48      557      20      16      65      507   

Changes in fair value of long-term debt issued and related derivatives

                      (1,219        (1,219

Net income from other financial instruments designated at fair value

                                  

Net expense from financial instruments designated at fair value

                      (1,219        (1,219

Gains less losses from financial investments

  27           223      (7   8           251   

Dividend income

  15      11      32      3                61   

Net insurance premium income

  193                               193   

Gains on disposal of US branch network and cards business

  3,735      277                          4,012   

Other operating income

  173      149      191      5      1,787      (1,899   406   

Total operating income

  10,348      2,490      2,667      337      898      (1,899   14,841   

Net insurance claims56

  (148                            (148

Net operating income1

  10,200      2,490      2,667      337      898      (1,899   14,693   

Loan impairment (charges)/recoveries and other credit risk provisions

  (3,241   (148   (71   3                (3,457

Net operating income

  6,959      2,342      2,596      340      898      (1,899   11,236   

Total operating expenses

  (3,966   (1,144   (1,639   (268   (3,822   1,899      (8,940

Operating profit/(loss)

  2,993      1,198      957      72      (2,924        2,296   

Share of profit in associates and joint ventures

  2      1                          3   

Profit/(loss) before tax

  2,995      1,199      957      72      (2,924        2,299   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  14.5      5.8      4.6      0.3      (14.2   11.1   

Cost efficiency ratio

  38.9      45.9      61.5      79.5      425.6      60.8   
Balance sheet data40
    US$m     US$m     US$m             US$m             US$m                   US$m  

Loans and advances to customers (net)27

  76,414      36,387      16,217      5,457           134,475   

Total assets

  101,103      48,604      345,040      8,828      12,659      (25,987   490,247   

Customer accounts27

  57,758      48,080      22,258      13,553      51      141,700   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

100a


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Latin America

Our operations in Latin America principally comprise HSBC Bank Brasil S.A.-Banco Múltiplo, HSBC México, S.A. and HSBC Bank Argentina S.A. In addition to banking services, we operate insurance businesses in Brazil, Mexico and Argentina.

 

    2014     2013     2012  
            US$m             US$m             US$m  

Net interest income

  5,310      6,186      6,984   

Net fee income

  1,415      1,701      1,735   

Net trading income

  856      936      971   

Other income

  691      1,745      1,261   

Net operating income4

  8,272      10,568      10,951   

LICs43

  (2,124   (2,666   (2,137

Net operating income

  6,148      7,902      8,814   

Total operating expenses

  (5,932   (5,930   (6,430

Operating profit

  216      1,972      2,384   

Income from associates44

              

Profit before tax

  216      1,972      2,384   

Cost efficiency ratio

  71.7%      56.1%      58.7%   

RoRWA36

  0.2%      2.0%      2.4%   

Year-end staff numbers

  41,201      42,542      46,556   

Further progress made in repositioning

our businesses in Brazil and Mexico

Loan House and Bond House of the Year

(LatinFinance, 2014)

#1

in Domestic Cash Management

in Argentina and Mexico

(Euromoney Cash Management Survey, 2014)

For footnotes, see page 109.

Economic background

Data for the third quarter of 2014 suggested that Latin America may have seen a material slowdown in its average real annual GDP growth in 2014 to nearly 1.0% from 2.6% in 2013.

A slowdown in the Brazilian economy explains much of this weakness. The level of economic activity was broadly unchanged in 2014 following growth of 2.5% in 2013, but deteriorating business confidence and the resulting contraction in business investment spending were the main factors behind the economic slowdown. To mitigate inflationary pressures from a weakening currency, the central bank raised the key policy rate by 75bps in the fourth quarter to 11.75%.

Mexico’s economic growth accelerated in 2014 after low real GDP growth of only 1.1% in 2013. Consumer spending, the main area of weakness in 2013, accelerated during the year and the improvement in US demand served to boost exports. Inflationary pressures remained muted and the Mexican central bank cut its key policy rate to 3% from 3.5% at the start of the year.

The Argentinian economy contracted in 2014 due to falling commodity prices, a stagnant Brazilian economy and a technical default on the dollar-denominated external debt of the country. A significant devaluation of the Argentine peso at the beginning of 2014 fuelled higher inflation.

Financial overview

Profit before tax (US$m)

 

LOGO

Latin America reported a profit before tax of US$216m in 2014 compared with US$2.0bn in 2013. The reduction was due to lower revenue, primarily driven by the non-recurrence of the US$1.1bn gain on sale of our operations in Panama in 2013 partly offset by a decrease in LICs.

Adjusted profit before tax decreased by US$326m, and included a loss before tax in Brazil. The reduction in profit primarily reflected higher operating expenses, mainly due to inflationary and union-agreed salary increases in Brazil and Argentina, and lower revenue in Mexico and Brazil as we progressed with repositioning our business. These factors were partly offset by an increase in revenue in Argentina and a reduction in LICs, primarily in Mexico.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax by country within global businesses

 

   

Retail Banking
and Wealth
Management

US$m

        Commercial
Banking
US$m
   

Global
    Banking and
Markets

US$m

   

Global

Private
        Banking
US$m

    Other
            US$m
    Total
            US$m
 

Argentina

  52      135      219           (22   384   

Brazil

  (174   (153   115      (2   (33   (247

Mexico

  36      (52   89      (2   (20   51   

Other

  (4   7      27           (2   28   

Year ended 31 December 2014

  (90   (63   450      (4   (77   216   

Argentina

  97      142      170           (1   408   

Brazil

  (114   (43   514      5      (11   351   

Mexico

  154      (160   115      (3   11      117   

Other

  289      525      368      (1   (85   1,096   

Year ended 31 December 2013

  426      464      1,167      1      (86   1,972   

Argentina

  209      169      174           (46   506   

Brazil

  94      359      696      17      (43   1,123   

Mexico

  338      176      201      2      (18   699   

Other

  (33   47      82      1      (41   56   

Year ended 31 December 2012

  608      751      1,153      20      (148   2,384   

 

Country business highlights

In 2014, in our priority growth markets of Brazil, Mexico and Argentina, we continued to implement strategic initiatives to improve future returns whilst we faced economic and inflationary pressures.

In Brazil, we made progress in our efforts to transform the business in order to ensure its long-term sustainability. In RBWM, we are updating our business model by concentrating RMs on specific client segments in order to better serve customer needs. We also updated certain features of our lending products to improve our competitiveness such as increasing the duration of some of our personal loans, and further strengthened our retail credit capabilities to improve the quality of originations. We continued to rationalise our branch network, closing 21 branches in areas with lower growth potential as we concentrated our efforts on city clusters with faster-growing revenue pools, and launching 60 client service units with a focus on sales and automated transactions. In CMB, we increased MME market presence and in RBWM we grew lending by 4% following contraction in the past two years. In addition, we saw increased client activity in GB&M, mainly in our Rates business.

In Mexico, we remained focused on achieving sustainable growth although revenue was subdued. In RBWM we introduced RMs dedicated to our Advance segment to improve productivity and customer experience. We launched a balance transfer campaign, selectively increased credit limits for lower risk customers and saw mortgage balances grow by 5% reflecting competitive pricing. In CMB we improved processes in the Business Banking segment to allow RMs to better support their clients. In GB&M, lending balances rose by 48% as a result of new business initiatives following energy reforms in the second half of 2014. We made strong progress on repositioning our business, which has reduced customer numbers, and continued to focus on streamlining, managing our cost

base and strengthening our risk management and controls.

In Argentina, we continued to manage our business conservatively as the economic environment remained challenging. We focused our growth on GB&M and corporate CMB customers and continued to follow cautious lending policies in RBWM and Business Banking. We retained leading market positions in Trade and Foreign Exchange.

Review of adjusted performance45

Revenue (US$m)

 

LOGO

Revenue was higher in Argentina due to favourable results in GB&M and growth in RBWM and CMB. This was partly offset by reductions in Mexico across all global businesses and in Brazil, primarily in CMB and GB&M.

Country view of adjusted revenue

 

    2014     2013  
            US$m             US$m  

Argentina

  1,070      718   

Brazil

  4,821      4,932   

Mexico

  2,304      2,479   

Other

  58      (54

Year ended 31 December

  8,253      8,075   
 

 

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Report of the Directors: Financial Review (continued)

 

 

In Argentina, revenue increased by US$352m, primarily in GB&M, together with growth in RBWM and CMB. In GB&M, the increase reflected favourable trading results and higher revenue in Balance Sheet Management, as volumes and spreads related to short-term funds grew in a volatile market.

Revenue increased in RBWM, primarily due to growth in insurance revenue from higher investment income which reflected movements in the bond markets. In addition, revenue rose from increased net interest income, driven by wider spreads due to higher interest rates coupled with growth in average deposit balances. In CMB, revenue increased due to growth in net interest income reflecting wider spreads due to an increase in interest rates, higher average lending balances and growth in Payments and Cash Management deposit balances. Higher balances also led to increased fees from both Payments and Cash Management and Trade products.

In Mexico, revenue decreased by US$175m, mainly in RBWM and, to a lesser extent, in CMB and GB&M.

In RBWM, revenue fell primarily due to lower sales volumes in the insurance business. Revenue was also adversely affected as we continued to progress with repositioning the business. In addition, we experienced narrower liability spreads on current accounts, savings and deposits following a decrease in interest rates although the effect was partly offset by higher mortgage balances.

In CMB, net interest income decreased due to asset spread compression and a reduction in average lending balances. This was notably in Business Banking, where we continued to reposition the business, there were pre-payments by a small number of large corporates and a portion of loans to certain homebuilders were written off. Net interest income was also adversely affected by narrower deposit spreads following a decrease in interest rates. In addition, fee income decreased as a result of lower Account Services and Payments and Cash Management fees reflecting fewer customers, as we continued to reposition the business.

In GB&M, lower revenue was primarily due to market movements which affected counterparty credit spreads resulting in increased CVA charges, and lower gains on disposal of available-for-sale securities.

In Brazil, revenue decreased in CMB and GB&M, while RBWM remained broadly unchanged. In CMB, revenue was lower, despite growth in overall lending balances, as the portfolio mix changed to reflect an increase in lower-yielding MMEs.

In GB&M, revenue reduced in Balance Sheet Management, though this was partly offset by growth

in Rates revenue, driven by higher client activity. Revenue in RBWM was broadly unchanged. Insurance revenue increased due to favourable movements in the PVIF asset compared with adverse movements in 2013. This was offset by a decrease in fee income across a number of products, in part reflecting a change in mix by customers towards more secured, lower-yielding assets and strong market competition.

LICs fell, primarily in Mexico and, to a lesser extent, in Brazil.

In Mexico, LICs improved due to lower individually assessed charges in CMB, in particular relating to certain homebuilders following a change in the public housing policy in 2013, and in GB&M due to the non-recurrence of a large specific provision booked in 2013.

In Brazil, the fall was driven by changes to the impairment model and assumption revisions for restructured loan account portfolios which occurred in 2013 in both RBWM and CMB. In addition, collectively assessed impairments reduced in CMB, notably in Business Banking, reflecting improved delinquency rates. This was partly offset by an increase in GB&M driven by an individually assessed impairment and a provision made against a guarantee.

Operating expenses (US$m)

 

LOGO

Operating expenses increased by US$796m, primarily in Brazil and Argentina, largely due to union-agreed salary increases and inflationary pressures. In addition, we saw higher transactional taxes in Argentina in line with a growth in revenue and increased infrastructure costs across the region. We also incurred specific costs in Brazil in 2014 relating to an accelerated depreciation charge and an impairment of an intangible asset in RBWM. Despite these factors, our strict cost control continued and we progressed with our strategic focus on streamlining, which resulted in sustainable cost savings of over US$155m.

 

 

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Report of the Directors: Financial Review (continued)

 

 

2013 compared with 2012

Economic background

In Latin America, average GDP growth fell to 2.4% in 2013 from 2.9% in 2012. Brazil’s GDP growth accelerated from 1% in 2012 to above 2% by the end of 2013. However, this was the third year of below-trend growth. Brazil’s growing current account deficit raised concerns during the summer. The resulting capital flight and decline in the currency served to put further upward pressure on prices, pushing CPI inflation above the mid-point of the central bank’s target for the fourth consecutive year.

Mexico saw a material slowdown in economic activity in 2013, with GDP growth likely to have slowed to 1.3% from 3.9% in 2012. Inflationary pressures remained subdued and Banco de México cut its key policy rate to 3.5% from 4.5% at the start of the year. However, a significant number of structural reforms should aid the long-term performance of the Mexican economy.

The Argentinian economy accelerated in 2013 following a good agricultural harvest and a modest recovery in the Brazilian economy. Structural problems became increasingly evident with high inflation and, eventually, currency weakness.

Review of performance

2013 compared with 2012 commentaries are on a constant currency basis and have not been updated to reflect our change to adjusted performance. For comparison, adjusted profit before tax would have been US$0.8bn and US$2.1bn for 2013 and 2012 respectively as compared with constant currency profit before tax of US$2.0bn and US$2.2bn for 2013 and 2012 respectively and underlying profit before tax of US$0.7bn and US$1.9bn for 2013 and 2012 respectively. Constant currency, underlying currency and adjusted are reconciled on pages 105(b) to 105(au).

In Latin America, reported profit before tax of US$2.0bn was US$412m lower than in 2012, and US$239m lower on a constant currency basis.

On an underlying basis, which excludes the US$1.1bn gain on the sale of our operations in Panama and the effect of other non-strategic business disposals, pre-tax profits decreased by US$1.2bn. This was driven by a US$714m rise in loan impairment charges and a decline in revenue of US$348m, in part reflecting adverse movements in the PVIF asset compared with 2012.

We made significant progress on repositioning our business in the region, with a particular focus on our priority growth markets of Brazil, Mexico and Argentina. We also completed the disposal of operations in Panama, Peru and Paraguay, along with the sale of a portfolio of our non-life insurance assets and liabilities and a non-strategic business in Mexico. We expect to complete the sale of our operations in Colombia and Uruguay in 2014, subject to regulatory approvals. While our performance was affected by slower economic growth and inflationary pressures, we continued to implement the Group’s strategy in our core priority markets in order to reposition

our portfolios. We made significant progress in exiting certain businesses and products, strengthening transaction monitoring and account opening, and investing in improved compliance across the region.

In Brazil, we focused on growing secured lending balances for corporates and Premier customers in order to increase connectivity and reduce our risk exposure. We tightened origination criteria in unsecured lending in RBWM, resulting in slower loan growth, and in Business Banking, where volumes declined. We were awarded ‘Best Debt House in Brazil’ by Euromoney, and received the ‘Best Infrastructure Financing in Brazil’ award from LatinFinance in GB&M.

In Mexico, we increased our market share in personal lending, and launched a successful residential mortgage campaign in RBWM. In CMB, we launched a new US$1bn SME fund to support businesses that trade or aspire to trade internationally, and approved lending of US$274m. We grew revenue from collaboration between CMB and GB&M by 11%, were awarded the ‘Best Domestic Cash Manager’ award by Euromoney and won two awards for Infrastructure Financing from LatinFinance.

In Argentina, we continued to manage our business conservatively as the economic environment remained challenging. We focused on GB&M and corporate CMB customers, and tightened credit origination criteria and strengthened our collections capabilities in Business Banking and RBWM.

Net interest income decreased by US$358m, driven by the effect of the disposal of non-strategic businesses and a decline in Brazil, partly offset by growth in Argentina.

Net interest income decreased in Brazil due to a shift to lower yielding assets in CMB with reduced lending balances in Business Banking as we focused on growing secured balances for corporates. The reduction in net interest income in RBWM reflected lower average lending balances as a result of more restrictive origination criteria, which included reducing credit limits where appropriate, the rundown of non-strategic portfolios and a change in the product mix towards more secured assets. In addition, spreads were narrower in CMB reflecting competition, notably in working capital products. Net interest income also decreased in Balance Sheet Management due to lower reinvestment rates.

In Argentina, higher net interest income was driven by increased average credit card and personal lending balances, coupled with higher deposits in RBWM and CMB, both reflecting successful sales and marketing campaigns launched during 2013.

In Mexico, net interest income remained broadly unchanged. It decreased in CMB reflecting large prepayments relating to a small number of corporates, and in GB&M as maturing investments were renewed at lower reinvestment rates. These falls were offset by an increase in RBWM as the launch of successful sales campaigns resulted in higher average lending balances, notably in payroll and personal lending.

 

 

HSBC HOLDINGS PLC

103a


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Net fee income increased by 4%, mainly in Argentina. This was driven by business growth, notably in Payments and Cash Management, and the sale of the non-life insurance business which resulted in the non-recurrence of sales commissions previously paid to third party distribution channels. In Brazil and Mexico, fees rose, mainly in RBWM, where higher volumes and re-pricing initiatives drove fee increases in current accounts and credit cards.

Net trading income increased by US$39m, primarily reflecting favourable results in GB&M in Argentina and Brazil. This was partly offset by lower average trading assets as maturing investments in Brazil were not renewed.

Net income from financial instruments designated at fair value decreased by US$274m, notably in Brazil, as a result of lower investment gains due to market movements. To the extent that these investment gains were attributed to policyholders there was a corresponding movement in Net insurance claims incurred and movement in liabilities to policyholders.

Gains less losses from financial investments fell by 62% due to lower gains on disposal of available-for-sale government debt securities in Balance Sheet Management and the non-recurrence of the gain on sale of shares in a non-strategic investment in 2012.

Net earned insurance premiums decreased by 19%, driven by lower sales of unit-linked pension products in Brazil. Premiums also fell in Argentina as a result of the sale of the non-life insurance business in 2012. The reduction in net earned insurance premiums resulted in a corresponding decrease in Net insurance claims incurred and movement in liabilities to policyholders.

Other operating income increased by US$910m, driven by the US$1.1bn gain on the sale of our operations in Panama. This was partly offset by a significant reduction in the PVIF asset due to an increase in lapse rates and interest rate movements in Brazil and Mexico, and the non-recurrence of the favourable effect of the recognition of a PVIF asset in Brazil in 2012.

LICs increased by US$693m, primarily in Mexico due to specific impairments in CMB relating to homebuilders from a change in the public housing policy, and higher collective impairments in RBWM as a result of increased volumes and higher delinquency in our unsecured lending portfolio. In Brazil, LICs increased due to changes to the impairment model and assumption revisions for restructured loan account portfolios in RBWM and CMB, following a realignment of local practices to Group standard policy. LICs were also adversely affected by higher specific impairments in CMB across a number of corporate exposures. These factors were partly offset by improvements in credit quality in Brazil following the modification of credit strategies in previous years to mitigate rising delinquency rates.

Operating expenses decreased by US$112m as a result of business disposals, continued strict cost control and progress with our organisational effectiveness programmes which resulted in sustainable cost savings of over US$200m. The decrease was largely offset by the effect of inflationary pressures, union-agreed salary increases in Brazil and Argentina, and higher compliance and risk costs from the implementation of Global Standards and portfolio repositioning, notably in Mexico.

 

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax and balance sheet data – Latin America

 

    2014  
 
 
 
 
Retail Banking
and Wealth
Management
US$m
  
  
  
  
 

 
 

Commercial

Banking
US$m

  

  
  

 
 
 
 
Global
Banking and
Markets
US$m
  
  
  
  
 

 
 
 

Global

Private
Banking
US$m

  

  
  
  

 

 

Other

US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
US$m
  
  
Profit/(loss) before tax

Net interest income

  3,323      1,529      490      19      9      (60   5,310   

Net fee income

  771      469      147      28                1,415   

Trading income/(expense) excluding net interest income

  123      103      391      3      (1        619   

Net interest income/(expense) on trading activities

  1      4      174           (2   60      237   

Net trading income/(expense)50

  124      107      565      3      (3   60      856   

Changes in fair value of long-term debt issued and related derivatives

                                  

Net income from other financial instruments designated at fair value

  516      175                          691   

Net income from financial instruments designated at fair value

  516      175                          691   

Gains less losses from financial investments

            84                     84   

Dividend income

  6      2      1                     9   

Net insurance premium income

  1,233      285      5                     1,523   

Other operating income

  54      47      19           213      (184   149   

Total operating income

  6,027      2,614      1,311      50      219      (184   10,037   

Net insurance claims56

  (1,410   (352   (3                  (1,765

Net operating income4

  4,617      2,262      1,308      50      219      (184   8,272   

Loan impairment (charges)/ recoveries and other credit risk provisions

  (1,091   (776   (252   (5             (2,124

Net operating income

  3,526      1,486      1,056      45      219      (184   6,148   

Total operating expenses

  (3,616   (1,549   (606   (49   (296   184      (5,932

Operating profit/(loss)

  (90   (63   450      (4   (77        216   

Share of profit in associates and joint ventures

                                  

Profit/(loss) before tax

  (90   (63   450      (4   (77        216   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  (0.5   (0.3   2.4           (0.5   1.1   

Cost efficiency ratio

  78.3      68.5      46.3      98.0      135.2      71.7   
Balance sheet data40
    US$m     US$m             US$m             US$m             US$m                   US$m  

Loans and advances to customers (net)27

  12,306      20,078      10,642      96           43,122   

Total assets

  29,074      29,851      55,827      298      1,155      (851   115,354   

Customer accounts27

  23,056      15,125      8,219      2,188           48,588   

 

HSBC HOLDINGS PLC

104


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

    2013  
 
 
 
 
Retail Banking
and Wealth
Management
US$m
  
  
  
  
 

 
 

Commercial

Banking
US$m

  

  
  

 
 
 
 
Global
Banking and
Markets
US$m
  
  
  
  
 

 
 
 

Global

Private
Banking
US$m

  

  
  
  

 

 

Other

US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
US$m
  
  
Profit/(loss) before tax

Net interest income/(expense)

  3,776      1,828      775      24      (12   (205   6,186   

Net fee income

  952      548      168      32      1           1,701   

Trading income/(expense) excluding net interest income

  138      117      456      4      (4        711   

Net interest income on trading activities

            20                205      225   

Net trading income/(expense)50

  138      117      476      4      (4   205      936   

Changes in fair value of long-term debt issued and related derivatives

                                  

Net income from other financial instruments designated at fair value

  264      61      1                     326   

Net income from financial instruments designated at fair value

  264      61      1                     326   

Gains less losses from financial investments

       1      81                     82   

Dividend income

  5      3      1                     9   

Net insurance premium income

  1,464      360      6                     1,830   

Other operating income

  312      485      310      1      196      (189   1,115   

Total operating income

  6,911      3,403      1,818      61      181      (189   12,185   

Net insurance claims56

  (1,323   (291   (3                  (1,617

Net operating income4

  5,588      3,112      1,815      61      181      (189   10,568   

Loan impairment charges and other credit risk provisions

  (1,552   (1,062   (52                  (2,666

Net operating income

  4,036      2,050      1,763      61      181      (189   7,902   

Total operating expenses

  (3,610   (1,586   (596   (60   (267   189      (5,930

Operating profit/(loss)

  426      464      1,167      1      (86        1,972   

Share of profit in associates and joint ventures

                                  

Profit/(loss) before tax

  426      464      1,167      1      (86        1,972   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  1.9      2.0      5.2           (0.4   8.7   

Cost efficiency ratio

  64.6      51.0      32.8      98.4      147.5      56.1   
Balance sheet data40
    US$m     US$m             US$m             US$m             US$m                   US$m  

Loans and advances to customers (net)27

  13,616      19,923      10,304      75           43,918   

Total assets

  30,584      30,001      52,977      337      634      (534   113,999   

Customer accounts27

  23,943      16,593      8,994      1,859           51,389   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Profit/(loss) before tax and balance sheet data – Latin America (continued)

 

    2012  
 

 

 
 
 

Retail

Banking

and Wealth
Management
US$m

 

  

  
  
  

 

 
 

Commercial

Banking
US$m

  

  
  

 
 
 
 
Global
Banking and
Markets
US$m
  
  
  
  
 

 
 
 

Global

Private
Banking
US$m

  

  
  
  

 

 

Other

US$m

  

  

 
 

 

 

Inter-
segment

elimination

US$m

  
  

55 

  

 
 
Total
US$m
  
  
Profit/(loss) before tax

Net interest income/(expense)

  4,145      2,173      993      30      (2   (355   6,984   

Net fee income

  873      622      207      33                1,735   

Trading income excluding net interest income

  85      99      398      3      1           586   

Net interest income on trading activities

            29           1      355      385   

Net trading income50

  85      99      427      3      2      355      971   

Changes in fair value of long-term debt issued and related derivatives

                                  

Net income from other financial instruments designated at fair value

  503      163      1                     667   

Net income from financial instruments designated at fair value

  503      163      1                     667   

Gains less losses from financial investments

  75      21      131                     227   

Dividend income

  9      5      1                     15   

Net insurance premium income

  1,985      450      17                     2,452   

Other operating income/(expense)

  309      (9   6      3      134      (190   253   

Total operating income

  7,984      3,524      1,783      69      134      (190   13,304   

Net insurance claims56

  (1,875   (469   (9                  (2,353

Net operating income1

  6,109      3,055      1,774      69      134      (190   10,951   

Loan impairment charges and other credit risk provisions

  (1,541   (581   (13   (2             (2,137

Net operating income

  4,568      2,474      1,761      67      134      (190   8,814   

Total operating expenses

  (3,960   (1,723   (608   (47   (282   190      (6,430

Operating profit/(loss)

  608      751      1,153      20      (148        2,384   

Share of profit in associates and joint ventures

                                  

Profit/(loss) before tax

  608      751      1,153      20      (148        2,384   
    %     %     %     %     %           %  

Share of HSBC’s profit before tax

  2.9      3.6      5.6      0.1      (0.7   11.6   

Cost efficiency ratio

  64.8      56.4      34.3      68.1      210.4      58.7   
Balance sheet data40
    US$m     US$m     US$m             US$m             US$m                   US$m  

Loans and advances to customers (net)27

  17,236      25,379      10,899      91           53,605   

Total assets

  36,141      35,507      58,272      570      1,110      (323   131,277   

Customer accounts27

  28,688      20,834      11,192      4,430           65,144   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105a


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported and adjusted items for 2014

Global businesses

 

Retail Banking and Wealth Management

Reconciliation of reported and adjusted items

 

 

 

2014

        US$m

  

  

 

 

2013

US$m

  

  

 
 
            Change
%
72 
  

Revenue73

Reported

  24,594      26,740      (8

Currency translation adjustment74

  (393

Acquisitions, disposals and dilutions

  (16   (572

Other significant items

  893      477   

Adjusted

               25,471                   26,252      (3

LICs

Reported

  (1,819   (3,227   44   

Currency translation adjustment74

  152   

Acquisitions, disposals and dilutions

  2      65   

Other significant items

         

Adjusted

  (1,817   (3,010   40   

Operating expenses

Reported

  (17,522   (17,248   (2

Currency translation adjustment74

  262   

Acquisitions, disposals and dilutions

  21      275   

Other significant items

  1,097      1,031   

Adjusted

  (16,404   (15,680   (5

Adjusted cost efficiency ratio

  64.4%      59.7%   

Share of profit in associates and joint ventures

Reported

  398      384      4   

Currency translation adjustment74

    

Acquisitions, disposals and dilutions

       13   

Other significant items

         

Adjusted

  398      397        

Profit before tax

Reported

  5,651      6,649      (15

Currency translation adjustment74

  21   

Acquisitions, disposals and dilutions

  7      (219

Other significant items

  1,990      1,508   

Adjusted

  7,648      7,959      (4

 

Reconciliation of reported and adjusted average risk-weighted assets

 

   

2014

US$bn

   

2013

US$bn

       

Average RWAs

Average reported RWAs

  220      252      (13

Currency translation adjustment77

       (2

Acquisitions, disposals and dilutions

  (1   (4

Other significant items

       (4

Average adjusted RWAs

  219      242      (10

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105b


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Principal RBWM business

The Principal RBWM business measure excludes the effects of the US run-off portfolio. We believe that looking at the Principal RBWM business without the run-off business allows management to more clearly discuss the cause of material changes from year to year in the

ongoing business and assess the factors and trends in the business which are expected to have a material effect in future years. Tables which reconcile reported RBWM financial measures to Principal RBWM financial measures are provided below.

 

Reconciliation of reported and adjusted items

US run-off

 

 

 

2014

US$m

  

  

 

 

2013

US$m

  

  

 
 
            Change
%
72 
  

Revenue73

Reported

  1,337      1,672      (20

Currency translation adjustment74

    

Acquisitions, disposals and dilutions

       105   

Other significant items

  149      278   

Adjusted

               1,486                   2,055      (28

LICs

Reported

  (30   (705   96   

Currency translation adjustment74

    

Acquisitions, disposals and dilutions

         

Other significant items

         

Adjusted

  (30   (705              96   

Operating expenses

Reported

  (738   (1,166   37   

Currency translation adjustment74

    

Acquisitions, disposals and dilutions

       14   

Other significant items

  19      113   

Adjusted

  (719   (1,039   31   

Adjusted cost efficiency ratio

  48.4%      50.6%   

Profit/(loss) before tax

Reported

  569      (200

Currency translation adjustment74

    

Acquisitions, disposals and dilutions

       120   

Other significant items

  168      391   

Adjusted

  737      311      137   

 

Reconciliation of reported and adjusted average risk-weighted assets

 

US run-off

   

2014

US$bn

   

2013

US$bn

       

Average RWAs

Average reported RWAs

  67      92      (27

Currency translation adjustment77

         

Acquisitions, disposals and dilutions

         

Other significant items

       (4

Average adjusted RWAs

  67      88      (24

 

Card and Retail Services

 

   

2014

US$bn

   

2013

US$bn

       

Average RWAs

Average reported RWAs

       4      (100

Currency translation adjustment77

         

Acquisitions, disposals and dilutions

         

Other significant items

         

Average adjusted RWAs

       4      (100

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105c

 


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Principal RBWM78

 

 

 

2014

        US$m

  

  

 

 

2013

        US$m

  

  

 
 
            Change
%
72 
  

Revenue73

Reported

  23,257      25,068      (7

Currency translation adjustment74

  (393

Acquisitions, disposals and dilutions

  (16   (677

Significant items

Other significant items

  744      199   

Adjusted

               23,985                   24,197      (1

LICs

Reported

  (1,789   (2,522   29   

Currency translation adjustment74

  152   

Acquisitions, disposals and dilutions

  2      65   

Other significant items

         

Adjusted

  (1,787   (2,305            22   

Operating expenses

Reported

  (16,784   (16,082   (4

Currency translation adjustment74

  262   

Acquisitions, disposals and dilutions

  21      261   

Other significant items

  1,078      918   

Adjusted

  (15,685   (14,641   (7

Adjusted cost efficiency ratio

  65.4%      60.5%   

Profit before tax

Reported

  5,082      6,849      (26

Currency translation adjustment74

  21   

Acquisitions, disposals and dilutions

  7      (339

Other significant items

  1,822      1,117   

Adjusted

  6,911      7,648      (10
Reconciliation of reported and adjusted average risk-weighted assets

Principal RBWM

 

   

2014

US$bn

   

2013

US$bn

       

Average RWAs

Average reported RWAs

  152      156      (3

Currency translation adjustment77

       (2

Acquisitions, disposals and dilutions

       (4

Other significant items

         

Average adjusted RWAs

  152      150      1   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105d


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Commercial Banking

Reconciliation of reported and adjusted items

 

 

 

2014

US$m

  

  

 

 

2013

US$m

  

  

 
 
            Change
%
72 
  

Revenue73

Reported

  16,303      16,365        

Currency translation adjustment74

  (243

Acquisitions, disposals and dilutions

  (14   (643

Other significant items

  23        

Adjusted

               16,312                   15,479      5   

LICs

Reported

  (1,675   (2,384   30   

Currency translation adjustment74

  42   

Acquisitions, disposals and dilutions

  (2   2   

Other significant items

         

Adjusted

  (1,677   (2,340   28   

Operating expenses

Reported

  (7,489   (7,049   (6

Currency translation adjustment74

  164   

Acquisitions, disposals and dilutions

  14      101   

Other significant items

  175      19   

Adjusted

  (7,300   (6,765   (8

Adjusted cost efficiency ratio

  44.8%      43.7%   

Share of profit in associates and joint ventures

Reported

  1,605      1,509      6   

Currency translation adjustment74

  8   

Acquisitions, disposals and dilutions

       19   

Other significant items

         

Adjusted

  1,605      1,536      4   

Profit before tax

Reported

  8,744      8,441      4   

Currency translation adjustment74

  (29

Acquisitions, disposals and dilutions

  (2   (521

Other significant items

  198      19   

Adjusted

           8,940               7,910               13   

 

Reconciliation of reported and adjusted average risk-weighted assets

 

   

2014

US$bn

   

2013

US$bn

       

Average RWAs

Average reported RWAs

  419      389      8   

Currency translation adjustment77

       (3

Acquisitions, disposals and dilutions

  (1   (11

Other significant items

         

Average adjusted RWAs

  418      375      12   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105e


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Global Banking and Markets

Reconciliation of reported and adjusted items

 

 

 

2014

US$m

  

  

 

 

2013

US$m

  

  

 
 
            Change
%
72 
  

Revenue73

Reported

  17,778      19,176      (7

Currency translation adjustment74

  (62

Acquisitions, disposals and dilutions

  (12   (494

Other significant items

  340      (88

Adjusted

               18,106                   18,532      (2

LICs

Reported

  (365   (207   (76

Currency translation adjustment74

  (23

Acquisitions, disposals and dilutions

         

Other significant items

         

Adjusted

  (365   (230   (59

Operating expenses

Reported

  (12,028   (9,960   (21

Currency translation adjustment74

  (44

Acquisitions, disposals and dilutions

  5      78   

Other significant items

  1,892      364   

Adjusted

  (10,131   (9,562   (6

Adjusted cost efficiency ratio

  56.0%      51.6%   

Share of profit in associates and joint ventures

Reported

  504      432      17   

Currency translation adjustment74

  2   

Acquisitions, disposals and dilutions

       34   

Other significant items

         

Adjusted

  504      468      8   

Profit before tax

Reported

  5,889      9,441      (38

Currency translation adjustment74

  (127

Acquisitions, disposals and dilutions

  (7   (382

Other significant items

  2,232      276   

Adjusted

  8,114      9,208      (12

 

Reconciliation of reported and adjusted average risk-weighted assets

 

   

2014

US$bn

   

2013

US$bn

       

Average RWAs

Average reported RWAs

  511      417               23   

Currency translation adjustment77

       (3

Acquisitions, disposals and dilutions

  (1   (5

Other significant items

         

Average adjusted RWAs

  510      409      25   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105f


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Legacy Credit

Reconciliation of reported and adjusted items

 

 

 

2014

US$m

  

  

 

 

2013

US$m

  

  

 
 
            Change
%
72 
  

Revenue73

Reported

  (2   149   

Currency translation adjustment74

  (3

Acquisitions, disposals and dilutions

         

Other significant items

                       

Adjusted

  (2   146   

LICs

Reported

  349      206      69   

Currency translation adjustment74

  7   

Acquisitions, disposals and dilutions

         

Other significant items

         

Adjusted

                       349                           213               64   

Operating expenses

Reported

  (708   (170

Currency translation adjustment74

  (3

Acquisitions, disposals and dilutions

         

Other significant items

  533        

Adjusted

  (175   (173   (1

Profit/(loss) before tax

Reported

  (361   185   

Currency translation adjustment74

  1   

Acquisitions, disposals and dilutions

         

Other significant items

  533        

Adjusted

  172      186      (8

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105g


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Global Banking and Markets excluding Legacy Credit

Reconciliation of reported and adjusted items

 

 

 

2014

US$m

  

  

 

 

2013

US$m

  

  

 
 
            Change
%
72 
  

Revenue73

Reported

  17,780      19,027      (7

Currency translation adjustment74

  (59

Acquisitions, disposals and dilutions

  (12   (494

Other significant items

  340      (88

Adjusted

               18,108                   18,386      (2

LICs

Reported

  (714   (413   (73

Currency translation adjustment74

  (30

Acquisitions, disposals and dilutions

         

Other significant items

                       

Adjusted

  (714   (443   (61

Operating expenses

Reported

  (11,320   (9,790   (16

Currency translation adjustment74

  (41

Acquisitions, disposals and dilutions

  5      78   

Other significant items

  1,359      364   

Adjusted

  (9,956   (9,389   (6

Adjusted cost efficiency ratio

  55.0%      51.1%   

Profit before tax

Reported

  6,250      9,256      (32

Currency translation adjustment74

  (128

Acquisitions, disposals and dilutions

  (7   (382

Other significant items

  1,699      276   

Adjusted

  7,942      9,022      (12

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105h


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Global Private Banking

Reconciliation of reported and adjusted items

 

 

 

2014

US$m

  

  

 

 

2013

US$m

  

  

 
 
            Change
%
72 
  

Revenue73

Reported

  2,377      2,439      (3

Currency translation adjustment74

  12   

Acquisitions, disposals and dilutions

       (5

Other significant items

  41      279   

Adjusted

                      2,418                          2,725      (11

LICs

Reported

  8      (31

Currency translation adjustment74

  (2

Acquisitions, disposals and dilutions

         

Other significant items

         

Adjusted

  8      (33

Operating expenses

Reported

  (1,778   (2,229   20   

Currency translation adjustment74

  (6

Acquisitions, disposals and dilutions

       4   

Other significant items

  71      425   

Adjusted

  (1,707   (1,806   5   

Adjusted cost efficiency ratio

  70.6%      66.3%   

Share of profit in associates and joint ventures

Reported

  19      14      36   

Currency translation adjustment74

    

Acquisitions, disposals and dilutions

         

Other significant items

         

Adjusted

  19      14      36   

Profit before tax

Reported

  626      193              224   

Currency translation adjustment74

  4   

Acquisitions, disposals and dilutions

       (1

Other significant items

  112      704   

Adjusted

  738      900      (18

 

Reconciliation of reported and adjusted average risk-weighted assets

 

     

2014

        US$bn

      2013
        US$bn
       

Average RWAs

Average reported RWAs

  22      22        

Currency translation adjustment33

         

Acquisitions, disposals and dilutions

         

Other significant items

         

Average adjusted RWAs

  22      22        

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Other

Reconciliation of reported and adjusted items

 

 
 
2014
        US$m
  
  
 
 
2013
        US$m
  
  
 
 
            Change
%
72 
  

Revenue73

Reported

  6,365      5,651      13   

Currency translation adjustment74

  (60

Own credit spread75

         (417                1,246   

Acquisitions, disposals and dilutions

  33      (1,043

Other significant items

  (117   (1,262

Adjusted

                      5,864             4,532      29   

Operating expenses

Reported

  (8,601   (7,796   (10

Currency translation adjustment74

  32   

Acquisitions, disposals and dilutions

       30   

Other significant items

  120      199   

Adjusted

  (8,481   (7,535   (13

Adjusted cost efficiency ratio

  144.6%      166.3%   

Loss before tax

Reported

  (2,230   (2,159   (3

Currency translation adjustment74

  (28

Own credit spread75

  (417   1,246   

Acquisitions, disposals and dilutions

  33      (992

Other significant items

  3      (1,063

Adjusted

  (2,611   (2,996   13   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Geographical regions

 

Europe

Reconciliation of reported and adjusted items

 

 
 
2014
        US$m
  
  
 
 
2013
        US$m
  
  
 

 

            Change

%

72 

  

Revenue73

Reported

  21,571      20,967      3   

Currency translation adjustment74

  651   

Own credit spread75

  (393   1,015   

Acquisitions, disposals and dilutions

       (51

Other significant items

         1,101      (379

Adjusted

               22,279                          22,203        

LICs

Reported

  (764   (1,530   50   

Currency translation adjustment74

  (54

Acquisitions, disposals and dilutions

         

Other significant items

         

Adjusted

  (764   (1,584   52   

Operating expenses

Reported

  (20,217   (17,613   (15

Currency translation adjustment74

  (376

Acquisitions, disposals and dilutions

       28   

Other significant items

  2,601      1,637   

Adjusted

  (17,616   (16,324   (8

Adjusted cost efficiency ratio

  79.1%      73.5%   

Profit before tax

Reported

  596      1,825      (67

Currency translation adjustment74

  221   

Own credit spread75

  (393   1,015   

Acquisitions, disposals and dilutions

       (18

Other significant items

  3,702      1,258   

Adjusted

  3,905      4,301      (9

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105k


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Asia76

Reconciliation of reported and adjusted items

 

 

 

2014

        US$m

  

  

 

 

2013

        US$m

  

  

 

 

            Change

%

72 

  

Revenue73

Reported

  23,677      24,432      (3

Currency translation adjustment74

  (280

Own credit spread75

  4      2   

Acquisitions, disposal and dilutions

  32      (1,139

Other significant items

  (84   (561

Adjusted

                      23,629                   22,454      5   

LICs

      

Reported

  (647   (498   (30

Currency translation adjustment74

  18   

Acquisitions, disposal and dilutions

         

Other significant items

         

Adjusted

  (647   (480   (35

Operating expenses

Reported

  (10,427   (9,936   (5

Currency translation adjustment74

  127   

Acquisitions, disposal and dilutions

       72   

Other significant items

  58      121   

Adjusted

  (10,369   (9,616   (8

Adjusted cost efficiency ratio

  43.9%      42.8%   

Share of profit in associates and joint ventures

Reported

  2,022      1,855      9   

Currency translation adjustment74

  14   

Acquisitions, disposal and dilutions

       82   

Other significant items

         

Adjusted

  2,022      1,951      4   

Profit before tax

Reported

  14,625      15,853      (8

Currency translation adjustment74

  (121

Own credit spread75

  4      2   

Acquisitions, disposal and dilutions

  32      (985

Other significant items

  (26   (440

Adjusted

  14,635      14,309      2   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Middle East and North Africa

Reconciliation of reported and adjusted items

 

  2014      2013                  Change 72 
              US$m               US$m     %  

Revenue73

Reported

  2,548      2,503      2   

Currency translation adjustment74

  (13

Own credit spread75

  6      4   

Acquisitions, disposals and dilutions

  (14   (90

Other significant items

         5             (2

Adjusted

               2,545                   2,402      6   

LICs

Reported

  6      42      (86

Currency translation adjustment74

    

Acquisitions, disposals and dilutions

  (2   6   

Other significant items

         

Adjusted

  4      48      (92

Operating expenses

Reported

  (1,216   (1,289   6   

Currency translation adjustment74

  6   

Acquisitions, disposals and dilutions

  31      65   

Other significant items

  2      4   

Adjusted

  (1,183   (1,214   3   

Adjusted cost efficiency ratio

  46.5%      50.5%   

Share of profit in associates and joint ventures

Reported

  488      438      11   

Currency translation adjustment74

  (1

Acquisitions, disposal and dilutions

         

Other significant items

         

Adjusted

  488      437      12   

Profit before tax

Reported

  1,826      1,694      8   

Currency translation adjustment74

  (8

Own credit spread75

  6      4   

Acquisitions, disposals and dilutions

  15      (19

Other significant items

  7      2   

Adjusted

  1,854      1,673      11   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105m


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

North America

Reconciliation of reported and adjusted items

 

  2014      2013                  Change 72 
              US$m               US$m     %  

Revenue73

Reported

  8,152      8,803      (7

Currency translation adjustment74

  (139

Own credit spread75

  (34   225   

Acquisitions, disposals and dilutions

       89   

Other significant items

         150             361   

Adjusted

               8,268                   9,339      (11

LICs

Reported

  (322   (1,197   73   

Currency translation adjustment74

  13   

Acquisitions, disposals and dilutions

         

Other significant items

         

Adjusted

  (322   (1,184   73   

Operating expenses

Reported

  (6,429   (6,416     

Currency translation adjustment74

  65   

Acquisitions, disposals and dilutions

       14   

Other significant items

  578      201   

Adjusted

  (5,851   (6,136   5   

Adjusted cost efficiency ratio

  70.8%      65.7%   

Profit before tax

Reported

  1,417      1,221      16   

Currency translation adjustment74

  (63

Own credit spread75

  (34   225   

Acquisitions, disposals and dilutions

       103   

Other significant items

  728      562   

Adjusted

  2,111      2,048      3   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105n


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Latin America

Reconciliation of reported and adjusted items

 

  2014      2013                  Change 72 
              US$m               US$m     %  

Revenue73

Reported

  8,272      10,568      (22

Currency translation adjustment74

  (914

Own credit spread75

         

Acquisitions, disposals and dilutions

  (27   (1,566

Other significant items

         8      (13

Adjusted

               8,253                          8,075      2   

LICs

Reported

  (2,124   (2,666   20   

Currency translation adjustment74

  191   

Acquisitions, disposals and dilutions

  2      61   

Other significant items

         

Adjusted

  (2,122   (2,414   12   

Operating expenses

Reported

  (5,932   (5,930     

Currency translation adjustment74

  535   

Acquisitions, disposals and dilutions

  9      309   

Other significant items

  116      75   

Adjusted

  (5,807   (5,011   (16

Adjusted cost efficiency ratio

  70.4%      62.1%   

Profit before tax

Reported

  216      1,972      (89

Currency translation adjustment74

  (188

Acquisitions, disposals and dilutions

  (16   (1,196

Other significant items

  124      62   

Adjusted

  324      650      (50

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Home markets

 

UK

Reconciliation of reported and adjusted items

 

  2014      2013                  Change 72 
              US$m               US$m     %  

Revenue73

Reported

  15,727      14,253      10   

Currency translation adjustment74

  789   

Own credit spread75

  (474   1,011   

Acquisitions, disposals and dilutions

       (51

Other significant items

         827      (637

Adjusted

               16,080                          15,365      5   

LICs

Reported

  (214   (1,003   79   

Currency translation adjustment74

  (83

Acquisitions, disposals and dilutions

         

Other significant items

         

Adjusted

  (214   (1,086   80   

Operating expenses

Reported

  (15,576   (12,096   (29

Currency translation adjustment74

  (455

Acquisitions, disposals and dilutions

       28   

Other significant items

  2,553      909   

Adjusted

  (13,023   (11,614   (12

Adjusted cost efficiency ratio

  81.0%      75.6%   

Profit/(loss) before tax

Reported

  (56   1,160   

Currency translation adjustment74

  251   

Own credit spread75

  (474   1,011   

Acquisitions, disposals and dilutions

       (18

Other significant items

  3,380      272   

Adjusted

  2,850      2,676      7   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105p


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Hong Kong

Reconciliation of reported and adjusted items

 

  2014      2013                  Change 72 
              US$m               US$m     %  

Revenue73

Reported

  13,844      13,203      5   

Currency translation adjustment74

  5   

Own credit spread75

  1      1   

Acquisitions, disposals and dilutions

                

Other significant items

  (120   2   

Adjusted

               13,725                          13,211      4   

LICs

Reported

  (320   (137   (134

Currency translation adjustment74

    

Acquisitions, disposals and dilutions

         

Other significant items

         

Adjusted

  (320   (137   (134

Operating expenses

Reported

  (5,424   (5,045   (8

Currency translation adjustment74

  (1

Acquisitions, disposals and dilutions

         

Other significant items

  56      41   

Adjusted

  (5,368   (5,005   (7

Adjusted cost efficiency ratio

  39.1%      37.9%   

Profit before tax

Reported

  8,142      8,089      1   

Currency translation adjustment74

  3   

Own credit spread75

  1      1   

Acquisitions, disposals and dilutions

         

Other significant items

  (64   43   

Adjusted

  8,079      8,136      (1

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Other significant items affecting adjusted performance

 

    2014  
    UK     Hong Kong  

Revenue

Debit valuation adjustment on derivative contracts

  203      26   

Fair value movements on non-qualifying hedges

  (8   11   

Gain on sale of shareholding in Bank of Shanghai

       (428

Impairment on our investment in Industrial Bank

       271   

Provision arising from the ongoing review of compliance with the Consumer Credit Act in the UK

  632        
  827      (120

Operating expenses

Settlements and provisions in connection with foreign exchange investigations

  1,187        

Restructuring and other related costs

  91      7   

Regulatory provisions in GPB

       49   

UK customer redress programmes

  1,275        
                  2,553      56   
  2013   
  UK              Hong Kong   

Revenue

Debit valuation adjustment on derivative contracts

  (78   (12

Fair value movements on non-qualifying hedges

  (263   14   

FX gains relating to sterling debt issued by HSBC Holdings

  (442     

Loss on sale of an HFC Bank UK secured loan portfolio

  146        
  (637   2   

Operating expenses

Accounting gain arising from change in basis of delivering ill-health benefits in the UK

  (430     

Restructuring and other related costs

  104      6   

Regulatory provisions in GPB

       35   

UK customer redress programmes

  1,235        
  909      41   

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

2013 compared with 2012

Use of non-GAAP financial measures

 

Our reported results are prepared in accordance with IFRSs as detailed in the Financial Statements starting on page 334. In measuring our performance, the financial measures that we use include those which have been derived from our reported results in order to eliminate factors which distort year-on-year comparisons. These are considered non-GAAP financial measures. Non-GAAP financial measures that we use throughout our Financial Review and are described below. Other non-GAAP financial measures are described and reconciled to the closest reported financial measure when used.

Constant currency

Foreign currency translation differences reflect the movements of the US dollar against most major currencies during 2013. We exclude the translation differences when using constant currency because it allows us to assess balance sheet and income statement performance on a like-for-like basis to better understand the underlying trends in the business.

 

Constant currency

 

Constant currency comparatives for 2012 referred to in the commentaries are computed by retranslating into US dollars for non-US dollar branches, subsidiaries, joint ventures and associates:

 

•  the income statements for 2012 at the average rates of exchange for 2013; and

 

•  the balance sheet at 31 December 2012 at the prevailing rates of exchange on 31 December 2013.

 

No adjustment has been made to the exchange rates used to translate foreign currency denominated assets and liabilities into the functional currencies of any HSBC branches, subsidiaries, joint ventures or associates. When reference is made to ‘constant currency’ in tables or commentaries, comparative data reported in the functional currencies of HSBC’s operations have been translated at the appropriate exchange rates applied in the current year on the basis described above.

 

 

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported and constant currency profit before tax

 

      2013 compared with 2012  
HSBC  

 

 

2012 as

    reported

US$m

  

  

  

 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 

 

 

 

 

2012

at 2013

    exchange

rates

US$m

  

  

  

  

  

 

 

 

2013 as

    reported

US$m

  

  

  

 

 

 

    Reported

change

%

  

72 

  

 

 

 

 

    Constant

currency

change

%

  

  

72 

  

Net interest income

  37,672      (682   36,990      35,539      (6   (4

Net fee income

  16,430      (203   16,227      16,434           1   

Net trading income

  7,091      (164   6,927      8,690      23      25   

Own credit spread75

         (5,215          12             (5,203          (1,246          76             76   

Other income/(expense) from financial instruments

         2,989      (53   2,936      2,014      (33   (31

Net income/(expense) from financial instruments designated at fair value

  (2,226   (41   (2,267   768   

Gains on disposal of US branch network, US cards business and
Ping An

  7,024           7,024           (100   (100

Gains less losses from financial investments

  1,189      (17   1,172      2,012      69      72   

Net earned insurance premiums

  13,044      (118   12,926      11,940      (8   (8

Other operating income

  2,321      (200   2,121      2,954      27      39   

Total operating income

  82,545      (1,425   81,120      78,337      (5   (3

Net insurance claims81

  (14,215   96      (14,119   (13,692   (4   (3

Net operating income73

  68,330      (1,329   67,001      64,645      (5   (4

Loan impairment charges and other credit risk provisions

  (8,311   201      (8,110   (5,849   30      28   

Net operating income

  60,019      (1,128   58,891      58,796      (2     

Operating expenses

  (42,927   683      (42,244   (38,556   10      9   

Operating profit

  17,092      (445   16,647      20,240      18      22   

Share of profit in associates and joint ventures

  3,557      45      3,602      2,325      (35   (35

Profit before tax

  20,649      (400   20,249      22,565      9      11   

By global business

Retail Banking and Wealth Management

  9,575      (26   9,549      6,649      (31   (30

Commercial Banking

  8,535      (96   8,439      8,441      (1     

Global Banking and Markets

  8,520      (147   8,373      9,441      11      13   

Global Private Banking

  1,009      (16   993      193      (81   (81

Other

  (6,990   (115   (7,105   (2,159   69      70   

Profit before tax

  20,649      (400   20,249      22,565      9      11   

By geographical region

Europe

  (3,414   65      (3,349   1,825   

Asia76

  18,030      (228   17,802      15,853      (12   (11

Middle East and North Africa

  1,350      (36   1,314      1,694      25      29   

North America

  2,299      (28   2,271      1,221      (47   (46

Latin America

  2,384      (173   2,211      1,972      (17   (11

Profit before tax

  20,649      (400   20,249      22,565      9      11   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Underlying performance

To arrive at underlying performance:

 

  we adjust for the year-on-year effects of foreign currency translation;

 

  we eliminate the fair value movements on our long-term debt attributable to credit spread (‘own credit spread’) where the net result of such movements will be zero upon maturity of the debt. This does not include fair value changes due to own credit risk in respect of trading liabilities or derivative liabilities; and

 

  we adjust for acquisitions, disposals and changes of ownership levels of subsidiaries, associates, joint ventures and businesses.

For acquisitions, disposals and changes of ownership levels of subsidiaries, associates, joint ventures and businesses, we eliminate the gain or loss on disposal or dilution and any associated gain or loss on reclassification or impairment recognised in the year incurred, and remove the operating profit or loss of the acquired, disposed of or diluted subsidiaries, associates, joint ventures and businesses from all the years presented so we can view results on a like-for-like basis. For example, if a disposal was made in the current year, any gain or loss on disposal, any associated gain or loss on reclassification or impairment recognised and the results of the disposed-of business would be removed from the results of the current year and the previous year as if the disposed-of business did not exist in those years. The disposal of investments other than those included in the above definition does not lead to underlying adjustments.

We use underlying performance to explain year-on-year changes when the effect of fair value movements on own debt, acquisitions, disposals or dilution is significant because we consider that this basis more appropriately reflects operating performance.

Adjusted performance

Adjusted performance is computed by adjusting reported results for the year-on-year effects of foreign currency translation differences and significant items which distort year-on-year comparisons.

In 2013 we used the non-GAAP financial measure of ‘underlying performance’, as described above. In 2014, we modified our approach to better align it with the way we view our performance internally and with feedback received from investors. Adjusted performance builds on underlying performance by maintaining the adjustment for currency translation differences and incorporating the adjustments for own credit spread and acquisitions, disposals and dilutions into the definition of significant items. We use the term ‘significant items’ to collectively describe the group of individual adjustments which are

excluded from reported results when arriving at adjusted performance. Significant items, which are detailed below, are those items which management and investors would ordinarily identify and consider separately when assessing performance in order to better understand the underlying trends in the business.

We believe adjusted performance provides useful information for investors by aligning internal and external reporting, identifying and quantifying items management believe to be significant and providing insight into how management assesses year-on-year performance.

We arrive at adjusted performance by excluding from our reported results:

 

  the year-on-year effects of foreign currency translation differences. This is done by comparing reported results for 2013 with reported results for 2012 retranslated at 2013 exchange rates. The foreign currency translation differences reflect the movements of the US dollar against most major currencies; and

 

  significant items which distort the year-on-year comparison of reported results by obscuring the underlying factors and trends which affect operations. Significant items include adjustments for own credit spread and acquisitions, disposals and dilutions which were previously part of our underlying measure and are as follows for 2013 as compared with 2012.

The following acquisitions, disposals and changes to ownership levels affected the underlying performance:

 

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Disposal gains/(losses) affecting underlying performance

 

  Date

Disposal

gain/(loss)

 
    US$m  

HSBC Bank Canada’s disposal of HSBC Securities (Canada) Inc’s full service retail brokerage business70

Jan 2012   83   

The Hongkong and Shanghai Banking Corporation Limited’s disposal of RBWM operations in Thailand70

Mar 2012   108   

HSBC Finance Corporation, HSBC USA Inc. and HSBC Technology and Services (USA) Inc.’s disposal of US Card and Retail Services business70

May 2012   3,148   

HSBC Bank USA, N.A.’s disposal of 138 non-strategic branches70

May 2012   661   

HSBC Argentina Holdings S.A.’s disposal of its non-life insurance manufacturing subsidiary70

May 2012   102   

The Hongkong and Shanghai Banking Corporation Limited’s disposal of its private banking business in Japan70

Jun 2012   67   

The Hongkong and Shanghai Banking Corporation Limited’s disposal of its shareholding in a property company in the Philippines71

Jun 2012   130   

Hang Seng Bank Limited’s disposal of its non-life insurance manufacturing subsidiary70

Jul 2012   46   

HSBC Bank USA, N.A.’s disposal of 57 non-strategic branches70

Aug 2012   203   

HSBC Asia Holdings B.V.’s investment loss on a subsidiary70

Aug 2012   (85

HSBC Bank plc’s disposal of HSBC Securities SA71

Aug 2012   (11

HSBC Europe (Netherlands) B.V.’s disposal of HSBC Credit Zrt71

Aug 2012   (2

HSBC Europe (Netherlands) B.V.’s disposal of HSBC Insurance (Ireland) Limited71

Oct 2012   (12

HSBC Europe (Netherlands) B.V.’s disposal of HSBC Reinsurance Limited71

Oct 2012   7   

HSBC Private Bank (UK) Limited’s disposal of Property Vision Holdings Limited71

Oct 2012   (1

HSBC Investment Bank Holdings Limited’s disposal of its stake in Havas Havalimanlari Yer Hizmetleri Yatirim Holding Anonim Sirketi71

Oct 2012   18   

HSBC Insurance (Asia) Limited’s disposal of its non-life insurance portfolios70

Nov 2012   117   

HSBC Bank plc’s disposal of HSBC Shipping Services Limited71

Nov 2012   (2

HSBC Bank (Panama) S.A.’s disposal of its operations in Costa Rica, El Salvador and Honduras70

Dec 2012   (62

HSBC Insurance Holdings Limited and The Hongkong and Shanghai Banking Corporation Limited’s disposal of their shares in Ping An70

Dec 2012   3,012   

The Hongkong and Shanghai Banking Corporation Limited’s disposal of its shareholding in Global Payments Asia-Pacific Limited70

Dec 2012   212   

Reclassification gain in respect of our holding in Industrial Bank Co., Limited following the issue of additional share capital to third parties70

Jan 2013   1,089   

HSBC Insurance (Asia-Pacific) Holdings Limited’s disposal of its shareholding in Bao Viet Holdings70

Mar 2013   104   

Household Insurance Group Holding company’s disposal of its insurance manufacturing business70

Mar 2013   (99

HSBC Seguros, S.A. de C.V., Grupo Financiero HSBC’s disposal of its property and Casualty Insurance business in Mexico70

Apr 2013   20   

HSBC Bank plc’s disposal of its shareholding in HSBC (Hellas) Mutual Funds Management SA71

Apr 2013   (7

HSBC Insurance (Asia-Pacific) Holdings Limited disposal of its shareholding in Hana HSBC Life Insurance Company Limited70

May 2013   28   

HSBC Bank plc’s disposal of HSBC Assurances IARD71

May 2013   (4

The Hongkong and Shanghai Banking Corporation Limited’s disposal of HSBC Life (International) Limited’s Taiwan branch operations71

June 2013   (36

HSBC Markets (USA) Inc.’s disposal of its subsidiary, Rutland Plastic Technologies71

Aug 2013   17   

HSBC Insurance (Singapore) Pte Ltd’s disposal of its Employee Benefits Insurance business in Singapore71

Aug 2013   (8

HSBC Investment Bank Holdings plc’s disposal of its investment in associate FIP Colorado71

Aug 2013   (5

HSBC Investment Bank Holdings plc group’s disposal of its investment in subsidiary, Viking Sea Tech70

Aug 2013   54   

HSBC Latin America Holdings UK Limited’s disposal of HSBC Bank (Panama) S.A.71

Oct 2013   1,107   

HSBC Latin America Holdings UK Limited’s disposal of HSBC Bank (Peru) S.A.71

Nov 2013   (18

HSBC Latin America Holdings UK Limited’s disposal of HSBC Bank (Paraguay) S.A.71

Nov 2013   (21

Reclassification loss in respect of our holding in Yantai Bank Co., Limited following an increase in its registered share capital70

Dec 2013   (38
For footnotes, see page 109.
Acquisition gains/(losses) affecting the underlying performance71
  Date

Fair value gain

on acquisition

 
    US$m  

Gain on the merger of Oman International Bank S.A.O.G. and the Omani operations of HSBC Bank Middle East Limited

Jun 2012   3   

Gain on the acquisition of the onshore retail and commercial banking business of Lloyds Banking Group in the UAE by HSBC Bank Middle East Limited

Oct 2012   18   

For footnote, see page 109.

 

HSBC HOLDINGS PLC

105v


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

The following table reconciles selected reported items for 2013 and 2012 to the underlying basis. For comparison purposes the reconciliations have been updated to additionally reflect the adjusted basis.

The details of other significant items can be found on page 6.

 

 

Reconciliation of reported, underlying and adjusted items

 

  2013      2012                  Change 72 
    US$m     US$m     %  

Net interest income

Reported

  35,539      37,672      (6

Currency translation adjustment74

  (682

Acquisitions, disposals and dilutions

  (273   (2,015

Underlying

  35,266      34,975      1   

Other significant items

         

Adjusted

               35,266                   34,975   

Other operating income

Reported

  2,632      2,100      25   

Currency translation adjustment74

  (195

Acquisitions, disposals and dilutions

  (2,234   (811

Underlying

  398      1,094      (64

Other significant items

  819        

Adjusted

  1,217      1,094   

Revenue73

Reported

  64,645      68,330      (5

Currency translation adjustment74

  (1,341

Own credit spread75

  1,246      5,215   

Acquisitions, disposals and dilutions

  (2,596   (10,607

Underlying

  63,295      61,597      3   

Other significant items

  (594   17   

Adjusted

  62,701      61,614   

LICs

Reported

  (5,849   (8,311   30   

Currency translation adjustment74

  201   

Acquisitions, disposals and dilutions

  32      376   

Underlying

  (5,817   (7,734   25   

Other significant items

         

Adjusted

  (5,817   (7,734

Total operating expenses

Reported

  (38,556   (42,927   10   

Currency translation adjustment74

  683   

Acquisitions, disposals and dilutions

  353      1,490   

Underlying

  (38,203   (40,754   6   

Other significant items

  2,038      5,239   

Adjusted

  (36,165   (35,515

Underlying cost efficiency ratio

  60.4%      66.2%   

Adjusted cost efficiency ratio

  57.7%      57.6%   

Share of profit in associates and joint ventures

Reported

  2,325      3,557      (35

Currency translation adjustment74

  45   

Acquisitions, disposals and dilutions

  (14   (1,425

Underlying

  2,311      2,177      6   

Other significant items

         

Adjusted

  2,311      2,177   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105w


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

  2013      2012                  Change 72 
    US$m     US$m     %  

Profit before tax

Reported

  22,565      20,649      9   

Currency translation adjustment74

  (412

Own credit spread75

  1,246      5,215   

Acquisitions, disposals and dilutions

  (2,225   (10,166

Underlying

               21,586                   15,286      41   

Other significant items

  1,444      5,256   

Adjusted

  23,030      20,542   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105x


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

The following table details the impact of other significant items in 2013 and 2012 for each of our geographical regions and global businesses.

Other significant items affecting adjusted performance – Losses/(gains)

 

    2013  
            Europe     Asia76     MENA    

North

        America

    Latin
        America
    Total  
    US$m             US$m             US$m     US$m     US$m             US$m  

Revenue

Net gain on completion of Ping An disposal

       (553                  (553

Debit valuation adjustment on derivative contracts

  (65   (40   (2   14      (13   (106

Fair value movements on non-qualifying hedges

  (297   32           (246        (511

FX gains relating to sterling debt issued by HSBC Holdings

  (442                       (442

Write-off of allocated goodwill relating to the GPB Monaco business

  279                          279   

Gain/(loss) on sale of several tranches of real estate secured accounts in
the US

                 123           123   

Loss on sale of non-real estate secured accounts in the US

                 271           271   

Loss on early termination of cash flow hedges in the US run-off portfolio

                 199           199   

Loss on sale of an HFC Bank UK secured loan portfolio

  146                              146   
  (379   (561   (2   361      (13   (594

Operating expenses

Restructuring and other related costs

  217      86      4      101      75      483   

UK customer redress programmes

  1,235                          1,235   

Madoff-related litigation costs

  298                          298   

Regulatory provisions in GPB

  317      35                     352   

US customer remediation provisions relating to CRS

                 100           100   

Accounting gain arising from change in basis of delivering ill-health benefits in the UK

  (430                       (430
  1,637      121      4      201      75      2,038   
    RBWM     CMB     GB&M     GPB     Other     Total  
    US$m     US$m     US$m     US$m     US$m     US$m  

Revenue

Net gain on completion of Ping An disposal

                      (553   (553

Revenue

Debit valuation adjustment on derivative contracts

            (106             (106

Fair value movements on non-qualifying hedges

  (262        18           (267   (511

FX gains relating to sterling debt issued by HSBC Holdings

                      (442   (442

Write-off of allocated goodwill relating to the GPB Monaco business

                 279           279   

Gain/(loss) on sale of several tranches of real estate secured accounts in
the US

  123                          123   

Loss on sale of non-real estate secured accounts in the US

  271                          271   

Loss on early termination of cash flow hedges in the US run-off portfolio

  199                          199   

Loss on sale of an HFC Bank UK secured loan portfolio

  146                          146   
  477           (88   279      (1,262   (594

Operating expenses

Restructuring and other related costs

  167      31      13      73      199      483   

UK customer redress programmes

  953      148      134                1,235   

Madoff-related litigation costs

            298                298   

Regulatory provisions in GPB

                 352           352   

US customer remediation provisions relating to CRS

  100                          100   

Accounting gain arising from change in basis of delivering ill-health benefits in the UK

  (189   (160   (81             (430
  1,031      19      364      425      199      2,038   

 

HSBC HOLDINGS PLC

105y


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

    2012  
          Europe      Asia76              MENA     
 
North
        America
  
  
 

 

Latin

        America

  

  

  Total   
    US$m             US$m     US$m     US$m     US$m             US$m  

Revenue

Debit valuation adjustment on derivative contracts

  (303   (136   (4   (58   (17   (518

Fair value movements on non-qualifying hedges

  51      51           194           296   

Gain on sale of our shares in Indian banks

       (314                  (314

Loss on forward contract relating to Ping An sale

       553                     553   
  (252   154      (4   136      (17   17   

Operating expenses

Fines and penalties for inadequate compliance with anti-money laundering and sanction laws

  375                1,546           1,921   

North America mortgage foreclosure and servicing costs

                 104           104   

Restructuring and related costs

  299      162      27      221      167      876   

UK customer redress charges

  2,338                          2,338   
  3,012      162      27      1,871      167      5,239   
    RBWM     CMB     GB&M     GPB     Other     Total  
    US$m     US$m     US$m     US$m     US$m     US$m  

Revenue

Debit valuation adjustment on derivative contracts

            (518             (518

Fair value movements on non-qualifying hedges

  193           42      (4   65      296   

Gain on sale of our shares in Indian banks

                      (314   (314

Loss on forward contract relating to Ping An sale

                      553      553   
  193           (476   (4   304      17   

Operating expenses

Fines and penalties for inadequate compliance with anti-money laundering and sanction laws

                      1,921      1,921   

North America mortgage foreclosure and servicing costs

  104                          104   

Restructuring and related costs

  266      62      63      58      427      876   

UK customer redress charges

  1,751      258      331      (2        2,338   
  2,121      320      394      56      2,348      5,239   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105z


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported to constant currency, underlying and adjusted items for 2013

Global businesses

 

Retail Banking and Wealth Management

Reconciliation of reported and constant currency profit before tax

 

 
 
 
2012 as
    reported
US$m
  
  
  
 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 

 

 

 

    2012 at 2013

exchange

rates

US$m

  

  

  

  

 

 

 

    2013 as

reported

US$m

  

  

  

 

 

 

    Reported

change

%

  

72 

  

 
 

 

 

    Constant
currency

change

%

  
  

72 

  

Net interest income

  20,298      (368   19,930      18,339      (10   (8

Net fee income

  7,205      (113   7,092      7,021      (3   (1

Net trading income

  304      (18   286      686      126      140   

Net income from financial instruments designated at fair value

  1,893      (26   1,867      1,638      (13   (12

Gains on disposal of US branch network and cards business

  3,735           3,735           (100   (100

Gains less losses from financial investments

         96             (7          89             55             (43   (38

Net insurance premium income

  11,191      (68   11,123      10,543      (6   (5

Other operating income (including dividend income)

  1,496      (34   1,462      565      (62   (61

Total operating income

  46,218      (634   45,584               38,847      (16   (15

Net insurance claims and benefits paid and movement in liabilities to policyholders

  (12,357   44      (12,313   (12,107   2      2   

Net operating income73

           33,861      (590   33,271      26,740      (21   (20

LICs

  (5,515   135      (5,380   (3,227   41      40   

Net operating income

  28,346      (455   27,891      23,513      (17   (16

Operating expenses

  (19,769   415      (19,354   (17,248   13      11   

Operating profit

  8,577      (40   8,537      6,265      (27   (27

Share of profit from associates and joint ventures

  998      14      1,012      384      (62   (62

Profit before tax

  9,575      (26   9,549      6,649      (31   (30

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105aa


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported, underlying and adjusted items – RBWM

 

 
 
2013
        US$m
  
  
 

 

2012

        US$m

  

  

 
 
            Change
%
72 
  

Net interest income

Reported net interest income

  18,339      20,298      (10

Currency translation adjustment74

  (368

Acquisitions, disposals and dilutions

  (151   (1,735

Underlying

  18,188      18,195        

Other significant items

         

Adjusted

                      18,188                          18,195   

Other operating income

Reported other operating income

  544      1,472      (63

Currency translation adjustment74

  (33

Acquisitions, disposals and dilutions

  (312   (395

Underlying

  232      1,044      (78

Other significant items

  540        

Adjusted

  772      1,044   

Revenue73

Reported revenue

  26,740      33,861      (21

Currency translation adjustment74

  (590

Acquisitions, disposals and dilutions

  (494   (6,447

Underlying

  26,246      26,824      (2

Other significant items

  477      193   

Adjusted

  26,723      27,017   

LICs

Reported LICs

  (3,227   (5,515   41   

Currency translation adjustment74

  135   

Acquisitions, disposals and dilutions

  33      377   

Underlying

  (3,194   (5,003   36   

Other significant items

         

Adjusted

  (3,194   (5,003

Operating expenses

Reported operating expenses

  (17,248   (19,769   13   

Currency translation adjustment74

  415   

Acquisitions, disposals and dilutions

  203      1,176   

Underlying

  (17,045   (18,178   6   

Other significant items

  1,031      2,121   

Adjusted

  (16,014   (16,057

Underlying cost efficiency ratio

  64.9%      67.8%   

Adjusted cost efficiency ratio

  59.9%      59.4%   

Share of profit in associates and joint ventures

Reported

  384      998      (62

Currency translation adjustment74

  14   

Acquisitions, disposals and dilutions

  (6   (670

Underlying

  378      342      11   

Other significant items

         

Adjusted

  378      342   

Profit before tax

Reported profit before tax

  6,649      9,575      (31

Currency translation adjustment74

  (26

Acquisitions, disposals and dilutions

  (264   (5,565

Underlying

  6,385      3,984      60   

Other significant items

  1,508      2,314   

Adjusted

  7,893      6,298   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105ab


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Principal Retail Banking and Wealth Management business76

Reconciliation of reported and constant currency profit before tax

 

 
 
 
2012 as
reported
US$m
  
  
  
 

 

 

 

Currency

translation

  adjustment

US$m

  

  

74 

  

 

 

 

2012 at 2013

    exchange rates

US$m

  

  

  

 

 

 

2013 as

      reported

US$m

  

  

  

 

 

 

      Reported

change

%

  

72 

  

 
 

 

 

      Constant
currency

change

%

  
  

72 

  

Net interest income

  16,468      (368   16,100      16,278      (1   1   

Net fee income

  6,777      (113   6,664      7,010      3      5   

Other income80

  3,403      (109   3,294      1,780      (48   (46

Net operating income73

           26,648      (590   26,058      25,068      (6   (4

LICs

  (2,624   135      (2,489   (2,522   4      (1

Net operating income

         24,024             (455          23,569             22,546             (6   (4

Total operating expenses

  (17,937   415      (17,522   (16,082   10      8   

Operating profit

  6,087      (40   6,047      6,464      6      7   

Share of profit from associates and joint ventures

  996      14      1,010      385      (61   (62

Profit before tax

  7,083      (26   7,057      6,849      (3   (3

For footnotes, see page 109.

Retail Banking and Wealth Management – HSBC Finance

Reconciliation of reported, underlying and adjusted items

 

  2013      2012            Change 72 
                   US$m                    US$m       %  

Revenue73

Reported revenue

  1,672      7,251      (77

Acquisitions, disposals and dilutions

  105      (4,888

Underlying

  1,777      2,363      (25

Other significant items

         278             227          

Adjusted

  2,055      2,590   

Profit/(loss) before tax

Reported profit/(loss) before tax

  (200   2,443   

Acquisitions, disposals and dilutions

  120      (3,889

Underlying

  (80   (1,446   94   

Other significant items

  391      323   

Adjusted

  311      (1,123

For footnote, see page 109.

 

HSBC HOLDINGS PLC

105ac


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Commercial Banking

Reconciliation of reported and constant currency profit before tax

 

 
 
 
2012 as
reported
US$m
  
  
  
 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 

 

 

2012 at 2013

exchange rates

US$m

  

  

  

 

 

 

2013 as

reported

US$m

  

  

  

 

 

 

      Reported

change

%

  

72 

  

 
 

 

 

      Constant
currency

change

%

  
  

72 

  

Net interest income

  10,361      (220   10,141      10,200      (2   1   

Net fee income

  4,470      (69   4,401      4,717      6      7   

Net trading income

  633      (15   618      649      3      5   

Net income from financial instruments designated at fair value

  250      (17   233      332      33      42   

Gains on disposal of US branch network and cards business

         277           277           (100   (100

Gains less losses from financial investments

  22      (2   20      1      (95   (95

Net insurance premium income

  1,786      (49   1,737      1,375      (23   (21

Other operating income (including dividend income)

         554             (10          544             636             15      17   

Total operating income

          18,353      (382   17,971      17,910      (2     

Net insurance claims and benefits paid and movement in liabilities to policyholders

  (1,802   53      (1,749   (1,545   15      12   

Net operating income73

  16,551      (329   16,222              16,365      (1   1   

LICs

  (2,099   59      (2,040   (2,384   (14   (17

Net operating income

  14,452      (270   14,182      13,981      (3   (1

Operating expenses

  (7,598   149      (7,449   (7,049   7      5   

Operating profit

  6,854      (121   6,733      6,932      1      3   

Share of profit from associates and joint ventures

  1,681      25      1,706      1,509      (10   (12

Profit before tax

  8,535      (96   8,439      8,441      (1     

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105ad


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported, underlying and adjusted items – CMB

 

  2013      2012                  Change 72 
    US$m     US$m     %  

Net interest income

Reported net interest income

  10,200      10,361      (2

Currency translation adjustment74

  (220

Acquisitions, disposals and dilutions

  (92   (211

Underlying

  10,108      9,930      2   

Other significant items

         

Adjusted

  10,108      9,930   

Other operating income

Reported other operating income

  621      536      16   

Currency translation adjustment74

  (10

Acquisitions, disposals and dilutions

  (470   (187

Underlying

  151      339      (55

Other significant items

         

Adjusted

  151      339   

Revenue73

Reported revenue

                   16,365                     16,551      (1

Currency translation adjustment74

  (329

Acquisitions, disposals and dilutions

  (593   (762

Underlying

  15,772      15,460      2   

Other significant items

         

Adjusted

  15,772      15,460   

LICs

Reported LICs

  (2,384   (2,099   (14

Currency translation adjustment74

       59   

Acquisitions, disposals and dilutions

  (1     

Underlying

  (2,385   (2,040   (17

Other significant items

         

Adjusted

  (2,385   (2,040

Operating expenses

Reported operating expenses

  (7,049   (7,598   7   

Currency translation adjustment74

       149   

Acquisitions, disposals and dilutions

  63      191   

Underlying

  (6,986   (7,258   4   

Other significant items

  19      320   

Adjusted

  (6,967   (6,938
 

Underlying cost efficiency ratio

  44.3%      46.9%   

Adjusted cost efficiency ratio

  44.2%      44.9%   

Share of profit in associates and joint ventures

Reported

  1,509      1,681      (10

Currency translation adjustment74

  25   

Acquisitions, disposals and dilutions

  (10   (351

Underlying

  1,499      1,355      11   

Other significant items

         

Adjusted

  1,499      1,355   

Profit before tax

Reported profit before tax

  8,441      8,535      (1

Currency translation adjustment74

       (96

Acquisitions, disposals and dilutions

  (541   (922

Underlying

  7,900      7,517      5   

Other significant items

  19      320   

Adjusted

  7,919      7,837   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105ae


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Global Banking and Markets

Reconciliation of reported and constant currency profit before tax

 

 
 
 
2012 as
reported
US$m
  
  
  
 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 

 
 

 

2012 at 2013

exchange
rates

US$m

  

  
  

  

 

 

 

2013 as

reported

US$m

  

  

  

 

 

 

      Reported

change

%

  

72 

  

 
 

 

 

      Constant
currency

change

%

  
  

72 

  

Net interest income

  6,960      (127   6,833      6,766      (3   (1

Net fee income

  3,329      (22   3,307      3,482      5      5   

Net trading income

  5,690      (90   5,600      6,780      19      21   

Net income from financial instruments designated at fair value

  1,094      (13   1,081      599      (45   (45

Gains less losses from financial investments

  730      (8   722      747      2      3   

Net insurance premium income

  25      (3   22      6      (76   (73

Other operating income (including dividend income)

         461      9             470      799      73      70   

Total operating income

                 18,289             (254   18,035                     19,179             5      6   

Net insurance claims and benefits paid and movement in liabilities to policyholders

  (16   1      (15   (3   81      80   

Net operating income73

  18,273      (253   18,020      19,176      5      6   

LICs

  (670   5      (665   (207   69      69   

Net operating income

  17,603      (248   17,355      18,969      8      9   

Operating expenses

  (9,907   95      (9,812   (9,960   (1   (2

Operating profit

  7,696      (153   7,543      9,009      17      19   

Share of profit from associates and joint ventures

  824      6      830      432      (48   (48

Profit before tax

  8,520      (147   8,373      9,441      11      13   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105af


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported, underlying and adjusted items – GB&M

 

  2013      2012              Change 72 
    US$m     US$m     %  

Net interest income

Reported net interest income

  6,766      6,960      (3

Currency translation adjustment74

  (127

Acquisitions, disposals and dilutions

  (26   (56

Underlying

  6,740      6,777      (1

Other significant items

         

Adjusted

  6,740      6,777   

Other operating income

Reported other operating income

  670      313      114   

Currency translation adjustment74

  10   

Acquisitions, disposals and dilutions

  (407   (78

Underlying

  263      245      7   

Other significant items

         

Adjusted

  263      245   

Revenue73

Reported revenue

  19,176      18,273      5   

Currency translation adjustment74

  (253

Acquisitions, disposals and dilutions

  (460   (219

Underlying

  18,716      17,801      5   

Other significant items

  (88   (476

Adjusted

             18,628                 17,325   

LICs

Reported LICs

  (207   (670   69   

Currency translation adjustment74

  5   

Acquisitions, disposals and dilutions

         

Underlying

  (207   (665   69   

Other significant items

         

Adjusted

  (207   (665

Operating expenses

Reported operating expenses

  (9,960   (9,907   (1

Currency translation adjustment74

  95   

Acquisitions, disposals and dilutions

  54      107   

Underlying

  (9,906   (9,705   (2

Other significant items

  364      394   

Adjusted

  (9,542   (9,311

Underlying cost efficiency ratio

  52.9%      54.5%   

Adjusted cost efficiency ratio

  51.2%      53.7%   

Share of profit in associates and joint ventures

Reported

  432      824      (48

Currency translation adjustment74

  6   

Acquisitions, disposals and dilutions

  2      (404

Underlying

  434      426      2   

Other significant items

         

Adjusted

  434      426   

Profit before tax

Reported profit before tax

  9,441      8,520      11   

Currency translation adjustment74

  (147

Acquisitions, disposals and dilutions

  (404   (516

Underlying

  9,037      7,857      15   

Other significant items

  276      (82

Adjusted

  9,313      7,775   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105ag


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Global Private Banking

Reconciliation of reported and constant currency profit before tax

 

 
 
 
        2012 as
reported
US$m
  
  
  
 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 

 
 

 

2012 at 2013

exchange
rates

US$m

  

  
  

  

 

 

 

2013 as

        reported

US$m

  

  

  

 

 

 

        Reported

change

%

  

72 

  

 
 

 

 

        Constant
currency

change

%

  
  

72 

  

Net interest income

  1,294      (6   1,288      1,146      (11   (11

Net fee income

  1,232      1      1,233      1,150      (7   (7

Net trading income

  490      (1   489      394      (20   (19

Net income from financial instruments designated at fair value

                 4   

Gains less losses from financial investments

  (3        (3   (3          

Net insurance premium income

  42      2      44      16      (62   (64

Other operating income/(expense) (including dividend income)

         157             (13          144             (231       

Total operating income

  3,212      (17   3,195      2,476      (23   (23

Net insurance claims and benefits paid and movement in liabilities to policyholders

  (40   (2   (42   (37   8      12   

Net operating income73

  3,172      (19   3,153      2,439      (23   (23

LICs

  (27   1      (26   (31   (15   (19

Net operating income

  3,145      (18   3,127      2,408      (23   (23

Operating expenses

  (2,143   2      (2,141   (2,229   (4   (4

Operating profit

  1,002      (16   986      179      (82   (82

Share of profit from associates and joint ventures

  7           7      14      100      100   

Profit before tax

  1,009      (16   993      193      (81   (81

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105ah


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported, underlying and adjusted items – GPB

 

  2013      2012              Change 72 
    US$m     US$m     %  

Net interest income

Reported net interest income

  1,146      1,294      (11

Currency translation adjustment74

  (6

Acquisitions, disposals and dilutions

  (4   (13

Underlying

  1,142      1,275      (10

Other significant items

         

Adjusted

  1,142      1,275   

Other operating income

Reported other operating income

  (239   151   

Currency translation adjustment74

  (13

Acquisitions, disposals and dilutions

  (1   (56

Underlying

  (240   82   

Other significant items

  279        

Adjusted

  39      82   

Revenue73

Reported revenue

  2,439      3,172      (23

Currency translation adjustment74

  (19

Acquisitions, disposals and dilutions

  (5   (72

Underlying

  2,434      3,081      (21

Other significant items

  279      (4

Adjusted

            2,713                  3,077   

LICs

Reported LICs

  (31   (27   (15

Currency translation adjustment74

  1   

Acquisitions, disposals and dilutions

         

Underlying

  (31   (26   (19

Other significant items

         

Adjusted

  (31   (26

Operating expenses

Reported operating expenses

  (2,229   (2,143   (4

Currency translation adjustment74

  2   

Acquisitions, disposals and dilutions

  4      15   

Underlying

  (2,225   (2,126   (5

Other significant items

  425      56   

Adjusted

  (1,800   (2,070

Underlying cost efficiency ratio

  91.4%      69.0%   

Adjusted cost efficiency ratio

  66.3%      67.3%   

Profit before tax

Reported profit before tax

  193      1,009      (81

Currency translation adjustment74

  (16

Acquisitions, disposals and dilutions

  (1   (57

Underlying

  192      936      (79

Other significant items

  704      52   

Adjusted

  896      988   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105ai


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Other

Reconciliation of reported and constant currency loss before tax

 

 
 
 
        2012 as
reported
US$m
  
  
  
 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 

 

 

2012 at 2013

exchange rates

US$m

  

  

  

 

 

 

        2013 as

reported

US$m

  

  

  

 

 

 

        Reported

change

%

  

72 

  

 
 

 

 

        Constant
currency

change

%

  
  

72 

  

Net interest income

  (730   (4   (734   (737   (1     

Net fee income

  194           194      64      (67   (67

Net trading income

         (537          (1          (538          6          

Own credit spread75

  (5,215   12      (5,203   (1,246   76      76   

Other expense from financial instruments designated at fair value

  (248   7      (241   (558   (125   (132

Net expense from financial instruments designated at fair value

  (5,463   19      (5,444   (1,804   67      67   

Gains on disposal of US branch network, US cards business and Ping An

  3,012           3,012           (100   (100

Gains less losses from financial investments

  344           344      1,212      252      252   

Other operating income (including dividend income)

  5,512      (210   5,302      6,910      25      30   

Total operating income

  2,332      (196   2,136      5,651      142      165   

Net insurance claims and benefits paid and movement in liabilities to policyholders

                   

Net operating income73

  2,332      (196   2,136      5,651      142      165   

LICs

                             

Net operating income

  2,332      (196   2,136      5,651      142      165   

Operating expenses

  (9,369   81      (9,288   (7,796   17      16   

Operating loss

  (7,037   (115   (7,152   (2,145   70      70   

Share of profit/(loss) from associates and joint ventures

  47           47      (14

Loss before tax

  (6,990   (115   (7,105   (2,159   69      70   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105aj


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported, underlying and adjusted items – Other

 

  2013      2012              Change 72 
    US$m     US$m     %  

Revenue73

Reported revenue

  5,651      2,332      142   

Currency translation adjustment74

  (209

Own credit spread75

  1,246      5,215   

Acquisitions, disposals and dilutions

  (1,044   (3,107

Underlying

  5,853      4,231      38   

Other significant items

  (1,262   304   

Adjusted

              4,591                  4,535   

Operating expenses

Reported operating expenses

  (7,796   (9,369   17   

Currency translation adjustment74

  81   

Acquisitions, disposals and dilutions

  29      1   

Underlying

  (7,767   (9,287   16   

Other significant items

  199      2,348   

Adjusted

  (7,568   (6,939

Underlying cost efficiency ratio

  132.7%      219.5%   

Adjusted cost efficiency ratio

  164.8%      153.0%   

Loss before tax

Reported loss before tax

  (2,159   (6,990   69   

Currency translation adjustment74

  (127

Own credit spread75

  1,246      5,215   

Acquisitions, disposals and dilutions

  (1,015   (3,106

Underlying

  (1,928   (5,008   62   

Other significant items

  (1,063   2,652   

Adjusted

  (2,991   (2,356

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105ak


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Geographical regions

 

Europe

Reconciliation of reported and constant currency profit/(loss) before tax

 

 

 

 

        2012 as

reported

US$m

  

  

  

 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 

 
 

 

2012 at 2013

exchange
rates

US$m

  

  
  

  

 
 
 
        2013 as
reported
US$m
  
  
  
 

 

 

        Reported

change

%

  

72 

  

 
 

 

 

        Constant
currency

change

%

  
  

72 

  

Net interest income

  10,394      (38   10,356      10,693      3      3   

Net fee income

  6,169      1      6,170      6,032      (2   (2

Net trading income

  2,707      (19   2,688      4,423      63      65   

Own credit spread75

         (4,110          12             (4,098          (1,015          75      75   

Other income from financial instruments designated at fair value

  1,895      12      1,907      1,433      (24   (25

Net income/(expense) from financial instruments designated at fair value

  (2,215   24      (2,191   418   

Gains less losses from financial investments

  364      (4   360      379      4      5   

Net earned insurance premiums

  3,630      85      3,715      3,158      (13   (15

Other operating income (including dividend income)

  1,189      49      1,238      604      (49   (51

Total operating income

  22,238      98      22,336      25,707      16      15   

Net insurance claims and benefits paid and movement in liabilities to policyholders

  (4,630   (121   (4,751   (4,740   (2     

Net operating income73

  17,608      (23   17,585      20,967      19      19   

LICs

  (1,921   15      (1,906   (1,530   20      20   

Net operating income

  15,687      (8   15,679      19,437      24      24   

Operating expenses

  (19,095   74      (19,021   (17,613   8      7   

Operating profit/(loss)

  (3,408   66      (3,342   1,824   

Share of profit/(loss) from associates and joint ventures

  (6   (1   (7   1   

Profit/(loss) before tax

  (3,414   65      (3,349   1,825   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105al


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported, underlying and adjusted items – Europe

 

  2013      2012              Change 72 
    US$m     US$m     %  

Net interest income

Reported

  10,693      10,394      3   

Currency translation adjustment74

  (38

Acquisitions, disposals and dilutions

  17      15   

Underlying

  10,710      10,371      3   

Other significant items

         

Adjusted

  10,710      10,371   

Other operating income

Reported

  529      1,080      (51

Currency translation adjustment74

  49   

Acquisitions, disposals and dilutions

  (69   (54

Underlying

  460      1,075      (57

Other significant items

  425        

Adjusted

  885      1,075   

Revenue73

Reported

  20,967      17,608      19   

Currency translation adjustment74

  (35

Own credit spread75

  1,015      4,110   

Acquisitions, disposals and dilutions

  (51   (36

Underlying

  21,931      21,647      1   

Other significant items

  (379   (252

Adjusted

            21,552                21,395   

LICs

Reported

  (1,530   (1,921   20   

Currency translation adjustment74

  15   

Acquisitions, disposals and dilutions

         

Underlying

  (1,530   (1,906   20   

Other significant items

         

Adjusted

  (1,530   (1,906

Operating expenses

Reported

  (17,613   (19,095   8   

Currency translation adjustment74

  74   

Acquisitions, disposals and dilutions

  28      46   

Underlying

  (17,585   (18,975   7   

Other significant items

  1,637      3,012   

Adjusted

  15,948      (15,963

Underlying cost efficiency ratio

  80.2%      87.7%   

Adjusted cost efficiency ratio

  74.0%      74.6%   

Profit/(loss) before tax

Reported

  1,825      (3,414

Currency translation adjustment74

  53   

Own credit spread75

  1,015      4,110   

Acquisitions, disposals and dilutions

  (18   10   

Underlying

  2,822      759      272   

Other significant items

  1,258      2,760   

Adjusted

  4,080      3,519   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105am


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Asia76

Reconciliation of reported and constant currency profit before tax

 

 
 
 
        2012 as
reported
US$m
  
  
  
 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 
 

 

2012 at 2013
exchange rates

US$m

  
  

  

 
 
 
        2013 as
reported
US$m
  
  
  
 

 

 

        Reported

change

%

  

72 

  

 
 

 

 

        Constant
currency

change

%

  
  

72 

  

Net interest income

  10,707      (119   10,588      11,432      7      8   

Net fee income

  5,418      (77   5,341      5,936      10      11   

Net trading income

  2,516      (56   2,460      2,026      (19   (18

Own credit spread75

  (3        (3   (2   33      33   

Other income from financial instruments designated at fair value

         556             2             558             316             (43   (43

Net income from financial instruments designated at fair value

  553      2      555      314      (43   (43

Gains on disposal of Ping An

  3,012           3,012           (100   (100

Gains less losses from financial investments

  338      (1   337      1,275      277      278   

Net insurance premium income

  6,769           6,769      6,918      2      2   

Other operating income (including dividend income)

  3,103      (214   2,889      3,827      23      32   

Total operating income

  32,416      (465   31,951      31,728      (2   (1

Net insurance claims and benefits paid and movement in liabilities to policyholders

  (7,084        (7,084   (7,296   (3   (3

Net operating income73

  25,332      (465   24,867      24,432      (4   (2

LICs

  (510   12      (498   (498   2        

Net operating income

  24,822      (453   24,369      23,934      (4   (2

Operating expenses

  (9,980   179      (9,801   (9,936        (1

Operating profit

  14,842      (274   14,568      13,998      (6   (4

Share of profit from associates and joint ventures

  3,188      46      3,234      1,855      (42   (43

Profit before tax

  18,030      (228   17,802      15,853      (12   (11

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105an


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported, underlying and adjusted items – Asia76

 

  2013      2012              Change 72 
    US$m     US$m     %  

Net interest income

Reported

  11,432      10,707      7   

Currency translation adjustment74

  (119

Acquisitions, disposals and dilutions

       (31

Underlying

  11,432      10,557      8   

Other significant items

         

Adjusted

  11,432      10,557   

Other operating income

Reported

  3,675      3,074      20   

Currency translation adjustment74

  (214

Acquisitions, disposals and dilutions

  (1,139   (674

Underlying

  2,536      2,186      16   

Other significant items

         

Adjusted

  2,536      2,186   

Revenue73

Reported

  24,432      25,332      (4

Currency translation adjustment74

  (465

Own credit spread75

  2      3   

Acquisitions, disposals and dilutions

  (1,139   (3,787

Underlying

            23,295                21,083      10   

Other significant items

  (561   154   

Adjusted

  22,734      21,237   

LICs

Reported

  (498   (510   2   

Currency translation adjustment74

  12   

Acquisitions, disposals and dilutions

       (2

Underlying

  (498   (500     

Other significant items

         

Adjusted

  (498   (500

Operating expenses

Reported

  (9,936   (9,980     

Currency translation adjustment74

  179   

Acquisitions, disposals and dilutions

  72      145   

Underlying

  (9,864   (9,656   (2

Other significant items

  121      162   

Adjusted

  (9,743   (9,494

Underlying cost efficiency ratio

  42.3%      45.8%   

Adjusted cost efficiency ratio

  42.9%      44.7%   
 

Share of profit in associates and joint ventures

Reported

  1,855      3,188      (42

Currency translation adjustment6

  46   

Acquisitions, disposals and dilutions

  (19   (1,425

Underlying

  1,836      1,809      1   

Other significant items

         

Adjusted

  1,836      1,809   
 

Profit before tax

Reported

  15,853      18,030      (12

Currency translation adjustment74

  (228

Own credit spread75

  2      3   

Acquisitions, disposals and dilutions

  (1,086   (5,069

Underlying

  14,769      12,736      16   

Other significant items

  (440   316   

Adjusted

  14,329      13,052   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105ao


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Middle East and North Africa

Reconciliation of reported and constant currency profit before tax

 

 
 
 
        2012 as
reported
US$m
  
  
  
 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 

 
 

 

2012 at 2013

exchange
rates

US$m

  

  
  

  

 
 
 
        2013 as
reported
US$m
  
  
  
 

 

 

        Reported

change

%

  

72 

  

 
 

 

 

        Constant
currency

change

%

  
  

72 

  

Net interest income

  1,470      (43   1,427      1,486      1      4   

Net fee income

  595      (11   584      622      5      7   

Net trading income

         390             (9          381             357             (8          (6

Own credit spread75

  (12        (12   (4   67      67   

Other income from financial instruments designated at fair value

                 2   

Net expense from financial instruments designated at fair value

  (12        (12   (2   83      83   

Gains less losses from financial investments

  9           9      (18

Net insurance premium income

                   

Other operating income/(expense) (including dividend income)

  (22        (22   58   

Total operating income

  2,430      (63   2,367      2,503      3      6   

Net insurance claims and benefits paid and movement in liabilities to policyholders

                   

Net operating income73

  2,430      (63   2,367      2,503      3      6   

LICs

  (286   4      (282   42   

Net operating income

  2,144      (59   2,085      2,545      19      22   

Operating expenses

  (1,166   23      (1,143   (1,289   (11   (13

Operating profit

  978      (36   942      1,256      28      33   

Share of profit from associates and joint ventures

  372           372      438      18      18   

Profit before tax

  1,350      (36   1,314      1,694      25      29   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105ap


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported, underlying and adjusted items – Middle East and North Africa

 

  2013      2012              Change 72 
    US$m     US$m     %  

Net interest income

Reported

  1,486      1,470      1   

Currency translation adjustment74

  (43

Acquisitions, disposals and dilutions

       (8

Underlying

  1,486      1,419      5   

Other significant items

         

Adjusted

  1,486      1,419   

Other operating income

Reported

  49      (27

Currency translation adjustment74

    

Acquisitions, disposals and dilutions

       64   

Underlying

  49      37      32   

Other significant items

         

Adjusted

  49      37   

Revenue73

Reported

  2,503      2,430      3   

Currency translation adjustment74

  (63

Own credit spread75

  4      12   

Acquisitions, disposals and dilutions

       3   

Underlying

  2,507      2,382      5   

Other significant items

  (2   (4

Adjusted

            2,505                  2,378   

LICs

Reported

  42      (286

Currency translation adjustment74

  4   

Acquisitions, disposals and dilutions

         

Underlying

  42      (282

Other significant items

         

Adjusted

  42      (282

Operating expenses

Reported

  (1,289   (1,166   (11

Currency translation adjustment74

  23   

Acquisitions, disposals and dilutions

       15   

Underlying

  (1,289   (1,128   (14

Other significant items

  4      27   

Adjusted

  (1,285   (1,101

Underlying cost efficiency ratio

  51.4%      47.4%   

Adjusted cost efficiency ratio

  51.3%      46.3%   

Profit before tax

Reported

  1,694      1,350      25   

Currency translation adjustment74

  (36

Own credit spread75

  4      12   

Acquisitions, disposals and dilutions

       18   

Underlying

  1,698      1,344      26   

Other significant items

  2      23   

Adjusted

  1,700      1,367   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

North America

Reconciliation of reported and constant currency profit before tax

 

 
 
 
        2012 as
reported
US$m
  
  
  
 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 

 

 

2012 at 2013

exchange rates

US$m

  

  

  

 
 
 
        2013 as
reported
US$m
  
  
  
 

 

 

        Reported

change

%

  

72 

  

 
 

 

 

        Constant
currency

change

%

  
  

72 

  

Net interest income

  8,117      (42   8,075      5,742      (29   (29

Net fee income

         2,513             (18          2,495             2,143             (15          (14

Net trading income

  507      (6   501      948      87      89   

Own credit spread75

  (1,090        (1,090   (226   79      79   

Other expense from financial instruments designated at fair value

  (129        (129   (62   52      52   

Net expense from financial instruments designated at fair value

  (1,219        (1,219   (288   76      76   

Gains on disposal of US branch network and US cards business

  4,012           4,012           (100   (100

Gains less losses from financial investments

  251      (1   250      294      17      18   

Net insurance premium income

  193           193      34      (82   (82

Other operating income/(expense) (including dividend income)

  467      3      470      (31

Total operating income

  14,841      (64   14,777      8,842      (40   (40

Net insurance claims and benefits paid and movement in liabilities to policyholders

  (148        (148   (39   74      74   

Net operating income73

  14,693      (64   14,629      8,803      (40   (40

LICs

  (3,457   6      (3,451   (1,197   65      65   

Net operating income

  11,236      (58   11,178      7,606      (32   (32

Operating expenses

  (8,940   30      (8,910   (6,416   28      28   

Operating profit

  2,296      (28   2,268      1,190      (48   (48

Share of profit from associates and joint ventures

  3           3      31      933      933   

Profit before tax

  2,299      (28   2,271      1,221      (47   (46

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105ar


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported, underlying and adjusted items – North America

 

  2013      2012              Change 72 
    US$m     US$m     %  

Net interest income

Reported

  5,742      8,117      (29

Currency translation adjustment74

  (42

Acquisitions, disposals and dilutions

  (14   (1,433

Underlying

  5,728      6,642      (14

Significant items

         

Adjusted

  5,728      6,642   

Other operating income/(expense)

Reported

  (108   406   

Currency translation adjustment74

  3   

Acquisitions, disposals and dilutions

  97      (134

Underlying

  (11   275   

Significant items

  394        

Adjusted

  383      275   

Revenue73

Reported

  8,803      14,693      (40

Currency translation adjustment74

  (64

Own credit spread75

  226      1,090   

Acquisitions, disposals and dilutions

  89      (5,982

Underlying

  9,118      9,737      (6

Significant items

  361      136   

Adjusted

            9,479                9,873   

LICs

Reported

  (1,197   (3,457   65   

Currency translation adjustment74

  6   

Acquisitions, disposals and dilutions

       325   

Underlying

  (1,197   (3,126   62   

Significant items

         

Adjusted

  (1,197   (3,126

Operating expenses

Reported

  (6,416   (8,940   28   

Currency translation adjustment74

  30   

Acquisitions, disposals and dilutions

  14      796   

Underlying

  (6,402   (8,114   21   

Significant items

  201      1,871   

Adjusted

  (6,201   (6,243

Underlying cost efficiency ratio

  70.2%      83.3%   

Adjusted cost efficiency ratio

  65.4%      63.2%   

Profit/(loss) before tax

Reported

  1,221      2,299      (47

Currency translation adjustment74

  (28

Own credit spread75

  226      1,090   

Acquisitions, disposals and dilutions

  103      (4,861

Underlying

  1,550      (1,500

Significant items

  562      2,007   

Adjusted

  2,112      507   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105as


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Latin America

Reconciliation of reported and constant currency profit before tax

 

 
 
 
        2012 as
reported
US$m
  
  
  
 

 

 

 

Currency

translation

    adjustment

US$m

  

  

74 

  

 

 

 

2012 at 2013

exchange rates

US$m

  

  

  

 
 
 
        2013 as
reported
US$m
  
  
  
 

 

 

        Reported

change

%

  

72 

  

 
 

 

 

        Constant
currency

change

%

  
  

72 

  

Net interest income

  6,984      (440   6,544      6,186      (11   (5

Net fee income

  1,735      (98   1,637      1,701      (2   4   

Net trading income

  971      (74   897      936      (4   4   

Own credit spread75

                   

Other income from financial instruments designated at fair value

  667      (67   600      326      (51   (46

Net income from financial instruments designated at fair value

  667      (67   600      326      (51   (46

Gains less losses from financial investments

  227      (11   216      82      (64   (62

Net insurance premium income

  2,452      (203   2,249      1,830      (25   (19

Other operating income (including dividend income)

  268      (49   219      1,124      319      413   

Total operating income

  13,304      (942   12,362      12,185      (8   (1

Net insurance claims and benefits paid and movement in liabilities to policyholders

  (2,353   217      (2,136   (1,617   31      24   

Net operating income73

  10,951      (725   10,226      10,568      (3   3   

LICs

  (2,137   164      (1,973   (2,666   (25   (35

Net operating income

  8,814      (561   8,253      7,902      (10   (4

Operating expenses

  (6,430   388      (6,042   (5,930   8      2   

Operating profit

  2,384      (173   2,211      1,972      (17   (11

Share of profit from associates and joint ventures

                             

Profit before tax

  2,384      (173   2,211      1,972      (17   (11

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported, underlying and adjusted items – Latin America

 

  2013      2012              Change 72 
    US$m     US$m     %  

Net interest income

Reported

  6,186      6,984      (11

Currency translation adjustment74

  (440

Acquisitions, disposals and dilutions

  (277   (561

Underlying

  5,909      5,983      (1

Significant items

         

Adjusted

  5,909      5,983   

Other operating income

Reported

  1,115      253      341   

Currency translation adjustment74

  (48

Acquisitions, disposals and dilutions

  (1,123   (14

Underlying

  (8   191   

Significant items

         

Adjusted

  (8   191   

Revenue73

Reported

            10,568                10,951      (3

Currency translation adjustment74

  (725

Acquisitions, disposals and dilutions

  (1,495   (805

Underlying

  9,073      9,421      (4

Significant items

  (13   (17

Adjusted

  9,060      9,404   

LICs

Reported

  (2,666   (2,137   (25

Currency translation adjustment74

  164   

Acquisitions, disposals and dilutions

  32      53   

Underlying

  (2,634   (1,920   (37

Significant items

         

Adjusted

  (2,634   (1,920

Operating expenses

Reported

  (5,930   (6,430   8   

Currency translation adjustment74

  388   

Acquisitions, disposals and dilutions

  239      488   

Underlying

  (5,691   (5,554   (2

Significant items

  75      167   

Adjusted

  (5,616   (5,387

Underlying cost efficiency ratio

  62.7%      59.0%   

Adjusted cost efficiency ratio

  62.0%      57.3%   

Profit before tax

Reported

  1,972      2,384      (17

Currency translation adjustment74

  (173

Acquisitions, disposals and dilutions

  (1,224   (264

Underlying

  748      1,947      (62

Significant items

  62      150   

Adjusted

  810      2,097   

For footnotes, see page 109.

 

HSBC HOLDINGS PLC

105au


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

  Other information

 

  Funds under management and assets held in custody     

 

106  

 

  

 

  Taxes paid by region and country     

 

106  

 

  

 

  Property     

 

107  

 

  

 

  Our disclosure philosophy     

 

107  

 

  

 

  Disclosures arising from EDTF recommendations     

 

108  

 

  

 

  Disclosure controls     

 

108a  

 

  

 

 

Management’s assessment of internal controls over financial reporting

 

    

 

108a  

 

  

 

  Change in registrant’s certifying accountant     

 

108a  

 

  

 

            

Funds under management and assets held in custody

Funds under management59

 

         2014          2013  
                 US$bn                  US$bn  

Funds under management

         

At 1 January

       921           910   

Net new money

       38           (18

Value change

       40           34   

Exchange and other

       (45        (5

At 31 December

       954           921   
         
         2014          2013  
         US$bn          US$bn  

Funds under management by business

         

Global Asset Management

       445           420   

Global Private Banking

       275           282   

Affiliates

       5           5   

Other

       229           214   

At 31 December

       954           921   

For footnote, see page 109.

Funds under management (‘FuM’) at 31 December 2014 amounted to US$954bn, an increase of 4%, primarily due to favourable market movements and net inflows in the year.

Global Asset Management FuM increased by 6% to US$445bn as we attracted US$29bn of net new money, notably in fixed income products from our customers in Europe and Asia, as well as from net inflows into liquidity funds in Europe and North America. In addition, we transferred FuM of US$18bn which had previously been reported within Other FuM and we benefited from favourable movements in equity and bond markets. These increases were partly offset by adverse foreign exchange movements reflecting the strengthening of the US dollar against all major currencies.

GPB FuM decreased by 3% to US$275bn due to the ongoing repositioning of our client base, which gave rise to disposals of a portfolio of assets in Switzerland to LGT Bank (Switzerland) Ltd and our HSBC Trinkaus & Burkhardt AG business in Luxembourg with a combined

FuM of US$8bn, and negative net new money in Europe. In addition, there were unfavourable foreign exchange movements, mainly in Europe. This was partly offset by favourable market movements, also principally in Europe, and from positive net new money in areas targeted for growth.

Other FuM increased by 7% to US$229bn, primarily due to strong net inflows and favourable market movements. This was partly offset by the transfer of FuM into Global Asset Management noted above.

Assets held in custody59 and under administration

Custody is the safekeeping and servicing of securities and other financial assets on behalf of clients. At 31 December 2014, we held assets as custodian of US$6.4 trillion, 3% higher than the US$6.2 trillion held at 31 December 2013. This was mainly driven by incremental net asset inflows in Asia and Europe, and notably in Middle East and North Africa, partly offset by adverse foreign exchange movements.

Our assets under administration business, which includes the provision of bond and loan administration services and the valuation of portfolios of securities and other financial assets on behalf of clients, complements the custody business. At 31 December 2014, the value of assets held under administration by the Group amounted to US$3.2 trillion, which was 6% higher than at 31 December 2013. This was mainly driven by incremental net asset inflows in the Funds business in Europe and Asia, which was partly offset by adverse foreign exchange movements.

Taxes paid by region and country

The following tables reflect a geographical view of HSBC’s operations and the basis of preparation is aligned to the Group’s approach in meeting its country-by-country reporting obligations as laid out in Article 89 of the EU’s CRD IV.

Breakdown of tax paid by region60

 

        

2014

        US$bn

        

2013

        US$bn

 

Region

         

UK

       2.4           2.1   

Rest of Europe

       1.3           1.5   

Asia

       2.7           2.5   

Middle East and North Africa

       0.2           0.3   

North America

       (0.1        0.4   

Latin America

       1.4           1.8   

Total

       7.9           8.6   

For footnote, see page 109.

 

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Taxes paid by country60

 

    2014     2013     2012  
          US$m           US$m         US$m  

Total taxes paid analysed by regions

Asia

  2,687      2,536      2,639   

Home and priority growth markets

  2,399      2,185      2,225   

– Hong Kong

  1,273      1,248      974   

– Mainland China

  278      207      276   

– India

  290      318      349   

– Australia

  204      105      209   

– Malaysia

  133      106      193   

– Indonesia

  76      74      113   

– Singapore

  101      88      89   

– Taiwan

  44      39      22   

Other markets

  288      351      414   

Europe

  3,709      3,570      3,213   

Home and priority growth markets

  3,466      3,326      3,021   

– UK

  2,363      2,107      1,906   

– France

  790      844      679   

– Germany

  131      151      200   

– Switzerland

  107      142      160   

– Turkey

  75      82      76   

Other markets

  243      244      192   

Middle East and North Africa

  210      251      284   

Priority growth markets

  162      213      234   

– UAE

  102      98      120   

– Egypt

  60      115      114   

Other markets

  48      38      50   

North America

  (108   414      1,236   

Priority growth markets

                 

– US

  (377   125      798   

– Canada

  269      285      434   

Other markets

       4      4   

Latin America

  1,384      1,836      1,977   

Priority growth markets

  1,338      1,645      1,835   

– Brazil

  804      1,002      1,174   

– Argentina

  333      318      391   

– Mexico

  201      325      270   

Other markets

  46      191      142   

Total

  7,882      8,607      9,349   

For footnote, see page 109.

Property

At 31 December 2014, we operated from some 7,885 operational properties worldwide, of which approximately 1,965 were located in Europe, 2,500 in Asia, 450 in North America, 2,700 in Latin America and 275 in the Middle East and North Africa. These properties had an area of approximately 54.3m square feet (2013: 56.6m square feet).

Our freehold and long leasehold properties, together with all our leasehold land in Hong Kong, were valued in 2014. The value of these properties was US$10.8bn

(2012: US$10.3bn) in excess of their carrying amount in the consolidated balance sheet on an historical cost based measure. In addition, properties with a net book value of US$1.6bn (2013: US$1.5bn) were held for investment purposes.

Our operational properties are stated at cost, being historical cost or fair value at the date of transition to IFRSs (their deemed cost) less any impairment losses, and are depreciated on a basis calculated to write off the assets over their estimated useful lives. Properties owned as a consequence of an acquisition are recognised initially at fair value.

Further details are included in Note 23 on the Financial Statements.

Our disclosure philosophy

HSBC strives to maintain the highest standards of disclosure in our reporting.

It has long been our policy to provide disclosures that help investors and other stakeholders understand the Group’s performance, financial position and changes thereto. In accordance with this policy:

 

  In order to make the financial statements and notes thereon easier to understand, we have undertaken an initiative to provide more focused information and to remove duplication where possible. As a result, we have changed the location and the wording used to describe certain accounting policies within the notes, removed certain immaterial disclosures and changed the order of certain sections. In applying materiality to financial statement disclosures, we consider both the amount and nature of each item. The main changes to the presentation of the financial statements and notes thereon in 2014 are described on pages 346 and 347.

 

  The information provided in the ‘Notes on the Financial Statements’ and the ‘Report of the Directors’ goes beyond the minimum levels required by accounting standards, statutory and regulatory requirements and listing rules. In particular, we provide additional disclosures having regard to the recommendations of the Enhanced Disclosures Task Force (‘EDTF’) report ‘Enhancing the Risk Disclosures of Banks’ issued in October 2012. The report aims to help financial institutions identify areas that investors had highlighted needed better and more transparent information about banks’ risks, and how these risks relate to performance measurement and reporting. In addition, we continue to enhance our disclosures in line with good practice recommendations issued by relevant regulators and standard setters and in response to feedback received from users of our financial statements.
 

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Disclosures arising from EDTF recommendations

 

Type of risk

 

Recommendation Disclosure Page  

General

1

The risks to which the business is exposed.

  112 to 117   
2

Our risk appetite and stress testing.

  117 to 118   
3

Top and emerging risks, and the changes during the reporting period.

  118 to 124   
  4

Discussion of future regulatory developments affecting our business model and Group profitability, and its implementation in Europe.

 

 
 

 

119 to 120 and 252 to
256

 

  
  

 

Risk governance, risk management and business model

5

Group Risk Committee, and their activities.

  280 to 281   

 

6

 

Risk culture and risk governance and ownership.

  111   

 

7

 

Diagram of the risk exposure by global business segment.

  22   
 

8

 

Stress testing and the underlying assumptions.

 

 

 

117 to 118

 

  

 

 

Capital adequacy and risk-weighted assets

 

9

 

Pillar 1 capital requirements.

For calculation of Pillar 1 capital requirements, see the Pillar 3 Disclosures 2014 document.

  258 to 259   
10

Reconciliation of the accounting balance sheet to the regulatory balance sheet.

  249   
11

Flow statement of the movements in regulatory capital since the previous reporting period, including changes in the different tiers of regulatory capital.

  245   
12

Discussion of targeted level of capital, and the plans on how to establish this.

  239 and 252 to 258   
13

Analysis of risk-weighted assets by risk type, global business and geographical region, and market risk RWAs.

  240   
14

For analysis of the capital requirements for each Basel asset class, see the Pillar 3 Disclosures 2014 document.

15

For analysis of credit risk for each Basel asset class, see the Pillar 3 Disclosures 2014 document.

16

Flow statements reconciling the movements in risk-weighted assets for each risk-weighted asset type.

  242 to 244   
  17

For discussion of Basel credit risk model performance, see the Pillar 3 Disclosures 2014 document.

 

     

 

Liquidity

 

 

18

 

 

Analysis of the Group’s liquid asset buffer.

 

 

 

165 to 166

 

  

 

 

Funding

 

19

 

Encumbered and unencumbered assets analysed by balance sheet category.

  171 to 173   
20

Consolidated total assets, liabilities and off-balance sheet commitments analysed by remaining contractual maturity at the balance sheet date.

  426 to 435   
  21

Analysis of the Group’s sources of funding and a description of our funding strategy.

 

 

 

168

 

  

 

 

Market risk

 

22

 

Relationship between the market risk measures for trading and non-trading portfolios and the balance sheet, by business segment.

  179 to 180   
23

Discussion of significant trading and non-trading market risk factors.

  176 to 179   
24

VaR assumptions, limitations and validation.

  223 to 224   
 

25

 

Discussion of stress tests, reverse stress tests and stressed VaR.

 

 

 

224 to 225

 

  

 

 

Credit risk

 

26

 

Analysis of the aggregate credit risk exposures, including details of both personal and wholesale lending.

  129 to 130   
27

Discussion of the policies for identifying impaired loans, defining impairments and renegotiated loans, and explaining loan forbearance policies.

  137 and 208 to 213   
28

Reconciliations of the opening and closing balances of impaired loans and impairment allowances during the year.

  137 and 142 to 143   
29

Analysis of counterparty credit risk that arises from derivative transactions.

  150 to 151   
 

30

 

Discussion of credit risk mitigation, including collateral held for all sources of credit risk.

 

 

 

146 to 150

 

  

 

 

Other risks

 

31

 

Quantified measures of the management of operational risk.

  187 to 189   
 

32

 

Discussion of publicly known risk events.

 

 

 

118 to 124

 

  

 

The 32 recommendations listed above were made in the report ‘Enhancing the Risk Disclosures of Banks’ issued by the Enhanced Disclosure Task Force of the Financial Stability Board in October 2012.

 

HSBC HOLDINGS PLC

108


Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Disclosure controls

The Group Chief Executive and Group Finance Director, with the assistance of other members of management, carried out an evaluation of the effectiveness of the design and operation of HSBC Holdings’ disclosure controls and procedures as at 31 December 2014. Based upon that evaluation, the Group Chief Executive and Group Finance Director concluded that our disclosure controls and procedures as at 31 December 2014 were effective to provide reasonable assurance that information required to be disclosed in the reports which the company files and submits under the US Securities Exchange Act of 1934, as amended, is recorded, processed, summarised and reported as and when required. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives.

There has been no change in HSBC Holdings’ internal controls over financial reporting during the year ended 31 December 2014 that has materially affected, or is reasonably likely to materially affect, HSBC Holdings’ internal controls over financial reporting.

Management’s assessment of internal controls over financial reporting

Management is responsible for establishing and maintaining an adequate internal control structure and procedures for financial reporting, and has completed an assessment of the effectiveness of the Group’s internal controls over financial reporting for the year ended 31 December 2014. In making the assessment, management used the framework for internal control evaluation contained in the Financial Reporting Council’s Internal Control Revised Guidance for Directors, as well as the criteria established by the Committee of Sponsoring Organisations of the Treadway Commission (‘COSO’) in ‘Internal Control-Integrated Framework (1992)’.1

Based on the assessment performed, management concluded that as at 31 December 2014, the Group’s internal controls over financial reporting were effective.

KPMG Audit Plc, which has audited the consolidated financial statements of the Group for the year ended 31 December 2014, has also audited the effectiveness of the Group’s internal control over financial reporting under Auditing Standard No. 5 of the Public Company Accounting Oversight Board (United States) as stated in their report on pages 329 to 333.

 

1 In May 2013, the Committee of Sponsoring Organisations of the Treadway Commission (COSO) issued the 2013 ‘Internal Control — Integrated Framework’ (Framework). The 2013 Framework superseded the original 1992 Framework on 15 December 2014. HSBC is in the process of finalising its migration to the 2013 Framework, which it plans to use with respect to the evaluation of its internal control over financial reporting for the year ending 31 December 2015. HSBC continued to evaluate its internal control over financial reporting under the Financial Reporting Council’s Internal Control Revised Guidance for Directors and the original 1992 Framework for the year ended 31 December 2014.

Change in the Group’s certifying accountant

In 2013 we conducted a tender process for HSBC Holdings plc (the ‘Company’) and its subsidiaries’ (the ‘Group’) statutory audit contract. Accordingly the engagement of KPMG Audit Plc (‘KPMG’), HSBC’s current auditor, will not be renewed in 2015. As a result of the audit tender process we announced on 2 August 2013 that following completion of the audit of the Group financial statements for the year ended 31 December 2014 and the audit of the effectiveness of internal control over financial reporting as of 31 December 2014, PricewaterhouseCoopers LLP will become the Group’s statutory auditor for the financial year ending 31 December 2015, subject to approval by shareholders at the 2015 Annual General Meeting of the Company. This decision was taken by the Board of Directors on the recommendation of the Group Audit Committee.

During the years ended 31 December 2014 and 2013, (1) KPMG has not issued any reports on the financial statements of the Group or on the effectiveness of internal control over financial reporting that contained an adverse opinion or a disclaimer of opinion, nor were the auditors’ reports of KPMG qualified or modified as to uncertainty, audit scope, or accounting principles, (2) there has not been any disagreement over any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedures, which disagreements if not resolved to KPMG’s satisfaction would have caused it to make reference to the subject matter of the disagreement in connection with its auditors’ reports, or any ‘reportable event’ as described in Item 16F(a)(1)(v) of Form 20-F.

Further in the years ended 31 December 2014 and 2013 we have not consulted with PricewaterhouseCoopers LLP regarding either (i) the application of accounting principles to a specified transaction, either completed or proposed, or the type of audit opinion that might be rendered with respect to the consolidated financial statements of the Group; or (ii) any matter that was the subject of a disagreement as that term is used in Item 16F(a)(1)(iv) of Form 20-F or a “reportable event” as described in Item 16F(a)(1)(v) of Form 20-F.

 

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Footnotes to pages 40 to 108

Use of non-GAAP financial measures

 

  1 The operating results of these disposals were removed from adjusted results in addition to disposal gains and losses.
  2 The operating results of these disposals and acquisitions were not removed from adjusted results as they were not significant.
  3 Excludes items where there are substantial offsets in the income statement for the same year.
  4 Net operating income before loan impairment charges and other credit risk provisions, also referred to as revenue.
  5 Positive numbers are favourable: negative numbers are unfavourable.
  6 ‘Currency translation adjustment’ is the effect of translating the results of subsidiaries and associates for the previous year at the average rates of exchange applicable in the current year.
  7 ‘Own credit spread’ includes the fair value movements on our long-term debt attributable to credit spread where the net result of such movements will be zero upon maturity of the debt. This does not include fair value changes due to own credit risk in respect of trading liabilities or derivative liabilities.
  8 From 1 January 2014, the geographical region ‘Asia’ replaced the geographical regions previously reported as ‘Hong Kong’ and ‘Rest of Asia-Pacific’ (see Note 11 on the Financial Statements for further details). Comparative data have been represented accordingly.

Consolidated income statement

 

  9 Dividends recorded in the financial statements are dividends per ordinary share declared in a year and are not dividends in respect of, or for, that year. For further information, see footnote 3 on page 39.
10 Dividends per ordinary share expressed as a percentage of basic earnings per share.
11 Net interest income includes the cost of internally funding trading assets, while the related external revenues are reported in ‘Trading income’. In our global business results, the cost of funding trading assets is included with Global Banking and Market’s net trading income as interest expense.
12 Gross interest yield is the average annualised interest rate earned on average interest-earning assets (‘AIEA’).
13 Net interest spread is the difference between the average annualised interest rate earned on AIEA, net of amortised premiums and loan fees, and the average annualised interest rate paid on average interest-bearing funds.
14 Net interest margin is net interest income expressed as an annualised percentage of AIEA.
15 Interest income on trading assets is reported as ‘Net trading income’ in the consolidated income statement.
16 Interest income on financial assets designated at fair value is reported as ‘Net income from financial instruments designated at fair value’ in the consolidated income statement.
17 Including interest-bearing bank deposits only.
18 Interest expense on financial liabilities designated at fair value is reported as ‘Net income on financial instruments designated at fair value’ in the consolidated income statement, other than interest on own debt which is reported in ‘Interest expense’.
19 Including interest-bearing customer accounts only.
20 Net trading income includes a favourable movement of US$15m (2013: unfavourable movement of US$66m; 2012: unfavourable movement of US$629m), associated with changes in the fair value of issued structured notes and other hybrid instrument liabilities arising from movements in HSBC issuance spreads.
21 Trading income also includes movements on non-qualifying hedges. These hedges are derivatives entered into as part of a documented interest rate management strategy for which hedge accounting was not, nor could be, applied. They are principally cross-currency and interest rate swaps used to economically hedge fixed rate debt issued by HSBC Holdings and floating rate debt issued by HSBC Finance. The size and direction of the changes in the fair value of non-qualifying hedges that are recognised in the income statement can be volatile from year-to-year, but do not alter the cash flows expected as part of the documented interest rate management strategy for both the instruments and the underlying economically hedged assets and liabilities if the derivative is held to maturity.
22 In 2013, we recorded a net gain on US$553m on the completion of the Ping An disposal. This represented the net effect of US$1,235m gain on de-recognition of equity securities classified as available for sale and recorded in ‘Gains less losses from financial investments’, partly offset by US$682m on a contingent forward sale contract, recorded in ‘Net trading income’.
23 Other changes in fair value include gains and losses arising from changes in the fair value of derivatives that are managed in conjunction with HSBC’s long-term debt issued.
24 Net insurance claims and benefits paid and movement in liabilities to policyholders arise from both life and non-life insurance business. For non-life business, amounts reported represent the cost of claims paid during the year and the estimated cost of incurred claims. For life business, the main element of claims is the liability to policyholders created on the initial underwriting of the policy and any subsequent movement in the liability that arises, primarily from the attribution of investment performance to savings-related policies. Consequently, claims rise in line with increases in sales of savings-related business and with investment market growth.
25 The cost efficiency ratio is defined as total operating expenses divided by net operating income before loan impairment charges and other credit risk provisions.

Consolidated balance sheet

 

26 In 2013, GB&M changed the way it manages reverse repo and repo activities in the Credit and Rates business. This led to a decrease in amounts classified as ‘Trading assets’ and ‘Trading liabilities’ in the balance sheet and an increase in the amount classified as ‘Non-trading reverse repos’ at amortised cost and ‘Non-trading repos’ at amortised cost respectively.
27 From 1 January 2014, non-trading reverse repos and repos are presented as separate lines in the balance sheet. Previously, non-trading reverse repos were included within ‘Loans and advances to banks’ and ‘Loans and advances to customers’ and non-trading repos were included within ‘Deposits by banks’ and ‘Customer accounts’. Comparative data have been re-presented accordingly. Non-trading reverse repos and repos have been presented as separate lines in the balance sheet to align disclosure with market practice and provide more meaningful information in relation to loans and advances. The extent to which reverse repos and repos represent loans to/from customers and banks is set out in Note 17 on the Financial Statements.
28 Net of impairment allowances.
29 On 1 January 2014, CRD IV came into force and the calculation of capital resources and risk-weighted assets at 31 December 2014 are calculated and presented on this basis. 2011 to 2013 comparatives are on a Basel 2.5 basis. 2010 comparatives are on a Basel II basis.
30 Capital resources are total regulatory capital, the calculation of which is set out on page 246.
31 Including perpetual preferred securities, details of which can be found in Note 30 on the Financial Statements.
32 The definition of net asset value per ordinary share is total shareholders’ equity, less non-cumulative preference shares and capital securities, divided by the number of ordinary shares in issue excluding shares the company has purchased and are held in treasury.

 

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33 ‘Currency translation adjustment’ is the effect of translating the assets and liabilities of subsidiaries and associates for the previous year-end at the rates of exchange applicable at the current year-end.
34 Balance included in disposal groups of assets held for sale.
35 France primarily comprises the domestic operations of HSBC Finance, HSBC Assurances Vie and the Paris branch of HSBC Bank plc.

Reconciliation of RoRWA measures

 

36 Risk-weighted assets (‘RWA’s) and pre-tax return on average risk-weighted assets (‘RoRWA’).
37 Adjusted RoRWA is calculated using adjusted pre-tax return and reported average RWAs at constant currency and adjusted for the effects of significant items.
38 Other’ includes treasury services related to the US Consumer and Mortgage Lending business and commercial operations in run-off. US CML includes loan portfolios within the run-off business that are designated held for sale.

Global businesses and geographical regions

 

39 The main items reported under ‘Other’ are the results of HSBC’s holding company and financing operations, which includes net interest earned on free capital held centrally, operating costs incurred by the head office operations in providing stewardship and central management services to HSBC, along with the costs incurred by the Group Service Centres and Shared Service Organisations and associated recoveries. The results also include fines and penalties as part of the settlement of investigations into past inadequate compliance with anti-money laundering and sanctions laws, the UK bank levy together with unallocated investment activities, centrally held investment companies, gains arising from the dilution of interests in associates and joint ventures and certain property transactions. In addition, ‘Other’ also includes part of the movement in the fair value of long-term debt designated at fair value (the remainder of the Group’s movement on own debt is included in GB&M).
40 Assets by geographical region and global businesses include intra-HSBC items. These items are eliminated, where appropriate, under the heading ‘Intra-HSBC items’ or ‘inter-segment elimination’, as appropriate.
41 For disposed of businesses, this includes the gain or loss on disposal and material results of operations as described on page 40.
42 Other income in this context comprises where applicable net trading income, net income/(expense) from other financial instruments designated at fair value, gains less losses from financial investments, dividend income, net insurance premium income and other operating income less net insurance claims and benefits paid and movement in liabilities to policyholders.
43 Loan impairment charges and other credit risk provisions.
44 Share of profit in associates and joint ventures.
45 See ‘Use of non-GAAP financial measures’ on page 40. Reconciliation of adjusted results to reported results is provided in the Form 20-F filed with the Securities and Exchange Commission, which is available on www.hsbc.com.
46 The Principal RBWM business measure excludes the effects of the US run-off portfolio and the disposed-of US CRS business. Concentrating on the Principal RBWM business allows management to identify material changes in the ongoing business and assess the factors and trends which are expected to have a material effect on it in future years. Tables which reconcile reported to adjusted financial measures for Principal RBWM are available on www.hsbc.com.
47 ‘Investment distribution’ includes Investments, which comprises mutual funds (HSBC manufactured and third party), structured products and securities trading, and Wealth Insurance distribution, consisting of HSBC manufactured and third-party life, pension and investment insurance products.
48 Other personal lending’ includes personal non-residential closed-end loans and personal overdrafts.
49 Other’ mainly includes the distribution and manufacturing (where applicable) of retail and credit protection insurance.
50 In the analysis of global businesses, net trading income/(expense) comprises all gains and losses from changes in the fair value of financial assets and financial liabilities classified as held for trading, related external and internal interest income and interest expense, and dividends received; in the statutory presentation internal interest income and expense are eliminated.
51 ‘Markets products, Insurance and Investments and Other’ includes revenue from Foreign Exchange, insurance manufacturing and distribution, interest rate management and GCF products.
52 In 2014, Markets included a favourable fair value movement of US$15m on the widening of credit spreads on structured liabilities (2013: adverse fair value movement of US$66m; 2012: adverse fair value movement of US$629m).
53 ‘Other’ in GB&M includes net interest earned on free capital held in the global business not assigned to products, allocated funding costs and gains resulting from business disposals. Within the management view of total operating income, notional tax credits are allocated to the businesses to reflect the economic benefit generated by certain activities which is not reflected within operating income, for example notional credits on income earned from tax-exempt investments where the economic benefit of the activity is reflected in tax expense. In order to reflect the total operating income on an IFRS basis, the offset to these tax credits are included within ‘Other’.
54 ‘Client assets’ are translated at the rates of exchange applicable for their respective period-ends, with the effects of currency translation reported separately. The main components of client assets are funds under management (US$275bn as at 31 December 2014) which are not reported on the Group’s balance sheet, and customer deposits (US$90bn as at 31 December 2014), of which US$85bn is reported on the Group’s balance sheet and US$5bn are off-balance sheet deposits.
55 Inter-segment elimination comprises (i) the costs of shared services and Group Service Centres included within ‘Other’ which are recovered from global businesses, and (ii) the intra-segment funding costs of trading activities undertaken within GB&M. HSBC’s Balance Sheet Management business, reported within GB&M, provides funding to the trading businesses. To report GB&M’s ‘Net trading income’ on a fully funded basis, ‘Net interest income’ and ‘Net interest income/(expense) on trading activities’ are grossed up to reflect internal funding transactions prior to their elimination in the inter-segment column.
56 Net insurance claims and benefits paid and movement in liabilities to policyholders.
57 ‘Employee expenses’ comprise costs directly incurred by each global business. The reallocation and recharging of employee and other expenses directly incurred in the ‘Other’ category are shown in ‘Other operating expenses’.
58 RWAs are non-additive across geographical regions due to market risk diversification effects within the Group.
59 Funds under management and assets held in custody are not reported on the Group’s balance sheet, except where it is deemed that we are acting as principal rather than agent in our role as investment manager, and these assets are consolidated as Structured entities (see Note 39 on the Financial Statements).
60 Taxes paid by HSBC relate to HSBC’s own tax liabilities including tax on profits earned, employer taxes, bank levy and other duties/levies such as stamp duty. Numbers are reported on a cash flow basis.

 

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Average balance sheet

 

61 Interest income on trading assets is reported as ‘Net trading income’ in the consolidated income statement.
62 Interest income on financial assets designated at fair value is reported as ‘Net income from financial instruments designated at fair value’ in the consolidated income statement.
63 From 1 January 2014, the geographical region ‘Asia’ replaced the geographical regions previously reported as ‘Hong Kong and Rest of Asia-Pacific’ (see Note 11 on the Financial Statements for further details). Comparative data have been represented accordingly.
64 This includes interest-bearing bank deposits only. See page 60(n) for an analysis of all bank deposits.
65 Interest expense on financial liabilities designated at fair value is reported as ‘Net income on financial instruments designated at fair value’ in the consolidated income statement, other than interest on own debt which is reported in ‘Interest Expense’.
66 This includes interest-bearing customer accounts only. See page 60(n) for an analysis of all customer accounts.
67 Net interest margin is calculated as net interest income divided by average interest earning assets.
68 In 2012 CMB results include US$128m of net operating income and US$43m of profit before tax related to low income housing tax credit investments in the US which are offset within the ‘Other’ segment.

Ratio of earnings to fixed charges

 

69 For the purpose of calculating the ratios, earnings consist of income from continuing operations before taxation and non-controlling interests, plus fixed charges, and after deduction of the unremitted pre-tax income of associated undertakings. Fixed charges consist of total interest expense, including or excluding interest on deposits, as appropriate, dividends on preference shares and other equity instruments, as applicable, and the proportion of rental expense deemed representative of the interest factor.

Reconciliations of non-GAAP financial measures

 

70 The operating results of these disposals were removed from underlying results in addition to disposal gains and losses.
71 The operating results of these disposals and acquisitions were not removed from underlying results as they were not significant.
72 Positive numbers are favourable: negative numbers are unfavourable.
73 Net operating income before loan impairment charges and other credit risk provisions, also referred to as ‘revenue’.
74 ‘Currency translation on adjustment’ is the effect of translating the results of subsidiaries and associates for the previous year at the average rates of exchange applicable in the current year.
75 ‘Own credit spread’ includes the fair value movements on our long-term debt attributable to credit spread where the net result of such movements will be zero upon maturity of the debt. This does not include fair value changes due to own credit risk in respect of trading liabilities or derivative liabilities.
76 From 1 January 2014, the geographical region ‘Asia’ replaced the geographical regions previously reported as ‘Hong Kong’ and ‘Rest of Asia-Pacific’ (See Note11 on the Financial Statements for further details). Comparative data have been represented accordingly.
77 ‘Currency translation adjustment’ is the effect of translating the assets and liabilities of subsidiaries and associates for the previous year-end at the rates of exchange applicable at the current year-end.
78 The Principal RBWM business measure excludes the effects of the US run-off portfolio and the disposed-of US CRS business. Concentrating on the Principal RBWM business allows management to identify material changes in the ongoing business and assess the factors and trends which are expected to have a material effect on it in future years. Tables which reconcile reported RBWM financial measures to Principal RBWM financial measures are available on www.hsbc.com.
79 Excludes items where there are substantial offsets in the income statement for the same year.
80 Other income in this context comprises where applicable net trading income, net income/(expense) from other financial instruments designated at fair value, gains less losses from financial investments, dividend income, net earned insurance premiums and other operating income less net insurance claims incurred and movement in liabilities to policyholders.
81 Net insurance claims incurred and movement in liabilities to shareholders.

 

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Regulation and supervision

(Unaudited)

 

With listings of its ordinary shares in London, Hong Kong, New York, Paris and Bermuda, HSBC Holdings complies with the relevant requirements for listing and trading on each of these exchanges. In the UK, these are the Listing Rules of the Financial Conduct Authority (‘FCA’) in its role as the UK Listing Authority; in Hong Kong, The Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited (‘HKSE’); in the US, where the shares are traded in the form of ADS, HSBC Holdings’ shares are registered with the US Securities and Exchange Commission (‘SEC’). As a consequence of its US listing, HSBC Holdings is also subject to the reporting and other requirements of the US Securities Act of 1933, as amended, the Securities Exchange Act of 1934, as amended, and the New York Stock Exchange’s (‘NYSE’) Listed Company Manual, in each case as applied to foreign private issuers. In France and Bermuda, HSBC Holdings is subject to the listing rules of Euronext, Paris and the Bermuda Stock Exchange respectively, applicable to companies with secondary listings.

A statement of our compliance with the provisions of the UK Corporate Governance Code issued by the Financial Reporting Council and with the Hong Kong Corporate Governance Code set out in Appendix 14 to the Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited can be found in the ‘Report of the Directors: Corporate Governance’ on page 263.

Our operations throughout the world are regulated and supervised by over 400 different central banks and other regulatory authorities in those jurisdictions in which we have offices, branches or subsidiaries. These authorities impose a variety of requirements and controls designed to provide financial stability, transparency in financial markets and a contribution to economic growth. These regulations and controls cover, inter alia, capital adequacy, depositor protection, market liquidity, governance standards, customer protection (for example, fair lending practices, product design and marketing and documentation standards), and financial crime and other obligations (for example, anti-money laundering, anti-bribery and corruption, and anti-terrorist financing measures). In addition, a number of countries in which we operate impose rules that affect, or place limitations on, foreign or foreign-owned or controlled banks and financial institutions. The rules include restrictions on the opening of local offices, branches or subsidiaries and the types of banking and non-banking activities that may be conducted by those local offices, branches or subsidiaries; restrictions on the acquisition of local banks or regulations requiring a specified percentage of local ownership; and restrictions on investment and other financial flows entering or leaving the country. Country supervisory and regulatory regimes will determine to some degree our ability to expand into new markets, the services and products that

we will be able to offer in those markets and how we structure specific operations. As a result of government interventions in response to global economic conditions, there has been (and it is expected that there will continue to be) a substantial increase in government regulation and supervision of the financial services industry, including the imposition of higher capital and liquidity requirements, heightened disclosure standards and restrictions on certain types of products or transaction structures.

The Prudential Regulation Authority (‘PRA’) is the HSBC Group’s consolidated lead regulator. The other UK regulator, the FCA, supervises 12 HSBC regulated entities in the UK, including 7 where the PRA is responsible for prudential supervision. The FCA also supervises the Group globally in relation to financial crime matters. Additionally, both the PRA and FCA have certain limited direct supervisory powers over our unregulated qualifying parent company HSBC Holdings plc, including (in the FCA’s case) pursuant to the undertaking with the FSA (revised as the ‘FCA Direction’ on 2 April 2013) in connection with HSBC Holdings plc and HSBC North America Holdings, Inc. having entered into agreements as part of a global settlement with a number of US authorities in relation to the Group’s failure to comply with anti-money laundering (‘AML’) rules, US sanctions requirements and related matters. In addition, each operating bank, finance company or insurance operation within HSBC is regulated by local supervisors.

The primary regulatory authorities are those in the UK, Hong Kong and the US, our principal jurisdictions of operation. However, and in addition, with the implementation of the EU’s Single Supervisory Mechanism (‘SSM’) in 19 EU member states on 4 November 2014, the European Central Bank (‘ECB’) assumed direct supervisory responsibility for HSBC France and HSBC Malta as ‘significant supervised entities’ within the Eurozone for the purposes of the EU’s SSM Regulation. Under the SSM, the ECB will also increasingly engage with the relevant ‘National Competent Authorities’ in relation to HSBC’s businesses in other Eurozone countries and more widely with other HSBC regulators. It is therefore expected that we will continue to see changes in how the Group is regulated and supervised on a day-to-day basis in the Eurozone and more generally as the ECB and other of our regulators develop their powers having regard to some of the regulatory initiatives highlighted in this report.

UK regulation and supervision

The UK financial services regulatory structure is comprised of three regulatory bodies: the Financial Policy Committee (‘FPC’), a committee of the Bank of England (‘BoE’), the PRA, a subsidiary of the BoE and the FCA.

The FPC is responsible for macro-prudential supervision, focussing on systemic risk that may affect the UK’s financial stability. The PRA and the FCA are micro-prudential supervisors. The Group’s banking subsidiaries such as HSBC Bank plc (our principal authorised

 

 

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institution in the UK) are ‘dual-regulated’ firms, subject to prudential regulation by the PRA and to conduct regulation by the FCA. Other (generally smaller, non-bank) UK based Group subsidiaries are ‘solo regulated’ by the FCA (i.e. the FCA is responsible for both prudential and conduct regulation of those subsidiaries).

UK banking and financial services institutions are subject to multiple regulations. The primary UK statute in this context is the Financial Services and Markets Act 2000 (‘FSMA’), as amended by subsequent legislation. Other UK financial services legislation includes that derived from EU directives and regulations relating to banking, securities, insurance, investments and sales of personal financial services.

The PRA and FCA are together responsible for authorising and supervising all our operating businesses in the UK which require authorisation under FSMA. These include deposit-taking, retail banking, life and general insurance, pensions, investments, mortgages, custody and share-dealing businesses and treasury and capital markets activity.

PRA and FCA rules establish the minimum criteria for the authorisation of banks and financial services businesses. In the UK and the PRA and FCA have the right to object, on prudential grounds, to persons who hold, or intend to hold, 10% or more of the voting power or shares of a financial institution that it regulates, or of its parent undertaking. PRA rules also set out reporting (and, as applicable, consent) requirements with regard to large individual exposures and large exposures to related borrowers. In its capacity as our supervisor on a consolidated basis, the PRA receives information on the capital adequacy of, and sets requirements for, the Group as a whole. Individual banking subsidiaries in the Group are directly regulated by their local banking supervisors, who set and monitor, inter alia, their capital adequacy requirements.

The PRA and FCA monitor authorised institutions through ongoing supervision and the review of routine and ad hoc reports relating to financial, prudential and conduct of business matters. They may also obtain independent reports from a skilled person on the adequacy of procedures and systems covering internal control and governing records and accounting. The PRA meet regularly with the Group’s senior executives to discuss our adherence to the PRA’s prudential guidelines. In addition, both the PRA and FCA regularly discuss fundamental matters relating to our business in the UK and internationally, including areas such as strategic and operating plans, risk control, loan portfolio composition and organisational changes, including succession planning and recovery and resolution arrangements.

With the rapid pace of regulatory change and market conditions, we continue to experience a high level of ongoing interaction with both the PRA and the FCA.

In 2013, we calculated capital at a Group level using the Basel II framework as amended for CRD III, commonly known as ‘Basel 2.5’, and also estimated capital on an

‘end point’ CRD IV basis. On 1 January 2014, CRD IV came into force and capital and RWAs at 31 December 2014 are calculated and presented on the Group’s interpretation of final CRD IV legislation and final rules issued by the PRA.

The Basel III framework, similarly to Basel II, is structured around three ‘pillars’: minimum capital requirements, supervisory review process and market discipline. CRD IV implemented Basel III in the EU and, in the UK, the ‘PRA Rulebook CRR Firms Instrument 2013’ transposed the various national discretions under CRD IV into UK law.

In its final rules, the PRA did not adopt most of the CRD IV transitional provisions available, instead opting for an acceleration of the CRD IV end point definition of common equity tier 1 (‘CET1’). However CRD IV transitional provisions for unrealised gains were applied, such that unrealised gains on investment property and available-for-sale securities were not recognised for capital until 1 January 2015. As a result, in 2014, our transitional capital ratio is slightly lower than the comparable end point capital ratio.

In April 2014, the PRA published its rules and supervisory statements implementing some of the CRD IV provisions relating to capital buffers. In addition, in June 2014 the PRA published its expectations in relation to capital ratios for major UK banks and building societies, namely that from 1 July 2014, we are expected to meet a 7% CET1 ratio using CRD IV end point definition. This applies alongside CRD IV requirements. This also included a revised PRA expectation in relation to the leverage ratio for major UK banks and building societies, namely that from 1 July 2014, we are expected to meet a 3% end-point tier 1 leverage ratio, calculated using the CRD IV definition of capital for the numerator and the Basel 2014 exposure measure for the denominator.

In January 2015, the PRA issued a letter setting out the approach to be taken for calculating the leverage ratio for 2014 year end disclosures. While the numerator continues to be calculated using the final CRD IV end point tier 1 capital definition, the exposure measure is now calculated based the EU delegated act published in January 2015 (rather than the Basel 2014 definition used in the Interim Report 2014). Further details of this can be found in the Capital section on page 251.

Despite the rules published to date, there remains continued uncertainty around the amount of capital that UK banks will be required to hold. This relates specifically to the quantification and interaction of capital buffers and Pillar 2. The PRA is currently consulting on their revised approach to Pillar 2, the PRA buffer and its interaction with the CRD IV buffers. Furthermore, there are a significant number of draft and unpublished EBA regulatory and implementing technical standards due in 2015.

CRD IV establishes a number of capital buffers, to be met by CET1 capital, broadly aligned with the Basel III framework. CRD IV contemplates that these will be

 

 

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phased in from 1 January 2016, subject to national discretion. Automatic restrictions on capital distributions apply if a bank’s CET1 capital falls below the level of its CRD IV combined buffer. This is defined as the total of the capital conservation buffer (‘CCB’), the countercyclical capital buffer (‘CCyB’), the global systemically important institutions (‘G-SIIs’) buffer and the systemic risk buffer (‘SRB’) as these become applicable. The PRA have proposed that the use of the PRA buffer will not result in automatic restrictions on capital distributions.

In April 2014, HM Treasury published the statutory instrument ‘Capital Requirements (Capital Buffers and Macro-Prudential Measures) Regulations 2014’ transposing into UK legislation the main provisions in CRD IV related to capital buffers, with the exception of the SRB. In January 2015, HM Treasury published amendments to this statutory instrument in order to transpose the SRB.

The PRA is the designated authority for the G-SII buffer, the other systemically important institutions (‘O-SII’s) buffer and the CCB. In April 2014, they published rules and supervisory statements implementing the main CRD IV provisions in relation to these buffers. The BoE is the designated authority for the CCyB and macro-prudential measures. Whilst the PRA and the FCA are the designated authorities for applying and determining the SRB, the FPC is responsible for creating the SRB framework for calibration.

The G-SII buffer (which is the EU implementation of the Basel G-SIB buffer) is to be met with CET1 capital and will be phased in from 1 January 2016. In October 2014, finalised Regulatory Technical Standards (‘RTS’) on the methodology for identification of G-SIIs were published in the EU’s Official Journal and came into effect from 1 January 2015. In November 2014 the Financial Stability Board (‘FSB’) and the Basel Committee updated the list of G-SIBs, using end-2013 data. The add-on of 2.5% previously assigned to HSBC was left unchanged.

Following direction from the PRA to UK banks in its Supervisory Statement issued in April 2014, and in accordance with the EBA final draft Implementing Technical Standards (‘ITS’) and guidelines published in June 2014, we published the EBA template in July 2014. This disclosed the information used for the identification and scoring process which underpins our G-SIB designation. The final ITS for disclosure requirements were published in September 2014, and will form the basis of our future 2015 disclosure of G-SII indicators.

The CCB was designed to ensure banks build up capital outside periods of stress that can be drawn down when losses are incurred and is set at 2.5% of RWAs. The PRA will phase-in this buffer from 1 January 2016 to 1 January 2019.

CRD IV contemplates a countercyclical buffer in line with Basel III, in the form of an institution-specific CCyB and the application of increased requirements to address macro-prudential or systemic risk. In January 2014, the FPC issued a policy statement on its powers to

supplement capital requirements, through the use of the CCyB and the sectoral capital requirements (‘SCR’) tools.

The CCyB is expected to be set in the range of 0-2.5% of relevant credit exposures RWAs, although it is uncapped. Under UK legislation, the FPC is required to determine whether to recognise any CCyB rates set by other EEA countries before 2016.

In June 2014, the FPC set the CCyB rate for UK exposures at 0%. At its September 2014 meeting, the FPC left the CCyB rate for UK exposures unchanged at 0% and recognised the 1% CCyB rates introduced by Norway and Sweden to become effective from 3 October 2015. In January 2015, the HKMA announced the application of a CCyB rate of 0.625% to Hong Kong exposures, to apply from 1 January 2016. In accordance with UK legislation and PRA supervisory statement PS 3/14, this rate will directly apply to the calculation of our institution-specific CCyB rate from 1 January 2016. The institution-specific CCyB rate for the Group will be based on the weighted average of the CCyB rates that apply in the jurisdictions where relevant credit exposures are located. Currently the Group’s institution specific CCyB is zero. The SCR tool is not currently deployed in the UK.

In addition to the measures above, CRD IV sets out a SRB for the financial sector as a whole, or one or more sub-sectors, to be deployed as necessary by each EU member state with a view to mitigating structural macro-prudential risk.

In January 2015, the legislative changes necessary to transpose the SRB were implemented. The SRB is to be applied to ring-fenced banks and building societies (over a certain threshold), which are together defined as ‘SRB institutions’. The SRB can be applied on an individual, sub-consolidated or consolidated basis and is applicable from 1 January 2019. By 31 May 2016, the FPC is required to create a framework for identifying the extent to which the failure or distress of SRB institutions will pose certain long-term non-cyclical systemic or macro-prudential risks. The PRA will apply this framework to determine whether specific SRB institutions would be subject to an SRB rate, and the level at which the buffer would be applied and is able to exercise supervisory judgment to determine what the rate should be. Where applicable, the buffer rate must be set in the range of 1% to 3%. The buffer rate would apply to all the SRB institution’s exposures unless the PRA has recognised a buffer rate set in another member state. If the SRB is applied on a consolidated basis it is expected that the higher of the G-SII or SRB would apply, in accordance with CRD IV.

Under the Pillar 2 framework, banks are already required to hold capital in respect of the internal capital adequacy assessment and supervisory review which leads to a final determination by the PRA of individual capital guidance under Pillar 2A and Pillar 2B. Pillar 2A was previously met by total capital, but since 1 January 2015, in accordance with the PRA supervisory statement SS 5/13, is met with at least 56% CET1.

 

 

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Pillar 2A guidance is a point in time assessment of the amount of capital the PRA considers that a bank should hold to meet the overall financial adequacy rule. It is therefore subject to change pending annual assessment and the supervisory review process. During 2014, the Group Pillar 2A guidance amounted to 1.5% of RWAs, of which 0.9% was to be met by CET1. In February 2015, this was revised to 2.0% of RWAs, of which 1.1% is to be met by CET1 and is effective immediately.

In January 2015, the PRA published a consultation on the Pillar 2 framework. This set out the methodologies that the PRA proposed to use to inform its setting of firms’ Pillar 2 capital requirements, including proposing new approaches for determining Pillar 2 requirements for credit risk, operational risk, credit concentration risk and pension obligation risk.

As part of CRD IV implementation, the PRA proposed to introduce a PRA buffer, to replace the capital planning buffer (‘CPB’) (known as Pillar 2B), also to be held in the form of CET1 capital. This was reconfirmed in the recent PRA consultation on the Pillar 2 framework. It is proposed that a PRA buffer will avoid duplication with CRD IV buffers and will be set for a particular firm depending on its vulnerability in a stress scenario or where the PRA has identified risk management and governance failings. In order to address weaknesses in risk management and governance, the PRA propose a scalar applied to firms’ CET1 Pillar 1 and Pillar 2A capital requirements. Where the PRA considers there is overlap between the CRD IV buffers and the PRA buffer assessment, the PRA proposes to set the PRA buffer as the excess capital required over and above the CCB and relevant systemic buffers. The PRA buffer will however be in addition to the CCyB and sectoral capital requirements.

The PRA expects to finalise the Pillar 2 framework in July 2015, with implementation expected from 1 January 2016. Until this consultation is finalised and revised rules and guidance issued, there remains uncertainty as to the exact buffer rate requirements, and their ultimate capital impact.

The FPC has been granted powers to give directions to the FCA or the PRA on the exercise of their supervisory powers, and may make recommendations within the BoE, to HM Treasury, to the FCA or the PRA or to ‘other persons’.

Within the BoE, the FPC is responsible for setting the CCyB rate and the use of direction powers over SCR’s. The UK legislation enabled use of the CCyB and SCR tools from 1 May 2014. In January 2014, the FPC issued a policy statement on its powers to supplement capital requirements, through the use of the CCyB and the SCR tools. The CCyB allows the FPC to raise capital requirements above the micro-prudential level for all exposures to borrowers in the UK. The SCR is a more targeted tool which allows the FPC to increase capital requirements above minimum regulatory standards for exposures to three broad sectors judged to pose a risk to the stability of the financial system as a whole;

residential and commercial property; and, other parts of the financial sector, potentially on a global basis

The CCyB and SCR tools are stated as broad powers designed to reduce the likelihood and severity of financial crises, their primary purpose being to tackle cyclical risks. Both tools provide the FPC with means to increase the amount of capital that banks must have when threats to financial stability are judged to be emerging.

In October 2014, the FPC published final recommendations on the design of a UK specific leverage ratio framework and calibration. This followed an earlier FPC consultation in July 2014 on the design of the framework. HM Treasury published a consultation paper in November 2014, which responded to and agreed with the FPC recommendations in relation to the design of the leverage ratio framework. Specifically, HM Treasury agreed that the FPC should be granted powers to direct the PRA on a minimum requirement, additional leverage ratio buffer (for G-SIBs, major UK banks and building societies including ring fenced banks) and a countercyclical leverage ratio buffer (‘CCLB’). In February 2015, HM Treasury published a summary of responses, alongside the draft instrument which was laid before Parliament. Further details of this can be found in the Capital section on page 255.

In the third quarter of 2014, and in response to UK government proposals, the FPC also recommended that HM Treasury exercise its statutory power to enable the FPC to direct the PRA and FCA to require UK regulated lenders to place limits on residential mortgage lending, both owner occupied and buy-to-let by reference to loan-to-value, debt-to income and interest coverage ratios. In February 2015, HM Treasury published a summary of responses to an earlier consultation. As part of this, HM Treasury laid secondary legislation before Parliament to provide the FPC with a new power of direction over the housing market.

There are a substantial number of other on-going regulatory initiatives affecting the Group driven by or from the UK. These include the UK bank levy, on-going implementation of requirements regarding recovery and resolution plans (‘RRP’) and of the recommendations of the UK Independent Commission on Banking (‘ICB’) and the Parliamentary Commission on Banking Standards (‘PCBS’) in relation to ring-fencing of retail banking activities.

Legislation in respect of the UK bank levy was substantively created in July 2011, in the form of the Finance Act 2011 and the levy has been applied since January 2011. HSBC is a UK banking group for these purposes and the UK levy is chargeable on the Group’s consolidated balance sheet at the year end. A charge of US$1,108m for the UK bank levy on the 2014 balance sheet has been recognised of which US$641m does not relate to UK banking activity.

 

 

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In relation to recovery and resolution planning, following the financial crisis, G20 leaders requested the Financial Stability Board (‘FSB’) to establish more effective arrangements for the recovery and resolution of 28 (now 30) designated G-SIBs resulting in a series of policy recommendations in relation to recovery and resolution planning, cross border cooperation agreements and measures to mitigate obstacles to resolution.

In December 2013, the PRA set out rules for recovery and resolution of UK banks and international banks operating in the UK, which came into effect on 1 January 2014. In January 2015, the PRA published a policy statement containing updated requirements for recovery and resolution planning in order to implement the EU Bank Recovery and Resolution Directive (‘BRRD’) which came into effect from 1 January 2015.

In addition to the developing rules in the UK relevant to the Group as a whole, many individual legal entities outside the UK are (or may in future be) subject to their own local requirements regarding RRP.

In December 2013, the UK’s Financial Services (Banking Reform) Act 2013 (‘Banking Reform Act’) received royal assent. It implements most of the primary recommendations of the ICB, which inter alia require large banking groups to ‘ring-fence’ UK retail banking activity in a separately incorporated banking subsidiary (a ‘ring-fenced bank’) that is prohibited from engaging in significant trading activity. For these purposes, the UK excludes the Crown Dependencies. Ring-fencing will take effect from 1 January 2019.

In July 2014, secondary legislation was finalised. This included provisions further detailing the applicable individuals and enterprises to be transferred to the ring-fenced bank by reference to gross worth and turnover levels respectively. In addition, the secondary legislation places restrictions on the activities and geographical scope of ring-fenced banks.

In October 2014, the PRA published a consultation paper on ring-fencing rules in relation to legal structure, governance and continuity of services and facilities. The PRA also published a discussion paper concerning operational continuity in resolution. The PRA intends to undertake further consultation and finalise ring-fencing rules in due course. The PRA also published a discussion paper concerning operational continuity in resolution. As required by the PRA’s consultation paper, a provisional ring-fencing project plan was presented to the UK regulators in November 2014. This plan provided for ring-fencing of the activities prescribed in the legislation, broadly the retail and SME services that are currently part of HSBC Bank plc (‘HSBC Bank’), in a separate subsidiary.

In addition, the plan reflected the operational continuity expectations of each of the PRA’s consultation and discussion papers by providing for the proposed enhancement of the ServCo Group. The plan remains subject to further planning and approvals internally and is ultimately subject to the approval of the PRA, FCA and other applicable regulators.

Further reforms currently in the process of implementation as a result of ICB and PCBS proposals

include the introduction of a new framework for individuals aimed at strengthening accountability in banking (including a new ‘Senior Managers’ Regime’) and new remuneration rules intended to strengthen the alignment between risk and reward. Whilst proposed by the PRA and FCA, these initiatives may have some effect on HSBC’s staff and operations outside the UK and HSBC is actively engaged in consultations on and preparation for these new regimes.

At a national level in the UK, other relevant regulatory initiatives include a continued high levels of focus by the FCA on the management of conduct of business including attention to sales processes and incentives, product and investment suitability, product governance, employee activities and accountabilities as well as the risks of market abuse in relation to benchmark, index, other rate setting processes and wider trading activities and the financial crime (AML, sanctions and anti-bribery) agenda. The FCA also continues work to establish a new Payment Systems Regulator (‘PSR’) in the UK with the intention of the PSR being operational by 1 April 2015.

The FCA continues to make increasing use of existing and new powers of intervention and enforcement, including powers to consider past business undertaken and implement customer compensation and redress schemes or other, potentially significant, remedial work. The FCA is also now regulating areas of activity not previously regulated by them, such as consumer credit, and considering competition issues in the markets they regulate.

These ongoing changes mean that the FCA and other regulators increasingly take actions in response to customer complaints or where they see poor customer outcomes and/or market abuses, either specific to an institution or more generally in relation to a particular product. There have been recent examples of this approach by regulators in the context of the mis-selling of payment protection insurance (‘PPI’), interest rate hedging products to SMEs and wealth management products.

The FCA is also involved (along with HM Treasury) in the Fair and Effective Financial Markets Review, established by the UK Government in June 2014 and led by the BoE. This review was established with the aim of reinforcing confidence in the fairness and effectiveness of wholesale financial market activity in the UK and to influence the international debate on trading practices. Work to date includes considering the fairness and effectiveness of the fixed income, foreign exchange and commodities markets and the Review is expected to produce its final report by June 2015.

In a similar vein, on 6 November 2014, and following an earlier consultation, the UK Competition and Markets Authority (‘CMA’) announced an in depth investigation into the supply of retail banking services to personal current account and to SME customers in the UK. The investigation is based on the CMA concerns that there are features of both sectors that (alone or in combination) it suspects prevent, restrict or distort competition. The CMA has indicated that it intends to

 

 

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notify provisional findings and possible remedies in September 2015 and the statutory deadline for the CMA’s final report is 5 May 2016.

Either or both of these reviews could lead to the imposition of new or additional requirements or remedies which could affect the scope or operation of HSBC’s activities in the UK.

Similarly, the UK and other regulators may identify future industry-wide mis-selling, market conduct or other issues that could affect the Group. This may lead from time to time to: (i) significant direct costs or liabilities; and (ii) changes in the practices of such businesses. Further, decisions taken in the UK by the Financial Ombudsman Service in relation to customer complaints (or any overseas equivalent that has jurisdiction) could, if applied to a wider class or grouping of customers, have a material adverse effect on the operating results, financial condition and prospects of the Group.

The FCA also continues to apply close scrutiny to the Group’s financial crime control framework both generally in conjunction with the exercise of its wider powers under FSMA and more specifically under the FCA Direction as described above. This includes ongoing consideration of the Group’s progress in meeting its obligations under the Deferred Prosecution Agreement and other commitments outlined below.

Hong Kong regulation and supervision

Banking in Hong Kong is subject to the provisions of the Banking Ordinance and to the powers, functions and duties ascribed by the Banking Ordinance to the Hong Kong Monetary Authority (the ‘HKMA’). The principal function of the HKMA is to promote the general stability and effective working of the banking system in Hong Kong. The HKMA is responsible for supervising compliance with the provisions of the Banking Ordinance. The Banking Ordinance gives power to the Chief Executive of Hong Kong to give directions to the HKMA and the Financial Secretary with respect to the exercise of their respective functions under the Banking Ordinance.

The HKMA has responsibility for authorising banks, and has discretion to attach conditions to its authorisation. The HKMA requires that banks or their holding companies file regular prudential returns, and holds regular discussions with the management of the banks to review their operations. The HKMA may also conduct ‘on-site’ examinations of banks and, in the case of banks incorporated in Hong Kong, of any local and overseas branches and subsidiaries. The HKMA requires all authorised institutions to have adequate systems of internal control and requires the institutions’ external auditors, upon request, to report on those systems and other matters such as the accuracy of information provided to the HKMA. In addition, the HKMA may from time to time conduct tripartite discussions with banks and their external auditors.

The HKMA has the power to serve a notice of objection on persons if they are no longer deemed to be fit and

proper to be controllers of the bank, if they may otherwise threaten the interests of depositors or potential depositors, or if they have contravened any conditions specified by the HKMA. The HKMA may revoke authorisation in the event of an institution’s non-compliance with the provisions of the Banking Ordinance. These provisions require, among other things, the furnishing of accurate reports. The HKMA has implemented Basel II for all authorised institutions incorporated in Hong Kong and subsequently adopted Basel III from 1 January 2013, implementing in accordance with the Basel Committee on Banking Supervision’s timetable, including transitional arrangements.

The marketing of, dealing in and provision of advice and asset management services in relation to securities and futures in Hong Kong are subject to the provisions of the Securities and Futures Ordinance of Hong Kong. Entities engaging in activities regulated by the Ordinance are required to be licensed. The HKMA is the primary regulator for banks involved in the securities business, while the Securities and Futures Commission (‘SFC’) is the regulator for securities and futures markets. Amongst other functions, the Securities and Futures Ordinance vested the SFC with powers to set and enforce market regulations, including investigating breaches of rules and market misconduct and taking appropriate enforcement action. The SFC is responsible for licensing and supervising intermediaries seeking to conduct SFC regulated activities, for example investment advisors, fund managers and brokers. Additionally the SFC authorises investment products and offering documents prior to their distribution to retail investors.

US regulation and supervision

The Group is subject to extensive federal and state supervision and regulation in the US. Banking laws and regulations of the Board of Governors of the Federal Reserve System (the ‘Federal Reserve Board’), the Office of the Comptroller of the Currency (the ‘OCC’) and the Federal Deposit Insurance Corporation (the ‘FDIC’) (collectively, the ‘US banking regulators’) govern many aspects of our US business. Furthermore, since we have substantial operations outside the US which conduct many of their day-to-day transactions in US dollars which are ultimately cleared and settled in the US, HSBC entities’ operations outside the US are also subject to the extra-territorial effects of US regulation in many respects. The requirements of the Deferred Prosecution Agreement entered into by HSBC in December 2012 and described in this section under ‘Anti-money laundering and related regulation’ should also be noted in this context.

In July 2010, the US enacted the Dodd-Frank Wall Street Reform and Consumer Protection Act (‘Dodd-Frank’), which provided a broad framework for significant regulatory changes extending to almost every area of US financial regulation. The implementation of Dodd-Frank has required further detailed rulemakings by different US regulators, including the Department of the Treasury, the Federal Reserve Board, the FDIC, the SEC, the

 

 

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Commodity Futures Trading Commission (‘CFTC’), the Financial Stability Oversight Council (‘FSOC’) and the Consumer Financial Protection Bureau (‘CFPB’). Notwithstanding the time that has passed since Dodd-Frank was enacted, uncertainty remains about some of the final details, timing and impact of the rules.

The Federal Reserve Board, in consultation with the FSOC may take certain actions, including precluding mergers, restricting financial products offered, restricting or terminating activities, imposing conditions on activities or requiring the sale or transfer of assets, against any bank holding company with assets greater than US$50bn that is found to pose a grave threat to financial stability. The FSOC is supported by the Office of Financial Research (‘OFR’) which may impose data reporting requirements on financial institutions. The cost of operating both the FSOC and OFR is paid for through an assessment on large bank holding companies.

In January 2014, the Federal Reserve Board implemented the Basel III capital framework for bank holding companies such as HSBC North America Holdings Inc. (‘HNAH’), which will phase in many of the requirements, including a minimum supplementary leverage ratio (‘SLR’) of 3% and an effective minimum total risk-based capital ratio of 10.5% over a transition period from 2014 to 2019. The 10.5% ratio includes the capital conservation buffer which is not a minimum requirement, per se, but rather a necessary condition to capital distributions. Additionally, failure to maintain minimum regulatory ratios in simulated stress conditions, as required by the Federal Reserve Board’s Comprehensive Capital Analysis and Review (‘CCAR’) programme, will restrict HNAH from engaging in capital distributions such as dividends or share repurchases. In addition, large bank holding companies such as HNAH (or their parent companies) are required to file resolution plans identifying material subsidiaries and core business lines domiciled in the US, describing what strategy would be followed in the event of significant financial distress and including identifying how insured bank subsidiaries are adequately protected from risk created by other affiliates. If the Federal Reserve Board and the FDIC were to determine that these plans are not ‘credible’ (which, although not defined, is generally believed to mean the regulators do not believe the plans are feasible or would otherwise allow the regulators to resolve the US businesses in a way that protects systematically important functions without severed systematic disruption and without exposing taxpayers to loss), our failure to cure the deficiencies in the required time period would enable the US regulators to impose more stringent capital, leverage and liquidity requirements, restrict the growth, activities or operations of the company or, if such failure persists, require the company to divest assets or operations. The Federal Reserve Board has also adopted final rules requiring a series of increased supervisory standards to be followed by large bank holding companies, and certain foreign banking organisations that meet particular thresholds, including stress testing requirements and risk management standards. These rules also authorise the Federal

Reserve to impose a 15-to-1 debt-to-equity ratio limit on non-bank financial companies, bank holding companies and the US operations of foreign banking organisations that the FSOC determines to pose a grave threat to the financial stability of the US.

In October 2012, the US banking regulators published a final rule setting out stress testing requirements for banking organisations. HNAH became subject to the rule from October 2013 and was required to comply with CCAR beginning with its capital plan submission in January 2014. In addition to the CCAR stress testing requirements, these regulations also include the Dodd-Frank stress testing requirements (‘DFAST’), which require HNAH to undergo regulatory stress tests conducted by the Federal Reserve Board annually, and, to conduct and publish the results of its own internal stress tests semi-annually.

Under the CCAR process, the Federal Reserve Board considers a bank holding company’s overall financial condition, risk profile and capital adequacy over a nine-quarter forward-looking planning horizon. The Federal Reserve Board assesses a bank holding company’s ability to meet qualitative aspects of capital planning and risk management, as well as maintaining minimum regulatory ratios including a 5% Basel I tier 1 common equity ratio, for each quarter of the planning horizon under baseline, adverse and severely adverse economic scenarios. The Federal Reserve Board also takes into account a bank holding company’s planned capital actions (such as dividends or share repurchases) over the planning horizon when assessing capital adequacy. If, based on such assessment, the Federal Reserve Board were to issue an objection to a bank holding company’s capital plan or planned capital actions, the bank holding company would generally not be able to undertake planned capital actions until approved by the Federal Reserve Board. The Federal Reserve Board will publicly release a summary of its CCAR assessments each year and bank holding companies are also required to publicly release a summary of their stress test results under the supervisory severely adverse scenario.

On 26 March 2014, the Federal Reserve Board informed HNAH that it did not object to HNAH’s capital actions, including payment of dividends on outstanding preferred stock and trust preferred securities of HNAH and its subsidiaries. The Federal Reserve Board informed HNAH that it did object to its capital plan submitted for the 2014 CCAR submission due to weaknesses in its capital planning processes. The Federal Reserve Board does not permit bank holding companies to disclose confidential supervisory information including the reason for an objection to a capital plan submitted for CCAR. HNAH submitted its 2015 CCAR capital plan, incorporating enhancements to its processes and which also served as the required re-submission for CCAR 2014, on 5 January 2015.

In July 2014, HNAH submitted its mid-year company-run Dodd-Frank Act Stress Test (‘DFAST’) results. HNAH publicly disclosed its mid-cycle DFAST results, as required, in September 2014.

 

 

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In October 2014, the US banking regulators finalised a proposal to revise certain aspects of their rules pertaining to CCAR and DFAST. These revisions include, among other changes, new limitations on the ability of a bank holding company subject to CCAR to make capital distributions in a given quarter if its actual capital issuances in that quarter are less than the amount included in its capital plan. The final rule also shifts the start date of the annual CCAR capital plan and DFAST stress test cycles back by one calendar quarter. The 2015 cycle began on 1 October 2014, with a capital plan submission date on 5 January 2015. However, the next annual cycle will begin 1 January 2016 with a capital plan submission date of 5 April 2016.

In December 2014, the Federal Reserve Board published a proposal to implement the G-SIB buffer in the US. The proposed rule will only apply to US G-SIBs and will not therefore apply to HNAH.

HSBC and its US operations are subject to supervision, regulation and examination by the Federal Reserve Board because HSBC is a ‘bank holding company’ under the US Bank Holding Company Act of 1956 (‘BHCA’), as a result of its control of HSBC Bank USA, N.A., McLean, Virginia (‘HSBC Bank USA’); and HSBC Trust Company (Delaware), N.A., Wilmington, Delaware (‘HTCD’). HNAH is also a ‘bank holding company’. Both HSBC and HNAH have elected to be financial holding companies pursuant to the provisions of the Gramm-Leach-Bliley Act (the ‘GLB Act’) and, accordingly, may affiliate with securities firms and insurance companies and engage in other activities that are financial in nature or incidental or complementary to activities that are financial in nature.

Under regulations implemented by the Federal Reserve Board, if any financial holding company, or any depository institution controlled by a financial holding company, ceases to meet certain capital or management standards, the Federal Reserve Board may impose corrective capital and/or managerial requirements on the financial holding company and place limitations on its ability to conduct the broader financial activities permissible for financial holding companies. In addition, the Federal Reserve Board may require divestiture of the holding company’s depository institutions or its affiliates engaged in broader financial activities in reliance on financial holding company status under the GLB Act if the deficiencies persist. The regulations also provide that if any depository institution controlled by a financial holding company fails to maintain a satisfactory rating under the Community Reinvestment Act of 1977, the Federal Reserve Board must prohibit the financial holding company and its subsidiaries from engaging in any additional activities other than those permissible for bank holding companies that are not financial holding companies. See page 120 for further information on the regulatory consent orders with which HSBC Bank USA must comply in accordance with the agreement entered into with the Office of the Controller of the Currency (‘OCC’) in December 2012 (the ‘GLBA’ Agreement).

The two US banks, HSBC Bank USA and HTCD, are subject to regulation and examination primarily by the OCC. HSBC Bank USA and HTCD are subject to additional regulation and supervision, secondly by the FDIC, and by the Federal Reserve Board and the CFPB. Banking laws and regulations restrict many aspects of their operations and administration, including the establishment and maintenance of branch offices, capital and reserve requirements, deposits and borrowings, investment and lending activities, payment of dividends and numerous other matters. In addition, the FDIC requires FDIC-insured banks with US$50bn or more in total assets (such as HSBC Bank USA) to submit resolution plans that should enable the FDIC to resolve the bank in a manner that ensures that depositors receive access to their insured deposits within one business day of the institution’s failure (two business days if the failure occurs on a day other than Friday), maximises the value from the sale or disposition of its assets and minimises the amount of any loss to be realised by the institution’s creditors. HSBC and HSBC Bank USA submitted their second annual resolution plan jointly to the Federal Reserve Board and the FDIC on 26 June 2014.

In February 2014, the Federal Reserve Board finalised its rule requiring enhanced supervision of the US operations of non-US banks such as HSBC Holdings. The rule requires certain large non-US banks with significant operations in the United States to establish a single intermediate holding company (‘IHC’) to hold their US bank and non-bank subsidiaries. HSBC currently operates in the US through an IHC structure and HNAH will be designated its IHC. The implementation of this rule, from 1 July 2016, will not have a significant impact on HSBC’s US operations. HNAH submitted its IHC implementation plan to the Federal Reserve Board on 31 December 2014, as required.

An IHC may calculate its capital requirements under the US standardised approach, even if it meets the asset thresholds that would require a bank holding company to use the advanced approach. IHCs meeting these thresholds will still be subject to other applicable capital requirements, including the SLR and the countercyclical buffer (if in effect). The rule also provides that IHCs may opt out of the advanced approach and become subject to the standardised approach immediately upon the Federal Reserve Board’s approval. In December 2014, HNAH received approval to opt out of the advanced approach. IHCs will be subject to all other US risk-based capital requirements, stress testing requirements, enhanced risk management standards and enhanced governance and stress testing requirements for liquidity management, as well as other prudential standards.

During 2014, HNAH reported its capital ratios in accordance with the US Basel III capital rules, applying the phase in provisions, and Basel I RWAs. From 1 January 2015, HNAH will report its capital ratios using US Basel III standardised RWAs.

In September 2014, the US banking regulators adopted revisions to the SLR denominator in the US to align with the final Basel leverage framework adopted in January

 

 

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2014. The changes apply to all advanced approach banking organizations subject to the SLR, including HNAH. The SLR is generally consistent with the Basel leverage framework, but also contains certain modifications, including the methodology for averaging total leverage exposure. HNAH must begin publicly disclosing its SLR in 2015, but the SLR does not become a binding regulatory requirement until 1 January 2018.

The US banking regulators have partially implemented the Basel liquidity framework, which includes two minimum liquidity risk measures. On 3 September 2014 the US banking regulators issued a final rule to implement the first of these measures, the liquidity coverage ratio (‘LCR’), which is designed to ensure that a banking organisation maintains an adequate level of unencumbered high-quality liquid assets equal to the entity’s expected net cash outflow for a 30-day time horizon under an acute liquidity stress scenario. The rule, which will apply to HNAH, is more stringent than the Basel III LCR in several respects. Starting on 1 January 2015, covered companies, including HNAH and HSBC Bank USA, are required to maintain an LCR of 80%, increasing annually by 10% increments and reaching 100% on 1 January 2017.

HSBC Bank USA and HTCD are subject to risk-based assessments from the FDIC, which insures deposits generally to a maximum of US$250,000 per depositor for domestic deposits. Dodd-Frank changes the FDIC’s risk-based deposit insurance assessment framework primarily by basing assessments on an FDIC-insured institution’s total assets less tangible equity rather than US domestic deposits, which is expected to shift a greater portion of the aggregate assessments to large FDIC-insured institutions. The new large bank pricing system will result in higher assessment rates for banks with high-risk asset concentrations, less stable balance sheet liquidity, or potentially higher loss severity in the event of failure. On 18 November 2014, the FDIC adopted further changes to the deposit insurance assessment system for large banks to align the assessment system with the standardised approach capital regulations and to eliminate all use of internal models.

HSBC’s US consumer finance operations are subject to extensive state-by-state regulation in the US, and to laws relating to consumer protection (both in general, and in respect of sub-prime lending operations, which have been subject to enhanced regulatory scrutiny); discrimination in extending credit; use of credit reports; privacy matters; disclosure of credit terms; and correction of billing errors. These operations are subject to regulations and legislation that limit operations in certain jurisdictions.

On 10 December 2013, US regulators issued final regulations implementing the Volcker Rule. The Volcker Rule limits the ability of banking entities (including HSBC group companies outside the US) to sponsor or invest in private equity or hedge funds or to engage in certain types of proprietary trading in the US. The final rule extended the ‘conformance period’ for all banking

entities until 21 July 2015, during which Financial institutions subject to the rule must bring their activities and investments into compliance. In December 2014, the Federal Reserve Board further extended by order the conformance period to 21 July 2016 for investments in and relationship with covered funds and foreign funds that were in place prior to 31 December 2013 (‘legacy covered funds’). The Federal Reserve Board also indicated that it intends to act next year to grant additional one-year extension, until 21 July 2017, for the same legacy covered fund investments and relationships. The Group continues to update its existing conformance plans, to finalise adjustments necessary to its businesses and risk management and control frameworks both in the US and elsewhere, including establishing a defined Volcker Compliance programme and related CEO attestation processes to comply with the final rule.

Furthermore, Dodd-Frank provides for an extensive framework for the regulation of over-the-counter (‘OTC’) derivatives by the CFTC and the SEC, including mandatory clearing, exchange trading and public and regulatory transaction reporting of certain OTC derivatives, as well as rules regarding the registration of swap dealers and major swap participants, and related capital, margin, business conduct, record keeping and other requirements applicable to such entities.

The CFTC has completed many of these most significant rulemakings, which came into effect in 2013 and 2014. In particular, HSBC Bank USA and HSBC Bank plc are provisionally registered as Swap Dealers with the CFTC. Because HSBC Bank plc is a non-US swap dealer, the CFTC generally limits its direct regulation of HSBC Bank plc to swaps with US persons and certain affiliates of US persons. However, the CFTC is considering whether to apply mandatory clearing, exchange trading, public transaction reporting, margin and business conduct rules to swaps with non-US persons arranged, negotiated or executed by US personnel or agents. The CFTC is also considering whether to apply regulatory transaction reporting to all swaps entered into by a non-US swap dealer or instead to rely on transaction reporting under comparable EU rules. The application of CFTC rules to HSBC Bank plc’s swaps with non-US persons could have an adverse effect on the willingness of non-US counterparties to trade swaps with HSBC Bank plc and we continue to assess how developments in these areas will affect our business.

In June 2014, the SEC finalised rules regarding the cross-border application of the security-based swap dealer and major security-based swap participant definitions. These definitions share many similarities with parallel guidance finalised by the CFTC in July 2013. In January 2015, the SEC also finalised rules regarding reporting and public dissemination requirements for security-based swap transaction data. It is expected that the SEC will finalise many of its other OTC derivatives rules during 2015. If the SEC’s rules differ significantly from the CFTC’s rules, those differences could increase the costs of our equity and credit derivatives businesses.

 

 

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In September 2014, the US banking regulators and the CFTC re-proposed margin rules for non-cleared swaps and security-based swaps entered into with swap dealers, security-based swap dealers, major swap participants and major security-based swap participants. Under the re-proposals, such dealers and major participants would be required to collect and post initial and variation margin for non-cleared swaps and security-based swaps with financial end users that exceed a minimum volume of transactional activity. The two re-proposals would also limit categories of eligible collateral to cash, for variation margin, and cash and certain asset types (subject to standardized haircuts), for initial margin. The two re-proposals would follow a phased implementation schedule, with variation margin requirements coming into effect on 1 December 2015, and initial margin requirements phasing in annually for different counterparties from 1 December 2015 until 1 December 2019, depending on the transactional volume of the parties and their affiliates. Once finalised, these rules, as well as parallel rules outside the United States, are likely to increase the costs and liquidity burden associated with trading non-cleared swaps and security-based swaps and may adversely affect our business in such products.

Dodd-Frank also included a ‘swaps push-out’ provision that would have effectively limited the range of OTC derivatives activities in which an insured depository institution may engage, including HSBC Bank USA. The scope of this rule was significantly reduced in December 2014 and the provisions will now effectively only restrict HSBC Bank USA’s ability to deal in certain structured finance swaps that it entered into after 16 July 2015 and are not entered into for hedging or risk mitigation purposes.

Furthermore, Dodd-Frank provides for an extensive framework for the regulation of over-the-counter (‘OTC’) derivatives, including mandatory clearing, exchange trading and transaction reporting of certain OTC derivatives, as well as rules regarding the registration of swap dealers and major swap participants, and related capital, margin, business conduct, record keeping and other requirements applicable to such entities. These rules became effective in October 2012 and HSBC Bank USA and HSBC Bank plc are provisionally registered as Swap Dealers with the CFTC.

Dodd-Frank grants the SEC discretionary rule-making authority to modify the standard of care that applies to brokers, dealers and investment advisers when providing personalised investment advice to retail customers and to harmonise other rules applying to these regulated entities. Dodd-Frank also expands the extraterritorial jurisdiction of US courts over actions brought by the SEC or the US with respect to violations of the anti-fraud provisions in the Securities Act, the Securities Exchange Act of 1934 and the Investment Advisers Act of 1940. In addition, regulations which the FSOC, the CFPB or other regulators may adopt could affect the nature of the activities which our FDIC-insured depository institution subsidiaries may conduct, and may impose restrictions and limitations on the conduct of such activities.

The ongoing implementation of Dodd-Frank and related final regulations could result in additional costs or limit or restrict the way we conduct our business, both in relation to our US operations and our non-US operations, although uncertainty remains about many of the details, impact and timing of these reforms and the ultimate effect they will have on HSBC.

Global and regional prudential and other regulatory developments

The Group is subject to regulation and supervision by a large number of regulatory bodies and other agencies. In addition to changes being pursued at a country level, changes are also being pursued globally through the actions of bodies such as the G-20, the FSB and Basel Committee, as well as regionally through the EU and similar. Key areas include the work of the FSB on global systemically important banks (‘G-SIBs’), Basel Committees development of revised standardised approaches across a number of risk areas, and the FSB’s development of requirements for total loss absorbing capacity.

In November 2014, as part of the ‘too big to fail’ agenda, the FSB published proposals for total loss absorbing capacity (‘TLAC’) for G-SIBs. The FSB proposals include a minimum TLAC requirement in the range of 16-20% of RWAs and a TLAC leverage ratio of at least twice the Basel III Tier 1 leverage ratio. The TLAC requirement is to be applied in accordance with individual resolution strategies, as determined by the G-SIB’s crisis management group. A quantitative impact study (‘QIS’) is currently underway, the results of which will inform finalised proposals. The QIS will inform the conformance period for the TLAC requirement, which is not expected to come into place before 1 January 2019. Once finalised, it is expected that any new TLAC standard should be met alongside the Basel III minimum capital requirements.

The draft proposals require G-SIBs to be subject to a minimum TLAC requirement with the precise requirement to be informed by the QIS. There are a number of requirements relating to the types of liabilities which can be used to meet the TLAC requirement, the composition of TLAC, and the location of liabilities within a banking group, in accordance with its resolution strategy. The TLAC proposals are expected to be finalised in 2015 and will then need to be implemented into national legislation.

Throughout 2014, the Basel Committee published proposals across all Pillar 1 risk types, to update standardised, non-modelled approaches for calculating capital requirements and to provide the basis for the application of capital floors.

In particular, in March 2014, the Basel Committee published finalised proposals for the standardised approach for calculating counterparty credit risk exposures, expected to come into effect on 1 January 2017.

In October 2014, the Basel Committee also consulted on proposals to revise the standardised approach for calculating operational risk. An implementation date is

 

 

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yet to be proposed. Also in October 2014, the Basel Committee finalised another aspect of the Basel III liquidity framework – the Net Stable Funding Ratio (‘NSFR’). The NSFR is a significant component of the Basel III reforms. It requires banks to maintain a stable funding profile in relation to their on- and off-balance sheet activities, thus reducing the likelihood that disruptions to a bank’s regular sources of funding will erode its liquidity position in a way that could increase the risk of its failure and potentially lead to broader systemic stress. Further details on NSFR can be found on page 164.

In December 2014, the Basel Committee undertook a further consultation on its fundamental review of the trading book. This included revisions to the market risk framework that was published for consultation in October 2013. The Committee intends to carry out a further QIS in early 2015 to inform finalised proposals expected at the end of 2015.

In December 2014, the Basel Committee published a revised framework for securitisation risk, which will come into effect on 1 January 2018.

In December 2014, the Basel Committee also published a consultation paper on revisions to the Standardised Approach for credit risk and a consultation on the design of a capital floor framework, which will replace the Basel I floor. The Committee intends to publish final proposals including calibration and implementation timelines by the end of 2015.

All finalised Basel Committee proposals for standardised approaches for calculating risk requirements and introduction of a revised capital floor would need to be transposed into EU requirements before coming into effect.

Recovery and resolution

Globally there have been a number of developments relating to banking structural reform and the introduction of recovery and resolution regimes.

As recovery and resolution planning has developed, some regulators and national authorities have also required changes to the corporate structures of banks. These include requiring the local incorporation of banks or ring-fencing of certain businesses. In the UK, ring-fencing legislation has been enacted requiring the separation of retail and Small and Medium Size Enterprise (‘SME’) deposits from trading activity. Similar requirements have been introduced or are in the process of being introduced in other jurisdictions.

The FSB has been designated by the G-20 as the body responsible for coordinating the delivery of a global reform programme following the financial crisis, a key element of which is that no firm should be too big or too complicated to fail, and that taxpayers should not bear the cost of resolution. HSBC has been classified by the FSB as a G-SIB and therefore subject to what the FSB refers to as a ‘multi-pronged and integrated set of policies’. These include proposals that would place an

additional capital and TLAC buffer on the Group and require enhanced reporting.

Following the financial crisis, G20 leaders requested the FSB to establish more effective arrangements for the recovery and resolution of 28 (now 30) designated Global Systemically Important Banks or Financial Institutions (‘G-SIB’s or ‘G-SIFI’s) resulting in a series of policy recommendations in relation to recovery and resolution planning, cross border cooperation agreements and measures to mitigate obstacles to resolution.

In December 2013, the PRA set out rules for the recovery and resolution of UK banks and international banks operating in the UK. These rules were modified as part of the implementation of the EU Bank Recovery and Resolution Directive from January 2015.

We have been working with the Bank of England and the PRA together with the Group’s other primary regulators that together form the Crisis Management Group (‘CMG’) to develop and agree a resolution strategy for the HSBC Group. It is our view that a resolution strategy whereby the Group breaks up at a subsidiary bank level at the point of resolution (referred to as a Multiple Point of Entry strategy) rather than being kept together as a group at the point of resolution (referred to as Single Point of Entry strategy) is the optimal approach as it is aligned to the Group’s existing legal and business structure.

In common with all G-SIBs, we are working with our regulators in the CMG to understand inter-dependencies between different businesses and subsidiary banking entities in the HSBC Group in order to enhance resolvability.

We have initiated plans to mitigate or remove critical inter-dependencies to further facilitate the resolution of the Group. In particular, in order to remove operational dependencies (where one subsidiary bank provides critical services to another), we have determined to transfer such critical services from the subsidiary banks to a separately incorporated group of service companies (‘ServCo Group’). A significant portion of the ServCo group already exists and therefore this initiative involves transferring the remaining critical services still held by subsidiary banks into the ServCo Group. The services will then be provided to the subsidiary banks by the ServCo Group.

In accordance with guidance from the FSB and UK requirements, HSBC has produced a recovery plan for the Group, drawing together many of the actions contained in stress testing and scenario planning exercises conducted within the Group. The recovery plan identify a series of early warning signals indicative of developing financial stress and establishes triggers which, if breached, would precipitate pre-planned but urgent action from the Group. The plan also contains a series of recovery options to raise additional capital or funding for the Group or individual entities as appropriate. These options would be reviewed for applicability and feasibility once the cause and magnitude of the financial stress was evident. The Group recovery plan has been submitted to the PRA and the BoE in the UK.

 

 

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European regulation

Through the UK’s membership of the EU, HSBC is both directly and indirectly subject to European financial services regulation.

CRD IV implemented Basel III in the EU and, in the UK, the ‘PRA rulebook CRR Firms Instrument 2013’ transposed the various national discretions under CRD IV into UK law. CRD IV and the PRA requirements came into force on 1 January 2014.

Additionally, the EU is implementing its ‘Banking Union’ to increase integration in the Eurozone banking system. As part of this, in November 2014, the Single Supervisory Mechanism (‘SSM’) established the ECB as the single supervisor for all banks in the Eurozone with direct supervisory responsibility for larger and systemically important banks, including HSBC France and HSBC Malta. A Single Resolution Mechanism (‘SRM’) was also established to apply to all banks covered by the SSM. This is intended to ensure that bank resolution is managed effectively through a Single Resolution Board and a Single Resolution Fund, financed by the banking sector.

Non-Eurozone countries within the EU may opt to join the Banking Union, but the UK has indicated that it will not do so.

In January 2014, the European Commission published legislative proposals on the structural reform of the European banking sector which would prohibit proprietary trading in financial instruments and commodities, and enable supervisors, at their discretion, to require trading activities such as market-making, complex derivatives and securitisation operations to be undertaken in a separate subsidiary from deposit taking activities.

The ring-fenced deposit taking entity would be subject to separation from the trading entity including requirements for separate capital and management structures, issuance of own debt and arms-length transactions between entities.

The draft proposals contain a provision which would permit derogation by member states which have implemented their own structural reform legislation, subject to meeting certain conditions. This derogation may benefit the UK in view of the UK Financial Services (Banking Reform) Act 2013.

The proposals are currently subject to discussion in the European Parliament and the Council. The implementation date for any separation under the final rules would depend upon the date on which the final legislation is agreed.

In the EU, BRRD was finalised and published in June 2014. This came into effect from 1 January 2015, with

the option to delay implementation of bail-in provisions until 1 January 2016. Regardless of this, the UK introduced bail in powers from 1 January 2015. The UK transposition of the BRRD builds on the resolution framework already in place in the UK. In January 2015, the PRA published a policy statement containing updated requirements for recovery and resolution planning which revises PRA rules that have been in force since 1 January 2014. In addition, the European Banking Authority has produced a number of RTS, some of which are yet to be finalised, that will further inform the BRRD requirements.

The EU also continues to pursue the development of markets, and conduct-related EU regulations. This includes its work under e.g. the Short Selling Regulation and the European Markets Infrastructure Regulation, most or all parts of which have been or are now being implemented. A number of other EU market-related regulations are still in the legislative process. For example, in 2014 the Markets in Financial Instrument Regulation/Directive (MiFID II) and the Market Abuse Regulation texts were finalised and the EU legislative process is now focused on agreeing the supplementary technical standards and delegated acts ahead of implementation in 2016/2017. Amongst others, the EU’s Framework for Benchmarks and Indices, Mortgage Credit Directive, Packaged Retail Investment and Insurance Products Regulation, Second Payment Services Directive, Money Markets Fund Regulation and Payment Accounts Directive are all expected to progress further towards implementation during 2015 and the Group continues to enhance and strengthen its governance and resourcing more generally around regulatory change management and the implementation of required measures, actively to address this ongoing and significant agenda of regulatory change.

Anti-money laundering and Sanctions regulation

HSBC places a high priority on its obligations to deter money laundering and terrorist financing and to enforce global sanctions. The European Commission has proposed a Fourth Directive on the prevention of the use of the financial system for the purpose of money laundering and terrorist financing (known as the Fourth Money Laundering Directive). Political agreement between the European Council and European Parliament has been reached on the text of the Directive and it is due to go forward for further review and endorsement before being put to a vote in the European Parliament in 2015, meaning that the new regime is likely to come into force in 2016. HSBC policy requires that all Group companies must adhere to the letter and spirit of all applicable laws and regulations and we have policies, procedures and training intended to ensure that our employees know and understand our criteria for deciding when a client relationship or business should be evaluated as higher risk.

 

 

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Risk mitigation measures aimed at deterring money laundering, terrorist and proliferation (weapons) financing (collectively referred to as ‘AML’) and enforcing Sanctions have been focused in three key areas:

 

  managing risk;

 

  transitioning to a new operating and governance model; and

 

  meeting HSBC’s regulatory obligations.

HSBC met all obligations due in 2014 under the Deferred Prosecution Agreement with the US Department of Justice. Furthermore, HSBC’s Deferred Prosecution Agreement with the New York County District Attorney’s Office expired on 11 December 2014.

To maximise information sharing across the Group, two key units were formed in 2014: the Financial Intelligence Unit (‘FIU’) and AML Investigations (‘AMLi’). The FIU has been built out with the global team and five regional hubs in place. Additionally, six country FIUs have also been implemented. An AMLi function has been trained in eight priority countries with further resources operating across another 53 countries. The next tranche of 11 countries will begin to adopt AMLi global standards in 2015.

Enhanced global AML and sanctions policies, incorporating risk appetite, were approved by the Board in January 2014. The policies adopt and enforce the highest or most effective standards globally, including a globally consistent approach to knowing our customers.

The Policies are being implemented in phases through the development and application of procedures required to embed those policies in our day to day business operations globally. The overriding policy objective is for every employee to engage in only ‘the right kind of business, conducted in the right way’.

Conducting customer due diligence (‘CDD’) is one of the fundamental ways in which we know our customers and understand and manage financial crime risk. Enhanced minimum standards for CDD, including, as applicable, standards to determine beneficial ownership information, are continuing to be deployed across the four global businesses. In-country CDD deployment has been initiated in 32 countries, with deployment to the remaining 29 countries driven by a risk prioritisation framework.

The AML and sanctions programmes are being better aligned to the three lines of defence model (described on page 112) with roles and accountability across all three lines clearly set out and embedded through employee awareness initiatives.

As part of our continuing evaluation of AML and sanctions risk, we also monitor activities relating to the countries subject to US economic sanctions programmes administered by OFAC, as well as those subject to United Nations, UK and EU sanctions. HSBC Group Policy requires all Group companies to comply to the extent applicable with US law and regulation, including the country, territory and individual economic sanctions (‘US Sanctions’). This means that not only must US subsidiaries and US nationals comply with US Sanctions, but that HSBC subsidiaries outside the US which are not

US persons must not participate in transactions within US jurisdictions (including most US dollar transactions) that would contravene the US Sanctions. We do not consider that our business activities with counterparties with whom transactions are restricted or prohibited under US Sanctions are material to our business, and such activities represented a very small part of the Group’s total assets at 31 December 2014 and total revenues for the year ended 31 December 2014.

Other

HSBC Bank USA entered into a Consent Cease and Desist Order with the OCC, and HNAH entered into a Consent Cease and Desist Order with the Federal Reserve Board in October 2010. These Orders require improvement of our Compliance Risk Management Programme including AML controls across our US businesses. Steps continue to be taken to address the requirements of these Orders and to ensure that compliance and effective policies and procedures are maintained.

Disclosures pursuant to Section 13(r) of the Securities Exchange Act

Section 13(r) of the Securities Exchange Act, requires each issuer registered with the SEC to disclose in its annual or quarterly reports whether it or any of its affiliates have knowingly engaged in specified activities or transactions with persons or entities targeted by US Sanctions programmes relating to Iran, terrorism, or the proliferation of weapons of mass destruction, even if those activities are not prohibited by US law and are conducted outside the US by non-US affiliates in compliance with local laws and regulations.

In order to comply with this requirement, HSBC Holdings Plc (together with its affiliates, ‘HSBC’) has requested relevant information from its affiliates globally. The following activities are disclosed in response to Section 13(r).

Loans in repayment

Between 2001 and 2005, the Project and Export Finance (‘PEF’) division of HSBC arranged or participated in a portfolio of loans to Iranian energy companies and banks. All of these loans were guaranteed by European and Asian export credit agencies, and they have varied maturity dates with final maturity in 2018. For those loans that remain outstanding, we continue to seek repayment in accordance with our obligations to the supporting export credit agencies and, in all cases, with appropriate regulatory approvals. Details of these loans follow.

At December 31, 2014, we had 11 loans outstanding to an Iranian petrochemical company. These loans are supported by the official Export Credit Agencies of the following countries: the United Kingdom, France, Germany, Spain, South Korea and Japan. We continue to seek repayments from the company under the existing loans in accordance with the original maturity profiles.

 

 

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All repayments made by the Iranian company have received a licence or an authorisation from relevant authorities. Two repayments were received under each loan in 2014.

Bank Melli and Bank Saderat acted as sub-participants in three of the aforementioned loans. The repayments due to these banks under the loan agreements were paid into frozen accounts under licences or authorisations from relevant European governments.

In 2002, we provided a loan to Bank Tejarat with a guarantee from the Government of Iran to fund the construction of a petrochemical plant undertaken by a UK contractor. This loan was supported by the UK Export Credit Agency and is administered under licence from the relevant European Government. This facility has now matured and the final claim for non-payment was processed by the supporting Export Credit Agency in 2014.

We also maintained sub-participations in four loans provided by other international banks to Bank Tejarat and Bank Mellat with guarantees from the Government of Iran. These sub-participations were supported by the Export Credit Agencies of Italy, The Netherlands and Spain.

With respect to Bank Mellat, we held two sub-participations in loans provided by another internal bank to Bank Mellat with a guarantee from the Government of Iran, supported by the Dutch and Spanish Export Credit Agencies. The facilities have matured and the final claims for non-payment were processed by the supporting export credit agency in 2014.

In relation to Bank Tejarat, we held two sub-participations in loans provided by another international bank to Bank Tejarat with a guarantee from the Government of Iran, supported by the Italian Export Credit Agency. Both facilities matured in 2014. The final claim for non-payment on one of the transactions was paid by the Italian Export Credit Agency in 2014 and the claim for the other transaction is currently being processed with the Italian Export Credit Agency. Licenses and relevant authorisations have been obtained from the competent authorities of the European Union with regard to the transactions.

Estimated gross revenue generated by these loans in repayment for 2014, which includes interest and fees, was approximately US$1.7m whilst net estimated profit was approximately US$1.1m. While we intend to continue to seek repayment under the existing loans, we do not intend to extend any new loans.

Legacy contractual obligations related to guarantees

Between 1996 and 2007, we provided guarantees to a number of its non-Iranian customers in Europe and the Middle East for various business activities in Iran. In a number of cases, we issued counter indemnities in support of guarantees issued by Iranian banks as the Iranian beneficiaries of the guarantees required that they be backed directly by Iranian banks. The Iranian

banks to which we provided counter indemnities included Bank Tejarat, Bank Melli, and the Bank of Industry and Mine.

We have worked with relevant regulatory authorities to obtain licences where required and ensure compliance with laws and regulations while seeking to cancel the guarantees and counter indemnities. None were cancelled during 2014 and approximately 20 remain outstanding.

There was no measurable gross revenue generated by this activity in 2014. We do not allocate direct costs to fees and commissions, and therefore, have not disclosed a separate net profit measure. We are seeking to cancel all relevant guarantees and do not intend to provide any new guarantees involving Iran.

Other relationships with Iranian banks

Activity related to US-sanctioned Iranian banks not covered elsewhere in this disclosure includes the following:

 

  We maintain a frozen account in the UK for an Iranian-owned, UK-regulated financial institution. In April 2007, the UK government issued a licence to allow us to handle certain transactions (operational payments and settlement of pre-sanction transactions) for this institution. In December 2013, the UK government issued a new licence allowing HSBC to deposit certain cheque payments. There was some licensed activity in 2014.

 

  We acted as the trustee and administrator for pension schemes involving four employees of a US-sanctioned Iranian bank in Hong Kong. Under the rules of these schemes, we accepted contributions from the Iranian bank each month and allocated the funds into the pension accounts of the four Iranian bank employees. We ran and operated these pension schemes in accordance with Hong Kong laws and regulations. During 2014, one of the two schemes was terminated and the only member and accrued benefits were transferred into the other scheme. Notices of resignation were received for two employees and accrued benefits were transferred into the former members’ personal accounts. We continue to act as trustee and administrator for the remaining pension scheme.

In 2010, we closed our representative office in Iran. We maintained a local account with an Iranian bank in Tehran in order to facilitate residual activity related to the closure. We were authorised by the US Government (and by relevant non-US regulators) to engage in such activity in connection with the liquidation and deregistration of the representative office in Tehran. During 2014, we initiated a payment of approximately US$55,000 into the account and paid fees in the amount of approximately US$90,500 from the account to settle tax assessments. Funds from this account were also used to pay outstanding and future accounting, legal and administrative related expenses associated with the closure. All debts have been satisfied and the account was closed with a zero balance in the fourth quarter of 2014.

 

 

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Estimated gross revenue in 2014 for all Iranian bank-related activity described in this section, which includes fees and/or commissions, was approximately US$585,370. We do not allocate direct costs to fees and commissions and therefore have not disclosed a separate net profit measure. We intend to continue to wind down this Iranian bank-related activity and not enter into any new such activity.

Activity related to US Executive Order 13224

We maintain a frozen personal account for an individual sanctioned under Executive Order 13224 and by the UK and the UN Security Council. Activity on this account in 2014 was permitted by a licence issued by the UK Government. There was no measurable gross revenue or net profit generated in 2014.

We undertook a review of an account held for a customer in the UK in the first quarter of 2014 and identified a domestic currency payment in the second quarter of 2013 from an entity designated under Executive Order 13224. We have exited this customer relationship.

Activity related to US Executive Order 13382

We held accounts for a customer in France that was sanctioned under Executive Order 13382 in the first quarter of 2014. We closed all accounts for the customer. There was no measurable gross revenue or net profits generated to HSBC in the first quarter of 2014. OFAC removed the designation placed on the customer in October 2014. We also maintain an account for a customer in the UK for whom we processed a payment received from the same sanctioned entity. The payment related to an invoice generated prior to designation.

We held an account for a customer in the Middle East who was sanctioned under Executive Order 13382 in the first quarter of 2014. We closed the account in the

second quarter. There was no measurable gross revenue or net profit generated in the first and second quarters of 2014.

We held an account and an investment plan for a customer that was a wholly owned subsidiary of an entity sanctioned under Executive Order 13382. Sanctions were lifted from the parent entity in the third quarter of 2014. The account was closed in the fourth quarter of 2014 and the investment plan is active. The investment plan matures in 2015, and we intend to exit the customer relationship. The estimated gross revenue and the estimated net profits generated to HSBC were approximately US$2,000 in 2014.

Other activity

We hold a lease of branch premises in London which HSBC entered into in 2005 and is due to expire in 2020. The premises are owned by the Iranian government and the landlord is a specially designated national under US Sanctions programmes. We have exercised a break clause in the lease and are in the process of exiting the property. The relationship will be terminated in 2015 and we closed the branch in the third quarter of 2014. There was no gross revenue or net profit to HSBC in 2014.

We maintain an account for a customer in the US for whom we processed cheques involving the Iranian Interests Section of the Embassy of Pakistan in relation to intellectual property protection in Iran. The estimated gross revenue and estimated net profits generated to HSBC were approximately US$48 in 2014.

We maintain an account for a corporate customer in UAE for whom we processed a supplier payment to a hospital owned by the Government of Iran. There was no measurable gross revenue or net profit to HSBC in 2014.

Frozen accounts and transactions

We maintain several accounts that are frozen under relevant sanctions programmes and on which no activity, except as licensed or otherwise authorised, took place during 2014. In 2014, we also froze payments where required under relevant sanctions programmes. There was no gross revenue or net profit to HSBC.

 

 

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Risk

 

  

Page

 

    

App1

 

 
 

Risk profile2

 

    

 

111

 

  

 

        
 

Risk factors

 

    

 

111a

 

  

 

        
 

Managing risk2

 

    

 

112

 

  

 

        
 

Risk management framework

 

    

 

112

 

  

 

        
 

Risk factors

 

    

 

113

 

  

 

        
 

Risks managed by HSBC

 

    

 

114

 

  

 

        
 

Risk management processes and procedures

 

    

 

117

 

  

 

        
 

Risk governance

 

             

 

204

 

  

 

 

Risk appetite

 

             

 

205

 

  

 

 

Top and emerging risks2

 

    

 

118

 

  

 

        
 

Macroeconomic and geopolitical risk

 

    

 

118

 

  

 

        
 

Macro-prudential, regulatory and legal risks to our business model

 

    

 

119

 

  

 

        
 

Regulatory commitments and consent orders

 

    

 

120

 

  

 

        
 

Risks related to our business operations, governance and internal control systems

 

    

 

122

 

  

 

        
 

Areas of special interest2

 

    

 

124

 

  

 

        
 

Financial crime compliance and regulatory compliance

 

    

 

124

 

  

 

        
 

Private Bank

 

    

 

124

 

  

 

        
 

Regulatory stress tests

 

    

 

125

 

  

 

        
 

Oil and gas prices

 

    

 

126

 

  

 

        
 

Russia

 

    

 

126

 

  

 

        
 

Eurozone

 

    

 

126

 

  

 

        
 

Credit risk4

 

    

 

127

 

  

 

    

 

206

 

  

 

 

Liquidity and funding4

 

    

 

163

 

  

 

    

 

215

 

  

 

 

Market risk4

 

    

 

175

 

  

 

    

 

221

 

  

 

 

Operational risk2

 

    

 

186

 

  

 

    

 

228

 

  

 

 

Compliance risk

 

    

 

189

 

  

 

    

 

229

 

  

 

 

Legal risk

 

             

 

229

 

  

 

 

Global security and fraud risk

 

             

 

230

 

  

 

 

Systems risk

 

             

 

230

 

  

 

 

Vendor risk management

 

             

 

231

 

  

 

 

Risk management of insurance operations3

 

    

 

190

 

  

 

    

 

231

 

  

 

 

Other material risks2

 

    

 

199

 

  

 

        
 

Reputational risk

 

    

 

199

 

  

 

    

 

235

 

  

 

 

Fiduciary risk

 

    

 

200

 

  

 

    

 

235

 

  

 

 

Pension risk

 

    

 

200

 

  

 

    

 

236

 

  

 

 

Sustainability risk

 

    

 

201

 

  

 

    

 

237

 

  

 

 

1 Appendix to Risk – risk policies and practices.

 

     
 

2 Unaudited.     3 Audited.     4 Audited where indicated.

 

     

For details of HSBC’s policies and practices regarding risk management and governance see the Appendix to Risk on page 204.

Risk profile

(Unaudited)

Managing our risk profile

 

  A strong balance sheet remains core to our philosophy.

 

  Our portfolios continue to be aligned to our risk appetite and strategy.

 

  Our risk management framework is supported by strong forward-looking risk identification.

Maintaining capital strength and a strong liquidity position

 

  Our transitional common equity tier 1 capital ratio remains strong at 10.9%.

 

  We have sustained our strong liquidity position throughout 2014.

 

  The ratio of customer advances to deposits remains significantly below 90%.

Strong governance

 

  Robust risk governance and accountability is embedded across the Group.

 

  The Board, advised by the Group Risk Committee, approves our risk appetite.

 

  Our global risk operating model supports adherence to globally consistent standards and risk management policies across the Group.

Our top and emerging risks

 

  Macroeconomic and geopolitical risk.

 

  Macro-prudential, regulatory and legal risks to our business model.

 

  Risks related to our business operations, governance and internal control systems.
 

 

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Risk factors

(Unaudited)

Macroeconomic and geopolitical risk

Current economic and market conditions may adversely affect our results

Our earnings are affected by global and local economic and market conditions. Economic growth in emerging markets remained weak in 2014, while concerns remained over the sustainability of economic growth in many developed markets. The significant decline in oil prices since the middle of 2014 as a result of increasing global demand-supply imbalances may lead to fiscal and financing challenges for energy exporters, and although it may bring benefits for oil importers, it also accentuates deflationary risks among some of these (particularly in the eurozone).

The uncertain economic conditions continue to create a challenging operating environment for financial services companies such as HSBC. In particular, we may face the following challenges to our operations and operating model in connection with these factors:

 

  the demand for borrowing from creditworthy customers may diminish if economic activity slows or remains subdued;

 

  as capital flows are increasingly disrupted, some emerging markets could be tempted to impose protectionist measures that could affect financial institutions and their clients;

 

  European banks may come under renewed stress as a result of the interdependencies between economic conditions and the sovereign financial situation in the eurozone;

 

  geopolitical risks, which remain elevated in many parts of the world, directly affect the economies of the countries in which we operate and present a clear risk of disruption to the global economy due to links to the global resources supply chain;

 

  a prolonged period of low, or negative, interest rates will constrain, for example, through margin compression and low returns on assets, the net interest income we earn from investing our excess deposits;

 

  our ability to borrow from other financial institutions or to engage in funding transactions may be adversely affected by market disruption, for example, in the event of contagion from stress in the eurozone sovereign and financial sectors; and

 

  market developments may depress consumer and business confidence beyond expected levels. If economic growth remains subdued, for example, asset prices and payment patterns may be adversely affected, leading to greater than expected increases in our delinquencies, default rates, write-offs and loan impairment charges.

The occurrence of any of these events or circumstances could have a material adverse effect on our business, our

financial condition, our prospects, our customers and their operations and/or results of our operations.

We are subject to political and economic risks in the countries in which we operate, including the risk of government intervention

We operate through an international network of subsidiaries and affiliates in over 70 countries and territories around the world. Our results are, therefore, subject to the risk of loss from unfavourable political developments, currency fluctuations, social instability and changes in government policies on such matters as expropriation, authorisations, international ownership, interest-rate caps, limits on dividend flows and tax in the jurisdictions in which we operate.

For example, military escalation and/or civil war remain a possibility in Ukraine, while sanctions targeting the Russian government, institutions and individuals, together with falling oil prices, have had an adverse effect on the Russian economy. In the Middle East, the civil war in Syria has been complicated by the seizure of parts of Iraq and Syria by Islamic State, a terrorist group. Elsewhere in the region, chaos in Libya, ongoing tensions between Israel and Palestine and fraught negotiations over Iran’s nuclear programme are combining to increase risks to stability. In East Asia, tensions over maritime sovereignty disputes involving mainland China and its neighbours may intensify, while tensions remain high over the line of control between India and Pakistan, raising concerns over a possible wider conflict between the two nuclear-armed neighbours. A break-up of the eurozone or continued social unrest triggered by the ongoing economic crisis and related austerity programmes may result in political or social disruption throughout Europe.

We may suffer adverse effects as a result of the renewed economic and sovereign debt tensions in the eurozone

Although in recent years the EU has introduced a series of legislative changes designed to better equip it to deal with a financial crisis and to reduce the risks of contagion in the event of an EU member country experiencing financial difficulties, the outcome of current negotiations on the terms of the Greek bail out is highly uncertain. The debt may be rescheduled or Greece may default on its debts; there is also the possibility that Greece may eventually exit the euro.

Any default on the sovereign debt of Greece or any eurozone nation and the resulting impact on other eurozone countries could have a material adverse effect on us, including (a) significant market dislocation, (b) heightened counterparty risk and (c) an adverse effect on the management of market risk.

Moreover, a significant number of financial institutions throughout Europe have substantial exposures to sovereign debt issued by eurozone nations that are under severe financial stress. Should any of those nations default on their debt, or experience a significant widening of credit spreads, major financial institutions and banking systems throughout Europe could be destabilised, resulting in, among other things, significant disruptions in financial activities.

 

 

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As a result, a default on the sovereign debt of any eurozone nation may have a material adverse effect on our operating results, financial condition and prospects.

Changes in foreign currency exchange rates may affect our results

We prepare our accounts in US dollars because the US dollar and currencies linked to it form the major currency bloc in which we transact and fund our business. A substantial portion of our assets, liabilities, assets under management, revenues and expenses are denominated in other currencies. Changes in foreign exchange rates, including those which may result from a currency becoming de-pegged from the US dollar, have an effect on our reported income, cash flows and shareholders’ equity and may have a material adverse effect on our business, prospects, financial condition and/or results of operations.

Macro-prudential, regulatory and legal risks to our business model

Failure to implement our obligations under the deferred prosecution agreements could have a material adverse effect on our results and operations

In December 2012, HSBC Holdings, HSBC North America Holdings, Inc (‘HNAH’), and HSBC Bank USA N.A. (‘HSBC Bank USA’) entered into agreements with US and UK government agencies regarding past inadequate compliance with the US Bank Secrecy Act (the ‘BSA’), anti-money laundering (‘AML’) and sanctions laws. Among other agreements, HSBC Holdings and HSBC Bank USA entered into a five-year Deferred Prosecution Agreement with the US Department of Justice (‘DoJ’), the US Attorney’s Office for the Eastern District of New York, and the US Attorney’s Office for the Northern District of West Virginia (‘US DPA’); HSBC Holdings entered into a two-year deferred prosecution agreement with the New York County District Attorney (‘DANY DPA’); and HSBC Holdings consented to a cease-and-desist order and HSBC Holdings and HNAH consented to a civil monetary penalty order with the Federal Reserve Board (‘FRB’). In addition, HSBC Bank USA entered into a civil monetary penalty order with the Financial Crimes Enforcement Network and a separate civil monetary penalty order with the Office of the Comptroller of the Currency (‘OCC’). HSBC Holdings entered into an agreement with the Office of Foreign Assets Control (‘OFAC’) regarding historical transactions involving parties subject to OFAC sanctions and an undertaking with the FSA (now the FCA) to comply with certain forward-looking obligations with respect to AML and sanctions requirements (‘FCA Direction’). HSBC Bank USA is also subject to an agreement entered into with the OCC, the Gramm-Leach-Bliley Act (‘GLBA’) Agreement and other consent orders.

Under the agreements with the DoJ, FCA and FRB , an independent monitor (who is, for FCA purposes, a ‘skilled person’ under Section 156 of the Financial Services and

Markets Act) is evaluating and regularly assessing the effectiveness of our AML and sanctions compliance function and our progress in implementing our remedial obligations under the agreements. The Monitor began his work on 22 July 2013.

HSBC has fulfilled all of the requirements imposed by the DANY DPA, which expired by its terms at the end of the two-year period of that agreement in December 2014.

Breach of the US DPA at any time during its term may allow the DoJ to prosecute HSBC Holdings or HSBC Bank USA in relation to the matters which are the subject of the US DPA. Any such breach of the US DPA or the FCA Direction leading to further enforcement action, including the prosecution of HSBC, would have a material adverse effect on our business, financial condition, results of operations and prospects, including the potential significant loss of business and withdrawal of funding.

HSBC Bank USA, as clearer for all US dollar transactions for HSBC globally, manages a significant AML risk in the global correspondent banking area because of its breadth and scale, especially as it relates to transactions involving affiliates and global correspondent banks in high risk AML jurisdictions. A significant AML violation in this area or the utilisation of the global affiliate and correspondent banking network by terrorists or other perpetrators of financial crimes could have materially adverse consequences under the US DPA or our other consent agreements. The design and execution of AML and sanctions remediation plans is complex and requires major investments in people, systems and other infrastructure. This complexity creates significant execution risk, which could impact our ability to effectively manage financial crime risk and remedy AML and sanctions compliance deficiencies in a timely manner. This could, in turn, impact HSBC’s ability to satisfy the Monitor or comply with the terms of the US DPA, the FCA Direction, or the FRB‘s cease and desist order and may require HSBC to take additional remedial measures.

Failure to comply with certain regulatory requirements would have a material adverse effect on our results and operations

As reflected in the agreement entered into with the OCC in December 2012 (‘the GLBA Agreement’), the OCC has determined that HSBC Bank USA is not in compliance with the requirements that a national bank, and each depository institution affiliate of the national bank, must be both well capitalised and well managed in order to own or control a financial subsidiary. As a result, HSBC Bank USA and its parent holding companies, including HSBC Holdings, do not meet the qualification requirements for financial holding company status. If all of our affiliate depositary institutions are not in compliance with these requirements within the time periods specified in the GLBA Agreement, as they may be extended, HSBC could be required either to divest HSBC Bank USA or to divest or terminate any financial activities conducted in reliance on financial holding company status under the GLBA. Similar consequences could

 

 

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result for financial subsidiaries of HSBC Bank USA that engage in activities in reliance on expanded powers provided for in the GLBA. Any such divestiture or termination of activities would have a material adverse effect on our business, prospects, financial condition and results of operation.

Failure to meet the requirements of regulatory stress tests could have a material adverse effect on our capital position, operations, results and future prospects

We are subject to regulatory stress testing in many jurisdictions. These have increased both in frequency and in the granularity of information required by supervisors.

These exercises are designed to assess the resilience of banks to adverse economic or financial developments and ensure that they have robust, forward-looking capital planning processes that account for the risks associated with their business profile. Assessment by regulators is on both a quantitative and qualitative basis, the latter focusing on our data provision, stress testing capability and internal management processes and controls.

During 2014, we participated in the regulatory stress test programmes of the PRA, the FRB, the OCC, the ECB, the EBA and the HKMA, among others, which are described on page 125.

The PRA and the EBA disclosed the results of their stress test exercises on 16 December 2014 and 26 October 2014, respectively. HSBC’s stressed CET1 ratio remained above the required minimum thresholds.

On 26 March 2014, the FRB informed HNAH that it did not object to HNAH’s capital actions, including payment of dividends on outstanding preferred stock and trust preferred securities of HNAH and its subsidiaries. However, the FRB informed HNAH that it did object to the capital plan submitted for the 2014 Comprehensive Capital Analysis and Review (‘CCAR’) programme due to weaknesses in its capital planning processes. The FRB does not permit bank holding companies to disclose confidential supervisory information, including the reason for an objection to a capital plan submitted for CCAR. HNAH made its CCAR 2015 submission, which also served as the required re-submission for CCAR 2014, on 5 January 2015. Disclosure by the FRB and HNAH of the results of the exercises will be made in March 2015.

Failure to meet quantitative or qualitative requirements of regulatory stress test programmes, or the failure by regulators to approve our stress results and capital plans, could have a material adverse effect on our operations, results and future prospects.

We are subject to a number of legal and regulatory actions and investigations, the outcomes of which are inherently difficult to predict, but unfavourable outcomes could have a material adverse effect on our operating results and brand

We face significant legal and regulatory risks in our business. The volume and amount of damages claimed in litigation, regulatory proceedings and other adversarial proceedings against financial institutions are increasing for many reasons, including a substantial increase in the number of regulatory changes taking place globally, increased media attention and higher expectations from regulators and the public. In addition, criminal prosecutions of financial institutions for, among other alleged conduct, breaches of AML and sanctions regulations, antitrust violations, market manipulation, aiding and abetting tax evasion, and providing unlicensed cross-border banking services, have become more commonplace and may increase in frequency due to increased media attention and higher expectations from prosecutors and the public. Any such prosecution of HSBC or one or more of its subsidiaries could have a material adverse effect on our business, could result in substantial fines, penalties and/or forfeitures and could have a material adverse effect on our business, financial condition, results of operations, prospects and reputation, including the potential loss of key licences, requirement to exit certain businesses and withdrawal of funding from depositors and other stakeholders.

Additionally, we continue to be subject to a number of material legal proceedings, regulatory actions and investigations (including criminal) as described in Note 40 on the Financial Statements. It is inherently difficult to predict the outcome of many of the legal, regulatory and other adversarial proceedings involving our businesses, particularly those cases in which the matters are brought on behalf of various classes of claimants, seek damages of unspecified or indeterminate amounts or involve novel legal claims. Moreover, we may face additional legal proceedings, investigations or regulatory actions in the future, including in other jurisdictions and/or with respect to matters similar to, or broader than, the existing legal proceedings, investigations or regulatory actions. An unfavourable result in one or more of these proceedings could have a material adverse effect on our business, prospects, financial condition, reputation and/or results of operations.

Unfavourable legislative or regulatory developments, or changes in the policy of regulators or governments, could have a material adverse effect on our operations, financial condition and prospects

Our businesses are subject to ongoing regulation and associated regulatory risks, including the effects of changes in the laws, regulations, policies, voluntary codes of practice and interpretations in the UK, the US, Hong Kong, the EU and the other markets in which we operate. This is particularly so in the current environment, where we expect government and regulatory intervention in the banking sector to continue to remain high for the foreseeable future. Additionally, many of these changes increasingly have an impact beyond the country in which they are effected as regulators either deliberately enact regulation with

 

 

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extra-territorial impact or our operations mean that the Group is obliged to give effect to ‘local’ laws and regulations on a wider basis.

Since 2008, regulators and governments have focused on reforming both the prudential regulation of the financial services industry, to improve financial stability, and the ways in which business is conducted. Measures include enhanced capital, liquidity and funding requirements, the separation or prohibition of certain activities by banks, changes in the capital regime and the operation of capital markets activities, the introduction of tax levies and transaction taxes, changes in compensation practices and adjustments to how business is conducted. The US Government, the UK Government, our regulators in the UK, US, Hong Kong, the EU or elsewhere may intervene further in relation to areas of industry risk already identified, or in new areas, which could adversely affect us.

HSBC has been classified by the Financial Stability Board (‘FSB’) as a global systemically important bank (‘G-SIB’) and therefore is subject to what the FSB refers to as a ‘multi-pronged and integrated set of policies’. These include proposals that would place additional capital and Total Loss Absorbing Capacity (‘TLAC’) buffers on the Group and require enhanced reporting.

Furthermore, the BRRD introduces requirements for banks to maintain at all times a sufficient aggregate amount of own funds and ‘eligible liabilities’ (that is, liabilities that may be bailed in using the bail-in tool), known as the minimum requirements for eligible liabilities (‘MREL’). The BoE is required to issue further secondary legislation to implement MREL requirements by 2016, which will take into account the regulatory technical standards to be developed by the EBA. The EBA has stated that these technical standards would be compatible with the proposed term sheet published by the FSB on TLAC requirements for G-SIBs, but the extent to which MREL and TLAC requirements may differ remains uncertain.

More stringent regulatory requirements, including enhanced capital, liquidity and funding requirements and those governing the development of parameters applied in, and controls around, models used for measuring risk can give rise to changes that may adversely affect our business, including increases in capital requirements.

Changes in laws, rules or regulations, or in their interpretation or enforcement, or in how new laws, rules or regulations are implemented may adversely affect our business, prospects, financial condition and/or results of operations. Further, uncertainty and lack of international regulatory coordination as enhanced supervisory standards are developed and implemented may adversely affect our ability to engage in effective business, capital and risk management planning.

We may fail to comply with all applicable regulations, particularly in areas where applicable regulations may be unclear or where regulators revise existing guidance or courts overturn previous rulings. Authorities in many jurisdictions have the power to bring administrative or

judicial proceedings against us which could result in, among other things, the suspension or revocation of our licenses, cease and desist orders, fines, civil penalties, criminal penalties or other disciplinary action which could have a material adverse effect on our business, prospects, financial condition, reputation and/or results of operations and seriously harm our reputation.

Areas where changes could have an adverse effect on our business, prospects, financial condition or results of operations include, but are not limited to:

 

  general changes in government, central bank or regulatory or competition policy, or changes in regulatory regimes that may influence investor decisions in particular markets in which we operate;

 

  the structural separation of banking and trading activities proposed or enacted in a number of jurisdictions (see below);

 

  requirements flowing from arrangements for the resolution strategy of the Group and its individual operating entities, which may have different effects in different countries;

 

  the implementation of extra-territorial laws, including the US Foreign Account Tax Compliance Act (‘FATCA’) and other related initiatives to share tax information such as those being pursued by the OECD more generally;

 

  the implementation of CRD IV, notably the UK application of the capital buffer framework and its interaction with Pillar 2 and the PRA buffer;

 

  the implementation of the BRRD’s minimum requirements for eligible liabilities by the BoE and its interaction with TLAC requirements for G-SIBs;

 

  the increasing focus by regulators on how institutions conduct business, particularly with regard to the delivery of fair outcomes for customers and orderly/transparent markets, promoting effective competition in the interests of consumers and ensuring the orderly and transparent operation of global financial markets;

 

  restrictions on the structure of remuneration imposed under CRD IV and UK regulations and increasing requirements to detail management accountability within the Group to meet the requirements of the Senior Managers’ Regime in the UK (including the continued focus in the UK on the progress being made in implementing wider recommendations made by the Parliamentary Commission on Banking Standards on matters relating to institutional ‘culture’, employee conduct and obligations more generally such as whistleblowing);

 

  the implementation of any measures as a result of regulators’ increased focus on ‘conduct’ matters (including any measures resulting from the FCA’s February 2015 announced plans to launch its first wholesale market study into investment and corporate banking to assess whether competition in the sector is working properly, as well as the FCA’s ongoing retail banking market studies into whether
 

 

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   competition is working effectively in the cash savings and consumer credit markets), which may include customer compensation and redress schemes or other, potentially significant, remedial work;

 

  the proposals from the FSB which are subject to consultation and translation into national regulations but which would require G-SIBs to hold minimum levels of capital and TLAC;

 

  external bodies applying or interpreting standards or laws differently to us;

 

  further requirements relating to financial reporting, corporate governance and employee compensation; and

 

  expropriation, nationalisation, confiscation of assets and changes in legislation or regulations relating to foreign ownership.

These developments, which are discussed in more detail on pages 110(b) to 110(n), are expected to continue to change the way in which we are regulated and supervised and could affect the manner in which we conduct our business activities, capital requirements, results of operations or how the Group is structured.

We and our UK subsidiaries may become subject to stabilisation provisions under the Bank Act 2009, as amended, in certain significant stress situations.

Under the Banking Act 2009, as amended (the ‘Banking Act’), substantial powers have been granted to HM Treasury, the BoE and the PRA and FCA (as successors to the FSA) (together, the ‘Authorities’) as part of the special resolution regime (‘SRR’). These powers enable the Authorities to deal with and stabilise UK-incorporated institutions with permission to accept deposits pursuant to Part 4A of the FSMA that are failing or are likely to fail to satisfy the threshold conditions (within the meaning of section 55B of the FSMA). The SRR presently consists of three stabilisation options: (i) transfer of all or part of the business of the relevant entity or the shares of the relevant entity to a private sector purchaser; (ii) transfer of all or part of the business of the relevant entity to a ‘bridge bank’ wholly-owned by the Bank of England; and (iii) temporary public ownership of the relevant entity. HM Treasury may also take a parent company of a relevant entity into temporary public ownership where certain conditions are met. The SRR also provides for two new insolvency and administration procedures for relevant entities. Certain ancillary powers include the power to modify certain contractual arrangements in certain circumstances.

In general, the Banking Act requires the Authorities to have regard to specified objectives in exercising the powers provided for by the Banking Act. One of the objectives (which is required to be balanced as appropriate with the other specified objectives) refers to the protection and enhancement of the stability of the financial system of the United Kingdom. The Banking Act

includes provisions related to compensation in respect of transfer instruments and orders made under it. The Authorities are also empowered by order to amend the law for the purpose of enabling the powers under the SRR to be used effectively. An order may make provision which has retrospective effect.

There is considerable uncertainty about the scope of the powers afforded to the Authorities under the Banking Act and how the Authorities may choose to exercise them or the powers that may be granted to the Authorities under future legislation. However, if we are at or approaching the point of non-viability such as to require regulatory intervention, any exercise of any resolution regime powers by the Authorities may result in holders of our ordinary shares losing all or a part of their shareholdings and/or in the rights of holders of our ordinary shares being adversely affected, including by the dilution of their percentage ownership of our share capital, and/or could have a material adverse effect on the market price of our ordinary shares.

Structural separation of banking and trading activities proposed or enacted in a number of jurisdictions could have a material adverse effect on our operations and operating results.

In December 2013, the UK Financial Services (Banking Reform) Act 2013 received Royal Assent. It implements the recommendations of the Independent Commission on Banking (‘ICB’), which inter alia establish a framework for ‘ring-fencing’ UK retail banking in separately incorporated banking entities (‘ring-fenced banks’) from trading activities. Secondary legislation has also been finalised, and in October 2014 the PRA published a consultation on ring-fencing rules in relation to group structures, governance and arrangements to ensure continuity of services and facilities. Finalised rules are expected to be published in 2016, with the implementation of ring-fencing in 2019.

The proposed separation of retail and SME banking in the UK would be a material change to the structure of HSBC Bank plc. Considerable uncertainty remains over the likely cost of implementing structural separation at this time, although we expect it to be material.

In January 2014, the European Commission published legislative proposals on the structural reform of the European banking sector which would prohibit proprietary trading in financial instruments and commodities, and enable supervisors to require trading activities such as market-making, complex derivatives and securitisation operations to be undertaken in a separate subsidiary from deposit taking activities. The proposals are currently subject to discussion in the European Parliament and the Council. The implementation date for any separation under the final rules would depend upon the date on which the final legislation is agreed.

Structural separation of retail and investment banking and trading activities is discussed in more detail on page 119.

 

 

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We are subject to tax-related risks in the countries in which we operate which could have a material adverse effect on our operating results

HSBC is subject to the substance and interpretation of tax laws in all countries in which we operate and is subject to routine review and audit by tax authorities in relation thereto. We provide for potential tax liabilities that may arise on the basis of the amounts expected to be paid to the tax authorities. The amounts ultimately paid may differ materially from the amounts provided depending on the ultimate resolution of such matters. Changes to tax law, tax rates and penalties for failure to comply could have a material adverse effect on our business, financial condition and/or results of operations.

Risks related to our business, business operations, governance and internal control systems

The delivery of our strategic priorities is subject to execution risk

The financial services industry is currently facing an unprecedented period of scrutiny. Regulatory requests, legal matters and business initiatives all require a significant amount of time and resources to implement. The magnitude and complexity of projects within HSBC required to meet these demands has resulted in heightened execution risk. Organisational change and external factors, including the challenging macroeconomic environment and the extent and pace of regulatory change also contribute to execution risk. These factors could adversely affect the successful delivery of our strategic priorities.

There also remains heightened risk around the execution of a number of disposals across the Group in line with our Strategy. The potential risks of disposals include regulatory breaches, industrial action, loss of key personnel and interruption to systems and processes during business transformation. They can have both financial and reputational implications and could also adversely affect the successful delivery of our strategic priorities.

We may not achieve all the expected benefits of our strategic initiatives

The Group’s strategy (see page 11), is built around two trends, the continued growth of international trade and capital flows, and wealth creation, particularly in faster-growing markets. We have analysed those trends, and have developed criteria to help us better deploy capital in response. The development and implementation of our strategy requires difficult, subjective and complex judgements, including forecasts of economic conditions in various parts of the world. We may fail to correctly identify the trends we seek to exploit and the relevant factors in making decisions as to capital deployment and cost reduction.

Our ability to execute our strategy may also be limited by our operational capacity and the increasing complexity of the regulatory environment in which we operate. In

addition, factors beyond our control, including but not limited to, the economic and market conditions and other challenges discussed in detail above, could limit our ability to achieve all of the expected benefits of these initiatives.

We operate in markets that are highly competitive

We compete with other financial institutions in a highly competitive industry that is undergoing significant changes as a result of financial regulatory reform and increased public scrutiny stemming from the financial crisis and continued challenging economic conditions.

We target internationally mobile clients who need sophisticated global solutions and generally compete on the basis of the quality of our customer service, the wide variety of products and services that we can offer our customers and the ability of those products and services to satisfy our customers’ needs, the extensive distribution channels available for our customers, our innovation, and our reputation. Continued and increased competition in any one or all of these areas may negatively affect our market share and results of operations and/or cause us to increase our capital investment in our businesses in order to remain competitive. Additionally, if our products and services are not accepted by our targeted clients, this may have a material adverse effect on our business, financial condition and results of operations.

In many markets, there is increased competitive pressure to provide products and services at current or lower prices. Consequently, our ability to reposition or reprice our products and services from time to time may be limited and could be influenced significantly by the actions of our competitors who may or may not charge similar fees for their products and services. Any changes in the types of products and services that we offer our customers and/or the pricing for those products and services could result in a loss of customers and market share and could materially adversely affect our results of operations.

Further, new entrants to the market or new technologies could require us to spend more to modify or adapt our products to attract and retain customers. We may not respond effectively to these competitive threats from existing and new competitors and may be forced to increase our investment in our business to modify or adapt our existing products and services or develop new products and services to respond to our customers’ needs.

Our risk management measures may not be successful

The management of risk is an integral part of all our activities. Risk constitutes our exposure to uncertainty and the consequent variability of return. Specifically, risk equates to the adverse effect on profitability or financial condition arising from different sources of uncertainty including retail and wholesale credit risk, market risk, operational risk, non-traded

 

 

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market risk, insurance risk, concentration risk, liquidity and funding risk, litigation risk, reputational risk, strategic risk, pension obligation risk and regulatory risk. While we employ a broad and diversified set of risk monitoring and risk mitigation techniques, such techniques and the judgements that accompany their application cannot anticipate every unfavourable event or the specifics and timing of every outcome. Failure to manage risks appropriately could have a significant effect on our business prospects, financial condition and/or results of operations.

Operational risks are inherent in our business

We are exposed to many types of operational risk that are inherent in banking operations including fraudulent and other criminal activities (both internal and external), breakdowns in processes or procedures and systems failure or non-availability. These risks apply equally when we rely on outside suppliers or vendors to provide services to us and our customers. These operational risks could have a material adverse effect on our business, prospects, financial condition and results of operation.

Our operations are subject to the threat of fraudulent activity

Fraudsters may target any of our products, services and delivery channels including lending, internet banking, payments, bank accounts and cards. This may result in financial loss to the bank, an adverse customer experience, reputational damage and potential regulatory action depending on the circumstances of the event.

Our operations are subject to disruption from the external environment

HSBC operates in many geographical locations, which are subject to events that are outside our control. These events may be acts of God such as natural disasters and epidemics, geopolitical risks including acts of terrorism and social unrest, and infrastructure issues such as transport or power failure. These risk events may give rise to disruption to our services, result in physical damage and/or loss of life, and could have a material adverse effect on our business, prospects, financial condition and results of operation.

Our operations utilise third-party suppliers and service providers

HSBC places reliance on third-party firms for the supply of goods and services or outsourcing of certain activities. There has been increased scrutiny by global regulators of the use by financial institutions of third-party service providers, including how outsourcing decisions are made and how the key relationships are managed. Risks arising from the use of third-party service providers may be less transparent and therefore more challenging to manage or influence. The risk of inadequate management of risks associated with the use of significant third-party service providers could lead to a failure to meet our operational and business requirements which, in turn, may involve regulatory breaches, financial crime, loss of confidential

information, civil or monetary penalties or damage both to shareholder value and to our reputation/brand image.

Our operations are highly dependent on our information technology systems

The reliability and security of our information and technology infrastructure and our customer databases are crucial to maintaining the service availability of banking applications and processes and to protecting the HSBC brand. The proper functioning of our payment systems, financial control, risk management, credit analysis and reporting, accounting, customer service and other information technology systems, as well as the communication networks between our branches and main data processing centres, are critical to our operations.

Critical system failure, any prolonged loss of service availability or any material breach of data security, particularly involving confidential customer data, could cause serious damage to our ability to service our clients, could breach regulations under which we operate and could cause long-term damage to our business and brand that could have a material adverse effect on our business, prospects, financial condition, reputation and/or results of operations. This includes the operation of our key payments services.

HSBC remains susceptible to a wide range of cyber risks that impact and/or are facilitated by technology. The threat from cyber attacks is a concern for our organisation and failure to protect our operations from internet crime or cyber attacks may result in financial loss and/or loss of customer data or other sensitive information which could undermine our reputation and our ability to attract and keep customers. This could have a material adverse effect on our business, financial condition and/or results of our operations.

A cyber security breach in HSBC Turkey in November 2014 exposed the details of credit and debit card information for 2.7m customers. Although the exposure was not linked to fraudulent transactions and the breach was detected through internal security controls, customers and the local regulator were informed.

During 2014, we were subjected to 12 ‘denial of service’ attacks on our external facing websites across the Group. A denial of service attack is the attempt to intentionally disrupt, paralyse and potentially extract data from a computer network by flooding it with data sent simultaneously from many individual computers.

Although most cyber attacks in 2014 had a negligible effect on our customers, services or firm, future cyber attacks could have a material adverse effect on our business, financial condition and/or results of operations and reputation.

We may not be able to meet regulatory requests for data

The volume, granularity, frequency and scale of regulatory and other reporting requirements necessitate a clear data strategy to enable consistent data aggregation, reporting and management. Inadequate

 

 

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management information systems or processes, including those relating to risk data aggregation and risk reporting, could lead to a failure to meet regulatory reporting requirements or other internal or external information demands. Financial institutions that fail to comply with the principles for effective risk data aggregation and risk reporting as set out by the Basel Committee on Banking Supervision by the required deadline may face supervisory measures.

Our operations have inherent reputational risk

Reputational risk is the risk of failure to meet stakeholder expectations as a result of any event, behaviour, action or inaction, either by HSBC, its employees or those with whom it is associated, that may cause stakeholders to form a negative view of HSBC. It could also arise from negative public opinion about the actual, or perceived, manner in which we conduct our business activities, our financial performance, as well as actual or perceived practices in banking and the financial services industry generally. Reputational risk could lead to adverse financial or non-financial consequences, including loss of confidence or adverse effects on our ability to retain and attract customers. Any lapse in standards of integrity, compliance, customer service or operating efficiency represents a potential reputational risk.

Modern technologies, in particular online social media channels and other broadcast tools which facilitate communication with large audiences in short time frames and with minimal costs, may significantly enhance and accelerate the impact of damaging information and allegations. Negative public opinion may adversely affect our ability to keep and attract customers and, in particular, corporate and retail depositors, and could have a material adverse effect on our business, prospects, financial condition, reputation and/or results of operations.

We may suffer losses due to employee misconduct

Our businesses are exposed to risk from potential non-compliance with policies, including the HSBC Values and related behaviours, and employee misconduct, such as fraud or negligence, all of which could result in regulatory sanctions or reputational or financial harm. In recent years, a number of multinational financial institutions have suffered material losses due to the actions of ‘rogue traders’ or other employees. It is not always possible to deter employee misconduct and the precautions we take to prevent and detect this activity may not always be effective.

We rely on recruiting, retaining and developing appropriate senior management and skilled personnel

The demands being placed on the human capital of the Group are unprecedented. The cumulative workload arising from a regulatory reform programme that is often extra-territorial and still evolving is hugely consumptive of human resources, placing increasingly complex and

conflicting demands on a workforce where the required expert capabilities are in short supply and globally mobile.

Our continued success depends in part on the retention of key members of our management team and wider employee base. The ability to continue to attract, train, motivate and retain highly qualified professionals is a key element of our strategy. The successful implementation of our growth strategy depends on the availability of skilled management in each of our global businesses or global functions. If global businesses or global functions fail to staff their operations appropriately, or lose one or more of their key senior executives, and fail to replace them in a satisfactory and timely manner, or fail to implement successfully the organisational changes required to support the Group’s strategy, our business prospects, financial condition and/or results of operations, including control and operational risks, may be materially adversely affected.

Our financial statements are based in part on judgements, estimates and assumptions which are subject to uncertainty

The preparation of financial statements requires management to make judgements, estimates and assumptions that affect the reported amounts of assets, liabilities, income and expenses. Due to the inherent uncertainty in making estimates, particularly those involving the use of complex models, actual results reported in future periods may be based upon amounts which differ from those estimates. Estimates, judgements, assumptions and models are continually evaluated and are based on historical experience and other factors, including expectations of future events that are believed to be reasonable under the circumstances. Revisions to accounting estimates are recognised in the period in which the estimate is revised and in any future periods affected. The accounting policies deemed critical to our results and financial position, based upon materiality and significant judgements and estimates, include impairment of loans and advances, goodwill impairment, valuation of financial instruments, deferred tax assets, provisions and interests in associates, which are discussed in detail in ‘Critical accounting estimates and judgements’ on page 348.

The valuation of financial instruments measured at fair value can be subjective, in particular where models are used which include unobservable inputs. Given the uncertainty and subjectivity associated with valuing such instruments, future outcomes may differ materially from those assumed using information available at the reporting date. The effect of these differences on the future results of operations and the future financial position of the Group may be material. For further details, see ‘Critical accounting estimates and judgements’ on page 348.

If the judgement, estimates and assumptions we use in preparing our consolidated financial statements are subsequently found to be materially different from those assumed using information available at the reporting

 

 

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date, this could affect our business, financial conditions, prospects, and/or results of operations and have a corresponding effect on our funding requirements and capital ratios.

HSBC could incur losses or be required to hold additional capital as a result of model limitations or failure

HSBC uses models for a range of purposes in managing its business, including regulatory and economic capital calculations, stress testing, granting credit, pricing and financial reporting, including the valuation of financial instruments measured at fair value, as explained above. HSBC could face adverse consequences as a result of decisions, which may lead to actions by management, based on models that are poorly developed, implemented or used, or as a result of the modelled outcome being misunderstood or the use of such information for purposes for which it was not designed. Risks arising from use of models could have a material adverse effect on our business, financial condition and/or results of operations, minimum capital requirements and reputation.

In addition, supervisory concerns over the internal models and assumptions used by banks in the calculation of regulatory capital have led to the imposition of risk weight and loss given default floors, which has the potential to increase our capital requirement.

Third parties may use us as a conduit for illegal activities without our knowledge, which could have a material adverse effect on us

We are required to comply with applicable anti-money laundering laws and regulations and have adopted various policies and procedures, including internal control and ‘know your customer’ procedures, aimed at preventing use of HSBC products and services for the purpose of committing or concealing financial crime. A major focus of US and UK government policy relating to financial institutions in recent years has been combating money laundering and enforcing compliance with US and EU economic sanctions, and this prioritisation is evidenced by our agreements with US and UK authorities relating to various investigations regarding past inadequate compliance with anti-money laundering and sanctions laws. Certain US subsidiaries of HSBC Holdings have entered into a consent cease and desist order with the OCC and a similar consent order with the FRB which require the implementation of improvements to compliance procedures regarding obligations under the US Bank Secrecy Act (the ‘BSA’), FCA Direction and anti-money laundering (‘AML’) rules. These consent orders do not preclude additional enforcement actions by bank regulatory, governmental or law enforcement agencies or private litigation.

A number of the remedial actions taken or being taken as a result of the matters to which the US DPA relates are intended to ensure that the Group’s businesses are better protected in respect of these risks. However, there can be no assurance that the steps that continue to be taken to address the requirements of the US DPA

will be completely effective. Breach of the US DPA at any time during its term may allow the DoJ to prosecute HSBC in relation to the matters which are the subject of the US DPA.

In relevant situations, and where permitted by regulation, we may rely upon certain counterparties to maintain and properly apply their own appropriate AML procedures. While permitted by regulation, such reliance may not be effective in preventing third parties from using us (and our relevant counterparties) as a conduit for money laundering including illegal cash operations without our knowledge (and that of our relevant counterparties). Becoming a party to money laundering, association with, or even accusations of being associated with money laundering will damage our reputation and could make us subject to fines, sanctions and/or legal enforcement (including being added to ‘blacklists’ that would prohibit certain parties from engaging in transactions with us). Any one of these outcomes could have a material adverse effect on our business, prospects, financial condition and/or results of operations.

We have significant exposure to counterparty risk

We are exposed to counterparties that are involved in virtually all major industries, and we routinely execute transactions with counterparties in financial services, including brokers and dealers, central clearing counterparties, commercial banks, investment banks, mutual and hedge funds, and other institutional clients. Many of these transactions expose us to credit risk in the event of default by our counterparty or client. Our ability to engage in routine transactions to fund our operations and manage our risks could be materially adversely affected by the actions and commercial soundness of other financial services institutions. Financial institutions are necessarily interdependent because of trading, clearing, counterparty or other relationships. As a consequence, a default by, or decline in market confidence in, individual institutions, or anxiety about the financial services industry generally, can lead to further individual and/or systemic difficulties, defaults and losses.

Mandatory central clearing of over the counter (‘OTC’) derivatives, including under the Dodd-Frank Act and the EU’s European Market Infrastructure Regulation (‘EMIR’), brings new risks to HSBC. As a clearing member, we will be required to underwrite losses incurred at Central Counterparty (‘CCP’) by the default of other clearing members and their clients. Hence central clearing brings with it a new element of interconnectedness between clearing members and clients which we believe may increase rather than reduce our exposure to systemic risk. At the same time, our ability to manage such risk ourselves will be reduced because control has been largely outsourced to CCPs and it is unclear at present how, at a time of stress, regulators and resolution authorities will intervene.

 

 

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Where bilateral counterparty risk has been mitigated by taking collateral, our credit risk may remain high if the collateral we hold cannot be realised or has to be liquidated at prices which are insufficient to recover the full amount of our loan or derivative exposure. There is a risk that collateral cannot be realised, including situations where this arises by change of law that may influence our ability to foreclose on collateral or otherwise enforce contractual rights.

The Group also has credit exposure arising from mitigants such as credit default swaps (‘CDS’s), and other credit derivatives, each of which is carried at fair value. The risk of default by counterparties to CDSs and other credit derivatives used as mitigants affects the fair value of these instruments depending on the valuation and the perceived credit risk of the underlying instrument against which protection has been purchased. Any such adjustments or fair value changes may have a material adverse effect on our financial condition and results of operations.

Market fluctuations may reduce our income or the value of our portfolios

Our businesses are inherently subject to risks in financial markets and in the wider economy, including changes in, and increased volatility of, interest rates, inflation rates, credit spreads, foreign exchange rates, commodity, equity, bond and property prices and the risk that our customers act in a manner inconsistent with our business, pricing and hedging assumptions.

Market movements will continue to significantly affect us in a number of key areas. For example, banking and trading activities are subject to interest rate risk, foreign exchange risk, inflation risk and credit spread risk. Changes in interest rate levels, interbank spreads over official rates, yield curves and spreads affect the interest rate spread realised between lending and borrowing costs. The potential for future volatility and margin changes remains. Competitive pressures on fixed rates or product terms in existing loans and deposits sometimes restrict our ability to change interest rates applying to customers in response to changes in official and wholesale market rates. Our pension scheme assets include equity and debt securities, the cash flows of which change as equity prices and interest rates vary.

Our insurance businesses are exposed to the risk that market fluctuations will cause mismatches to occur between product liabilities and the investment assets which back them. Market risks can affect our insurance products in a number of ways depending upon the product and associated contract. For example, mismatches between assets and liability yields and maturities give rise to interest rate risk. Some of these risks are borne directly by the customer and some are borne by the insurance businesses, with their excess capital invested in the markets. Some insurance contracts involve guarantees and options that increase in value in adverse investment markets. There is a risk that the insurance businesses will bear some of the cost of such guarantees and options. The performance of the investment markets will thus have a direct effect upon the value embedded in the insurance and investment

contracts and our operating results, financial condition and prospects.

It is difficult to predict with any accuracy changes in market conditions, and such changes may have a material adverse effect on our business, operating results, financial condition and prospects.

Liquidity, or ready access to funds, is essential to our businesses

Our ability to borrow on a secured or unsecured basis and the cost of so doing can be affected by increases in interest rates or credit spreads, the availability of credit, regulatory requirements relating to liquidity or the market perceptions of risk relating to HSBC or the banking sector, including our perceived or actual creditworthiness.

Current accounts and savings deposits payable on demand or at short notice form a significant part of our funding, and we place considerable importance on maintaining their stability. For deposits, stability depends upon preserving investor confidence in our capital strength and liquidity, and on comparable and transparent pricing. Although deposits have been, over time, a stable source of funding, this may not continue.

We also access wholesale markets in order to provide funding for entities that do not accept deposits, to align asset and liability maturities and currencies and to maintain a presence in local markets. In 2014, we issued the equivalent of US$20bn of debt securities in the public capital markets in a range of currencies and maturities from a number of Group entities, including US$9.1bn of subordinated securities issued by HSBC Holdings. An inability to obtain financing in the unsecured long-term or short-term debt capital markets, or to access the secured lending markets, could have a substantial adverse effect on our liquidity. Unfavourable macroeconomic developments, market disruptions or regulatory developments may increase our funding costs or challenge our ability to raise funds to support or expand our businesses, materially adversely affecting our business, prospects, financial condition and/or results of operations.

If we are unable to raise funds through deposits and/or in the capital markets, our liquidity position could be adversely affected and we might be unable to meet deposit withdrawals on demand or at their contractual maturity, to repay borrowings as they mature, to meet our obligations under committed financing facilities and insurance contracts, or to fund new loans, investments and businesses. We may need to liquidate unencumbered assets to meet our liabilities. In a time of reduced liquidity, we may be unable to sell some of our assets, or we may need to sell assets at depressed prices, which in either case could materially adversely affect our business, prospects, results of operations and/or financial condition.

 

 

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Any reduction in the credit rating assigned to HSBC Holdings, any subsidiaries of HSBC Holdings or any of their respective debt securities could increase the cost or decrease the availability of our funding and adversely affect our liquidity position and net interest margin

Credit ratings affect the cost and other terms upon which we are able to obtain market funding. Rating agencies regularly evaluate HSBC Holdings and certain of its subsidiaries, as well as their respective debt securities. Their ratings are based on a number of factors, including their assessment of the relative financial strength of HSBC or of the relevant entity, as well as conditions affecting the financial services industry generally. There can be no assurance that the rating agencies will maintain HSBC’s or the relevant entity’s current ratings or outlook, particularly given the rating agencies’ current review of their bank rating methodologies and the potential impact on HSBC’s or its subsidiaries’ ratings.

As of the date hereof, HSBC Holdings’ long-term debt was rated AA-, A, Aa3 by Fitch, Standard & Poor’s (‘S&P’) and Moody’s, respectively. Ratings outlook by Fitch and S&P were stable and Moody’s rating outlook was negative. Among other factors, Moody’s rating outlook reflects the potential removal of government support (in whole or in part) as a factor in our rating due to the European resolution framework, including BRRD and the UK bail-in power. S&P lowered our long-term debt rating in February 2015 to reflect their view that extraordinary government support is unlikely. Any reductions in these ratings and outlook could increase the cost of our funding, limit access to capital markets and require additional collateral to be placed and, consequently, materially adversely affect our interest margins and/or our liquidity position.

Under the terms of our current collateral obligations under derivative contracts, we could be required to post additional collateral as a result of a downgrade in HSBC’s credit rating as described on page 173.

Risks concerning borrower credit quality are inherent in our businesses

Risks arising from changes in credit quality and the recoverability of loans and amounts due from borrowers and counterparties (e.g. reinsurers and counterparties in derivative transactions) are inherent in a wide range of our businesses. Adverse changes in the credit quality of our borrowers and counterparties arising from a general deterioration in economic conditions or systemic risks in the financial systems could reduce the recoverability and value of our assets and require an increase in our loan impairment charges.

We estimate and recognise impairment allowances for credit losses inherent in our credit exposure. This process, which is critical to our results and financial condition, requires difficult, subjective and complex judgements, including forecasts of how these economic conditions might impair the ability of our borrowers to repay their loans and the ability of other counterparties

to meet their obligations. As is the case with any such assessments, we may fail to estimate accurately the effect of factors that we identify or fail to identify relevant factors. Further, the information we use to assess the creditworthiness of our counterparties may be inaccurate or incorrect. Any failure by us to accurately estimate the ability of our counterparties to meet their obligations may have a material adverse effect on our business, prospects, financial conditions and/or results of operations.

Our insurance businesses are subject to risks relating to insurance claim rates and changes in insurance customer behaviour

We provide various insurance products for customers with whom we have a banking relationship, including several types of life insurance products. The cost of claims and benefits can be influenced by many factors, including mortality and morbidity rates, lapse and surrender rates and, if the policy has a savings element, the performance of assets to support the liabilities. Adverse developments in any of these factors may materially adversely affect our financial condition and results of operations.

HSBC Holdings is a holding company and as a result, is dependent on loan payments and dividends from its subsidiaries to meet its obligations, including obligations with respect to its debt securities, and to provide profits for payment of future dividends to shareholders

HSBC Holdings is a non-operating holding company and, as such, its principal source of income is from operating subsidiaries which hold the principal assets of HSBC. As a separate legal entity, HSBC Holdings relies on remittance of its subsidiaries’ loan interest payments and dividends in order to be able to pay obligations to debt holders as they fall due and to pay dividends to its shareholders. The ability of HSBC Holdings subsidiaries and affiliates to pay dividends could be restricted by changes in regulation, exchange controls and other requirements.

We may be required to make substantial contributions to our pension plans

We operate a number of pension plans throughout the world, including defined benefit plans. Pension scheme obligations fluctuate with changes in long-term interest rates, inflation, salary levels and the longevity of scheme members. The level of contributions we make to our pension plans has a direct effect on our cash flow. To the extent plan assets are insufficient to cover existing liabilities, higher levels of contributions will be required. As a result, deficits in those pension plans may have a material adverse effect on our business, prospects, financial condition and/or results of operations.

 

 

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Managing risk

(Unaudited)

As a provider of banking and financial services, we actively manage risk as a core part of our day-to-day activities.

Risk management framework

Our risk management framework, which is employed at all levels of the organisation, is set out on page 24. The key elements are discussed below.

The Group’s Risk Appetite Statement is a key component in our management of risk and is described on page 24.

Risk governance framework

Robust risk governance and accountability are embedded throughout the Group through an established framework that ensures appropriate oversight of and accountability for the effective management of risk at all levels of the organisation and across all risk types. Adherence to consistent standards and risk management policies is required across HSBC by our Global Standards and our Global Risk operating model.

The Board has ultimate responsibility for approving HSBC’s risk appetite and the effective management of risk.

 

  The Group Risk Committee advises the Board on risk appetite and its alignment with strategy, risk governance and internal controls and high-level risk related matters.

 

  The Financial System Vulnerabilities Committee reports to the Board on matters relating to financial crime and financial system abuse and provides a forward-looking perspective on financial crime risk.

 

  The Conduct & Values Committee was established in January 2014 to oversee the design and application of HSBC’s policies, procedures and standards, to ensure that we conduct business responsibly and consistently adhere to HSBC Values and to advise the Board accordingly.

Executive accountability for the ongoing monitoring, assessment and management of the risk environment and the effectiveness of our risk management policies resides with the Risk Management Meeting of the GMB. Day-to-day risk management activities are the responsibility of senior managers of individual businesses, supported by global functions as described under ‘Three lines of defence’ below.

The executive and non-executive risk governance structures and their interactions are set out on page 204, with similar arrangements in place for major operating subsidiaries.

The report of the Group Risk Committee is on page 280. The Report of the Financial System Vulnerabilities Committee is on page 282. The report of the Conduct & Values Committee is on page 286.

Three lines of defence

We use a three lines of defence model in the management of risk.

 

  First line – every employee is responsible for the risks that form part of their day to day jobs. The first line of defence ensures that all key risks within their operations are identified, mitigated and monitored by appropriate internal controls within an overall control environment.

 

  Second line – global functions such as Risk, Finance and Human Resources form the second line of defence. They are responsible for providing assurance, challenge and oversight of the activities conducted by the first line.

 

  Third line – Internal Audit forms the third line of defence, providing independent assurance to senior management and the Board over the first and second lines of defence.

For details of our operational risk management framework, see page 186.

People

All employees are required to identify, assess and manage risk within the scope of their assigned responsibilities and, as such, they are critical to the effectiveness of the three lines of defence. Personal accountability for Global Standards is reinforced by HSBC Values.

Clear and consistent employee communication on risk conveys strategic messages and sets the tone from senior leadership. A suite of mandatory training on critical risk and compliance topics is deployed to embed skills and understanding and strengthen the risk culture within HSBC. It reinforces the attitude to risk in the behaviour expected of employees, as described in our risk policies. The training is updated regularly, describing technical aspects of the various risks assumed by the Group and how they should be managed effectively. Staff are supported in their roles by a disclosure line which enables them to raise concerns confidentially (see page 20).

Our risk culture is reinforced by our approach to remuneration. Individual awards, including those for executives, are based on compliance with HSBC Values and the achievement of financial and non-financial objectives which are aligned to our risk appetite and global strategy.

For further information on risk and remuneration, see the Report of the Group Remuneration Committee on page 300.

Independent Risk function

Global Risk, headed by the Group Chief Risk Officer, is responsible for enterprise-wide risk oversight including the establishment of global policy, the monitoring of risk profiles and forward-looking risk identification and management. Global Risk also has functional responsibility for risk management in support of HSBC’s global businesses and regions through an integrated network of Risk sub-functions which are independent from the sales and trading functions of our businesses. This independence ensures the necessary balance in risk/return decisions.

 

 

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We run Global Risk like a business, ensuring that the function is dynamic and responsive to the needs of its stakeholders.

Risks faced by HSBC

All of our activities involve, to varying degrees, the analysis, evaluation, acceptance and management of risks or combinations of risks.

Risk factors

We have identified a comprehensive suite of risk factors which covers the broad range of risks our businesses are exposed to.

A number of the risk factors have the potential to affect the results of our operations or financial condition, but may not necessarily be deemed as top or emerging risks. However, they inform the ongoing assessment of our top and emerging risks which may result in our risk appetite being revised. The risk factors are:

Macroeconomic and geopolitical risk

 

  Current economic and market conditions may adversely affect our results.

 

  We are subject to political and economic risks in the countries in which we operate, including the risk of government intervention.

 

  We may suffer adverse effects as a result of the renewed economic and sovereign debt tensions in the eurozone.

 

  Changes in foreign currency exchange rates may affect our results.

Macro-prudential, regulatory and legal risks to our business model

 

  Failure to implement our obligations under the deferred prosecution agreements could have a material adverse effect on our results and operations.

 

  Failure to comply with certain regulatory requirements would have a material adverse effect on our results and operations.

 

  Failure to meet the requirements of regulatory stress tests could have a material adverse effect on our capital position, operations, results and future prospects.

 

  We are subject to a number of legal and regulatory actions and investigations, the outcomes of which are inherently difficult to predict, but unfavourable outcomes could have a material adverse effect on our operating results and brand.

 

  Unfavourable legislative or regulatory developments, or changes in the policy of regulators or governments, could have a material adverse effect on our operations, financial condition and prospects.

 

  HSBC Holdings and its UK subsidiaries may become subject to stabilisation provisions under the Bank Act

    2009, as amended, in certain significant stress situations.

 

  Structural separation of banking and trading activities proposed or enacted in a number of jurisdictions could have a material adverse effect on our operations and operating results.

 

  We are subject to tax-related risks in the countries in which we operate which could have a material adverse effect on our operating results.

Risks related to our business, business operations, governance and internal control systems

 

  The delivery of our strategic priorities is subject to execution risk.

 

  We may not achieve all the expected benefits of our strategic initiatives.

 

  We operate in markets that are highly competitive.

 

  Our risk management measures may not be successful.

 

  Operational risks are inherent in our business.

 

  Our operations are subject to the threat of fraudulent activity.

 

  Our operations are subject to disruption from the external environment.

 

  Our operations utilise third-party suppliers and service providers.

 

  Our operations are highly dependent on our information technology systems.

 

  We may not be able to meet regulatory requests for data.

 

  Our operations have inherent reputational risk.

 

  We may suffer losses due to employee misconduct.

 

  We rely on recruiting, retaining and developing appropriate senior management and skilled personnel.

 

  Our financial statements are based in part on judgements, estimates and assumptions which are subject to uncertainty.

 

  HSBC could incur losses or be required to hold additional capital as a result of model limitations or failure.

 

  Third parties may use us as a conduit for illegal activities without our knowledge, which could have a material adverse effect on us.

 

  We have significant exposure to counterparty risk.

 

  Market fluctuations may reduce our income or the value of our portfolios.

 

  Liquidity, or ready access to funds, is essential to our businesses.

 

  Any reduction in the credit rating assigned to HSBC Holdings, any subsidiaries of HSBC Holdings or any of their respective debt securities could increase the cost or decrease the availability of our funding and adversely affect our liquidity position and interest margins.
 

 

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  Risks concerning borrower credit quality are inherent in our businesses.

 

  Our insurance business is subject to risks relating to insurance claim rates and changes in insurance customer behaviour.

 

  HSBC Holdings is a holding company and, as a result, is dependent on loan payments and dividends from its subsidiaries to meet its
 

obligations, including obligations with respect to its debt securities, and to provide profits for payment of future dividends to shareholders.

 

  We may be required to make substantial contributions to our pension plans.

Risks managed by HSBC

The principal risks associated with our banking and insurance manufacturing operations are described in the tables below.

 

 

Description of risks – banking operations

 

 Risks

 

  

Arising from

 

  

Measurement, monitoring and management of risk

 

Credit risk (page 127)

 

    
The risk of financial loss if a customer or counterparty fails to meet an obligation under a contract.    Credit risk arises principally from direct lending, trade finance and leasing business, but also from certain other products such as guarantees and derivatives.   

Credit risk is:

 

 

•    measured as the amount which could be lost if a customer or counterparty fails to make repayments. In the case of derivatives, the measurement of exposure takes into account the current mark-to-market value to HSBC of the contract and the expected potential change in that value over time caused by movements in market rates;

 

•    monitored within limits approved by individuals within a framework of delegated authorities. These limits represent the peak exposure or loss to which HSBC could be subjected should the customer or counterparty fail to perform its contractual obligations; and

 

•    managed through a robust risk control framework which outlines clear and consistent policies, principles and guidance for risk managers.

Liquidity and funding risk (page 163)

 

    
The risk that we do not have sufficient financial resources to meet our obligations as they fall due or that we can only do so at excessive cost.   

Liquidity risk arises from mismatches in the timing of cash flows.

 

Funding risk arises when the liquidity needed to fund illiquid asset positions cannot be obtained at the expected terms and when required.

  

Liquidity and funding risk is:

 

•    measured using internal metrics including stressed operational cash flow projections, coverage ratios and advances to core funding ratios;

 

•    monitored against the Group’s liquidity and funding risk framework and overseen by regional Asset and Liability Management Committees (‘ALCO’s), Group ALCO and the Risk Management Meeting; and

 

•    managed on a stand-alone basis with no reliance on any Group entity (unless pre-committed) or central bank unless this represents routine established business as usual market practice.

Market risk (page 175)

 

    
The risk that movements in market factors, including foreign exchange rates and commodity prices, interest rates, credit spreads and equity prices, will reduce our income or the value of our portfolios.   

Exposure to market risk is separated into two portfolios:

 

•  trading portfolios comprise positions arising from market-making and warehousing of customer-derived positions.

 

•  non-trading portfolios comprise positions that primarily arise from the interest rate management of our retail and commercial banking assets and liabilities, financial investments designated as available for sale and held to maturity, and exposures arising from our insurance operations (page 198).

 

  

Market risk is:

 

 

•    measured in terms of value at risk, which is used to estimate potential losses on risk positions as a result of movements in market rates and prices over a specified time horizon and to a given level of confidence, augmented with stress testing to evaluate the potential impact on portfolio values of more extreme, though plausible, events or movements in a set of financial variables;

 

•    monitored using measures including the sensitivity of net interest income and the sensitivity of structural foreign exchange which are applied to the market risk positions within each risk type; and

 

•    managed using risk limits approved by the GMB for HSBC Holdings and our various global businesses. These units are allocated across business lines and to the Group’s legal entities.

 

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 Risks

 

  

Arising from

 

  

Measurement, monitoring and management of risk

 

Operational risk (page 186)

 

         
The risk of loss resulting from inadequate or failed internal processes, people and systems or from external events, including legal risk (along with accounting, tax, security and fraud, people, systems, projects, operations and organisational change risk).   

Operational risk arises from day to day operations or external events, and is relevant to every aspect of our business.

 

Compliance risk and fiduciary risk are discussed below. Other operational risks are covered in the Appendix to Risk (page 204).

  

Operational risk is:

 

 

•    measured using both the top risk analysis process and the risk and control assessment process, which assess the level of risk and effectiveness of controls;

 

•    monitored using key indicators and other internal control activities; and

 

•    managed primarily by global business and functional managers. They identify and assess risks, implement controls to manage them and monitor the effectiveness of these controls utilising the operational risk management framework. Global Operational Risk is responsible for the framework and for overseeing the management of operational risks within businesses and functions.

 

Compliance risk (page 189)

 

         
The risk that we fail to observe the letter and spirit of all relevant laws, codes, rules, regulations and standards of good market practice, and incur fines and penalties and suffer damage to our business as a consequence.   

Compliance risk is part of operational risk, and arises from rules, regulations, other standards and Group policies, including those relating to anti-money laundering, anti-bribery and corruption, counter-terrorist and proliferation financing, sanctions compliance and conduct of business.

 

The DPA is discussed on page 120 and the Monitor on page 27.

  

Compliance risk is:

 

 

•    measured by reference to identified metrics, incident assessments (whether affecting HSBC or the wider industry), regulatory feedback and the judgement and assessment of the managers of our global businesses and functions;

 

•    monitored against our compliance risk assessments and metrics, the results of the monitoring and control activities of the second line of defence functions, including the Financial Crime Compliance and Regulatory Compliance functions, and the results of internal and external audits and regulatory inspections; and

 

•    managed by establishing and communicating appropriate policies and procedures, training employees in them, and monitoring activity to assure their observance. Proactive risk control and/or remediation work is undertaken where required.

 

Other material risks

 

         

Reputational risk (page 199)

 

         
The risk that illegal, unethical or inappropriate behaviour by the Group itself, members of staff or clients or representatives of the Group will damage HSBC’s reputation, leading potentially to a loss of business, fines or penalties.    Reputational risk is the risk of failure to meet stakeholder expectations as a result of any event, behaviour, action or inaction, either by HSBC itself, its employees or those with whom it is associated, that may cause stakeholders to form a negative view of HSBC.   

Reputational risk is:

 

 

•    measured by reference to our reputation as indicated by our dealings with all relevant stakeholders, including media, regulators, customers and employees;

 

•    monitored through a reputational risk management framework, taking into account the results of the compliance risk monitoring activity outlined above; and

 

•    managed by every member of staff and is covered by a number of policies and guidelines. There is a clear structure of committees and individuals charged with mitigating reputational risk, including the Group Reputational Risk Policy Committee and regional/business equivalents.

 

Fiduciary risk (page 200)

 

         
The risk of breaching our fiduciary duties, defined as any duty where HSBC holds, manages, oversees or has responsibilities for assets for a third party that involves a legal and/or regulatory duty to act with the highest standard of care and with utmost good faith.    Fiduciary risk is part of operational risk, and arises from our business activities where we act in a fiduciary capacity (‘designated businesses’) as Trustee, Investment Manager or as mandated by law or regulation.   

Fiduciary risk is:

 

 

•    measured by each designated business monitoring against their own risk appetite statements and by the operational risk and control assessment process, which assesses the level of risk and the effectiveness of the key controls;

 

•    monitored through a combination of testing, key indicators and other metrics such as client and regulatory feedback; and

 

•    managed within the designated businesses via established governance frameworks, and comprehensive policies, procedures and training programmes.

 

 

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Description of risks – banking operations (continued)

 

 Risks

 

  

Arising from

 

  

Measurement, monitoring and management of risk

 

Pension risk (page 236)

 

         
The risk that contributions from Group companies and members fail to generate sufficient funds to meet the cost of accruing benefits for the future service of active members, and the risk that the performance of assets held in pension funds is insufficient to cover existing pension liabilities.    Pension risk arises from investments delivering an inadequate return, economic conditions leading to corporate failures, adverse changes in interest rates or inflation, or members living longer than expected (longevity risk). Pension risk includes operational risks listed above.   

Pension risk is:

 

 

•    measured in terms of the schemes’ ability to generate sufficient funds to meet the cost of their accrued benefits;

 

•    monitored through the specific risk appetite that has been developed at both Group and regional levels; and

 

•    managed locally through the appropriate pension risk governance structure and globally through the Risk Management Meeting.

Sustainability risk (page 237)

 

         
The risk that the environmental and social effects of providing financial services outweigh the economic benefits.    Sustainability risk arises from the provision of financial services to companies or projects which run counter to the needs of sustainable development.   

Sustainability risk is:

 

 

•    measured by assessing the potential sustainability effect of a customer’s activities and assigning a Sustainability Risk Rating to all high risk transactions;

 

•    monitored quarterly by the Risk Management Meeting and monthly by Group Sustainability Risk management; and

 

•    managed using sustainability risk policies covering project finance lending and sector-based sustainability polices for sectors with high environmental or social impacts.

 

Our insurance manufacturing subsidiaries are separately regulated from our banking operations. Risks in the insurance entities are managed using methodologies and processes appropriate to insurance activities, but remain subject to oversight at Group level. Our insurance

operations are also subject to the operational risks and the other material risks presented above in relation to the banking operations, and these are covered by the Group’s risk management processes.

 

 

Description of risks – insurance manufacturing operations

 

 Risks

 

  

Arising from

 

  

Measurement, monitoring and management of risk

 

Financial risks (page 194)

 

         

Our ability to effectively match the liabilities arising under insurance contracts with the asset portfolios that back them are contingent on the management of financial risks such as market, credit and liquidity risks, and the extent to which these risks are borne by the policyholders.

 

Liabilities to policyholders under unit-linked contracts move in line with the value of the underlying assets, and as such the policyholder bears the majority of the financial risks.

 

Contracts with DPF share the performance of the underlying assets between policyholders and the shareholder in line with the type of contract and the specific contract terms.

 

  

Exposure to financial risks arises from:

 

•  market risk of changes in the fair values of financial assets or their future cash flows from fluctuations in variables such as interest rates, foreign exchange rates and equity prices;

 

•  credit risk and the potential for financial loss following the default of third parties in meeting their obligations; and

 

•  liquidity risk of entities not being able to make payments to policyholders as they fall due as there are insufficient assets that can be realised as cash.

  

Financial risks are:

 

 

•    measured separately for each type of risk:

 

–    market risk is measured in terms of exposure to fluctuations in key financial variables;

 

–    credit risk is measured as the amount which could be lost if a customer or counterparty fails to make repayments; and

 

–    liquidity risk is measured using internal metrics including stressed operational cash flow projections.

 

•    monitored within limits approved by individuals within a framework of delegated authorities; and

 

•    managed through a robust risk control framework which outlines clear and consistent policies, principles and guidance for risk managers. Subsidiaries manufacturing products with guarantees are usually exposed to falls in market interest rates and equity prices to the extent that the market exposure cannot be managed by utilising any discretionary participation (or bonus) features within the policy contracts they issue.

 

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 Risks

 

  

Arising from

 

  

Measurement, monitoring and management of risk

 

Insurance risk (page 198)

 

         
The risk that, over time, the cost of acquiring and administering a contract, claims and benefits may exceed the aggregate amount of premiums received and investment income.   

The cost of claims and benefits can be influenced by many factors, including mortality and morbidity experience, lapse and surrender rates and, if the policy has a savings element, the performance of the assets held to support the liabilities.

 

  

Insurance risk is:

 

•    measured in terms of life insurance liabilities;

 

•    monitored by the RBWM Risk Management Committee, which checks the risk profile of the insurance operations against a risk appetite for insurance business agreed by the GMB; and

 

•    managed both centrally and locally using product design, underwriting, reinsurance and claims-handling procedures.

 

 

Risk management processes and procedures

In addition to risk appetite, the following processes are integral to risk management at HSBC:

 

  risk identification through our top and emerging risk process;

 

  mapping our risk profile; and

 

  stress testing and scenario analysis.

Risk identification

We identify and monitor risks continuously. This process, which is informed by analysis of our risk factors and the results of our stress testing programme, gives rise to the classification of certain key risks as top or emerging. Changes in our assessment of top and emerging risks may result in adjustments to our business strategy and, potentially, our risk appetite.

Our current top and emerging risks are discussed below.

Mapping our risk profile

Risks are assumed by our global businesses in accordance with their risk appetite and are managed at Group, global business and regional levels. All risks are recorded and monitored through our risk map process, which describes our risk profile by risk type in the different regions and global businesses.

In addition to our principal banking and insurance risks, the risk map process identifies and monitors risks such as model, financial management, capital, Islamic finance and strategic risks. These risks are regularly assessed through our risk appetite framework, stress tested and considered for classification as top and emerging risks.

Stress testing

We conduct stress testing scenarios across the Group on both an enterprise-wide basis and at a major subsidiary level, reflecting our business strategy and its resultant risk exposures. Our stress testing and scenario analysis programme examines the sensitivities of our capital plans and unplanned demand for regulatory capital under a number of scenarios and ensures that top and emerging risks are appropriately considered. These scenarios include, but are not limited to, adverse macroeconomic events, failures at country, sector and counterparty levels, geopolitical occurrences and a variety of projected major operational risk events.

The Stress Testing Management Board, which is chaired by the Group Finance Director, is responsible for stress testing strategy and stewardship. Stress testing models are approved through the Group’s Model Oversight Committee framework. Updates on stress testing are provided at each meeting of the Risk Management Meeting of the GMB. The Group Risk Committee is informed and consulted, and approves, as appropriate.

The development of macroeconomic scenarios is a critical part of the process. Potential scenarios are defined and generated by an expert panel comprising economic experts from various global teams including Risk and Finance. Variables and assumptions underpinning the scenarios, including economic indicators such as yield curves, exchange rates and volatilities, are expanded and enriched by internal and external teams. Once approved by the governing committee, they are circulated to the regional and global business stress testing teams along with instructions for the exercise.

Scenarios are translated into financial impacts, such as on our forecast profitability and RWAs, using a suite of stress testing models and methodologies. Models are subject to independent model review and go through a process of validation and approval. Model overlays may be considered where necessary.

Stress testing results are subject to a review and challenge process at regional and Group levels and action plans are developed to mitigate identified risks. The extent to which these action plans would be implemented in the event of particular scenarios occurring depends on senior management’s evaluation of the risks and their potential consequences, taking into account HSBC’s risk appetite.

In addition to the Group-wide risk scenarios, each major HSBC subsidiary conducts regular macroeconomic and event-driven scenario analyses specific to their region. They may also participate in local regulatory stress testing programmes.

Stress testing is applied to risks such as market risk, liquidity and funding risk and credit risk to evaluate the potential effect of stress scenarios on portfolio values, structural long-term funding positions, income or capital.

Reverse stress testing is run annually on both Group and subsidiary entity bases. This stress test is conducted by assuming the business model is non-viable and working backwards to identify a range of occurrences that could

 

 

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bring that event about. Non-viability might occur before the bank’s capital is depleted, and could result from a variety of events. These include idiosyncratic or systemic events or combinations thereof, and/or could imply failure of the Group’s holding company or one of its major subsidiaries. They would not necessarily mean the simultaneous failure of all the major subsidiaries. Reverse stress testing is used to strengthen our resilience by helping to inform early-warning triggers, management actions and contingency plans designed to mitigate the potential stresses and vulnerabilities which the Group might face.

HSBC participated in regulatory stress testing programmes in a number of jurisdictions during 2014, as outlined on page 125.

 

Top and emerging risks LOGO  /  LOGO
(Unaudited)

Our approach to identifying and monitoring top and emerging risks is described on page 22.

During 2014, senior management paid particular attention to a number of top and emerging risks. Our current top and emerging risks are as follows:

Macroeconomic and geopolitical risks

 

 

LOGO    Economic outlook and government intervention

LOGO    Increased geopolitical risk

 

 

LOGO     Economic outlook and government intervention

Economic growth in both developed and emerging market countries remained weak in 2014.

Oil and commodity prices have declined significantly since the middle of 2014 as a result of increasing global demand-supply imbalances. The precipitous fall in energy prices over such a short span of time changes both the nature and the distribution of risks. It sharpens fiscal and financing challenges for energy exporters, and although it brings benefits for oil importers, it also accentuates deflationary risks among some of these (particularly in the eurozone). In addition, the prospect of low oil prices for a prolonged period may reduce investment in exploration and thus poses the danger of significantly reduced future supply.

The economic recovery in the eurozone is still at risk. Deflationary pressures persist as a result of low oil prices and despite much looser monetary policy. Acceleration in the structural reform agenda could also accentuate deflationary pressures in the short-term. The eurozone is discussed further in ‘Areas of special interest’ on page 126. Japan fell into a technical recession in the third quarter of 2014 and policy responses may not be sufficient to support a recovery in economic activity. Resilience in US economic activity represents an upside to the world economy.

Emerging markets, particularly those with domestic vulnerabilities, remain exposed to monetary policy normalisation in the US and to greater risk aversion. While high by international standards, mainland China’s GDP growth in 2014 was the lowest in over two decades and recent forecasts indicate a lower trajectory than in recent years. Years of excessive investment, notably in the property market, has stoked potential financial bubbles, requiring the implementation of a new economic growth model.

Potential impact on HSBC

 

  HSBC’s results could be adversely affected by a prolonged period of low or negative interest rates, low inflation levels or deflation and/or low oil prices.

 

  We earn a significant proportion of our profits from our operations in emerging markets. Our results could be adversely affected by a prolonged slowdown in emerging market growth.

 

  Global trade and capital flows may contract as a result of weaker economic growth, the introduction of protectionist measures, the emergence of geopolitical risks or increasing redenomination risk. This may curtail our profitability.

Mitigating actions

 

  We closely monitor economic developments in key markets and sectors with the aim of ensuring trends are identified, the implications for specific customers, customer segments or portfolios are assessed and appropriate mitigating action, which may include revising key risk appetite metrics and limits, is taken as circumstances evolve.

 

  We use stress testing, both internal and regulatory programmes, to assess the effect of changes in economic conditions on our operations. Regulatory stress tests are discussed on page 124.

 

LOGO     Increased geopolitical risk

Our operations are exposed to risks arising from political instability and civil unrest in many parts of the world, which may have a wider effect on regional stability and regional and global economies.

Geopolitical risk increased during 2014. Military escalation and/or civil war remain a possibility in Ukraine, while sanctions targeting the Russian government, institutions and individuals, together with falling oil prices, have had an adverse effect on the Russian economy.

In the Middle East, the civil war in Syria has been complicated by the seizure of parts of Iraq and Syria by Islamic State, a terrorist group. Elsewhere in the region, chaos in Libya, ongoing tensions between Israel and Palestine and fraught negotiations over Iran’s nuclear programme are combining to increase risks to stability. In Asia, there was no easing in the maritime sovereignty disputes involving mainland China and its neighbours, while tensions remain high over the line of control between India and Pakistan, raising concerns over a possible wider conflict between the two nuclear-armed neighbours.

 

 

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Civil unrest and demonstrations in a number of countries during 2014, including Turkey and Hong Kong, have also contributed to geopolitical risk as governments took measures to contain them.

A number of emerging and developed markets will hold elections in 2015, which could lead to further market volatility. In addition, a sustained period of low oil prices may affect stability in countries that rely heavily on oil production as a significant source of revenue.

Potential impact on HSBC

 

  Our results are subject to the risk of loss from unfavourable political developments, currency fluctuations, social instability and changes in government policies on matters such as expropriation, authorisations, international ownership, interest-rate caps, foreign exchange transferability and tax in the jurisdictions in which we operate.

 

  Actual conflict could expose our staff to physical risk and/or result in physical damage to our assets.

Mitigating actions

 

  We continuously monitor the geopolitical outlook, in particular in countries where we have material exposures and/or a physical presence.

 

  Our internal credit risk rating of sovereign counterparties takes these factors into account and drives our appetite for conducting business in those countries. Where necessary, we adjust our country limits and exposures to reflect our risk appetite and mitigate risks as appropriate.

Macro-prudential, regulatory and legal risks to our business model

 

LOGO

    Regulatory developments affecting our business model and Group profitability

LOGO

    Regulatory investigations, fines, sanctions, commitments and consent orders and requirements relating to conduct of business and financial crime negatively affecting our results and brand

LOGO     Dispute risk

Financial service providers face increasingly stringent and costly regulatory and supervisory requirements, often involving the provision of large amounts of data, particularly in the areas of capital and liquidity management, conduct of business, operational structures and the integrity of financial services delivery. Increased government intervention and control over financial institutions both on a sector-wide basis and individually, together with measures to reduce systemic risk, may significantly alter the competitive landscape locally, regionally and/or globally for some or all of the Group’s businesses. These measures may be introduced as formal requirements in a supra-equivalent manner and to differing timetables by different regulatory regimes.

LOGO    Regulatory developments affecting our business model and Group profitability

Regulatory changes affect our activities, both of the Group as a whole and of some or all of our principal subsidiaries. These changes include:

 

  the UK’s Financial Services (Banking Reform) Act 2013 which requires the ring-fencing of our UK retail banking activities from wholesale banking, together with the structural separation of other activities as envisaged in the legislation and rules adopted in the US (including the Volcker Rule adopted in December 2013 under the Dodd-Frank Act), measures adopted in France restricting certain trading activities and potential further changes under European Commission proposals for structural measures for larger EU banks;

 

  the implementation of extra-territorial laws, including the US Foreign Account Tax Compliance Act (‘FATCA’) and other related initiatives to share tax information such as those being pursued by the OECD more generally;

 

  changes in the regime for the operation of capital markets, notably mandatory central clearing of over the counter (‘OTC’) derivatives, including under the Dodd-Frank Act and the EU’s European Market Infrastructure Regulation (‘EMIR’);

 

  changes arising from the increasing focus by regulators on how institutions conduct business, particularly with regard to the delivery of fair outcomes for customers and orderly/transparent markets, promoting effective competition in the interests of consumers (including the outcome of the current investigation by the UK Competition and Markets Authority on the personal current account and SME banking market in the UK and recent indications of further FCA focus on UK wholesale markets);

 

  the outcome of the Fair and Effective Financial Markets Review being undertaken by the Bank of England which will consider changes in the operation of wholesale financial markets in the UK;

 

  restrictions on the structure of remuneration imposed under CRD IV and UK regulations and increasing requirements to detail management accountability within the Group to meet the requirements of the Senior Managers’ Regime in the UK (including the continued focus in the UK on the progress being made in implementing wider recommendations made by the Parliamentary Commission on Banking Standards on matters relating to institutional ‘culture’, employee conduct and obligations more generally such as whistleblowing etc.);

 

  the implementation of CRD IV, notably the UK application of the capital buffer framework and its interaction with
Pillar 2;

 

  the effect of proposals for the UK Financial Policy Committee to be given more powers to impose leverage constraints on UK banks;
 

 

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  the proposals from the Financial Stability Board which are subject to consultation and translation into national regulations but which would require G-SIB’s to hold minimum levels of capital and subordinated debt as total loss absorbing capacity (‘TLAC’);

 

  requirements flowing from arrangements for the resolution strategy of the Group and its individual operating entities, which may have different effects in different countries;

 

  the continuing stress tests by supervisory authorities and the implication for capital requirements and capital transfers within the Group;

 

  the tightening by regulators in a number of countries of credit controls on mortgage lending and unsecured portfolios; and

 

  the continued risk of further changes to regulation relating to taxes affecting financial service providers, including financial transaction taxes.

Potential impact on HSBC

 

  Proposed changes in and/or the implementation of regulations including mandatory central clearing of OTC derivatives, EMIR, ring-fencing and similar requirements, the Volcker Rule, recovery and resolution plans, FATCA and findings from competition orientated enquiries and investigations may affect the manner in which we conduct our activities and how the Group is structured.

 

  Requirements for higher levels of capital or TLAC may increase the funding costs for the Group and reduce our return on equity.

 

  Mandatory central clearing of OTC derivatives also brings new risks to HSBC in our role as a clearing member, as we will be required to underwrite losses incurred by central clearing counterparties from the default of other clearing members and their clients. Hence central clearing brings with it a new element of interconnectedness between clearing members and clients which we believe may increase rather than reduce our exposure to systemic risk.

 

  Increased regulatory scrutiny of conduct of business (including incentive structures, remuneration, product governance and sales processes) and management accountability may affect the industry in areas such as employee recruitment and retention, product pricing and profitability in both retail and wholesale markets. HSBC’s businesses may be affected by these developments.

 

  These measures have the potential to increase our cost of doing business and curtail the types of business we can carry out, with the consequent risk of decreased profitability.

Mitigating actions

 

  We are engaged closely with governments and regulators in the countries in which we operate to help ensure that the new requirements are
 

considered properly and can be implemented in an effective manner.

 

  We have developed and are implementing a global approach to the management of conduct and have established a Conduct & Values Committee as a sub-committee of the Board to oversee the management of conduct across the Group.

 

  We have enhanced our governance around central clearing counterparties and appointed specialists to manage the associated liquidity and collateral risks.

We continue to enhance and strengthen governance and resourcing more generally around regulatory change management and the implementation of required measures to actively address this ongoing and significant agenda of regulatory change.

 

LOGO

  Regulatory investigations, fines, sanctions, commitments and consent orders and requirements relating to conduct of business and financial crime negatively affecting our results and brand

Financial service providers are at risk of regulatory sanctions or fines related to conduct of business and financial crime. The incidence of regulatory proceedings against financial service firms is increasing, with a consequent increase also in civil litigation arising from or relating to issues which are subject to regulatory investigation, sanction or fine. In addition, criminal prosecutions of financial institutions for, among other alleged conduct, breaches of AML and sanctions regulations, antitrust violations, market manipulation, aiding and abetting tax evasion, and providing unlicensed cross-border banking services, have become more commonplace and may increase in frequency due to increased media attention and higher expectations from prosecutors and the public. Moreover, financial service providers may face similar or broader legal proceedings, investigations or regulatory actions across many jurisdictions as a result of, among other things, increased media attention and higher expectations from regulators and the public. Any such prosecution or investigation of, or legal proceeding or regulatory action brought against, HSBC or one or more of its subsidiaries could result in substantial fines, penalties and/or forfeitures and could have a material adverse effect on our results, business, financial condition, prospects and reputation, including the potential loss of key licences, requirement to exit certain businesses and withdrawal of funding from depositors and other stakeholders.

Regulatory commitments and consent orders

In December 2012, HSBC Holdings, HSBC North America Holdings Inc. (‘HNAH’) and HSBC Bank USA, N.A. (‘HSBC Bank USA’) entered into agreements with US and UK authorities regarding past inadequate compliance with AML and sanctions laws. Among these agreements, HSBC Holdings and HSBC Bank USA entered into a five-year deferred prosecution agreement (‘US DPA’) with the US Department of Justice (‘DoJ’) and HSBC Holdings entered

 

 

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into a two-year DPA with the New York County District Attorney (the ‘DANY DPA’). HSBC Holdings also entered into an undertaking with the FSA (the ‘FCA Direction’) to comply with certain forward-looking obligations with respect to AML and sanctions requirements. In addition, HSBC Holdings entered into a cease and desist order with the US FRB with respect to compliance with US AML and sanctions requirements.

The agreements with the DoJ and the FRB and the FCA Direction require us to retain an independent monitor to evaluate our progress in fully implementing our obligations and produce regular assessments of the effectiveness of our Financial Crime Compliance function. The Monitor is discussed on page 27.

HSBC has fulfilled all of the requirements imposed by the DANY DPA, which expired by its terms at the end of the two-year period of that agreement in December 2014.

While we still have significant work to do to build and improve our AML and sanctions compliance programme, and our DPA with the DoJ and other settlement agreements remain in place, the expiration of the DANY DPA is an important milestone.

HSBC Bank USA is also subject to an agreement entered into with the Office of the Comptroller of the Currency (‘OCC’) in December 2012, the Gramm-Leach-Bliley Act (‘GLBA’) Agreement and other consent orders.

Potential impact on HSBC

 

  It is difficult to predict the outcome of the regulatory proceedings involving our businesses. Unfavourable outcomes may have a material adverse effect on our reputation, brand and results, including loss of business and withdrawal of funding.

 

  Our significant involvement in facilitating international capital flows and trade exposes the Group to the risk of financial crime or inadvertently breaching restrictions and sanctions imposed by the US Office of Foreign Assets Control and other regulators.

 

  Breach of the US DPA at any time during its term may allow the DoJ to prosecute HSBC Holdings or HSBC Bank USA in relation to the matters which are the subject of the US DPA.

 

  The design and execution of AML and sanctions remediation plans is complex and requires major investments in people, systems and other infrastructure. This complexity creates significant execution risk, which could impact our ability to effectively manage financial crime risk and remedy AML and sanctions compliance deficiencies in a timely manner. This could, in turn, impact HSBC’s ability to satisfy the Monitor or comply with the terms of the US DPA, the FCA Direction, or the FRB Cease and Desist Order, and may require HSBC to take additional remedial measures in the future.

 

  Failure to comply with the requirements of consent orders or the GLBA Agreement within the time
   

periods specified in them or otherwise as may be extended, could result in supervisory action. Any such action could have a material adverse effect on the consolidated results and operation of HSBC.

Mitigating actions

 

  Steps to address many of the requirements of the US DPA, the FCA Direction and the GLBA Agreement have either already been taken or are under way in consultation with the relevant regulatory agencies. These include simplifying the Group’s control structure, strengthening the governance structure with new leadership appointments, revising key policies and implementing Global Standards to detect, deter and protect against financial crime (see page 26). In addition, we have substantially increased spending and staffing in the Financial Crime Compliance and Regulatory Compliance functions in the past few years.

 

  During 2014, we approved a new global strategy for transaction monitoring. Globally standardised AML investigations processes have been developed and are being implemented, starting in priority countries.

Conduct of business

Regulators in the UK and other countries have continued to increase their focus on ‘conduct’ matters relating to fair outcomes for customers and orderly/transparent markets including, for example, attention to sales processes and incentives, product and investment suitability, product governance, employee activities and accountabilities as well as the risks of market abuse in relation to benchmark, index, other rate setting processes, wider trading activities and more general conduct of business concerns.

In the UK, the FCA is making increasing use of existing and new powers of intervention and enforcement, including powers to consider past business undertaken and implement customer compensation and redress schemes or other, potentially significant, remedial work. The FCA is also now regulating areas of activity not previously regulated by them, such as consumer credit, and considering competition issues in the markets they regulate. Additionally, the FCA and other regulators increasingly take actions in response to customer complaints or where they see poor customer outcomes and/or market abuses, either specific to an institution or more generally in relation to a particular product. There have been examples of this approach by regulators in the context of the possible mis-selling of PPI, of interest rate hedging products for SMEs and of wealth management products.

The Group also remains subject to a number of other regulatory proceedings including investigations and reviews by various national regulatory, competition and enforcement authorities relating to certain past submissions made by panel banks and the process for making submissions in connection with the setting of Libor and other interbank offered and benchmark

 

 

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interest rates. There are also ongoing investigations into foreign exchange, precious metals and credit default swap related activities. Details of these investigations can be found in Note 40 on the Financial Statements.

Potential impact on HSBC

 

  HSBC may face regulatory censure or sanctions including fines and/or be exposed to legal proceedings and litigation.

 

  Regulators in the UK and other countries may identify future industry-wide mis-selling, market conduct or other issues that could affect the Group. This may lead from time to time to significant direct costs or liabilities and/or changes in the practices of such businesses. Also, decisions taken by the Financial Ombudsman Service in the UK (or similar overseas bodies) could, if applied to a wider class or grouping of customers, have a material adverse effect on the operating results, financial condition and prospects of the Group.

Mitigating actions

 

  Programmes to enhance the management of conduct of business are progressing in all global businesses and functions.

 

  Performance management arrangements for managers and staff are being reviewed, focusing on reward linked to values-based behaviour and good conduct.

 

  Enhancements to surveillance capabilities and benchmark rate setting processes are ongoing and HSBC Holdings and its subsidiaries are cooperating fully with all regulatory investigations and reviews.

 

LOGO    Dispute risk

HSBC is party to legal proceedings and regulatory matters in a number of jurisdictions arising out of its normal business operations. Further details are provided in Note 40 on the Financial Statements.

Potential impact on HSBC

 

  Dispute risk gives rise to potential financial loss and significant reputational damage which could adversely affect customer and investor confidence.

Mitigating actions

 

  We continue to focus on identifying emerging regulatory and judicial trends in order to limit exposure to litigation or regulatory enforcement action in the future.

 

  We are enhancing our financial crime and regulatory compliance controls and resources.

Risks related to our business operations, governance and internal control systems

 

 

LOGO

 

Heightened execution risk

LOGO People risk
LOGO Internet crime and fraud
LOGO Information security risk
LOGO Data management
LOGO Model risk

LOGO

 

Third party risk management

 

 

LOGO    Heightened execution risk

The financial services industry is currently facing an unprecedented period of scrutiny. Regulatory requests, legal matters and business initiatives all require a significant amount of time and resources to implement. The magnitude and complexity of projects within HSBC required to meet these demands has resulted in heightened execution risk. There also remains heightened risk around the execution of a number of disposals across the Group in line with our strategy.

Potential impact on HSBC

 

  These factors may affect the successful delivery of our strategic priorities.

 

  The potential risks of disposals include regulatory breaches, industrial action, loss of key personnel and interruption to systems and processes during business transformation. They can have both financial and reputational implications.

Mitigating actions

 

  We have strengthened our prioritisation and governance processes for significant projects and have invested in our project implementation and IT capabilities.

 

  Risks related to disposals are carefully assessed and monitored and are subject to close management oversight.

 

LOGO    People risk

The demands being placed on the human capital of the Group are unprecedented. The cumulative workload arising from a regulatory reform programme that is often extra-territorial and still evolving is hugely consumptive of human resources, placing increasingly complex and conflicting demands on a workforce where the expertise is in short supply and globally mobile.

Potential impact on HSBC

 

 

Changes in remuneration policy and practice resulting from the new regulations under CRD IV apply globally to all employees of EU headquartered banks. The key change is the application of a cap on variable pay that can be paid to any ‘material risk-taker’ (based on qualitative and quantitative criteria issued by the

 

 

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EBA). This presents significant challenges for HSBC because a significant number of our material risk takers are based outside the EU.

 

  The policy statement issued by the PRA extends the Remuneration Code to require all PRA-authorised firms to apply clawback to vested/paid variable remuneration on a Group-wide basis for any material risk takers receiving variable pay from 1 January 2015.

 

  The introduction by the PRA and FCA in the UK of the Senior Managers and Certification regimes and of the related Rules of Conduct (the detail of which is currently subject to consultation) are intended to set clearer expectations of the accountabilities and behaviour of both senior and more junior employees. However, there are a number of uncertainties around the precise impact of these regimes at present (including on more senior employees, on non-UK based employees and on non-executive directors).

 

  Organisational changes to support the Group’s strategy and/or implement regulatory reform programmes have the potential to lead to increased staff turnover.

Mitigating actions

 

  The changes in remuneration under the new CRD IV regulations has necessitated a review of our remuneration policy, especially the balance between fixed and variable pay, to ensure we can remain competitive on a total compensation basis and retain our key talent.

 

  Risks related to organisational change and disposals are subject to close management oversight.

 

  We continue to increase the level of specialist resources within Financial Crime Compliance, Regulatory Compliance and stress testing and to engage with our regulators as they finalise new regulations.

 

LOGO    Internet crime and fraud

HSBC is increasingly exposed to fraudulent and criminal activities as a result of increased usage of internet and mobile services by customers. We also face the risk of breakdowns in processes or procedures and systems failure or unavailability, and our business is subject to disruption from events that are wholly or partially beyond our control, such as internet crime and acts of terrorism.

Potential impact on HSBC

 

  Internet crime could result in financial loss and/or customer data and sensitive information being compromised. They may also give rise to losses in service to customers. The same threats apply equally when we rely on external suppliers or vendors for services provided to us and our customers.

Mitigating actions

 

  We continually assess these threats as they evolve and adapt our controls to mitigate them.
  We have increased our defences through enhanced monitoring and have implemented additional controls, such as two-factor authentication, to reduce the possibility of losses from fraud.

 

LOGO    Information security risk

The security of our information and technology infrastructure is crucial for maintaining our banking applications and processes while protecting our customers and the HSBC brand. HSBC and other multinational organisations continue to be the targets of cyber-attacks which may disrupt services including the availability of our external facing websites, compromise organisational and customer information or expose security weaknesses.

Potential impact on HSBC

 

  Information security risk gives rise to potential financial loss and reputational damage which could adversely affect customer and investor confidence. Loss of customer data would also trigger regulatory breaches which could result in fines and penalties being incurred.

Mitigating actions

 

  We have invested significantly in addressing this risk through increased training to raise staff awareness of the requirements, enhanced multi-layered controls protecting our information and technical infrastructure, heightened monitoring and management of potential cyber-attacks and continued vulnerability assessment.

 

LOGO    Data management

HSBC must have a clear data strategy to meet the volume, granularity, frequency and scale of regulatory and other reporting requirements. As a G-SIB, HSBC is also required to comply with the principles for effective risk data aggregation and risk reporting as set out by the Basel Committee on Banking Supervision (‘the Basel Committee’) in its paper.

Potential impact on HSBC

 

  Ineffective data management could adversely affect our ability to aggregate and report complete, accurate and consistent data to regulators, investors and senior management on a timely basis.

 

  Financial institutions that fail to meet their Basel Committee data obligations by the required deadline may face supervisory measures.

Mitigating actions

 

  Since the Data Strategy Board was established in 2012, we have set a data strategy for the Group and defined Group-level principles, standards and policies to enable consistent data aggregation, reporting and management.
 

 

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  A number of key initiatives and projects to implement our data strategy and work towards meeting our Basel Committee data obligations are in progress.

 

LOGO    Model risk

HSBC uses models for a range of purposes in managing its business, including regulatory and economic capital calculations, stress testing, granting credit, pricing and financial reporting. Model risk is the potential for adverse consequences as a result of decisions based on incorrect model outputs and reports or the use of such information for purposes for which it was not designed. Model risk could arise from models that are poorly developed, implemented or used, or from the modelled outcome being misunderstood and acted upon inappropriately by management. The regulatory environment and supervisory concerns over banks’ use of internal models to determine regulatory capital further contribute to model risk.

Potential impact on HSBC

 

  HSBC could incur losses or be required to hold additional capital as a result of model limitations or failure.

 

  Supervisory concerns over the internal models and assumptions used by banks in the calculation of regulatory capital have led to the imposition of risk weight and loss given default floors. Such changes have the potential to increase our capital requirement and/or make it more volatile.

Mitigating actions

 

  We aim to mitigate model risk through appropriate governance over model development, usage and validation, together with independent review, monitoring and feedback.

 

LOGO    Third-party risk management

We have increased our risk management focus on our use of third-party service providers, in part in response to increased scrutiny by global regulators. This includes how outsourcing decisions are made, how the key relationships are managed and the consistency of risk management across the range of third parties used. Risks arising from the use of third-party service providers may be less transparent and therefore more challenging to manage or influence.

Potential impact on HSBC

 

  Any deficiency in the management of third-party service providers could lead to a variety of risks including business disruption, regulatory failings, loss of confidential information and financial crime.

Mitigating actions

 

  We are enhancing our third-party risk management capability in line with guidance issued by the OCC and FRB, strengthening controls over third-party use and
 

increasing the monitoring and assurance over these controls.

Areas of special interest

(Unaudited)

During 2014, we considered a number of particular areas because of the effect they may have on the Group. Whilst these areas may already have been identified in top and emerging risks, further details of the actions taken during the year are provided below.

Financial crime compliance and regulatory compliance

In recent years, we have experienced increasing levels of compliance risk as regulators and other agencies pursued investigations into historical activities, and we continued to work with them in relation to existing issues. This has included the matters giving rise to the DPAs reached with US authorities in relation to investigations regarding inadequate compliance with anti-money laundering and sanctions law, and the related undertaking with the FSA (the ‘FCA Direction’). The work of the Monitor, who has been appointed to assess our progress against our various obligations is discussed on page 27.

We continue to respond to a number of investigations by the FCA into the possible mis-selling in the UK of certain products, including sales of PPI, of interest rate hedging products for SMEs and of wealth management products. In addition, we also remain subject to a number of other regulatory proceedings including investigations and reviews by various national regulatory, competition and enforcement authorities relating to certain past submissions made by panel banks and the process for making submissions in connection with the setting of Libor and other interbank offered and benchmark interest rates. There are also investigations in progress into activities related to foreign exchange, precious metals and credit default swaps. Details of these investigations and legal proceedings can be found in Note 40 on the Financial Statements.

It is clear from both our own and wider industry experience that the level of activity among regulators and law enforcement agencies in investigating possible breaches of regulations has increased, and that the direct and indirect costs of such breaches can be significant. Coupled with a substantial rise in the volume of new regulation, much of which has some element of extra-territorial reach, and the geographical spread of our businesses, we believe that the level of inherent compliance risk that we face as a Group will continue to remain high for the foreseeable future.

Further information about the Group’s compliance risk management may be found on page 189.

Private Bank

Past practices at our Swiss private bank and the financial affairs of some of our Swiss private banking clients have been subject to recent media coverage. The media focus has been on historical events that show the standards to which we operate today were not universally in place in our Swiss operations eight years ago.

 

 

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Since then, we have fundamentally changed the way HSBC is run and have established much tighter central control around who are our customers. We have put in place tough, world-class financial crime, regulatory compliance and tax transparency standards, enforced by a team of over 7,000 compliance staff.

GPB, and in particular its Swiss private bank, has undergone a radical transformation. We have taken significant steps over the past several years to implement reforms and exit clients who did not meet strict new HSBC standards, including those where we had concerns in relation to tax compliance. As a result of this repositioning, HSBC’s Swiss private bank has reduced its client base by almost 70% since 2007.

We are fully committed to the exchange of information with relevant authorities and are actively pursuing measures that ensure clients are tax transparent, even in advance of a regulatory or legal requirement to do so. We are also cooperating with relevant authorities investigating these matters.

Regulatory stress tests

Stress testing is an important tool for regulators to assess vulnerabilities in the banking sector and in individual banks, the results of which could have a significant effect on minimum capital requirements, risk and capital management practices and planned capital actions, including the payment of dividends, going forward.

We are subject to regulatory stress testing in many jurisdictions. These have increased both in frequency and in the granularity of information required by supervisors. They include the programmes of the PRA, the FRB, the EBA, the ECB, the Hong Kong Monetary Authority (‘HKMA’) and other regulators. Assessment by regulators is on both quantitative and qualitative bases, the latter focusing on portfolio quality, data provision, stress testing capability, forward-looking capital management processes and internal management processes.

In 2014, the Group took part in the first PRA concurrent stress test exercise involving major UK banks. The exercise was run on an enterprise-wide basis and comprised the EBA base scenario and a stress scenario that predominantly followed the EBA stress scenario with an additional overlay of variables reflecting the vulnerabilities facing the UK banking system, including significant declines in the value of sterling, residential and commercial property prices and bond and equity prices, along with a downturn in economic activity and rising unemployment. HSBC’s submission was made to the PRA at the end of June 2014. The Group also participated in the complementary programme of regular data provision to the Bank of England under its Firm Data Submission Framework.

The PRA disclosed the results of the 2014 Concurrent Stress Test on 16 December 2014. The stressed CET1

capital ratio of HSBC was deemed by the PRA to fall to a minimum of 8.7%, taking into account approved management mitigating actions. This was above the target minimum of 4.5%.

The EBA conducted a Europe-wide stress test in the first half of 2014, administered via the PRA for UK banks. The base scenario covered a wide range of risks including credit, market, securitisation, sovereign and funding risks. The adverse macroeconomic scenario included country-specific shocks to sovereign bond spreads, short-term interest rates and residential property prices, together with a decline in world trade, currency depreciation in Central and Eastern Europe and slow-downs or contractions in GDP growth around the world.

The EBA disclosed results of the stress test exercise on 26 October 2014. Our stressed CET1 capital ratio was projected to fall to a low point of 8.7% at the end of 2015, above the EBA minimum threshold of 5.5%. Our fully-loaded stressed CET1 ratio was projected to be 9.3% at the end of 2016, which compared favourably with other major European banks.

The PRA and EBA results demonstrate HSBC’s continued capital strength.

The ECB conducted its comprehensive assessment in the first half of 2014, which comprised an Asset Quality Review and the ECB’s stress testing process, the latter using the EBA scenarios. HSBC France and HSBC Malta fell within scope and both passed the exercise, the results of which were also published in October 2014. The CET1 ratio for HSBC France was projected to fall from 12.9% in 2013 to 6.6% by the end of 2016, remaining above the regulatory minimum. The fall reflected the impact of stress on HSBC France’s business model, which includes the Group’s euro Rates trading business, and the effect of ECB credit loss benchmarks on the loan portfolio.

HNAH participates in the Comprehensive Capital Analysis and Review (‘CCAR’) and Dodd-Frank Stress Testing (‘DFAST’) programmes of the FRB and HSBC Bank USA in the OCC’s DFAST programme. Both made their first submissions under these programmes on 6 January 2014. On 26 March 2014, the FRB informed HNAH that it objected to the submitted capital plan on qualitative grounds and a resubmission of its capital plan was required by 5 January 2015, together with improvements to its stress testing processes. However, the FRB approved the capital actions included in HNAH’s CCAR submission and HNAH was allowed to proceed with the payment of dividends on the outstanding preferred shares and trust preferred securities of HNAH and its subsidiaries. HNAH’s stressed CET1 capital ratio was forecast by the FRB to fall to a minimum of 9.4% under the supervisory ‘severely adverse’ scenario, above the regulatory minimum ratio of 4.5%. HNAH made its CCAR 2015 submission, which also served as the required re-submission for the CCAR 2014, and HSBC Bank USA made its DFAST 2015 submission, on 5 January 2015. Disclosure by the FRB and HNAH and HSBC Bank USA of the results of the exercises, based on the supervisory scenarios published in November 2014, will be made in

 

 

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March 2015. In addition, the FRB will also provide its non-objection or objection to HNAH’s capital plan and the capital actions included within its 2015 CCAR submission.

The Hongkong and Shanghai Banking Corporation participated in the HKMA stress test exercise in the first half of 2014. The HKMA stress scenario envisaged a significant deceleration of growth in mainland China and a sharper contraction in Hong Kong.

Oil and gas prices

Oil and commodity prices have declined significantly since the middle of 2014 as a result of increasing global demand and supply imbalances and changes in market sentiment. There is considerable uncertainty regarding the future price levels during 2015 and beyond. Prolonged depressed oil prices will affect countries, industries and individual companies differently:

 

  Country level: net oil importers are likely to benefit from reduced oil prices. In advanced economies, this is likely to increase consumer disposable income while in emerging market countries it is more likely to benefit the governments’ fiscal position. The impact on oil exporting countries will depend on the importance of the oil receipts to fiscal revenues, the extraction costs and the amount of fiscal reserves that the countries are able to draw upon.

 

  Industry level: the oil and gas industry and supporting services will be affected, though this will vary depending on the relevant sub-sector. Large integrated producers are likely to remain resilient. Within the pure producers sector, the higher cost pure producers, such as shale and oil sands producers, are likely to experience higher levels of stress. Similarly, infrastructure and services providers are likely to come under stress as producers curtail capital expenditure. Industries where oil and gas represent major costs, such as haulage, transport and shipping, are likely to benefit if prices remain depressed.

The oil and gas sector has been considered a higher risk sector for some time and has been under enhanced monitoring and controls with risk appetite and new money lending under increased scrutiny.

HSBC has a diversified lending profile to the oil and gas sector. Lending in GB&M is concentrated predominately in upstream activities and with large investment-grade global integrated producers. CMB mainly focuses on lending to service companies and pure producers. The exposures are diversified across a number of countries.

The overall portfolio has drawn risk exposures amounting to about US$34bn, with just over 47% consisting of exposures to oil service companies and non-integrated producers. In-depth client reviews have been conducted on larger clients considered to be potentially vulnerable to depressed oil prices for a period of one to two years, particularly, but not exclusively, focusing on oil service companies, and producers (and their suppliers) reliant on expensive extraction methods such as shale or oil sands.

Following these reviews, about US$0.5bn of exposures have been identified as being of sufficient concern to require close management. Whilst weakening credit is evident in this population, no new customers were identified as being impaired at this stage.

Russia

During 2014, tensions have risen between the Russian Federation (‘Russia’) and western countries (‘the West’) in respect of Ukraine. The West’s response to date has been to impose sanctions on a selected list of Russian individuals, banks and corporates during the course of 2014. Monitoring and action in response to the sanctions requirements is ongoing and will impose some restrictions on HSBC’s business in Russia, although the effect on the Group is not expected to be significant. Our exposures to counterparties incorporated or domiciled in Ukraine are not considered material.

The fourth quarter of 2014 saw significant falls in the value of the Russian rouble and the price of crude oil, and multiple interest rate rises implemented by Russia’s central bank. The impact of these developments is being monitored by management and, combined with the sanctions, means the outlook for Russia remains highly uncertain with the economy expected to contract in 2015.

Our exposures to Russia mainly consist of loans and advances. At 31 December 2014 these amounted to US$4bn.

In addition to the above, a number of our multinational clients have indirect exposure to Russia through majority or minority stakes in Russia-based entities, via dependency of supply or from reliance on exports. The operations and businesses of such clients may be negatively affected should the scope and nature of sanctions and other actions be widened or the Russian economy deteriorate. Also, we run operations in neighbouring countries where the financial system has strong links to the Russian economy. Management is monitoring the quantum and potential severity of such risks.

Eurozone

In recent years the EU has introduced a series of legislative changes designed to better equip it to deal with a financial crisis and to reduce the risks of contagion in the event of an EU member country experiencing financial difficulties. The outcome of current negotiations on the terms of the Greek bail out is highly uncertain. The debt may be rescheduled or Greece may default on its debts; there is also the possibility that Greece may eventually exit the euro. Our exposures to Greece mainly consist of loans and advances and reverse repos. At 31 December 2014 these amounted to US$4bn and US$2bn respectively. Included in loans and advances are US$2bn related to the shipping industry, denominated in US dollars and booked in the UK. We believe the shipping industry is less sensitive to the Greek economy as it is mainly dependent on international trade.

 

 

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Credit risk

 

    

 

 

 

 

Page

 

 

  

 

     

 

 

 

 

App

 

 

1 

 

    

 

Tables

 

  

 

 

 

 

Page  

 

 

  

 

 

Credit risk

     129              206          

Summary of credit risk

     129   
                                 

Gross loans to customers and banks over five years

     130   
                                 

Loan impairment charge over five years

     130   
                                 

Loan impairment charges by geographical region

     130   
                                 

Loan impairment charges by industry

     130   
                                 

Loan impairment allowances over five years

     130   
 

Credit risk management

                   206                     
 

Credit exposure

     130                                   
 

Maximum exposure to credit risk

     130                                   
 

Other credit risk mitigants

     130                        

Maximum exposure to credit risk

     131   
                                 

Loan and other credit-related commitments

 

    

 

131

 

  

 

 

Concentration of exposure

     132              206                     
 

Financial investments

     132                                   
 

Trading assets

     132                                   
 

Derivatives

     132                                   
 

Loans and advances

     132                        

Gross loans and advances to customers by industry sector and by geographical region

 

    

 

132

 

  

 

 

Credit quality of financial instruments

     133              207                     
 

Credit quality classification

                             

Distribution of financial instruments by credit quality

     134   
 

Past due but not impaired gross financial instruments

     136                        

Past due but not impaired gross financial instruments by geographical region

     136   
                                 

Ageing analysis of days for past due but not impaired gross financial instruments

 

    

 

136

 

  

 

 

Impaired loans

     137                        

Movement in impaired loans by geographical region

     137   
 

Renegotiated loans and forbearance

     138              208          

Renegotiated loans and advances to customers by geographical region

     139   
                                 

Movement in renegotiated loans by geographical region

     140   
 

Impairment of loans and advances

     141                        

Loan impairment charge to the income statement by industry sector

     141   
                                 

Loan impairment charge to the income statement by assessment type

     141   
                                 

Charge for impairment losses as a percentage of average gross loans and advances to customers by geographical region

     142   
                                 

Movement in impairment allowances by industry sector and geographical region

     142   
                                 

Movement in impairment allowances on loans and advances to customers and banks

     143   
 

Impairment assessment

                   212                     
 

Wholesale lending

     144                        

Total wholesale lending

     144   
 

Commercial real estate

     145                        

Commercial real estate lending

     145   
                                 

Commercial real estate loans and advances including loan commitments by level of collateral

     147   
                                 

Other corporate, commercial and financial (non-bank) loans and advances including loan commitments by level of collateral rated CRR/EL8 to 10 only

     148   
                                 

Loans and advances to banks including loan commitments by level of collateral

     149   
 

Other credit risk exposures

     149                                   
 

Derivatives

     149                        

Notional contract amounts and fair values of derivatives by product type

     150   
                                 

OTC collateral agreements by type

     150   
 

Reverse repos – non-trading by geographical region

     151                        

Reverse repos – non-trading by geographical region

     151   
 

Loan Management Unit

 

                  

 

213

 

  

 

                 

 

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Page

 

 

  

 

    

 

 

 

 

App

 

 

1 

 

    

 

Tables

 

  

 

 

 

 

Page  

 

 

  

 

 

Personal lending

     151                       

Total personal lending

     151     
 

Mortgage lending

     152                                  
 

Other personal lending

     153                       

HSBC Finance US Consumer and Mortgage Lending residential mortgages

     153     
                                

HSBC Finance: foreclosed properties in the US

     153     
                                

Trends in two months and over conctractual delinquency in the US

     153     
                                

Gross loan portfolio of HSBC Finance and real estate secured balances

     154     
                                

Number of renegotiated real estate secured accounts remaining in HSBC Finance’s portfolio

     154     
 

HSBC Finance loan modifications and re-age programmes

     154                                  
 

Collateral and other credit enhancements held

     156                       

Residential mortgage loans including loan commitments by level of collateral

     156     
 

Supplementary information

     157                       

Gross loans and advances by industry sector over 5 years

     157     
                                

Reconciliation of reported and constant currency impaired loans, allowances and charges by geographical region

     158     
                                

Reconciliation of reported and constant currency loan impairment charges to the income statement

     158     
                                

Loan impairment charges by industry sector over 5 years

     159     
                                

Charge for impairment losses as a percentage of average gross loans and advances to customers

     159     
                                

Movement in impairment allowances over 5 years

     159     
                                

Gross loans and advances to customers by country

     160     
 

Refinance risk

                  214                     
 

HSBC Holdings

    

 

161

 

  

 

                   

HSBC Holdings – maximum exposure to credit risk

 

    

 

161  

 

  

 

 

Securitisation exposures and other structured products

     161             214          

Overall exposure of HSBC

     161     
                                

Carrying amount of HSBC’s consolidated holdings of ABSs

     162     
                                

Definitions and classifications of ABSs and CDOs

 

    

 

214  

 

  

 

 

Representations and warranties related to mortgage sales and securitisation activities

     162                                  
 

Risk elements in the loan portfolio

     162                               
 

Interest foregone on impaired and restructured loans

     162                               
 

Interest recognised on impaired and restructured loans

     162                               
 

Impaired loans

     162                               
 

Unimpaired loans more than 90 days past due

     162                               
 

Troubled debt restructurings

     162                               
 

Potential problem loans

     162                    

Analysis of risk elements in the loan portfolio by geographical region

     162c   
 

Country distribution of outstandings and cross-border exposures

 

    

 

162

 

 

                              
  1 Appendix to Risk – risk policies and practices.                

 

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Credit risk

(Unaudited)

Credit risk is the risk of financial loss if a customer or counterparty fails to meet an obligation under a contract. It arises principally from direct lending, trade finance and leasing business, but also from other products such as guarantees and credit derivatives and from holding assets in the form of debt securities.

There were no material changes to our policies and practices for the management of credit risk in 2014.

A summary of our current policies and practices regarding credit risk is provided in the Appendix to Risk on page 204.

Our maximum exposure to credit risk is presented on page 131 and credit quality on page 133. While credit risk arises across most of our balance sheet, losses have typically been incurred on loans and advances and securitisation exposures and other structured products. As a result, our disclosures focus primarily on these two areas.

This year we have redesigned the ‘Credit risk’ section in order to enhance clarity and reduce duplication. It now begins with a summary of credit risk followed by an overview of our gross exposures. We describe various measures of credit quality such as past due status, impaired loans and renegotiated loans before analysing impairment allowances. There are specific sections on wholesale lending and personal lending where additional detail is provided and we cover areas of particular focus such as our exposure to commercial real estate in wholesale lending and our Consumer and Mortgage Lending (‘CML’) portfolio in personal lending. This is followed by a section describing our securitisation exposures and other structured products. Information on our exposures to oil and gas, Russia and Greece is provided in ‘Areas of special interest’ on page 126.

Following the change in balance sheet presentation explained on page 347, non-trading reverse repos are shown separately on the balance sheet and are no longer included in ‘Loans and advances to customers’ and ‘Loans and advances to banks’. Comparative data have been re-presented accordingly. As a result, any analysis that references loans and advances to customers or banks excludes non-trading reverse repos. The amount of the non-trading reverse repos to customers and banks is set out on page 151.

Loan impairment charges, loan impairment allowances and impaired loans all reduced compared with 2013.

Gross loans and advances decreased by US$28bn which included adverse foreign exchange movements of US$51bn; excluding these movements customer lending grew in 2014.

The commentary that follows is on a constant currency basis, whilst tables are presented on a reported basis.

Summary of credit risk

(Unaudited)

    2014
        US$bn
    2013
        US$bn
        Page  

At year-end

Maximum exposure to credit risk

  3,133      3,112      131   

Gross loans and advances1

– personal lending

  393      411      132   

– wholesale lending

  706      716      132   

Total

  1,099      1,127      132   

Impaired loans

– personal lending

  15      19      137   

– wholesale lending

  14      18      137   

Total

  29      37      137   

Impaired loans as a % of gross loans and advances

– personal lending

  3.9%      4.6%   

– wholesale lending

  2.0%      2.5%   

– total

  2.7%      3.3%   
    US$bn     US$bn        

Impairment allowances

– personal lending

  4.6      6.6      143   

– wholesale lending

  7.8      8.6      143   

Total

  12.4      15.2      143   

Loans and advances net of impairment allowances1

  1,087      1,112   

For year ended 31 December

Loan impairment charge

– personal lending

  1.8      3.1      141   

– wholesale lending

  2.3      2.9      141   

Total

  4.1      6.0      141   

For footnotes, see page 202.

See page 158 for further details in respect of the constant currency reconciliation. For an analysis of loans and advances by country see page 160.

Wholesale gross loans and advances increased by US$21bn. Asia grew by US$16bn and North America by US$10bn with more modest levels of growth in the Middle East and North Africa and Latin America. This was offset by a decrease of US$15bn in Europe. Loan impairment charges were lower in 2014 as we continued to benefit from the improvement in various economies and the low interest rate environment.

Personal lending balances, excluding the planned US CML portfolio run off, grew by US$7.7bn. This was primarily driven by increased mortgage and other lending in Asia and growth in the mortgage portfolio in both North America and Latin America. The growth was partially offset by lower lending balances in Europe due to repayments on the mortgage and credit card portfolio in the UK. The CML portfolio declined by a further US$5.7bn during the year. Loan impairment charges were down as a result of improvements in the US housing market and the continued run-off of the CML portfolio.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Gross loans to customers and banks over five years1 (US$bn)

(Unaudited)

 

LOGO

Loan impairment charge over five years (US$bn)

(Unaudited)

 

LOGO

Loan impairment charges by geographical region (US$bn)

(Unaudited)

 

LOGO

Loan impairment charges by industry (US$bn)

(Unaudited)

 

LOGO

Loan impairment allowances over five years

(Unaudited)

 

LOGO

For footnote, see page 202.

 

Credit exposure

Maximum exposure to credit risk

(Audited)

The table on page 131 provides information on balance sheet items, offsets and loan and other credit-related commitments. Commentary on balance sheet movements is provided on page 58. The offset on derivatives increased in line with the increase in maximum exposure amounts.

The offset on corporate and commercial loans to customers decreased by US$31bn. This reduction was in the UK where a small number of clients benefit from the use of net interest arrangements across their overdraft and deposit positions. During the year, as we aligned our approach in our Payments and Cash Management business to be more globally consistent, many of these clients increased the frequency with which they settled these balances thereby reducing the amount of offset available.

 

 

‘Maximum exposure to credit risk’ table (page 131)

 

The table presents our maximum exposure to credit risk from balance sheet and off-balance sheet financial instruments before taking account of any collateral held or other credit enhancements (unless such enhancements meet accounting offsetting requirements). For financial assets recognised on the balance sheet, the maximum exposure to credit risk equals their carrying amount; for financial guarantees and similar contracts granted, it is the maximum amount that we would have to pay if the guarantees were called upon. For loan commitments and other credit-related commitments, it is generally the full amount of the committed facilities.

 

The offset in the table relates to amounts where there is a legally enforceable right of offset in the event of counterparty default and where, as a result, there is a net exposure for credit risk purposes. However, as there is no intention to settle these balances on a net basis under normal circumstances, they do not qualify for net presentation for accounting purposes.

 

In the case of derivatives the offset column also includes collateral received in cash and other financial assets.

 

Other credit risk mitigants

While not disclosed as an offset in the ‘Maximum exposure to credit risk’ table, other arrangements are in place which reduce our maximum exposure to credit risk. These include a charge over collateral over borrowers’ specific assets such as residential properties. Other credit risk mitigants include short positions in securities and financial assets held as part of linked insurance/investment contracts where the risk is predominantly borne by the policyholder. In addition, we hold collateral in the form of financial instruments that are not recognised on the balance sheet.

See Note 32 and from page 147 and page 156 respectively on the Financial Statements for further details on collateral in respect of certain loans and advances and derivatives.

 

 

HSBC HOLDINGS PLC

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Report of the Directors: Financial Review (continued)

 

 

Maximum exposure to credit risk

(Audited)

    2014     2013  
   

    Maximum

exposure

US$m

    Offset
US$m
   

Net

US$m

        Maximum
exposure
US$m
    Offset
US$m
   

Net

US$m

 

Cash and balances at central banks

  129,957           129,957      166,599           166,599   

Items in the course of collection from other banks

  4,927           4,927      6,021           6,021   

Hong Kong Government certificates of indebtedness

  27,674           27,674      25,220           25,220   

Trading assets

  228,944               228,944      239,301      (1,777       237,524   

– Treasury and other eligible bills

  16,170           16,170      21,584           21,584   

– debt securities

  141,532           141,532      141,644           141,644   

– loans and advances to banks

  27,581           27,581      27,885           27,885   

– loans and advances to customers

  43,661           43,661      48,188      (1,777   46,411   

Financial assets designated at fair value

  9,031           9,031      12,719           12,719   

– Treasury and other eligible bills

  56           56      50           50   

– debt securities

  8,891           8,891      12,589           12,589   

– loans and advances to banks

  84           84      76           76   

– loans and advances to customers

                 4           4   

Derivatives

  345,008          (313,300   31,708      282,265          (252,344   29,921   

Loans and advances to customers held at amortised cost1

  974,660      (67,094   907,566      992,089      (96,726   895,363   

– personal

  388,954      (4,412   384,542      404,126      (1,348   402,778   

– corporate and commercial

  535,184      (59,197   475,987      537,922      (90,215   447,707   

– financial (non-bank financial institutions)

  50,522      (3,485   47,037      50,041      (5,163   44,878   

Loans and advances to banks held at amortised cost1

  112,149      (258   111,891      120,046      (587   119,459   

Reverse repurchase agreements – non-trading

  161,713      (5,750   155,963      179,690      (22,267   157,423   

Financial investments

  404,773           404,773      416,785           416,785   

– Treasury and other similar bills

  81,517           81,517      78,111           78,111   

– debt securities

  323,256           323,256      338,674           338,674   

Other assets

  35,264           35,264      37,324      (22   37,302   

– assets held for sale

  1,375           1,375      3,306      (22   3,284   

– endorsements and acceptances

  10,775           10,775      11,624           11,624   

– other

  23,114           23,114      22,394           22,394   

Financial guarantees and similar contracts2

  47,078           47,078      46,300           46,300   

Loan and other credit-related commitments3

  651,380           651,380      587,603           587,603   

At 31 December

  3,132,558      (386,402   2,746,156      3,111,962      (373,723   2,738,239   

For footnotes, see page 202.

 

Loan and other credit-related commitments3

(Unaudited)

  

  

  

  Europe      Asia 4    MENA     

 

North

America

  

  

 

 

Latin

America

  

  

  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Personal

  86,247      96,497      2,995      15,636      11,679      213,054   

Corporate and commercial

  98,045      138,366      20,141      102,911      17,540      377,003   

Financial5

  26,605      9,355      711      23,559      1,093      61,323   

At 31 December 2014

  210,897      244,218      23,847      142,106      30,312      651,380   

Personal

  92,148      74,445      2,940      15,647      9,774      194,954   

Corporate and commercial

  91,895      120,084      19,045      92,837      21,956      345,817   

Financial5

  18,930      8,477      705      17,478      1,242      46,832   

At 31 December 2013

  202,973      203,006      22,690      125,962      32,972      587,603   

For footnotes, see page 202.

 

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Report of the Directors: Financial Review (continued)

 

 

Concentration of exposure

(Unaudited)

Concentrations of credit risk are described in the Appendix to Risk on page 206.

The geographical diversification of our lending portfolio and our broad range of global businesses and products ensured that we did not overly depend on a few markets to generate growth in 2014. This diversification also supported our strategy for growth in faster-growing markets and those with international connectivity.

Financial investments

Our holdings of available-for-sale government and government agency debt securities, corporate debt securities, ABSs and other securities were spread across a wide range of issuers and geographical regions in 2014, with 15% invested in securities issued by banks and other financial institutions and 72% in government or government agency debt securities. We also held assets backing insurance and investment contracts.

For an analysis of financial investments, see Note 18 on the Financial Statements.

Trading assets

Trading securities remained the largest concentration within trading assets at 77% compared with 75% in 2013. The largest concentration within the trading securities

portfolio was in government and government agency debt securities. We had significant exposures to US Treasury and government agency debt securities (US$26bn) and UK (US$9.3bn) and Hong Kong (US$6.9bn) government debt securities.

For an analysis of debt and equity securities held for trading, see Note 12 on the Financial Statements.

Derivatives

Derivative assets were US$345bn at 31 December 2014 (2013: US$282bn). Details of derivative amounts cleared through an exchange, central counterparty and non-central counterparty are shown on page 150.

For an analysis of derivatives, see page 150 and Note 16 on the Financial Statements.

Loans and advances to customers

The following tables analyse loans and advances to customers by industry sector and by the location of the principal operations of the lending subsidiary or, in the case of the operations of The Hongkong and Shanghai Banking Corporation, HSBC Bank, HSBC Bank Middle East Limited (‘HSBC Bank Middle East’) and HSBC Bank USA, by the location of the lending branch. The distribution of loans across geographical regions and industries remained similar to last year.

For an analysis of loans and advances by country see page 160.

 

 

Gross loans and advances to customers by industry sector and by geographical region

(Audited)

 

  Europe      Asia 4    MENA     
 
North
America
  
  
 
 
Latin
America
  
  
  Total     

 

 

As a %

    of total

gross

  

  

  

    US$m     US$m     US$m     US$m     US$m     US$m     loans  

Personal

  178,531      129,515      6,571      65,400      13,537      393,554      39.9   

– first lien residential mortgages6

  131,000      93,147      2,647      55,577      4,153      286,524      29.0   

– other personal7

  47,531      36,368      3,924      9,823      9,384      107,030      10.9   

Corporate and commercial

  210,585      220,799      20,588      57,862      30,722      540,556      54.8   

– manufacturing

  39,456      37,767      2,413      15,299      12,051      106,986      10.9   

– international trade and services

  76,629      72,814      9,675      13,484      8,189      180,791      18.3   

– commercial real estate

  28,187      35,678      579      6,558      2,291      73,293      7.4   

– other property-related

  7,126      34,379      1,667      8,934      281      52,387      5.3   

– government

  2,264      1,195      1,552      164      968      6,143      0.6   

– other commercial8

  56,923      38,966      4,702      13,423      6,942      120,956      12.3   

Financial

  23,103      13,997      3,291      9,034      1,393      50,818      5.1   

– non-bank financial institutions

  21,867      13,410      3,289      9,034      1,199      48,799      4.9   

– settlement accounts

  1,236      587      2           194      2,019      0.2   

Asset-backed securities reclassified

  1,938                131           2,069      0.2   

Total gross loans and advances to customers at 31 December 2014 (A)

          414,157              364,311              30,450              132,427              45,652              986,997          100.0   

Percentage of A by geographical region

  42.0%      36.9%      3.1%      13.4%      4.6%      100.0%        

 

 

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Report of the Directors: Financial Review (continued)

 

 

  Europe      Asia 4    MENA     
 
North
America
  
  
 
 
Latin
America
  
  
  Total     

 

 

As a %

    of total

gross

  

  

  

    US$m     US$m     US$m     US$m     US$m     US$m     loans  

Personal

  192,107      124,529      6,484      72,690      14,918      410,728      40.8   

– first lien residential mortgages6

  140,474      92,047      2,451      60,955      3,948      299,875      29.8   

– other personal7

  51,633      32,482      4,033      11,735      10,970      110,853      11.0   

Corporate and commercial

  239,116      203,894      19,760      50,307      30,188      543,265      53.9   

– manufacturing

  55,920      30,758      3,180      11,778      12,214      113,850      11.3   

– international trade and services

  76,700      79,368      8,629      11,676      8,295      184,668      18.3   

– commercial real estate

  31,326      34,560      639      5,900      2,421      74,846      7.4   

– other property-related

  7,308      27,147      1,333      8,716      328      44,832      4.5   

– government

  3,340      1,021      1,443      499      974      7,277      0.7   

– other commercial8

  64,522      31,040      4,536      11,738      5,956      117,792      11.7   

Financial

  27,872      9,688      2,532      9,055      1,376      50,523      5.0   

– non-bank financial institutions

  26,314      9,359      2,532      9,055      1,277      48,537      4.8   

– settlement accounts

  1,558      329                99      1,986      0.2   

Asset-backed securities reclassified

  2,578                138           2,716      0.3   

Total gross loans and advances to customers at 31 December 2013 (B)

      461,673          338,111          28,776          132,190          46,482          1,007,232      100.0   

Percentage of B by geographical region

  45.8%      33.6%      2.9%      13.1%      4.6%      100.0%   

For footnotes, see page 202.

 

Credit quality of financial instruments

(Audited)

A summary of our current policies and practices regarding the credit quality of financial instruments is provided in the Appendix to Risk on page 207.

We assess credit quality on all financial instruments which are subject to credit risk.

The five classifications describing the credit quality of our lending, debt securities portfolios and derivatives are defined on page 207 (unaudited). Additional credit quality information in respect of our consolidated holdings of ABSs is provided on page 162.

 

For the purpose of the following disclosure, retail loans which are past due up to 90 days and are not otherwise classified as impaired in accordance with our disclosure convention are not disclosed within the expected loss (‘EL’) grade to which they relate, but are separately classified as past due but not impaired.

The overall credit quality of assets remained stable with ‘Strong’ and ‘Good’ categories making up 84% of the portfolio, ‘Satisfactory’ 13%, ‘Sub-standard’ and ‘Past due but not impaired’ 2% and ‘Impaired’ 1%.

 

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Distribution of financial instruments by credit quality

(Audited)

 

         Neither past due nor impaired          Past due                     Total                        
       Strong           Good           Satisfactory          

 

Sub-

standard

  

  

      

 

but not

impaired

  

  

       Impaired          

 

gross

amount

  

  

      

 

Impairment

allowances

  

9 

       Total   
         US$m          US$m          US$m          US$m          US$m          US$m          US$m          US$m          US$m  

Cash and balances at central banks

       127,971           1,438           195           353                     129,957                129,957   

Items in the course of collection from other banks

       4,515           46           365           1                     4,927                4,927   

Hong Kong Government certificates of indebtedness

       27,674                                                   27,674                27,674   

Trading assets10

       168,521           35,042           24,740           641                     228,944                228,944   

– treasury and other eligible bills

       13,938           1,641           559           32                     16,170                16,170   

– debt securities

       111,138           17,786           12,305           303                     141,532                141,532   

– loans and advances:

                                                        

to banks

       17,492           4,961           5,016           112                     27,581                27,581   

to customers

       25,953           10,654           6,860           194                     43,661                43,661   

Financial assets designated at fair value10

       3,017           4,476           1,207           331                     9,031                9,031   

– treasury and other eligible bills

       5                               51                     56                56   

– debt securities

       3,011           4,476           1,124           280                     8,891                8,891   

– loans and advances:

                                                        

to banks

       1                     83                               84                84   

to customers

                                                                          

Derivatives10

       269,490           58,596           15,962           960                     345,008                345,008   

Loans and advances to customers held at amortised cost11

       487,734           239,136           196,685           20,802           13,357           29,283           986,997           (12,337        974,660   

– personal

       320,678           32,601           15,109           1,130           8,876           15,160           393,554           (4,600        388,954   

– corporate and commercial

       141,375           192,799           171,748           18,986           3,922           13,795           542,625           (7,441        535,184   

– financial (non-bank financial institutions)

       25,681           13,736           9,828           686           559           328           50,818           (296        50,522   

Loans and advances to banks held at amortised cost

       83,766           19,525           7,945           914           1           47           112,198           (49        112,149   

Reverse repurchase agreements – non-trading

       98,470           28,367           33,283           1,593                               161,713                     161,713   

Financial investments

       347,218           27,373           22,600           5,304                     2,278           404,773                404,773   

– treasury and other similar bills

       68,966           6,294           4,431           1,826                               81,517                81,517   

– debt securities

       278,252           21,079           18,169           3,478                     2,278           323,256                323,256   

Other assets

       13,015           7,564           12,976           631           210           884           35,280           (16        35,264   

– assets held for sale

       802           43           79                     2           465           1,391           (16        1,375   

– endorsements and acceptances

       1,507           4,644           4,281           298           34           11           10,775                10,775   

– accrued income and other

       10,706           2,877           8,616           333           174           408           23,114                23,114   

 

                                            
                                                                                                    

At 31 December 2014

  1,631,391      421,563      315,958      31,530      13,568      32,492      2,446,502      (12,402   2,434,100   

 

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Report of the Directors: Financial Review (continued)

 

 

         Neither past due nor impaired          Past due                     Total                        
       Strong           Good           Satisfactory          

 

Sub-

standard

  

  

      

 

but not

impaired

  

  

       Impaired          

 

gross

amount

  

  

      

 

Impairment

allowances

  

9 

       Total   
         US$m          US$m          US$m          US$m          US$m          US$m          US$m          US$m          US$m  

Cash and balances at central banks

       162,017           2,877           265           1,440                     166,599                166,599   

Items in the course of collection from other banks

       5,590           66           286           79                     6,021                6,021   

Hong Kong Government certificates of indebtedness

       25,220                                                   25,220                25,220   

Trading assets10

       163,444           39,475           34,868           1,514                     239,301                239,301   

– treasury and other eligible bills

       17,235           3,585           758           6                     21,584                21,584   

– debt securities

       107,831           16,498           16,167           1,148                     141,644                141,644   

– loans and advances:

                                                        

to banks

       15,804           5,546           6,342           193                     27,885                27,885   

to customers

       22,574           13,846           11,601           167                     48,188                48,188   

Financial assets designated at fair value10

       6,608           5,183           671           257                     12,719                12,719   

– treasury and other eligible bills

       50                                                   50                50   

– debt securities

       6,490           5,179           664           256                     12,589                12,589   

– loans and advances:

                                                        

to banks

       68                     7           1                     76                76   

to customers

                 4                                         4                4   

Derivatives10

       220,711           47,004           13,425           1,125                     282,265                282,265   

Loans and advances to customers held at amortised cost11

       488,504           243,077           199,821           23,942           15,460           36,428           1,007,232           (15,143        992,089   

– personal

       326,269           39,024           14,882           1,580           10,175           18,798           410,728           (6,602        404,126   

– corporate and commercial

       132,943           194,966           174,905           21,281           5,009           16,877           545,981           (8,059        537,922   

– financial (non-bank financial institutions)

       29,292           9,087           10,034           1,081           276           753           50,523           (482        50,041   

Loans and advances to banks held at amortised cost

       91,498           21,131           6,266           1,123           11           75           120,104           (58        120,046   

Reverse repurchase agreements – non-trading

       111,543           37,878           28,265           2,004                               179,690                     179,690   

Financial investments

       362,799           27,833           17,556           6,089                     2,508           416,785                416,785   

– treasury and other similar bills

       69,364           5,595           1,856           1,296                               78,111                78,111   

– debt securities

       293,435           22,238           15,700           4,793                     2,508           338,674                338,674   

Other assets

       12,501           8,028           14,848           1,159           307           592           37,435           (111        37,324   

– assets held for sale

       1,129           642           1,050           351           89           156           3,417           (111        3,306   

– endorsements and acceptances

       1,976           4,824           4,562           225           19           18           11,624                11,624   

– accrued income and other

       9,396           2,562           9,236           583           199           418           22,394                22,394   

 

                                            
                                                                                                    

At 31 December 2013

  1,650,435      432,552      316,271      38,732      15,778      39,603      2,493,371      (15,312   2,478,059   

For footnotes, see page 202.

 

HSBC HOLDINGS PLC

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Report of the Directors: Financial Review (continued)

 

 

Past due but not impaired gross financial instruments

(Audited)

Past due but not impaired gross financial instruments are those loans where, although customers have failed to make payments in accordance with the contractual terms

of their facilities, they have not met the impaired loan criteria described on page 137.

Overall, past due but not impaired balances decreased by US$2.2bn, mainly due to continued run-off and loan sales in the CML portfolio.

 

 

Past due but not impaired gross financial instruments by geographical region

(Audited)

      Europe      Asia 4        MENA     
 
North
    America
  
  
 
 
Latin
    America
  
  
  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Loans and advances to customers held at amortised cost

  2,409          4,260      704      4,634      1,350          13,357   

– personal

  1,159      2,880      182      3,759      896      8,876   

– corporate and commercial

  1,244      1,102      508      623      445      3,922   

– financial (non-bank financial institutions)

  6      278      14      252      9      559   

Other financial instruments

  6      52      31      97      25      211   

At 31 December 2014

  2,415      4,312      735      4,731      1,375      13,568   

Loans and advances to customers held at amortised cost

  2,399      4,211      757      6,453      1,640      15,460   

– personal

  1,287      2,764      174      4,817      1,133      10,175   

– corporate and commercial

  1,092      1,197      580      1,635      505      5,009   

– financial (non-bank financial institutions)

  20      250      3      1      2      276   

Other financial instruments

  45      49      50      101      73      318   

At 31 December 2013

  2,444      4,260      807      6,554      1,713      15,778   

For footnote, see page 202.

Ageing analysis of days for past due but not impaired gross financial instruments

(Audited)

   

    Up to 29

days

   

30-59

days

   

60-89

days

   

    90-179

days

   

    180 days

and over

    Total  
    US$m         US$m         US$m     US$m     US$m         US$m  

Loans and advances to customers held at amortised cost

  10,427      2,057      801      54      18      13,357   

– personal

  6,477      1,717      676      5      1      8,876   

– corporate and commercial

  3,417      328      114      48      15      3,922   

– financial (non-bank financial institutions)

  533      12      11      1      2      559   

Other financial instruments

  130      33      18      12      18      211   

At 31 December 2014

  10,557      2,090      819      66      36      13,568   

Loans and advances to customers held at amortised cost

  11,689      2,587      1,057      76      51      15,460   

– personal

  7,170      2,124      865      16           10,175   

– corporate and commercial

  4,290      418      190      60      51      5,009   

– financial (non-bank financial institutions)

  229      45      2                276   

Other financial instruments

  214      55      26      12      11      318   

At 31 December 2013

  11,903      2,642      1,083      88      62      15,778   

 

 

HSBC HOLDINGS PLC

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Impaired loans

(Audited)

Impaired loans and advances are those that meet any of the following criteria:

 

  wholesale loans and advances classified as Customer Risk Rating (‘CRR’) 9 or CRR 10. These grades are assigned when the bank considers that either the customer is unlikely to pay their credit obligations in full, without recourse to security, or when the customer is more than 90 days past due on any material credit obligation to HSBC.

 

  retail loans and advances classified as Expected Loss (‘EL’) 9 or EL 10. These grades are typically assigned to retail loans and advances more than 90 days past due unless individually they have been assessed as not impaired.

 

  renegotiated loans and advances that have been subject to a change in contractual cash flows as a result of a concession which the lender would not
   

otherwise consider, and where it is probable that without the concession the borrower would be unable to meet the contractual payment obligations in full, unless the concession is insignificant and there are no other indicators of impairment. Renegotiated loans remain classified as impaired until there is sufficient evidence to demonstrate a significant reduction in the risk of non-payment of future cash flows, and there are no other indicators of impairment.

For loans that are assessed for impairment on a collective basis, the evidence to support reclassification as no longer impaired typically comprises a history of payment performance against the original or revised terms, depending on the nature and volume of renegotiation and the credit risk characteristics surrounding the renegotiation. For loans that are assessed for impairment on an individual basis, all available evidence is assessed on a case-by-case basis.

For further details of the CRR and the EL scales see page 207.

 

 

Movement in impaired loans by geographical region

(Unaudited)

 

    Europe            Asia 4        MENA     
 
North
America
  
  
 

 

Latin

America

  

  

      Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Impaired loans at 1 January 2014

  13,228      1,623      2,285      15,123      4,244      36,503   

– personal

  2,938      526      317      13,669      1,348      18,798   

– corporate and commercial

  9,714      1,082      1,765      1,427      2,889      16,877   

– financial5

  576      15      203      27      7      828   

Classified as impaired during the year

  3,367      1,970      346      4,724      3,342      13,749   

– personal

  1,168      857      193      4,360      1,958      8,536   

– corporate and commercial

  2,166      1,113      153      354      1,383      5,169   

– financial5

  33                10      1      44   

Transferred from impaired to unimpaired during the year

  (1,661   (230   (320   (2,609   (730   (5,550

– personal

  (282   (184   (178   (2,551   (364   (3,559

– corporate and commercial

  (1,319   (46   (53   (57   (366   (1,841

– financial5

  (60        (89   (1        (150

Amounts written off

  (2,037   (617   (111   (1,369   (2,048   (6,182

– personal

  (631   (470   (77   (1,007   (1,371   (3,556

– corporate and commercial

  (1,201   (147   (29   (356   (673   (2,406

– financial5

  (205        (5   (6   (4   (220

Net repayments and other

  (2,655   (698   (219   (4,175   (1,443   (9,190

– personal

  (649   (238   (13   (3,645   (514   (5,059

– corporate and commercial

  (1,975   (457   (140   (506   (926   (4,004

– financial5

  (31   (3   (66   (24   (3   (127

 

                             
                                                                   

Impaired loans at 31 December 2014

            10,242                  2,048                  1,981                11,694                  3,365                29,330   

– personal

  2,544      491      242      10,826      1,057      15,160   

– corporate and commercial

  7,385      1,545      1,696      862      2,307      13,795   

– financial5

  313      12      43      6      1      375   

 

                             
                                                                   

Impaired loans as a percentage of gross loans

  2.3%      0.5%      4.8%      8.4%      6.1%      2.7%   

– personal

  1.4%      0.4%      3.7%      16.6%      7.8%      3.9%   

– corporate and commercial

  3.5%      0.7%      8.2%      1.5%      7.5%      2.5%   

– financial5

  0.7%      0.0%      0.3%      0.0%      0.0%      0.2%   

 

HSBC HOLDINGS PLC

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Report of the Directors: Financial Review (continued)

 

 

    Europe            Asia 4        MENA     
 
North
America
  
  
 

 

Latin

America

  

  

      Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Impaired loans at 1 January 2013

  11,145      1,624      2,474      20,345      3,188      38,776   

– personal

  2,466      611      368      18,726      1,580      23,751   

– corporate and commercial

  8,058      967      1,872      1,592      1,604      14,093   

– financial5

  621      46      234      27      4      932   

Classified as impaired during the year

  4,952      1,424      419      6,168      4,333      17,296   

– personal

  1,176      798      107      5,319      1,872      9,272   

– corporate and commercial

  3,726      623      306      837      2,453      7,945   

– financial5

  50      3      6      12      8      79   

Transferred from impaired to unimpaired during the year

  (1,215   (145   (166   (3,198   (642   (5,366

– personal

  (265   (137   (68   (3,172   (266   (3,908

– corporate and commercial

  (804   (8   (85   (24   (375   (1,296

– financial5

  (146        (13   (2   (1   (162

Amounts written off

  (1,411   (538   (165   (1,706   (1,957   (5,777

– personal

  (423   (444   (79   (1,433   (1,456   (3,835

– corporate and commercial

  (927   (91   (75   (270   (499   (1,862

– financial5

  (61   (3   (11   (3   (2   (80

Net repayments and other

  (243   (742   (277   (6,486   (678   (8,426

– personal

  (16   (302   (11   (5,771   (382   (6,482

– corporate and commercial

  (339   (409   (253   (708   (294   (2,003

– financial5

  112      (31   (13   (7   (2   59   

 

                             
                                                                   

Impaired loans at 31 December 2013

            13,228                  1,623                  2,285                15,123                  4,244                36,503   

– personal

  2,938      526      317      13,669      1,348      18,798   

– corporate and commercial

  9,714      1,082      1,765      1,427      2,889      16,877   

– financial5

  576      15      203      27      7      828   

 

                             
                                                                   

Impaired loans as a percentage of gross loans

  2.7%      0.4%      6.5%      10.9%      7.5%      3.2%   

– personal

  1.5%      0.4%      4.9%      18.8%      9.0%      4.6%   

– corporate and commercial

  4.0%      0.5%      8.9%      2.8%      9.6%      3.1%   

– financial5

  1.1%      0.0%      2.3%      0.2%      0.1%      0.5%   

For footnotes, see page 202.

 

Impaired loans decreased by US$7.2bn during the year. Personal impaired loans declined mainly due to the continued run off and loan sales in the CML portfolio in North America. In personal lending, ‘Net repayments and other’ includes US$2.9bn of CML portfolio assets that were reclassified as held for sale and also sold during the year.

Impaired loans in wholesale lending declined mainly in Europe and, to a lesser extent, in North America and Latin America due to repayments and a reduction in new impaired loans which reflected improvements in the economic conditions in these markets. These decreases were offset by an increase in Asia.

Renegotiated loans and forbearance

(Audited)

Current policies and procedures regarding renegotiated loans and forbearance are described in the Appendix to Risk on page 208.

The contractual terms of a loan may be modified for a number of reasons, including changes in market conditions, customer retention and other factors not related to the current or potential credit deterioration of a customer. ‘Forbearance’ describes concessions made on the contractual terms of a loan in response to an obligor’s financial difficulties. We classify and report loans on which concessions have been granted under conditions of credit distress as ‘renegotiated loans’

when their contractual payment terms have been modified, because we have significant concerns about the borrowers’ ability to meet contractual payments when due. On renegotiation, where the existing agreement is cancelled and a new agreement is made on substantially different terms, or if the terms of an existing agreement are modified such that the renegotiated loan is substantially a different financial instrument, the loan would be derecognised and recognised as a new loan for accounting purposes. However, the newly recognised financial asset will retain the renegotiated loan classification. Concessions on loans made to customers which do not affect the payment structure or basis of repayment, such as waivers of financial or security covenants, do not directly provide concessionary relief to customers in terms of their ability to service obligations as they fall due and are therefore not included in this classification.

The most significant portfolio of renegotiated loans remained in North America, substantially all of which were retail loans held by HSBC Finance.

The following tables show the gross carrying amounts of the Group’s holdings of renegotiated loans and advances to customers by industry sector, geography and credit quality classification.

 

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Renegotiated loans and advances to customers by geographical region

(Audited)

    Europe            Asia 4        MENA     
 
North
America
  
  
 
 
Latin
America
  
  
       Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

First lien residential mortgages

  1,605      94      58      13,540      60      15,357   

– neither past due nor impaired

  529      63      19      3,695      32      4,338   

– past due but not impaired

  221      8      1      1,894      5      2,129   

– impaired

  855      23      38      7,951      23      8,890   

Other personal lending7

  324      292      27      1,267      326      2,236   

– neither past due nor impaired

  184      173      16      453      14      840   

– past due but not impaired

  40      22      5      214      1      282   

– impaired

  100      97      6      600      311      1,114   

Corporate and commercial

  5,469      501      1,439      427      1,324      9,160   

– neither past due nor impaired

  1,383      102      483      36      303      2,307   

– past due but not impaired

  68           31      1      1      101   

– impaired

  4,018      399      925      390      1,020      6,752   

Financial5

  413      4      323      1      1      742   

– neither past due nor impaired

  219           305                524   

– past due but not impaired

                             

– impaired

  194      4      18      1      1      218   

 

                             
                                                                   

Renegotiated loans at 31 December 2014

              7,811                     891                  1,847                15,235                  1,711                27,495   

– neither past due nor impaired

  2,315      338      823      4,184      349      8,009   

– past due but not impaired

  329      30      37      2,109      7      2,512   

– impaired

  5,167      523      987      8,942      1,355      16,974   

 

                             
                                                                   

Impairment allowances on renegotiated loans

  1,458      170      458      1,499      704      4,289   

– renegotiated loans as % of total gross loans

  1.9%      0.2%      6.1%      11.5%      3.7%      2.8%   

First lien residential mortgages

  1,820      117      91      16,853      76      18,957   

– neither past due nor impaired

  392      78      47      4,332      32      4,881   

– past due but not impaired

  517      11      3      2,684      4      3,219   

– impaired

  911      28      41      9,837      40      10,857   

Other personal lending7

  431      318      58      1,277      531      2,615   

– neither past due nor impaired

  253      207      33      503      18      1,014   

– past due but not impaired

  39      24      17      284      2      366   

– impaired

  139      87      8      490      511      1,235   

Corporate and commercial

  7,270      330      1,583      658      2,161      12,002   

– neither past due nor impaired

  1,796      134      677      47      493      3,147   

– past due but not impaired

  193      4      126      34      5      362   

– impaired

  5,281      192      780      577      1,663      8,493   

Financial5

  235      2      362      1      1      601   

– neither past due nor impaired

  93           265                358   

– past due but not impaired

                             

– impaired

  142      2      97      1      1      243   

 

                             
                                                                   

Renegotiated loans at 31 December 2013

  9,756      767      2,094      18,789      2,769      34,175   

– neither past due nor impaired

  2,534      419      1,022      4,882      543      9,400   

– past due but not impaired

  749      39      146      3,002      11      3,947   

– impaired

  6,473      309      926      10,905      2,215      20,828   

 

                             
                                                                   

Impairment allowances on renegotiated loans

  1,867      101      460      2,285      1,014      5,727   

– renegotiated loans as % of total gross loans

  2.1%      0.2%      7.3%      14.2%      6.0%      3.4%   

For footnotes, see page 202.

 

The following table shows movements in renegotiated loans during the year. Renegotiated loans reduced by US$6.7bn to US$27bn in 2014. Renegotiated loans in personal lending reduced by US$4bn. Included within ‘other’ movements is US$1.9bn of CML portfolio assets that were transferred to held for sale. New renegotiated

loans and write-offs reduced as a result of improvements in the US housing market and economic conditions.

Renegotiated loans in wholesale lending decreased by US$2.7bn. The reductions were mainly concentrated in Europe and Latin America and were the result of increased write-offs and repayments.

 

 

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Movement in renegotiated loans by geographical region

(Unaudited)

    Europe            Asia 4        MENA     
 
North
America
  
  
 
 
Latin
America
  
  
      Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Renegotiated loans at 1 January 2014

  9,756      767      2,094      18,789      2,769      34,175   

– personal

  2,251      435      149      18,130      607      21,572   

– corporate and commercial

  7,270      330      1,583      658      2,161      12,002   

– financial

  235      2      362      1      1      601   

Loans renegotiated in the year without derecognition

  1,543      371      296      862      725      3,797   

– personal

  433      83      10      774      310      1,610   

– corporate and commercial

  939      288      286      78      415      2,006   

– financial

  171                10           181   

Loans renegotiated in the year resulting in recognition of a new loan

  500      5      79           92      676   

– personal

  69      2                28      99   

– corporate and commercial

  381           61           64      506   

– financial

  50      3      18                71   

Repayments

  (2,416   (246   (562   (1,518   (1,036   (5,778

– personal

  (635   (96   (47   (1,319   (288   (2,385

– corporate and commercial

  (1,757   (149   (445   (189   (747   (3,287

– financial

  (24   (1   (70   (10   (1   (106

Amounts written off

  (828   (42   (23   (640   (510   (2,043

– personal

  (88   (28   (7   (568   (223   (914

– corporate and commercial

  (740   (14   (16   (72   (286   (1,128

– financial

                      (1   (1

Other

  (744   36      (37   (2,258   (329   (3,332

– personal

  (101   (10   (20   (2,210   (48   (2,389

– corporate and commercial

  (624   46      (30   (48   (283   (939

– financial

  (19        13           2      (4

 

                             
                                                                   

At 31 December 2014

              7,811                   891                  1,847                15,235                  1,711                27,495   

– personal

  1,929      386      85      14,807      386      17,593   

– corporate and commercial

  5,469      501      1,439      427      1,324      9,160   

– financial

  413      4      323      1      1      742   

 

                             
                                                                   

Renegotiated loans at 1 January 2013

  9,974      944      2,389      26,162      2,758      42,227   

– personal

  2,817      493      190      25,474      781      29,755   

– corporate and commercial

  6,829      447      1,859      685      1,975      11,795   

– financial

  328      4      340      3      2      677   

Loans renegotiated in the year without derecognition

  2,807      49      101      1,727      1,311      5,995   

– personal

  264      8      16      1,335      507      2,130   

– corporate and commercial

  2,541      41      85      391      803      3,861   

– financial

  2                1      1      4   

Loans renegotiated in the year resulting in recognition of a new loan

  105      113      14           62      294   

– personal

  17      76      14           25      132   

– corporate and commercial

  88      37                37      162   

– financial

                             

Repayments

  (2,139   (233   (541   (1,759   (707   (5,379

– personal

  (489   (111   (64   (1,387   (353   (2,404

– corporate and commercial

  (1,574   (121   (477   (370   (354   (2,896

– financial

  (76   (1        (2        (79

Amounts written off

  (426   (25   (38   (1,035   (409   (1,933

– personal

  (99   (20   (9   (995   (233   (1,356

– corporate and commercial

  (303   (5   (29   (40   (175   (552

– financial

  (24                  (1   (25

Other

  (565   (81   169      (6,306   (246   (7,029

– personal

  (259   (11   2      (6,297   (120   (6,685

– corporate and commercial

  (311   (69   145      (8   (125   (368

– financial

  5      (1   22      (1   (1   24   

 

                             
                                                                   

At 31 December 2013

  9,756      767      2,094      18,789      2,769      34,175   

– personal

  2,251      435      149      18,130      607      21,572   

– corporate and commercial

  7,270      330      1,583      658      2,161      12,002   

– financial

  235      2      362      1      1      601   

 

                             
                                                                   

For footnote, see page 202.

 

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Impairment of loans and advances

(Audited)

A summary of our current policies and practices regarding impairment assessment is provided in the Appendix to Risk on page 212. For an analysis of loan impairment charges and other credit risk provisions by global business, see page 76.

The tables below analyse the impairment allowances recognised for impaired loans and advances that are either individually or collectively assessed, and collective impairment allowances on loans and advances that are classified as not impaired.

 

 

Loan impairment charge to the income statement by industry sector

(Unaudited)

    Europe            Asia 4        MENA     

 

North

America

  

  

 

 

Latin

America

  

  

      Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Personal

  245      321      25      117      1,095      1,803   

– first lien residential mortgages

  (75   6      (24   26      15      (52

– other personal7

  320      315      49      91      1,080      1,855   

Corporate and commercial

  790      327      6      196      937      2,256   

– manufacturing and international trade and services

  520      197      36      116      382      1,251   

– commercial real estate and other property-related

  78      29      (28   27      176      282   

– other commercial8

  192      101      (2   53      379      723   

Financial5

  44      (4   (32   (13   1      (4

Total loan impairment charge for the year ended 31 December 2014

            1,079                 644                     (1              300                2,033                4,055   

Personal

  320      345      46      963      1,522      3,196   

– first lien residential mortgages

  (11   (7   (13   647      11      627   

– other personal7

  331      352      59      316      1,511      2,569   

Corporate and commercial

  1,467      152      (13   253      1,115      2,974   

– manufacturing and international trade and services

  800      134      37      125      594      1,690   

– commercial real estate and other property-related

  432      (2   (5   79      322      826   

– other commercial8

  235      20      (45   49      199      458   

Financial5

  (55   (14   (77   19      5      (122

Total loan impairment charge for the year ended 31 December 2013

  1,732      483      (44   1,235      2,642      6,048   

Loan impairment charge to the income statement by assessment type

(Unaudited)

  Europe      Asia 4    MENA     
 
North
America
  
  
 
 
Latin
America
  
  
  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Individually assessed impairment allowances

  617      351      32      190      590      1,780   

– new allowances

  1,112      542      134      298      738      2,824   

– release of allowances no longer required

  (486   (171   (95   (88   (90   (930

– recoveries of amounts previously written off

  (9   (20   (7   (20   (58   (114

Collectively assessed impairment allowances12

  462      293      (33   110      1,443      2,275   

– new allowances net of allowance releases

  757      426      2      205      1,726      3,116   

– recoveries of amounts previously written off

  (295   (133   (35   (95   (283   (841

 

                             
                                                                   

Total loan impairment charge for the year ended 31 December 2014

  1,079      644      (1   300      2,033      4,055   

Individually assessed impairment allowances

  1,376      145      (86   262      623      2,320   

– new allowances

  1,828      316      196      398      702      3,440   

– release of allowances no longer required

  (402   (145   (235   (98   (31   (911

– recoveries of amounts previously written off

  (50   (26   (47   (38   (48   (209

Collectively assessed impairment allowances12

  356      338      42      973      2,019      3,728   

– new allowances net of allowance releases

  943      479      82      1,058      2,253      4,815   

– recoveries of amounts previously written off

  (587   (141   (40   (85   (234   (1,087

 

                             
                                                                   

Total loan impairment charge for the year ended 31 December 2013

  1,732      483      (44   1,235      2,642      6,048   

For footnotes, see page 202.

 

Total loan impairment charges of US$4.1bn were US$2.0bn lower than in 2013 reflecting reduced impairment charges in both the personal lending and

the corporate and commercial lending portfolios, primarily in North America, Europe and Latin America.

 

 

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In North America, loan impairment charges relating to both first lien mortgages and other personal lending decreased, which reflected reduced levels of both delinquency and new impaired loans in the CML portfolio, and a fall in lending balances from continued run-off and loan sales. This was partly offset by lower favourable market value adjustments of underlying properties as improvements in housing market conditions were less pronounced in 2014 than in 2013.

In Europe, the reduction in loan impairment charges was primarily in corporate and commercial lending, as a result of lower individually assessed impairment allowances reflecting the improved quality of the portfolio and economic conditions. Loan impairment charges also decreased in personal lending, albeit to a lesser extent, due to lower delinquency levels in the improved economic environment and as customers continued to reduce outstanding credit card and loan balances. These factors

were partly offset by an increase in collectively assessed allowances in the corporate and commercial lending sector as we revised certain estimates in our collective corporate loan impairment calculation, and in the financial industry sector reflecting charges compared with releases in 2013.

In Latin America, the reduction in loan impairment charges in the other personal lending and the corporate and commercial portfolios primarily reflected the prior year adverse effect of changes to the impairment model and assumption revisions for restructured loan portfolios in Brazil. Individually assessed allowances were broadly stable. There were lower loan impairment charges in Mexico in the commercial real estate and other property related sector, in particular relating to certain homebuilders. In Brazil individually assessed allowances increased due to an impairment relating to a corporate customer in the other commercial sector.

 

 

Charge for impairment losses as a percentage of average gross loans and advances to customers by geographical region

(Unaudited)

    Europe            Asia 4        MENA     

 

North

America

  

  

 

 

Latin

America

  

  

      Total   
    %     %     %     %     %     %  

New allowances net of allowance releases

  0.37      0.22      0.14      0.32      5.00      0.53   

Recoveries

  (0.08   (0.04   (0.14   (0.09   (0.72   (0.10

Total charge for impairment losses at 31 December 2014

  0.29      0.18           0.23      4.28      0.43   

Amount written off net of recoveries

  0.49      0.13      0.58      0.97      3.59      0.58   

New allowances net of allowance releases

  0.65      0.20      0.15      1.00      5.93      0.81   

Recoveries

  (0.17   (0.05   (0.29   (0.09   (0.57   (0.14

Total charge for impairment losses at 31 December 2013

  0.48      0.15      (0.14   0.91      5.36      0.67   

Amount written off net of recoveries

  0.42      0.12      0.38      1.10      3.69      0.59   

 

For footnote, see page 202.

 

Movement in impairment allowances by industry sector and by geographical region

(Unaudited)

  Europe      Asia 4    MENA     
 
North
America
  
  
 
 
Latin
America
  
  
  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Impairment allowances at 1 January 2014

  5,598      1,214      1,583      4,242      2,564      15,201   

Amounts written off

Personal

  (724   (463   (157   (1,030   (1,359   (3,733

– first lien residential mortgages

  (21   (17   (4   (731   (40   (813

– other personal7

  (703   (446   (153   (299   (1,319   (2,920

Corporate and commercial

  (1,202   (146   (47   (346   (684   (2,425

– manufacturing and international trade and services

  (732   (86   (41   (81   (428   (1,368

– commercial real estate and other property-related

  (342   (53   (6   (153   (39   (593

– other commercial8

  (128   (7        (112   (217   (464

Financial5

  (203        (8   (6   (4   (221

Total amounts written off

  (2,129   (609   (212   (1,382   (2,047   (6,379

Recoveries of amounts written off in previous years

Personal

  271      143      35      86      283      818   

– first lien residential mortgages

  3      3           40      33      79   

– other personal7

  268      140      35      46      250      739   

Corporate and commercial

  29      9      7      25      58      128   

– manufacturing and international trade and services

  19      7      7      6      46      85   

– commercial real estate and other property-related

  11                3      1      15   

– other commercial8

  (1   2           16      11      28   

Financial5

  4      1           4           9   

Total recoveries of amounts written off in previous years

  304      153      42      115      341      955   

Charge to income statement

            1,079                 644      (1   300      2,033      4,055   

Exchange and other movements13

  (397   (46   (6   (635   (362   (1,446

Impairment allowances at 31 December 2014

  4,455      1,356                1,406                2,640                2,529              12,386   

 

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  Europe      Asia 4    MENA     
 
North
America
  
  
 
 
Latin
America
  
  
  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Impairment allowances against banks:

– individually assessed

  31           18                49   

Impairment allowances against customers:

– individually assessed

  2,981      812      1,110      276      1,016      6,195   

– collectively assessed12

  1,443      544      278      2,364      1,513      6,142   

Impairment allowances at 31 December 2014

  4,455      1,356      1,406      2,640      2,529      12,386   

Impairment allowances at 1 January 2013

  5,361      1,219      1,811      5,616      2,162      16,169   

Amounts written off

Personal

  (876   (461   (107   (1,330   (1,593   (4,367

– first lien residential mortgages

  (83   (7   (2   (779   (25   (896

– other personal7

  (793   (454   (105   (551   (1,568   (3,471

Corporate and commercial

  (1,264   (96   (78   (277   (514   (2,229

– manufacturing and international trade and services

  (680   (73   (64   (80   (386   (1,283

– commercial real estate and other property-related

  (289   (7   (2   (141   (23   (462

– other commercial8

  (295   (16   (12   (56   (105   (484

Financial5

  (40   (3   (10   (3   (3   (59

Total amounts written off

  (2,180   (560   (195   (1,610   (2,110   (6,655

Recoveries of amounts written off in previous years

Personal

  584      153      41      82      237      1,097   

– first lien residential mortgages

  25      4           67      23      119   

– other personal7

  559      149      41      15      214      978   

Corporate and commercial

  52      14      46      41      45      198   

– manufacturing and international trade and services

  19      7      2      6      27      61   

– commercial real estate and other property-related

  6      4           18      1      29   

– other commercial8

  27      3      44      17      17      108   

Financial5

  1                          1   

Total recoveries of amounts written off in previous years

  637      167      87      123      282      1,296   

Charge to income statement

  1,732      483      (44   1,235      2,642      6,048   

Exchange and other movements13

  48      (95   (76   (1,122   (412   (1,657

Impairment allowances at 31 December 2013

            5,598                1,214                1,583                4,242                2,564              15,201   

Impairment allowances against banks:

– individually assessed

  35           18      5           58   

Impairment allowances against customers:

– individually assessed

  4,019      634      1,131      410      878      7,072   

– collectively assessed12

  1,544      580      434      3,827      1,686      8,071   

Impairment allowances at 31 December 2013

  5,598      1,214      1,583      4,242      2,564      15,201   

For footnotes, see page 202.

Movement in impairment allowances on loans and advances to customers and banks

(Audited)

    Banks     Customers        
   

    individually

assessed

        Individually
assessed
        Collectively
assessed
                Total  
    US$m     US$m     US$m     US$m  

At 1 January 2014

  58      7,072      8,071      15,201   

Amounts written off

  (6   (2,313   (4,060   (6,379

Recoveries of loans and advances previously written off

       114      841      955   

Charge to income statement

  4      1,776      2,275      4,055   

Exchange and other movements13

  (7   (454   (985   (1,446

At 31 December 2014

  49      6,195      6,142      12,386   

Impairment allowances:

on loans and advances to customers

  6,195      6,142      12,337   

– personal

  468      4,132      4,600   

– corporate and commercial

  5,532      1,909      7,441   

– financial

  195      101      296   

as a percentage of loans and advances1

  0.04%      0.63%      0.62%      1.13%   

 

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    Banks     Customers        
   

    individually

assessed

        Individually
assessed
        Collectively
assessed
                Total  
    US$m     US$m     US$m     US$m  

At 1 January 2013

  57      6,572      9,540      16,169   

Amounts written off

  (4   (1,937   (4,714   (6,655

Recoveries of loans and advances previously written off

       209      1,087      1,296   

Charge to income statement

  5      2,315      3,728      6,048   

Exchange and other movements13

       (87   (1,570   (1,657

At 31 December 2013

  58      7,072      8,071      15,201   

Impairment allowances:

on loans and advances to customers

  7,072      8,071      15,143   

– personal

  589      6,013      6,602   

– corporate and commercial

  6,096      1,963      8,059   

– financial

  387      95      482   

as a percentage of loans and advances1

  0.05%      0.70%      0.80%      1.35%   

For footnotes, see page 202.

 

Wholesale lending

On a reported basis gross loans decreased by US$11bn, which included adverse foreign exchange movements of US$32bn, mainly in Europe.

The following commentary is on a constant currency basis.

Wholesale lending grew by US$21bn in the year. In Asia, balances grew by US$16bn as we continued to leverage our position in emerging markets. In North America, we also experienced strong growth of US$10bn as we executed our strategy of expanding our core offerings and proactively targeting companies with international

banking requirements in key growth markets. The fall in lending in Europe of US$15bn was mainly driven by a reduction in corporate overdraft balances. In the UK, a small number of clients benefited from the use of net interest arrangements across their overdraft and deposit positions. During the year, as we aligned our approach in our Payments and Cash Management business to be more globally consistent, many of these clients increased the frequency with which they settled these balances, reducing their overdraft and deposit balances, which fell by US$28bn. The Middle East and North Africa and Latin America grew by US$6bn and US$4bn, respectively.

 

 

Total wholesale lending

(Unaudited)

  Europe      Asia 4    MENA     
 
North
America
  
  
 
 
Latin
America
  
  
  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Corporate and commercial (A)

  210,585      220,799      20,588      57,862      30,722      540,556   

– manufacturing

  39,456      37,767      2,413      15,299      12,051      106,986   

– international trade and services

  76,629      72,814      9,675      13,484      8,189      180,791   

– commercial real estate

  28,187      35,678      579      6,558      2,291      73,293   

– other property-related

  7,126      34,379      1,667      8,934      281      52,387   

– government

  2,264      1,195      1,552      164      968      6,143   

– other commercial8

  56,923      38,966      4,702      13,423      6,942      120,956   

Financial (non-bank financial institutions) (B)

  23,103      13,997      3,291      9,034      1,393      50,818   

Asset-backed securities reclassified

  1,938                131           2,069   

Loans and advances to banks (C)

  21,978      62,960      10,495      7,405      9,360      112,198   

Gross loans at 31 December 2014 (D)

          257,604              297,756                34,374                74,432                41,475              705,641   

Impairment allowances on wholesale lending

Corporate and commercial (a)

  3,112      1,089      1,171      608      1,461      7,441   

– manufacturing

  529      242      141      152      348      1,412   

– international trade and services

  877      533      536      157      237      2,340   

– commercial real estate

  909      44      147      101      476      1,677   

– other property-related

  203      55      219      57      12      546   

– government

  4           1                5   

– other commercial

  590      215      127      141      388      1,461   

Financial (non-bank financial institutions) (b)

  221      13      21      39      2      296   

Loans and advances to banks (c)

  31           18                49   

Impairment allowances at 31 December 2014 (d)

  3,364      1,102      1,210      647      1,463      7,786   

(a) as a percentage of (A)

  1.48%      0.49%      5.69%      1.05%      4.76%      1.38%   

(b) as a percentage of (B)

  0.96%      0.09%      0.64%      0.43%      0.14%      0.58%   

(c) as a percentage of (C)

  0.14%           0.17%                0.04%   

(d) as a percentage of (D)

  1.31%      0.37%      3.52%      0.87%      3.53%      1.10%   

 

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  Europe      Asia 4    MENA     
 
North
America
  
  
 
 
Latin
America
  
  
  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Corporate and commercial (I)

  239,116      203,894      19,760      50,307      30,188      543,265   

– manufacturing

  55,920      30,758      3,180      11,778      12,214      113,850   

– international trade and services

  76,700      79,368      8,629      11,676      8,295      184,668   

– commercial real estate

  31,326      34,560      639      5,900      2,421      74,846   

– other property-related

  7,308      27,147      1,333      8,716      328      44,832   

– government

  3,340      1,021      1,443      499      974      7,277   

– other commercial8

  64,522      31,040      4,536      11,738      5,956      117,792   

Financial (non-bank financial institutions) (J)

  27,872      9,688      2,532      9,055      1,376      50,523   

Asset-backed securities reclassified

  2,578                138           2,716   

Loans and advances to banks (K)

  24,273      72,814      6,419      6,420      10,178      120,104   

Gross loans at 31 December 2013 (L)

  293,839      286,396      28,711      65,920      41,742      716,608   

Impairment allowances on wholesale lending

Corporate and commercial (i)

  3,821      918      1,212      769      1,339      8,059   

– manufacturing

  618      246      182      89      384      1,519   

– international trade and services

  1,216      428      502      188      349      2,683   

– commercial real estate

  1,116      22      153      202      396      1,889   

– other property-related

  269      102      236      93      8      708   

– government

  3           10      1           14   

– other commercial

  599      120      129      196      202      1,246   

Financial (non-bank financial institutions) (j)

  344      17      60      50      11      482   

Loans and advances to banks (k)

  35           18      5           58   

Impairment allowances at 31 December 2013 (l)

            4,200                   935                1,290                   824                1,350                8,599   

(i) as a percentage of (I)

  1.60%      0.45%      6.13%      1.53%      4.44%      1.48%   

(j) as a percentage of (J)

  1.23%      0.18%      2.37%      0.55%      0.80%      0.95%   

(k) as a percentage of (K)

  0.14%           0.28%      0.08%           0.05%   

(l) as a percentage of (L)

  1.43%      0.33%      4.49%      1.25%      3.23%      1.20%   

For footnotes, see page 202.

Commercial real estate

Commercial real estate lending

(Unaudited)

  Europe      Asia 4    MENA     
 
North
America
  
  
 
 
Latin
America
  
  
  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Neither past due nor impaired

  25,860      35,430      333      6,136      1,535      69,294   

Past due but not impaired

  18      170      47      100      28      363   

Impaired loans

  2,309      78      199      322      728      3,636   

Total gross loans and advances at 31 December 2014

  28,187      35,678      579      6,558      2,291      73,293   

Of which:

– renegotiated loans14

  1,954      19      183      191      377      2,724   

Impairment allowances

  909      44      147      101      476      1,677   

Neither past due nor impaired

  28,044      34,433      402      5,400      2,249      70,528   

Past due but not impaired

  95      103      18      29      35      280   

Impaired loans

  3,187      24      219      471      137      4,038   

Total gross loans and advances at 31 December 2013

          31,326              34,560                 639                5,900                2,421              74,846   

Of which:

– renegotiated loans14

  2,590      20      229      280      461      3,580   

Impairment allowances

  1,116      22      153      202      396      1,889   

For footnotes, see page 202.

 

Commercial real estate lending includes the financing of corporate, institutional and high net worth individuals who are investing primarily in income producing assets and, to a lesser extent, in their construction and development. The business focuses mainly on traditional core asset classes such as retail, offices, light industrial and residential building projects. The portfolio is globally diversified with larger concentrations in Hong Kong, the UK, the US and Canada.

In more developed markets, our exposure mainly comprises the financing of investment assets, the

redevelopment of existing stock and the augmentation of both commercial and residential markets to support economic and population growth. In lesser developed commercial real estate markets our exposures comprise lending for development assets on relatively short tenors with a particular focus on supporting the larger, better capitalised developers involved in residential construction or in assets supporting economic expansion.

Many of these markets are beginning to move away from the rapid construction of recent years with an increasing focus on investment assets consistent with more

 

 

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developed markets. A significant amount of exposure is centred on cities which are key locations of economic, political or cultural importance.

Total commercial real estate was US$73bn at 31 December 2014, a reduction of US$1.6bn which included adverse foreign exchange movements of US$3.3bn, mainly in Europe.

Refinance risk in commercial real estate

Commercial real estate lending tends to require the repayment of a significant proportion of the principal at maturity. Typically, a customer will arrange repayment through the acquisition of a new loan to settle the existing debt. Refinance risk is the risk that a customer, being unable to repay the debt on maturity, fails to refinance it at commercial rates. Refinance risk is described in more detail on page 214. We monitor our commercial real estate portfolio closely, assessing those drivers that may indicate potential issues with refinancing. The principal driver is the vintage of the loan, when origination reflected previous market norms which do not apply in the current market. Examples might be higher LTV ratios and/or lower interest cover ratios. The range of refinancing sources in the local market is also an important consideration, with risk increasing when lenders are restricted to banks and when bank liquidity is limited. In addition, underlying fundamentals such as the reliability of tenants, the ability to let and the condition of the property are important, as they influence property values.

For the Group’s commercial real estate portfolios as a whole, the behaviour of markets and the quality of assets did not cause undue concern in 2014. In the UK, which was subject to heightened concerns in recent years, the drivers described above are not currently causing sufficient concern to warrant enhanced management attention.

Further details on our UK portfolio are as follows: at 31 December 2014, we had US$20bn (2013: US$22bn) of commercial real estate loans of which US$5.9bn (2013: US$6.8bn) were due to be refinanced within the next 12 months. Of these balances, cases subject to close monitoring in our Loan Management Unit amounted to US$2.1bn (2013: US$2.4bn). US$1.3bn (2013: US$1.6bn) were disclosed as impaired with impairment allowances of US$0.6bn (2013: US$0.6bn). Where these loans are not considered impaired it is because there is sufficient evidence to indicate that the associated contractual cash flows will be recovered or that the loans will not need to be refinanced on terms we would consider below market norms.

Collateral on loans and advances

Details of the Group’s practice regarding the use of collateral are provided in the Appendix to Risk on page 213.

Collateral held is analysed separately below for commercial real estate and for other corporate, commercial and financial (non-bank) lending. This reflects the greater correlation between collateral performance and principal repayment in the commercial

real estate sector than applies to other lending. In each case, the analysis includes off-balance sheet loan commitments, primarily undrawn credit lines.

The collateral measured in the tables below consists of fixed first charges on real estate and charges over cash and marketable financial instruments. The values in the tables represent the expected market value on an open market basis; no adjustment has been made to the collateral for any expected costs of recovery. Cash is valued at its nominal value and marketable securities at their fair value. The LTV ratios presented are calculated by directly associating loans and advances with the collateral that individually and uniquely supports each facility. When collateral assets are shared by multiple loans and advances, whether specifically or, more generally, by way of an all monies charge, the collateral value is pro-rated across the loans and advances protected by the collateral.

Other types of collateral which are commonly taken for corporate and commercial lending such as unsupported guarantees and floating charges over the assets of a customer’s business are not measured in the tables below. While such mitigants have value, often providing rights in insolvency, their assignable value is not sufficiently certain and they are therefore assigned no value for disclosure purposes.

For impaired loans the collateral values cannot be directly compared with impairment allowances recognised. The LTV tables below use open market values with no adjustments. Impairment allowances are calculated on a different basis, by considering other cash flows and adjusting collateral values for costs of realising collateral as explained further on page 212.

Commercial real estate loans and advances

The value of commercial real estate collateral is determined by using a combination of professional and internal valuations and physical inspections. Due to the complexity of valuing collateral for commercial real estate, local valuation policies determine the frequency of review on the basis of local market conditions. Revaluations are sought with greater frequency as concerns over the performance of the collateral or the direct obligor increase. Revaluations may also be sought where customers amend their banking requirements, resulting in the Group extending further funds or other significant rearrangements of exposure or collateral, which may change the customer risk profile. As a result, the real estate collateral values used for CRR1-7 might date back to the last point at which such considerations applied. For CRR 8 and 9-10 almost all collateral would have been revalued within the last three years.

In Hong Kong, market practice is typically for lending to major property companies to be either secured by guarantees or unsecured. In Europe, facilities of a working capital nature are generally not secured by a first fixed charge and are therefore disclosed as not collateralised.

 

 

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Commercial real estate loans and advances including loan commitments by level of collateral

(Audited)

  Europe      Asia 4    MENA     

 

North

America

  

  

 

 

Latin

America

  

  

  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Rated CRR/EL 1 to 7

Not collateralised

  5,351      16,132      361      87      1,719      23,650   

Fully collateralised

  25,873      26,323      23      9,093      556      61,868   

Partially collateralised (A)

  1,384      1,599           1,819      152      4,954   

– collateral value on A

  1,032      901           1,199      47      3,179   

 

                             
                                                                   
  32,608      44,054      384      10,999      2,427      90,472   

Rated CRR/EL 8

Not collateralised

  34      7           9      2      52   

Fully collateralised

  568      23           30      1      622   

LTV ratio:

                                   

– less than 50%

  64                16      1      81   

– 51% to 75%

  222      11           10           243   

– 76% to 90%

  132      9           4           145   

– 91% to 100%

  150      3                     153   

Partially collateralised (B)

  365                7           372   

– collateral value on B

  296                2           298   

 

                             
                                                                   
  967      30           46      3      1,046   

Rated CRR/EL 9 to 10

Not collateralised

  369      48      6      1      499      923   

Fully collateralised

  992      15      7      166      178      1,358   

LTV ratio:

                                   

– less than 50%

  78      6      7      28      10      129   

– 51% to 75%

  593      2           91      43      729   

– 76% to 90%

  167      2           17      53      239   

– 91% to 100%

  154      5           30      72      261   

Partially collateralised (C)

  1,085      15      181      37      50      1,368   

– collateral value on C

  664      5      89      30      13      801   

 

                             
                                                                   
  2,446      78      194      204      727      3,649   

At 31 December 2014

          36,021              44,162                   578              11,249                3,157              95,167   

Rated CRR/EL 1 to 7

Not collateralised

  4,865      14,164      192      137      935      20,293   

Fully collateralised

  24,154      25,317      21      8,627      1,728      59,847   

Partially collateralised (D)

  2,664      2,377      139      704      484      6,368   

– collateral value on D

  1,827      1,688      24      303      292      4,134   

 

                             
                                                                   
  31,683      41,858      352      9,468      3,147      86,508   

Rated CRR/EL 8

Not collateralised

  109      10           1      3      123   

Fully collateralised

  793           72      68      1      934   

LTV ratio:

                                   

– less than 50%

  139                15           154   

– 51% to 75%

  367           72      49      1      489   

– 76% to 90%

  173                4           177   

– 91% to 100%

  114                          114   

Partially collateralised (E)

  360      2           13           375   

– collateral value on E

  281      1           11           293   

 

                             
                                                                   
  1,262      12      72      82      4      1,432   

Rated CRR/EL 9 to 10

Not collateralised

  564           7      4      521      1,096   

Fully collateralised

  1,079      12      31      233      286      1,641   

LTV ratio:

                                   

– less than 50%

  275      2      7      39      32      355   

– 51% to 75%

  436      6      7      110      57      616   

– 76% to 90%

  209      3      17      62      62      353   

– 91% to 100%

  159      1           22      135      317   

Partially collateralised (F)

  1,815      5      181      240      56      2,297   

– collateral value on F

  1,284      5      89      115      34      1,527   

 

                             
                                                                   
  3,458      17      219      477      863      5,034   

At 31 December 2013

  36,403      41,887      643      10,027      4,014      92,974   

For footnote, see page 202.

 

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Other corporate, commercial and financial (non-bank loans) are analysed separately below. For financing activities in other corporate and commercial lending, collateral value is not strongly correlated to principal repayment performance. Collateral values are generally refreshed when an obligor’s general credit performance deteriorates and we have to assess the

likely performance of secondary sources of repayment should it prove necessary to rely on them.

Accordingly, the table below reports values only for customers with CRR 8 to 10, recognising that these loans and advances generally have valuations which are comparatively recent.

 

 

Other corporate, commercial and financial (non-bank) loans and advances including loan commitments by level of collateral rated CRR/EL 8 to 10 only

(Audited)

  Europe      Asia 4    MENA     
 
North
America
  
  
 

 

Latin

America

  

  

  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Rated CRR/EL 8

Not collateralised

  2,051      237      15      320      227      2,850   

Fully collateralised

  629      56      72      331      11      1,099   

LTV ratio:

        13                           

– less than 50%

  120      13           186      5      324   

– 51% to 75%

  293                72      6      371   

– 76% to 90%

  51      9      69      46           175   

– 91% to 100%

  165      34      3      27           229   

Partially collateralised (A)

  105      44      1      148      6      304   

– collateral value on A

  46      17      1      68      4      136   

 

                             
                                                                   
  2,785      337      88      799      244      4,253   

Rated CRR/EL 9 to 10

Not collateralised

  4,185      939      813      62      1,420      7,419   

Fully collateralised

  615      143      147      231      124      1,260   

LTV ratio:

                                   

– less than 50%

  169      68      25      48      48      358   

– 51% to 75%

  136      27      19      39      35      256   

– 76% to 90%

  168      16      6      35      26      251   

– 91% to 100%

  142      32      97      109      15      395   

Partially collateralised (B)

  624      364      547      251      140      1,926   

– collateral value on B

  341      169      92      141      46      789   

 

                             
                                                                   
  5,424      1,446      1,507      544      1,684      10,605   

At 31 December 2014

  8,209      1,783      1,595      1,343      1,928      14,858   

Rated CRR/EL 8

Not collateralised

  2,411      185      37      328      456      3,417   

Fully collateralised

  259      51      1      227      70      608   

LTV ratio:

                                   

– less than 50%

  65      38      1      84      11      199   

– 51% to 75%

  103      4           47      10      164   

– 76% to 90%

  25      8           31      5      69   

– 91% to 100%

  66      1           65      44      176   

Partially collateralised (C)

  435      23      528      345      73      1,404   

– collateral value on C

  17      5      398      89      18      527   

 

                             
                                                                   
  3,105      259      566      900      599      5,429   

Rated CRR/EL 9 to 10

Not collateralised

  1,467      685      1,089      26      1,615      4,882   

Fully collateralised

  1,121      161      49      309      266      1,906   

LTV ratio:

                                   

– less than 50%

  124      57      2      24      159      366   

– 51% to 75%

  161      21      47      29      49      307   

– 76% to 90%

  156      53           46      43      298   

– 91% to 100%

  680      30           210      15      935   

Partially collateralised (D)

  1,192      304      770      359      290      2,915   

– collateral value on D

  606      150      102      149      131      1,138   

 

                             
                                                                   
  3,780      1,150      1,908      694      2,171      9,703   

At 31 December 2013

            6,885                1,409                2,474                1,594                2,770              15,132   

For footnote, see page 202.

 

Loans and advances to banks are typically unsecured. Collateral values held for customers rated CRR 9 to 10

(i.e. classified as impaired) are separately disclosed.

 

 

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Loans and advances to banks including loan commitments by level of collateral

(Audited)

  Europe      Asia 4    MENA     

 

North

America

  

  

 

 

Latin

America

  

  

  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

Rated CRR/EL 1 to 8

Not collateralised

  22,405      64,210      10,472      7,985      9,406      114,478   

Fully collateralised

  104      1,587                     1,691   

Partially collateralised (A)

  5                          5   

– collateral value on A

  3                          3   

 

                             
                                                                   
  22,514      65,797      10,472      7,985      9,406      116,174   

Rated CRR/EL 9 to 10

Not collateralised

  102      1      21                124   

At 31 December 2014

  22,616      65,798              10,493      7,985      9,406      116,298   

Rated CRR/EL 1 to 8

Not collateralised

  21,225      72,986      6,373      7,210      9,837      117,631   

Fully collateralised

  3,614      1,376                266      5,256   

Partially collateralised (B)

  68      560                     628   

– collateral value on B

  3      389                     392   

 

                             
                                                                   
  24,907      74,922      6,373      7,210      10,103      123,515   

Rated CRR/EL 9 to 10

Not collateralised

  153           312      14           479   

At 31 December 2013

          25,060              74,922      6,685                7,224              10,103            123,994   

For footnote, see page 202.

 

Other credit risk exposures

In addition to collateralised lending, other credit enhancements are employed and methods used to mitigate credit risk arising from financial assets. These are described in more detail below:

 

  some securities issued by governments, banks and other financial institutions benefit from additional credit enhancement provided by government guarantees that cover the assets.

Details of government guarantees are included in Notes 12, 15 and 18 on the Financial Statements.

 

  debt securities issued by banks and financial institutions include ABSs and similar instruments which are supported by underlying pools of financial assets. Credit risk associated with ABSs is reduced through the purchase of credit default swap (‘CDS’) protection.

Disclosure of the Group’s holdings of ABSs and associated CDS protection is provided on page 162.

 

  trading assets include loans and advances held with trading intent. These mainly consist of cash collateral posted to satisfy margin requirements on derivatives, settlement accounts, reverse repos and stock borrowing. There is limited credit risk on cash collateral posted since in the event of default of the counterparty these would be set-off against the related liability. Reverse repos and stock borrowing are by their nature collateralised.

Collateral accepted as security that the Group is permitted to sell or repledge under these arrangements is described in Note 19 on the Financial Statements.

  the Group’s maximum exposure to credit risk includes financial guarantees and similar contracts granted, as well as loan and other credit-related commitments. Depending on the terms of the arrangement, we may have recourse to additional credit mitigation in the event that a guarantee is called upon or a loan commitment is drawn and subsequently defaults. For further information on these arrangements, see Note 37 on the Financial Statements.

Derivatives

HSBC participates in transactions exposing us to counterparty credit risk. Counterparty credit risk is the risk of financial loss if the counterparty to a transaction defaults before satisfactorily settling it. It arises principally from OTC derivatives and securities financing transactions and is calculated in both the trading and non-trading books. Transactions vary in value by reference to a market factor such as interest rate, exchange rate or asset price.

The counterparty risk from derivative transactions is taken into account when reporting the fair value of derivative positions. The adjustment to the fair value is known as the credit value adjustment (‘CVA’).

For an analysis of CVA, see Note 13 on the Financial Statements.

The table below reflects by risk type the fair values and gross notional contract amounts of derivatives cleared through an exchange, central counterparty and non-central counterparty.

 

 

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Notional contract amounts and fair values of derivatives by product type

(Unaudited)

    2014     2013  
    Notional     Fair value     Notional     Fair value  
    amount     Assets     Liabilities     amount     Assets     Liabilities  
    US$m     US$m     US$m     US$m     US$m     US$m  

Foreign exchange

  5,573,415      97,312      95,759      5,291,003      80,914      75,798   

– exchange traded

  81,785      229      369      41,384      121      93   

– central counterparty cleared OTC

  18,567      321      349      16,869      415      622   

– non-central counterparty cleared OTC

  5,473,063      96,762      95,041      5,232,750      80,378      75,083   

Interest rate

  22,328,518      473,243      468,152      27,347,918      458,576      452,531   

– exchange traded

  1,432,333      112      161      857,562      335      225   

– central counterparty cleared OTC

  15,039,001      261,880      264,509      18,753,836      285,390        285,375   

– non-central counterparty cleared OTC

  5,857,184      211,251      203,482      7,736,520      172,851      166,931   

Equity

  568,932      11,694      13,654      589,903      18,389      22,573   

– exchange traded

  289,140      2,318      3,201      274,880      8,403      2,949   

– non-central counterparty cleared OTC

  279,792      9,376      10,453      315,023      9,986      19,624   

Credit

  550,197      9,340      10,061      678,256      9,092      8,926   

– central counterparty cleared OTC

  126,115      1,999      2,111      104,532      1,346      1,409   

– non-central counterparty cleared OTC

  424,082      7,341      7,950      573,724      7,746      7,517   

Commodity and other

  77,565      3,884      3,508      77,842      2,624      1,786   

– exchange traded

  7,015      80      23      6,531      182      6   

– non-central counterparty cleared OTC

  70,550      3,804      3,485      71,311      2,442      1,780   
                                   

Total OTC derivatives

    27,288,354      592,735      587,379      32,804,565      560,554      558,341   

– total OTC derivatives cleared by central counterparties

  15,183,683      264,200      266,968      18,875,237      287,151      287,406   

– total OTC derivatives not cleared by central counterparties

  12,104,671              328,535      320,411      13,929,328      273,403      270,935   

Total exchange traded derivatives

  1,810,273      2,739      3,755      1,180,357      9,041      3,273   

Gross

  29,098,627      595,473              591,134            33,984,922      569,595      561,614   

Offset

  (250,465   (250,465   (287,330   (287,330

Total at 31 December

  345,008      340,669              282,265      274,284   

 

The purposes for which HSBC uses derivatives are described in Note 16 on the Financial Statements.

The International Swaps and Derivatives Association (‘ISDA’) Master Agreement is our preferred agreement for documenting derivatives activity. It provides the contractual framework within which dealing activity across a full range of OTC products is conducted, and contractually binds both parties to apply close-out netting across all outstanding transactions covered by an agreement if either party defaults or another pre-agreed termination event occurs. It is common, and our preferred practice, for the parties to execute a Credit Support Annex (‘CSA’) in conjunction with the ISDA Master Agreement. Under a CSA, collateral is passed between the parties to mitigate the counterparty risk inherent in outstanding positions.

We manage the counterparty exposure arising from market risk on our OTC derivative contracts by using collateral agreements with counterparties and netting agreements. Currently, we do not actively manage our general OTC derivative counterparty exposure in the credit markets, although we may manage individual exposures in certain circumstances.

We have historically placed strict policy restrictions on collateral types and as a consequence the types of collateral received and pledged are, by value, highly liquid and of a strong quality, being predominantly cash.

Where a collateral type is required to be approved outside the collateral policy (which includes collateral that includes wrong way risks), a submission to one of three regional Documentation Approval Committees (‘DAC’s) for approval is required. These DACs require the participation and sign-off of senior representatives from regional Global Markets Chief Operating Officers, Legal and Risk.

The majority of the counterparties with whom we have a collateral agreement are European. The majority of our CSAs are with financial institutional clients.

As a consequence of our policy, the type of agreement we enter into is predominately ISDA CSAs, the majority of which are written under English law. The  table below provides a breakdown of OTC collateral agreements by agreement type:

OTC collateral agreements by type

(Unaudited)

    Number of
    agreements
 

ISDA CSA (English law)

  2,434   

ISDA CSA (New York law)

  1,628   

ISDA CSA (Japanese law)

  18   

French Master Agreement and CSA equivalent15

  227   

German Master Agreement and CSA equivalent16

  90   

Others

  205   

At 31 December 2014

  4,602   

For footnotes, see page 202.

 

 

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See page 130 and Note 32 on the Financial Statements for details regarding legally enforceable right of offset in the event of counterparty default and collateral received in respect of derivatives.

Reverse repos – non-trading by geographical region

Following the change in balance sheet presentation explained on page 347, non-trading reverse repos are presented separately on the face of the balance sheet and are no longer included in ‘Loans

and advances to customers’ and ‘Loans and advances to banks’.

Comparative data have been re-presented accordingly. As a result, any analysis in the Credit Risk section that references loans and advances to customers or banks excludes non-trading reverse repos to customers or banks, respectively. For reference, the amount of non-trading reverse repos to customers and banks is set out below.

 

 

Reverse repos – non-trading by geographical region

(Audited)

  Europe      Asia 4    MENA     

 

North

America

  

  

 

 

Latin

      America

  

  

  Total   
    US$m     US$m           US$m     US$m     US$m     US$m  

With customers

  25,841      5,409           35,060           66,310   

With banks

  34,748      22,813      19      29,008      8,815      95,403   

At 31 December 2014

  60,589      28,222      19      64,068      8,815      161,713   

With customers

  48,091      6,448           33,676           88,215   

With banks

  49,631      12,973      24      23,744      5,103      91,475   

At 31 December 2013

        97,722            19,421      24            57,420      5,103            179,690   

For footnote, see page 202.

 

Personal lending

We provide a broad range of secured and unsecured personal lending products to meet customer needs. Personal lending includes advances to customers for asset purchases such as residential property where the

loans are secured by the assets being acquired. We also offer loans secured on existing assets, such as first liens on residential property, and unsecured lending products such as overdrafts, credit cards and payroll loans.

 

 

Total personal lending

(Unaudited)

  Europe      Asia 4    MENA     

 

North

America

  

  

 

 

Latin

America

  

  

  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

First lien residential mortgages (A)

  131,000      93,147      2,647      55,577      4,153      286,524   
           

Of which:

           

– interest only (including offset)

  44,163      956           276           45,395   

– affordability including ARMs

  337      5,248           16,452           22,037   

Other personal lending (B)

  47,531      36,368      3,924      9,823      9,384      107,030   

– other

  34,567      25,695      2,633      4,328      4,846      72,069   

– credit cards

  12,959      10,289      897      1,050      3,322      28,517   

– second lien residential mortgages

       56      2      4,433           4,491   

– motor vehicle finance

  5      328      392      12      1,216      1,953   

 

                             
                                                                   

Total gross loans at 31 December 2014 (C)

        178,531            129,515              6,571              65,400              13,537            393,554   

Impairment allowances on personal lending

First lien residential mortgages (a)

  306      46      97      1,644      36      2,129   

Other personal lending (b)

  786      208      97      350      1,030      2,471   

– other

  438      87      59      43      672      1,299   

– credit cards

  347      119      33      36      298      833   

– second lien residential mortgages

                 271           271   

– motor vehicle finance

  1      2      5           60      68   

 

                             
                                                                   

Total impairment allowances at 31 December 2014 (c)

  1,092      254      194      1,994      1,066      4,600   

(a) as a percentage of A

  0.2%           3.7%      3.0%      0.9%      0.7%   

(b) as a percentage of B

  1.7%      0.6%      2.5%      3.6%      11.0%      2.3%   

(c) as a percentage of C

  0.6%      0.2%      3.0%      3.0%      7.9%      1.2%   

 

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  Europe      Asia 4    MENA     

 

North

America

  

  

 

 

Latin

America

  

  

  Total   
    US$m     US$m     US$m     US$m     US$m     US$m  

First lien residential mortgages (D)

  140,474      92,047      2,451      60,955      3,948      299,875   
           

Of which:

           

– interest only (including offset)

  49,460      1,115           352           50,927   

– affordability including ARMs

  508      5,593           16,274           22,375   

Other personal lending (E)

  51,633      32,482      4,033      11,735      10,970      110,853   

– other

  37,126      21,636      2,728      5,309      5,651      72,450   

– credit cards

  14,496      10,274      915      1,145      3,526      30,356   

– second lien residential mortgages

       91      2      5,261           5,354   

– motor vehicle finance

  11      481      388      20      1,793      2,693   

 

                             
                                                                   

Total gross loans at 31 December 2013 (F)

        192,107            124,529              6,484              72,690              14,918            410,728   

Impairment allowances on personal lending

First lien residential mortgages (d)

  439      57      124      2,886      32      3,538   

Other personal lending (e)

  959      222      169      532      1,182      3,064   

– other

  553      93      104      59      881      1,690   

– credit cards

  403      127      61      47      217      855   

– second lien residential mortgages

                 426           426   

– motor vehicle finance

  3      2      4           84      93   

 

                             
                                                                   

Total impairment allowances at 31 December 2013 (f)

  1,398      279      293      3,418      1,214      6,602   

(d) as a percentage of D

  0.3%      0.1%      5.1%      4.7%      0.8%      1.2%   

(e) as a percentage of E

  1.9%      0.7%      4.2%      4.5%      10.8%      2.8%   

(f) as a percentage of F

  0.7%      0.2%      4.5%      4.7%      8.1%      1.6%   

For footnote, see page 202.

 

Total personal lending was US$394bn at 31 December 2014, down from US$411bn at the end of 2013 (US$392bn on a constant currency basis). We continued to run-off our CML portfolio in North America and the balance declined by a further US$5.7bn during the year.

Personal lending excluding the US CML run-off portfolio grew by US$7.7bn on a constant currency basis in 2014. This was mainly due to increased mortgage and other lending in Asia and growth in the mortgage portfolio in the US and Brazil. It was partially offset by a reduction in personal lending in UK.

Mortgage lending

(Unaudited)

We offer a wide range of mortgage products designed to meet customer needs, including capital repayment, interest-only, affordability and offset mortgages.

Group credit policy prescribes the range of acceptable residential property LTV thresholds with the maximum upper limit for new loans set at between 75% and 95%.

Specific LTV thresholds and debt-to-income ratios are managed at regional and country levels and, although the parameters must comply with Group policy, strategy and risk appetite, they differ in the various locations in which we operate to reflect the local economic and housing market conditions, regulations, portfolio performance, pricing and other product features.

The commentary that follows is on a constant currency basis

Personal lending excluding the US CML run-off portfolio, mortgage lending balances increased by US$3.9bn during the year. Mortgage lending in Asia, excluding the reclassification to Other Personal lending discussed on page 153, grew by US$4.8bn. The increases were primarily attributable to continued growth in Hong Kong (US$2.9bn) and, to a lesser extent, in Australia (US$0.5bn),

Malaysia (US$0.4bn), and Taiwan (US$0.3bn) as a result of strong demand and competitive customer offerings. The quality of our Asian mortgage book remained high with negligible defaults and impairment allowances. The average LTV ratio on new mortgage lending in Hong Kong was 47% compared with an estimated 29% for the overall portfolio.

In North America, our Canadian mortgage balances increased by US$0.5bn during the year as a result of a focused mortgage campaign and process improvements. The Premier mortgage portfolio in the US also increased by US$0.9bn during 2014 as we continued to focus on growth in our core portfolios. Our business in the US exhibited lower collectively assessed impairment charges due to continued improvement in the credit quality of the mortgage portfolio. The US CML portfolio declined by US$5.7bn in 2014.

Mortgage lending in Brazil increased by US$0.5bn as a result of improvements to both our process and products offered and overall growth in the mortgage market in the country during the year.

In Europe, there was a marginal decline of US$1.4bn or 1% due to decreased lending and effects of repayments, mainly in the UK mortgage portfolio.

Interest-only products made up US$44bn of total UK mortgage lending, including US$19bn of offset mortgages in First Direct. The LTV ratio on new lending was 60% compared with an average of 43.7% for the total mortgage portfolio. The credit quality of our UK mortgage portfolio remained high and both loan impairment charges and delinquency levels declined in 2014.

We grew our mortgage book in France by US$0.6bn in the year due to strong demand.

 

 

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Other personal lending

(Unaudited)

Other personal lending increased by US$3.7bn in 2014. This was driven by growth in personal loans and revolving credit facilities in Asia, mainly in Hong Kong (US$3.1bn). We also reclassified US$1.7bn of loans in mainland China from Residential mortgages to other personal lending as the supporting collateral over some of the properties either under construction or completed was yet to be fully registered. These increases were partially offset by a reduction in credit card lending of US$0.7bn in the UK and US$0.3bn in Turkey, due to repayments. Term lending in North America, primarily Canada, declined by US$0.7bn during the year. There was also a US$0.2bn reduction in the auto finance dealers run off portfolio in Brazil.

HSBC Finance US Consumer and Mortgage Lending – residential mortgages17

(Unaudited)

    2014     2013  
    US$m     US$m  

Residential mortgages:

– first lien

  21,915      27,305   

Other personal lending:

– second lien

  2,509      3,014   

Total (A) at 31 December

          24,424              30,319   

Impairment allowances

  1,679      3,028   

– as a percentage of A

  6.9%      10.0%   

For footnote, see page 202.

HSBC Finance

Mortgage lending balances in HSBC Finance declined by US$5.7bn during 2014. In addition to the continued loan sales in the CML portfolio, we transferred a further US$2.9bn to assets held for sale during the year, and expect to sell these in multiple transactions over the next 12 months.

The decrease in impairment allowances reflected lower levels of both new impaired loans and loan balances outstanding as a result of continued liquidation of the portfolio. This included loan sales and loss estimates due

to lower delinquency and loss severity levels than in 2013.

Across the first and second lien residential mortgages in our CML portfolio, two months and over delinquent balances reduced by US$2.5bn to US$2.4bn during 2014 reflecting the continued portfolio run-off and loan sales.

HSBC Finance: foreclosed properties in the US

(Unaudited)

    2014     2013  
    US$m     US$m  

Number of foreclosed properties at year-end

  2,139      4,254   

Number of properties added to foreclosed inventory in the period

            3,716                9,752   

Average (gain)/loss on sale of foreclosed properties18

  (1%   1%   

Average total loss on foreclosed properties19

  51%      51%   

Average time to sell foreclosed properties (days)

  189      154   

For footnotes, see page 202.

The number of foreclosed properties at 31 December 2014 significantly decreased compared with the end of 2013 as during 2014 more properties were sold than were added to the foreclosed inventory. We added fewer properties to the inventory as many of them were sold prior to taking title as a result of the ongoing sale of receivables from the CML portfolio.

HSBC Bank USA

In HSBC Bank USA, mortgage balances grew by US$0.9bn during 2014 as we implemented our strategy to grow the HSBC Premier customer base. Credit quality improved further during 2014 and balances which were two months and over delinquent in our first lien residential mortgage portfolio declined by US$0.3bn to US$1.1bn at December 2014. We also continued to sell all agency eligible new originations in the secondary market as a means of managing our interest rate risk and improving structural liquidity.

 

 

Trends in two months and over contractual delinquency in the US

(Unaudited)

    2014     2013  
    US$m     US$m  

In personal lending in the US

First lien residential mortgages

  3,271      5,931   

– Consumer and Mortgage Lending

  2,210      4,595   

– other mortgage lending

  1,061      1,336   

Second lien residential mortgages

  216      406   

– Consumer and Mortgage Lending

  154      276   

– other mortgage lending

  62      130   

Credit card

  17      25   

Personal non-credit card

  7      25   

Total at 31 December

            3,511                6,387   
    %     %  

As a percentage of the equivalent loans and receivables balances

First lien residential mortgages

  8.6      14.0   

Second lien residential mortgages

  5.0      8.1   

Credit card

  2.4      3.4   

Personal non-credit card

  1.4      4.9   

Total at 31 December

  8.1      13.1   

 

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Gross loan portfolio of HSBC Finance real estate secured balances

(Unaudited)

  Re-aged 20    

 

Modified

and re-aged

  

  

  Modified     

 

 

Total

renegotiated

loans

  

  

  

 

 

 

Total non-

renegotiated

loans

  

  

  

 

 

 

Total

gross

loans

  

  

  

 

 

 

Total

impairment

allowances

  

  

  

 

 

 

Impairment

allowances/

gross loans

  

  

  

    US$m     US$m     US$m     US$m     US$m     US$m     US$m     %  

At 31 December 2014

  6,637      6,581      587      13,805      10,619      24,424      1,679      7   

At 31 December 2013

  8,167      8,213      768      17,148      13,171      30,319      3,028      10   

For footnote, see page 202.

Number of renegotiated real estate secured accounts remaining in HSBC Finance’s portfolio

(Unaudited)

    Number of renegotiated loans (000s)     Total number  
            Re-aged    

Modified

and re-aged

            Modified                   Total    

of loans

(000s)

 

At 31 December 2014

  85      64      6      155      297   

At 31 December 2013

  102      78      8      188      352   

 

HSBC Finance loan modifications and re-age programmes

HSBC Finance maintains loan modification and re-age (‘loan renegotiation’) programmes in order to manage customer relationships, improve collection opportunities and, if possible, avoid foreclosure.

Since 2006, HSBC Finance has implemented an extensive loan renegotiation programme, and a significant portion of its loan portfolio has been subject to renegotiation at some stage in the life of the customer relationship as a consequence of the economic conditions in the US and the characteristics of HSBC Finance’s customer base.

The volume of loans that qualify for modification has reduced significantly in recent years and we expect this trend to continue. Volumes of new loan modifications are decreasing due to improvements in economic conditions, the cessation of new real estate secured and personal non-credit card receivables originations, and the continued run-off and loan sales in the CML portfolio.

Qualifying criteria

For an account to qualify for renegotiation it must meet certain criteria, and HSBC Finance retains the right to decline a renegotiation. The extent to which HSBC Finance renegotiates accounts that are eligible under its existing policies varies according to its view of prevailing economic conditions and other factors which may change from year to year. In addition, exceptions to policies and practices may be made in specific situations in response to legal or regulatory agreements or orders.

Renegotiated real estate secured are not eligible for a subsequent renegotiation for 12 months, with a maximum of five renegotiations permitted within a five-year period. Borrowers must be approved for a modification and, to activate it, must generally make

two minimum qualifying monthly payments within 60 days. In certain circumstances where the debt has been restructured in bankruptcy proceedings, fewer or no payments may be required. Real estate secured loans involving a bankruptcy and accounts whose borrowers are subject to a Chapter 13 plan filed with a bankruptcy court generally may be considered current upon receipt of one qualifying payment, while accounts whose borrowers have filed for Chapter 7 bankruptcy protection may be re-aged upon receipt of a signed reaffirmation agreement. In addition, some products accounts may be re-aged without receipt of a payment in certain special circumstances (e.g. in the event of a natural disaster or a hardship programme).

2014 compared with 2013

At 31 December 2014, renegotiated real estate secured accounts in HSBC Finance represented 91% (2013: 91%) of North America’s total renegotiated loans. US$8.0bn of renegotiated real estate secured loans were classified as impaired (2013: US$10bn). During 2014, the aggregate number of renegotiated loans in HSBC Finance reduced, due to the run-off and loan sales in the CML portfolio, despite renegotiation activity continuing.

Within the constraints of our Group credit policy, HSBC Finance’s policies allow for multiple renegotiations under certain circumstances. Consequently, a significant proportion of loans included in the table above have undergone multiple re-ages or modifications. In this regard, multiple modifications have remained consistent at 70% to 75% of total modifications.

The accounts that received second or subsequent renegotiations during the year do not appear in the statistics presented. These statistics treat a loan as an addition to the volume of renegotiated loans on its first renegotiation only.

 

 

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Types of loan renegotiation programmes in HSBC Finance

 

•   A temporary modification is a change to the contractual terms of a loan that results in HSBC Finance giving up a right to contractual cash flows over a pre-defined period. With a temporary modification the loan is expected to revert back to the original contractual terms, including the interest rate charged, after the modification period. An example is reduced interest payments.

 

A substantial number of HSBC Finance modifications involve interest rate reductions, which lower the amount of interest income HSBC Finance is contractually entitled to receive in future periods. Historically, modifications were granted for terms as low as six months, although, more recent modifications have a minimum term of two years.

 

Loans that have been re-aged are classified as impaired with the exception of first-time loan re-ages that were less than 60 days past due at the time of re-age. These remain classified as impaired until they have demonstrated a history of payment performance against their original contracted terms for at least 12 months.

 

•   A permanent modification is a change to the contractual terms of a loan that results in HSBC Finance giving up a right to contractual cash flows over the life of the loan. An example is a permanent reduction in the interest rate charged.

 

Permanent or long-term modifications which are due to an underlying hardship event remain classified as impaired for their full life.

 

The term ‘re-age’ describes a renegotiation by which the contractual delinquency status of a loan is reset to current after demonstrating payment performance. The overdue principal and/or interest is deferred and paid at a later date. Loan re-ageing enables customers who have been unable to make a small number of payments to have their loan delinquency status reset to current so that their credit score is not affected by the overdue balances.

 

Loans that have been re-aged remain classified as impaired until they have demonstrated a history of payment performance against the original contractual terms for at least 12 months.

 

A temporary or permanent modification may also lead to a re-ageing of a loan although a loan may be re-aged without any modification to its original terms and conditions.

 

Where loans have been granted multiple concessions, subject to the qualifying criteria discussed above, the concession is deemed to have been made due to concern regarding the

 

 

 

borrower’s ability to pay, and the loan is disclosed as impaired. The loan remains disclosed as impaired from that date forward until the borrower has demonstrated a history of repayment performance for the period of time required for either modifications or re-ages, as described above.

 

Valuation of foreclosed properties in the US

 

We obtain real estate by foreclosing on the collateral pledged as security for residential mortgages. Prior to foreclosure, carrying amounts of the loans in excess of fair value less costs to sell are written down to the discounted cash flows expected to be recovered, including from the sale of the property.

 

Broker price opinions are obtained and updated every 180 days and real estate price trends are reviewed quarterly to reflect any improvement or additional deterioration. Our methodology is regularly validated by comparing the discounted cash flows expected to be recovered based on current market conditions (including estimated cash flows from the sale of the property) to the updated broker price opinion, adjusted for the estimated historical difference between interior and exterior appraisals. The fair values of foreclosed properties are initially determined on the basis of broker price opinions. Within 90 days of foreclosure, a more detailed property valuation is performed reflecting information obtained from a physical interior inspection of the property and additional allowances or write-downs are recorded as appropriate. Updates to the valuation are performed no less than once every 45 days until the property is sold, with declines or increases recognised through changes to allowances.

 

Second lien mortgages in the US

 

The majority of second lien residential mortgages were taken up by customers who held a first lien mortgage issued by a third party. Second lien residential mortgage loans have a risk profile characterised by higher LTV ratios, because in the majority of cases the loans were taken out to complete the refinancing of properties. Loss severity on default of second liens has typically approached 100% of the amount outstanding, as any equity in the property is consumed through the repayment of the first lien loan.

 

Impairment allowances for these loans were determined by applying a roll-rate migration analysis which captures the propensity of these loans to default based on past experience. Once we believe that a second lien residential mortgage loan is likely to progress to write-off, the loss severity assumed in establishing our impairment allowance is close to 100% in the CML portfolios, and more than 80% in HSBC Bank USA.

 

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Report of the Directors: Financial Review (continued)

 

 

Collateral and other credit enhancements held

(Audited)

Loans and advances held at amortised cost

Details of the Group’s practice regarding the use of collateral are provided in the Appendix to Risk on page 213.

The tables below provide a quantification of the value of fixed charges we hold over specific assets where we have a history of enforcing, and are able to enforce,

collateral in satisfying a debt in the event of the borrower failing to meet its contractual obligations, and where the collateral is cash or can be realised by sale in an established market. The collateral valuation excludes any adjustments for obtaining and selling the collateral and, in particular, loans shown as not collateralised or partially collateralised may also benefit from other forms of credit mitigants.

 

 

Residential mortgage loans including loan commitments by level of collateral

(Audited)

 

          Europe      Asia 4            MENA     

 

North

        America

  

  

 

 

Latin

        America

  

  

  Total   
    US$m             US$m     US$m     US$m     US$m             US$m  

Non-impaired loans and advances

Fully collateralised

  135,875      99,257      2,431      43,317      3,759      284,639   

LTV ratio:

                                   

– less than 50%

  66,075      60,315      1,324      14,003      1,454      143,171   

– 51% to 75%

  56,178      31,142      856      20,872      1,777      110,825   

– 76% to 90%

  11,856      6,906      212      5,994      480      25,448   

– 91% to 100%

  1,766      894      39      2,448      48      5,195   

Partially collateralised:

– greater than 100% LTV (A)

  537      99      60      2,209      167      3,072   

– collateral value on A

  532      81      44      1,999      24      2,680   

 

                             
                                                                   
  136,412      99,356      2,491      45,526      3,926      287,711   

Impaired loans and advances

Fully collateralised

  906      256      122      8,618      154      10,056   

LTV ratio:

                                   

– less than 50%

  232      130      53      1,291      103      1,809   

– 51% to 75%

  417      90      29      3,462      35      4,033   

– 76% to 90%

  163      32      19      2,471      10      2,695   

– 91% to 100%

  94      4      21      1,394      6      1,519   

Partially collateralised:

– greater than 100% LTV (B)

  55      7      31      1,395      2      1,490   

– collateral value on B

  40      5      23      1,181      1      1,250   

 

                             
                                                                   
  961      263      153      10,013      156      11,546   

At 31 December 2014

  137,373      99,619      2,644      55,539      4,082      299,257   

Non-impaired loans and advances

Fully collateralised

  146,326      98,332      2,235      44,125      3,749      294,767   

LTV ratio:

                                   

– less than 50%

  55,028      55,479      749      13,172      1,337      125,765   

– 51% to 75%

  66,452      34,370      1,095      20,751      1,715      124,383   

– 76% to 90%

  21,603      6,836      348      6,933      606      36,326   

– 91% to 100%

  3,243      1,647      43      3,269      91      8,293   

Partially collateralised:

– greater than 100% LTV (C)

  1,410      362      42      4,150      59      6,023   

– collateral value on C

  852      307      37      3,681      49      4,926   

 

                             
                                                                   
  147,736      98,694      2,277      48,275      3,808      300,790   

Impaired loans and advances

Fully collateralised

  1,369      254      90      10,128      160      12,001   

LTV ratio:

                                   

– less than 50%

  244      100      15      1,393      97      1,849   

– 51% to 75%

  452      96      31      4,250      47      4,876   

– 76% to 90%

  320      49      34      2,809      13      3,225   

– 91% to 100%

  353      9      10      1,676      3      2,051   

Partially collateralised:

– greater than 100% LTV (D)

  104      17      6      2,548      8      2,683   

– collateral value on D

  91      4      6      2,272      4      2,377   

 

                             
                                                                   
  1,473      271      96      12,676      168      14,684   

At 31 December 2013

  149,209      98,965      2,373      60,951      3,976      315,474   

For footnote, see page 202.

 

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Report of the Directors: Financial Review (continued)

 

 

Supplementary information

Gross loans and advances by industry sector over five years

(Unaudited)

 

    2014    

Currency

translation

adjustment

    Movement     2013     2012     2011     2010  
    US$m     US$m     US$m             US$m             US$m             US$m             US$m  

Personal

  393,554      (19,092   1,918      410,728      415,093      393,625      425,320   

– first lien residential mortgages6

  286,524      (12,372   (979   299,875      301,862      278,963      268,681   

– other personal7

  107,030      (6,720   2,897      110,853      113,231      114,662      156,639   

Corporate and commercial

  540,556      (24,729   22,020      543,265      513,229      472,784      445,505   

– manufacturing

  106,986      (5,856   (1,008   113,850      112,149      96,054      91,121   

– international trade and services

  180,791      (8,232   4,355      184,668      169,389      152,709      146,567   

– commercial real estate

  73,293      (3,270   1,717      74,846      76,760      73,941      71,880   

– other property-related

  52,387      (922   8,477      44,832      40,532      39,539      34,838   

– government

  6,143      (395   (739   7,277      10,785      11,079      8,594   

– other commercial8

  120,956      (6,054   9,218      117,792      103,614      99,462      92,505   

Financial

  50,818      (2,303   2,598      50,523      46,871      44,832      41,213   

– non-bank financial institutions

  48,799      (2,180   2,442      48,537      45,430      43,888      39,651   

– settlement accounts

  2,019      (123   156      1,986      1,441      944      1,562   

Asset-backed securities reclassified

  2,069      (147   (500   2,716      3,891      5,280      5,892   

Total gross loans and advances to customers (A)

  986,997      (46,271   26,036      1,007,232      979,084      916,521      917,930   

Gross loans and advances to banks

  112,198      (4,925   (2,981   120,104      117,142      139,203      142,027   

Total gross loans and advances

      1,099,195      (51,196   23,055      1,127,336      1,096,226      1,055,724      1,059,957   

Impaired loans and advances to customers

  29,283      (1,538   (5,607   36,428      38,671      41,584      46,871   

– as a percentage of A

  3.0%      3.6%      3.9%      4.5%      4.8%   

Impairment allowances on loans and advances to customers

  12,337      (776   (2,030   15,143      16,112      17,511      20,083   

– as a percentage of A

  1.2%      1.5%      1.6%      1.9%      2.2%   

Loan impairment charge

  4,055      (160   (1,833   6,048      8,160      11,505      13,548   

– new allowances net of allowance releases

  5,010      (158   (2,176   7,344      9,306      12,931      14,568   

– recoveries

  (955   (2   343      (1,296   (1,146   (1,426   (1,020

For footnotes, see page 202.

 

The personal lending currency effect on gross loans and advances of US$19bn was made up as follows: Europe US$13bn, Asia US$2.6bn, Latin America US$1.8bn, North America US$1.8bn. The wholesale lending currency effect

on gross loans and advances of US$32bn was made up as follows: Europe US$21bn, Asia US$4.8bn, Latin America US$4.7bn, North America US$1.5bn and Middle East and North Africa US$0.3bn.

 

 

HSBC HOLDINGS PLC

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Report of the Directors: Financial Review (continued)

 

 

Reconciliation of reported and constant currency impaired loans, allowances and charges by geographical region

(Unaudited)

 

 

 

31 Dec 13

as reported

  

  

 

 

 

Currency

translation

adjustment

  

  

21 

 

 

 

 

31 Dec 13

at 31 Dec 14

exchange

rates

  

  

  

  

 
 
 
 
Movement
– constant
currency
basis
  
  
  
  
 

 

31 Dec 14

as reported

  

  

 

 

Reported

change

  

22 

 

 

 

Constant

currency

change

  

  

22 

    US$m     US$m     US$m     US$m     US$m     %     %  

Impaired loans

Europe

  13,228      (1,011   12,217      (1,975   10,242      (23   (16

Asia4

  1,623      (54   1,569      479      2,048      26      31   

Middle East and North Africa

  2,285      (8   2,277      (296   1,981      (13   (13

North America

  15,123      (42   15,081      (3,387   11,694      (23   (22

Latin America

  4,244      (425   3,819      (454   3,365      (21   (12
  36,503      (1,540   34,963      (5,633   29,330      (20   (16

Impairment allowances

Europe

  5,598      (420   5,178      (723   4,455      (20   (14

Asia4

  1,214      (32   1,182      174      1,356      12      15   

Middle East and North Africa

  1,583      (4   1,579      (173   1,406      (11   (11

North America

  4,242      (28   4,214      (1,574   2,640      (38   (37

Latin America

  2,564      (294   2,270      259      2,529      (1   11   
  15,201      (778   14,423      (2,037   12,386      (19   (14

Loan impairment charge

Europe

  1,732      62      1,794      (715   1,079      (38   (40

Asia4

  483      (17   466      178      644      33      38   

Middle East and North Africa

  (44        (44   43      (1   98      98   

North America

  1,235      (15   1,220      (920   300      (76   (75

Latin America

  2,642      (190   2,452      (419   2,033      (23   (17
  6,048      (160   5,888      (1,833   4,055      (33   (31

For footnotes, see page 202.

Reconciliation of reported and constant currency loan impairment charges to the income statement

(Unaudited)

 

 

 

31 Dec 13

as reported

  

  

 

 

 

Currency

translation

adjustment

  

  

21 

 

 

 

 

31 Dec 13

at 31 Dec 14

exchange

rates

  

  

  

  

 

 

 

 

Movement

– constant

currency

basis

  

  

  

  

 

 

31 Dec 14

as reported

  

  

 

 

Reported

change

  

22 

 

 

 

Constant

currency

change

  

  

22 

    US$m     US$m     US$m     US$m     US$m     %     %  

Loan impairment charge

Europe

  1,732      62      1,794      (715   1,079      (38   (40

– new allowances

  3,082      99      3,181      (736   2,445      (21   (23

– releases

  (713   (11   (724   (338   (1,062   (49   (47

– recoveries

  (637   (26   (663   359      (304   52      54   

Asia4

  483      (17   466      178      644      33      38   

– new allowances

  953      (31   922      193      1,115      17      21   

– releases

  (303   8      (295   (23   (318   (5   (8

– recoveries

  (167   6      (161   8      (153   8      5   

Middle East and North Africa

  (44        (44   43      (1   98      98   

– new allowances

  408      (1   407      (52   355      (13   (13

– releases

  (365   2      (363   49      (314   14      13   

– recoveries

  (87   (1   (88   46      (42   52      52   

North America

  1,235      (15   1,220      (920   300      (76   (75

– new allowances

  1,640      (17   1,623      (715   908      (45   (44

– releases

  (282   2      (280   (213   (493   (75   (76

– recoveries

  (123        (123   8      (115   7      7   

Latin America

  2,642      (190   2,452      (419   2,033      (23   (17

– new allowances

  3,262      (243   3,019      (312   2,707      (17   (10

– releases

  (338   34      (304   (29   (333   1      (10

– recoveries

  (282   19      (263   (78   (341   (21   (30

Total

  6,048      (160   5,888      (1,833   4,055      (33   (31

– new allowances

  9,345      (193   9,152      (1,622   7,530      (19   (18

– releases

  (2,001   35      (1,966   (554   (2,520   (26   (28

– recoveries

  (1,296   (2   (1,298   343      (955   26      26   

 

                                  
                                                                  

For footnotes, see page 202.

 

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Report of the Directors: Financial Review (continued)

 

 

Loan impairment charges by industry sector over five years

(Unaudited)

    2014     2013     2012     2011     2010  
    US$m     US$m     US$m     US$m     US$m  

Loan impairment charge/(release)

Personal

  1,803      3,196      5,362      9,318      11,187   

Corporate and commercial

  2,256      2,974      2,802      2,114      2,198   

Financial5

  (4   (122   (4   73      163   

Year ended 31 December

            4,055                6,048                8,160              11,505              13,548   

 

For footnotes, see page 202.

 

Charge for impairment losses as a percentage of average gross loans and advances to customers

(Unaudited)

  

  

  

    2014     2013     2012     2011     2010  
    %     %     %     %     %  

New allowances net of allowance releases

  0.53      0.81      1.00      1.34      1.65   

Recoveries

  (0.10   (0.14   (0.12   (0.15   (0.12

Total charge for impairment losses

          0.43              0.67              0.88              1.19              1.53   

Amount written off net of recoveries

  0.58      0.59      0.93      1.14      2.08   

 

Movement in impairment allowances over five years

(Unaudited)

  

  

    2014     2013     2012     2011     2010  
    US$m     US$m     US$m     US$m     US$m  

Impairment allowances at 1 January

  15,201      16,169      17,636      20,241      25,649   

Amounts written off

  (6,379   (6,655   (9,812   (12,480   (19,300

– personal

  (3,733   (4,367   (6,905   (10,431   (16,458

– corporate and commercial

  (2,425   (2,229   (2,677   (2,009   (2,789

– financial5

  (221   (59   (230   (40   (53

Recoveries of amounts written off in previous years

  955      1,296      1,146      1,426      1,020   

– personal

  818      1,097      966      1,175      846   

– corporate and commercial

  128      198      172      242      156   

– financial5

  9      1      8      9      18   

Loan impairment charge

  4,055      6,048      8,160      11,505      13,548   

Exchange and other movements13

  (1,446   (1,657   (961   (3,056   (676

Impairment allowances at 31 December

  12,386      15,201      16,169      17,636      20,241   

Impairment allowances

– individually assessed

  6,244      7,130      6,629      6,662      6,615   

– collectively assessed

  6,142      8,071      9,540      10,974      13,626   

Impairment allowances at 31 December

      12,386          15,201          16,169          17,636          20,241   

Amount written off net of recoveries as a percentage of average gross loans and advances to customers

  0.6%      0.6%      1.0%      1.2%      2.2%   

For footnotes, see page 202.

 

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Report of the Directors: Financial Review (continued)

 

 

Gross loans and advances to customers by country

(Unaudited)

 

 

 

 

First lien

residential

    mortgages

US$m

  

  

6 

  

 

 

 

Other

      personal7

US$m

  

  

  

 
 
 
      Property-
related
US$m
  
  
  
 
 
 
 
Commercial,
international
trade and other
US$m
  
  
  
  
 

 

Total

            US$m

  

  

Europe

  131,000      47,531      35,313      200,313      414,157   

UK

  123,239      21,023      25,927      156,577      326,766   

France

  2,914      12,820      7,341      21,834      44,909   

Germany

  6      212      304      7,275      7,797   

Switzerland

  298      8,149      225      614      9,286   

Turkey

  645      3,389      297      4,244      8,575   

Other

  3,898      1,938      1,219      9,769      16,824   

Asia

  93,147      36,368      70,057      164,739      364,311   

Hong Kong

  56,656      22,891      52,208      82,362      214,117   

Australia

  9,154      815      2,130      6,360      18,459   

India

  1,235      285      613      5,099      7,232   

Indonesia

  64      469      202      5,476      6,211   

Mainland China

  4,238      1,981      6,606      24,875      37,700   

Malaysia

  5,201      1,750      1,988      5,217      14,156   

Singapore

  9,521      5,878      4,210      11,951      31,560   

Taiwan

  3,920      626      118      7,057      11,721   

Other

  3,158      1,673      1,982      16,342      23,155   

Middle East and North Africa (excluding Saudi Arabia)

  2,647      3,924      2,246      21,633      30,450   

Egypt

  1      510      98      2,272      2,881   

UAE

  2,263      1,782      1,545      13,814      19,404   

Other

  383      1,632      603      5,547      8,165   

North America

  55,577      9,823      15,492      51,535      132,427   

US

  37,937      5,482      11,461      38,632      93,512   

Canada

  16,236      4,085      3,708      11,825      35,854   

Other

  1,404      256      323      1,078      3,061   

Latin America

  4,153      9,384      2,572      29,543      45,652   

Argentina

  15      1,169      93      2,119      3,396   

Brazil

  2,067      5,531      1,077      16,814      25,489   

Mexico

  1,967      2,642      1,336      9,503      15,448   

Other

  104      42      66      1,107      1,319   

 

                        
                                                        

At 31 December 2014

  286,524      107,030      125,680      467,763      986,997   

Europe

  140,474      51,633      38,634      230,932      461,673   

UK

  132,174      22,913      28,127      185,534      368,748   

France

  2,661      13,840      8,442      23,962      48,905   

Germany

  7      218      127      6,361      6,713   

Switzerland

  364      8,616      269      320      9,569   

Turkey

  833      4,002      305      4,059      9,199   

Other

  4,435      2,044      1,364      10,696      18,539   

Asia

  92,047      32,482      61,707      151,875      338,111   

Hong Kong

  53,762      19,794      44,904      75,547      194,007   

Australia

  9,468      1,236      2,511      7,138      20,353   

India

  1,080      297      425      4,231      6,033   

Indonesia

  69      447      78      5,361      5,955   

Mainland China

  4,880      300      5,808      22,149      33,137   

Malaysia

  5,140      1,994      1,997      5,420      14,551   

Singapore

  10,283      5,754      3,953      12,188      32,178   

Taiwan

  3,797      660      158      5,198      9,813   

Other

  3,568      2,000      1,873      14,643      22,084   

Middle East and North Africa (excluding Saudi Arabia)

  2,451      4,033      1,972      20,320      28,776   

Egypt

  1      477      146      2,232      2,856   

UAE

  2,082      1,842      1,331      12,344      17,599   

Other

  368      1,714      495      5,744      8,321   

North America

  60,955      11,735      14,616      44,884      132,190   

US

  42,317      6,257      10,174      30,952      89,700   

Canada

  17,036      5,116      3,912      13,079      39,143   

Other

  1,602      362      530      853      3,347   

Latin America

  3,948      10,970      2,749      28,815      46,482   

Argentina

  20      1,425      62      2,103      3,610   

Brazil

  1,811      6,466      1,268      17,132      26,677   

Mexico

  2,117      3,079      1,398      8,994      15,588   

Other

            21      586      607   

 

                        
                                                        

At 31 December 2013

  299,875      110,853      119,678      476,826      1,007,232   

For footnotes, see page 202.

 

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Report of the Directors: Financial Review (continued)

 

 

The above tables analyse loans and advances by industry sector and by the location of the principal operations of the lending subsidiary or, in the case of the operations of The Hongkong and Shanghai Banking Corporation, HSBC Bank, HSBC Bank Middle East and HSBC Bank USA, by the location of the lending branch.

HSBC Holdings

(Audited)

Risk in HSBC Holdings is overseen by the HSBC Holdings Asset and Liability Management Committee (‘HALCO’). The major risks faced by HSBC Holdings are credit risk, liquidity risk and market risk (in the form of interest rate risk and foreign exchange risk), of which the most significant is credit risk.

Credit risk in HSBC Holdings primarily arises from transactions with Group subsidiaries and from guarantees issued in support of obligations assumed

by certain Group operations in the normal conduct of their business. It is reviewed and managed within regulatory and internal limits for exposures by our Global Risk function, which provides high-level centralised oversight and management of credit risks worldwide.

HSBC Holdings’ maximum exposure to credit risk at 31 December 2014 is shown below. Its financial assets principally represent claims on Group subsidiaries in Europe and North America.

All the derivative transactions are with HSBC undertakings that are banking counterparties (2013: 100%) and for which HSBC Holdings has in place master netting arrangements. Since 2012, the credit risk exposure has been managed on a net basis and the remaining net exposure is specifically collateralised in the form of cash.

 

 

HSBC Holdings – maximum exposure to credit risk

(Audited)

    2014     2013  
   

    Maximum

exposure

              Offset         Exposure to
credit risk
(net)
        Maximum
exposure
              Offset         Exposure
to credit
risk (net)
 
    US$m     US$m     US$m     US$m     US$m     US$m  

Cash at bank and in hand:

– balances with HSBC undertakings

  249           249      407           407   

Derivatives

  2,771      (2,610   161      2,789      (2,755   34   

Loans and advances to HSBC undertakings

  43,910           43,910      53,344           53,344   

Financial investments in HSBC undertakings

  4,073           4,073      1,210           1,210   

Financial guarantees and similar contracts

  52,023           52,023      52,836           52,836   

Loan and other credit-related commitments

  16           16      1,245           1,245   

At 31 December

  103,042      (2,610   100,432      111,831      (2,755   109,076   

 

The credit quality of loans and advances and financial investments, both of which consist of intra-Group lending, is assessed as ‘strong’ or ‘good’, with 100% of  the exposure being neither past due nor impaired (2013: 100%).

Securitisation exposures and other structured products

(Audited)

This section contains information about our exposure to asset-backed securities (‘ABS’s), some of which are held through consolidated structured entities and are summarised in the table below.

A summary of the nature of HSBC’s exposures is provided in the Appendix to Risk on page 214.

Overall exposure of HSBC

(Audited)

    Carrying amount23  
    2014     2013  
          US$bn           US$bn  

Asset-backed securities

  48.9      50.1   

– fair value through profit or loss

  3.6      3.1   

– available for sale24

  29.7      42.7   

– held to maturity24

  13.4      1.1   

– loans and receivables

  2.2      3.2   

 

         
                       

At 31 December

  48.9      50.2   

For footnotes, see page 202.

The following table summarises the carrying amount of our ABS exposure by categories of collateral and includes assets held in the GB&M legacy credit portfolio with a carrying value of US$23bn (2013: US$28bn).

At 31 December 2014, the available-for-sale reserve in respect of ABSs was a deficit of US$777m (2013: deficit of US$1,643m). For 2014, the impairment write-back in respect of ABSs was US$276m (2013: write-back of US$289m).

 

 

 

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Report of the Directors: Financial Review (continued)

 

 

Carrying amount of HSBC’s consolidated holdings of ABSs23

(Audited)

            Trading    

      Available

for sale

   

Held to

        maturity

   

Designated

at fair value

through

profit or loss

    Loans and
  receivables
              Total    

Of which

held through

consolidated

SEs

 
    US$m     US$m     US$m     US$m     US$m     US$m     US$m  

Mortgage-related assets:

Sub-prime residential

  122      3,081                308      3,511      2,075   

US Alt-A residential

  96      3,022      11           110      3,239      2,411   

US Government agency and sponsored enterprises:

MBSs

  82      10,401      13,436                23,919        

Other residential

  928      1,220                330      2,478      652   

Commercial property

  654      3,627                516      4,797      2,854   

Leveraged finance-related assets

  172      3,660                218      4,050      2,526   

Student loan-related assets

  242      3,545                119      3,906      3,284   

Other assets

  1,264      1,114           19      646      3,043      758   

At 31 December 2014

  3,560      29,670      13,447      19      2,247      48,943      14,560   

Mortgage-related assets:

Sub-prime residential

  178      2,977                403      3,558      2,782   

US Alt-A residential

  101      3,538      18           134      3,791      2,926   

US Government agency and sponsored enterprises:

MBSs

  178      18,661      1,110                19,949        

Other residential

  618      1,925                399      2,942      1,513   

Commercial property

  133      5,667           104      669      6,573      5,146   

Leveraged finance-related assets

  294      5,011                251      5,556      4,310   

Student loan-related assets

  196      3,705                121      4,022      3,495   

Other assets

  1,271      1,265           34      1,186      3,756      989   

At 31 December 2013

  2,969      42,749      1,128      138      3,163      50,147      21,161   

For footnote, see page 202.

 

Representations and warranties related to mortgage sales and securitisation activities

(Unaudited)

We have been involved in various activities related to the sale and securitisation of residential mortgages that are not recognised on our balance sheet. These activities include:

 

  the purchase of US$24bn of third-party originated mortgages by HSBC Bank USA and their securitisation by HSBC Securities (USA) Inc. (‘HSI’) between 2005 and 2007;

 

  HSI acting as underwriter for the third-party issuance of private label mortgage-backed securities (‘MBS’s) with an original issuance value of US$37bn, most of which were sub-prime; and

 

  the origination and sale by HSBC Bank USA of mortgage loans, primarily to government-sponsored entities.

In selling and securitising mortgage loans, various representations and warranties may be made to purchasers of the mortgage loans and MBSs. When purchasing and securitising mortgages originated by third parties and underwriting third-party MBSs, the obligation to repurchase loans in the event of a breach of loan level representations and warranties resides predominantly with the organisation that originated the loan.

Participants in the US mortgage securitisation market that purchased and repackaged whole loans, such as

servicers, originators, underwriters, trustees or sponsors of securitisations, have been the subject of lawsuits and governmental and regulatory investigations and inquiries.

At 31 December 2014, a liability of US$27m (2013: US$99m) was recognised in respect of various representations and warranties regarding the origination and sale by HSBC Bank USA of mortgage loans, primarily to government sponsored entities. These relate to, among other things, the ownership of the loans, the validity of the liens, the loan selection and origination process and compliance with the origination criteria established by the agencies. In the event of a breach of its representations and warranties, HSBC Bank USA may be obliged to repurchase the loans with identified defects or to indemnify the buyers. The estimated liability was based on the level of outstanding repurchase demands, the level of outstanding requests for loan files and the expected future repurchase demands in respect of mortgages sold to date which were either two or more payments delinquent or might become delinquent at an estimated conversion rate. Repurchase demands of US$3m were outstanding at 2014 (2013: US$44m).

For further information on legal proceedings and regulatory matters, see Note 40 on the Financial Statements.

 

 

 

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Report of the Directors: Financial Review (continued)

 

 

Upon receipt of a repurchase demand, we perform a detailed evaluation of the request. In many cases, we ultimately are not required to repurchase a loan as we are able to resolve the purported defect. From initial inquiry to ultimate resolution, a typical case takes roughly 12 months. Acceptance of a repurchase demand will involve either a) repurchase of the loan at the unpaid principal balance plus accrued interest or b) reimbursement for any realised loss on the sale of a property (‘make-whole’ payment).

To date, repurchase demands we have received primarily relate to prime loans sourced during 2004 through 2008 from the legacy broker channel which we exited from in late 2008.

The outstanding repurchase demands and movement in repurchase liabilities are as follows:

 

 

Outstanding repurchase demands received from GSEs and other third parties

 

   

2014

        US$m

   

2013

        US$m

 

GSEs

  2      41   

Others

  1      3   

At 31 December

  3      44   

 

Movement in repurchase liability for loans sold to GSEs and other third parties

 

  

   

2014

        US$m

   

2013

        US$m

 

At 1 January

  99      219   

Increase/(decrease) in liability recorded through earnings

  (41   21   

Realised losses

  (31   (141

At 31 December

  27      99   

 

Because the level of mortgage loan repurchase losses are dependent upon economic factors, investor demand strategies and other external risk factors such as housing market trends that may change, the estimate of the liability for a mortgage loan repurchase requires significant judgement. Because these estimates are influenced by factors outside our control, there is uncertainty inherent in them, making it reasonably possible that the estimates could change.

Risk elements in the loan portfolio

(Unaudited)

The disclosure of credit risk elements in this section reflects US accounting practice and classifications. The purpose of the disclosure is to present within the US disclosure framework those elements of the loan portfolios with a greater risk of loss. The three main classifications of credit risk elements presented are:

 

  impaired loans;

 

  unimpaired loans contractually more than 90 days past due as to interest or principal; and

 

  troubled debt restructurings not included in the above.

Interest foregone on impaired and restructured loans

Interest income that would have been recognised under the original terms of impaired and restructured loans amounted to approximately US$2.2bn in 2014 (2013: US$2.5bn). The table below analyses this by geographic region.

                US$m                    US$m  

Europe

  218        214   

Asia

  113        92   

Middle East and North Africa

  135        147   

North America

  1,350        1,667   

Latin America

  411        421   

Year ended 31 December

      2,227          2,541   

 

Interest recognised on impaired and restructured loans

 

Interest income from such loans of approximately US$1.6bn was recorded in 2014 (2013: US$1.7bn). The table below analyses this by geographical region.

 

   

    

    2014       2013  
        US$m           US$m  

Europe

  112        97   

Asia

  38        42   

Middle East and North Africa

  40        28   

North America

  995        1,087   

Latin America

  284        410   

Year ended 31 December

  1,469        1,664   

Impaired loans

In the following tables, we present information on our impaired loans and advances in accordance with the classification approach described on page 137 .

A loan is impaired, and an impairment allowance is recognised, when there is objective evidence of a loss event that has an effect on the cash flows of the loan which can be reliably estimated. In accordance with IFRSs, we recognise interest income on assets after they have been written down as a result of an impairment loss.

 

 

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Report of the Directors: Financial Review (continued)

 

 

The balance of impaired loans at 31 December 2014 was US$7.2bn lower than at 31 December 2013. This reduction occurred primarily in North America due to the continued run-off of the CML portfolio, partly offset by increases in individually assessed impaired balances in Asia.

Unimpaired loans more than 90 days past due

Examples of unimpaired loans more than 90 days past due include individually assessed mortgages that are in arrears more than 90 days where there are no other indicators of impairment, but where the value of collateral is sufficient to repay both the principal debt and all potential interest for at least one year; and short-term trade facilities past due more than 90 days for technical reasons such as delays in documentation, but where there is no concern over the creditworthiness of the counterparty.

The amount of unimpaired loans more than 90 days past due at 31 December 2014 was US$72m, US$55m lower than at 31 December 2013.

Troubled debt restructurings

Under US GAAP, a troubled debt restructuring (‘TDR’) is a loan the terms of which have been modified for economic or legal reasons related to the borrower’s financial difficulties to grant a concession to the borrower that the lender would not otherwise consider. A modification which results in a delay in payment that is considered insignificant is not regarded as a concession for the purposes of this disclosure. The SEC requires separate disclosure of any loans which meet the definition of a TDR that are not included in the previous two loan categories. These are classified as TDRs in the table on page 162(a). Loans that have been identified as a TDR under the US guidance retain this designation until maturity or derecognition.

The balance of TDRs not included as impaired loans at 31 December 2014 was US$253m lower than at 31 December 2013. The decrease was mainly in North America and reflects the continued run off and loan sales in the CML portfolio. This was partly offset by an increase in the Middle East and North Africa and Europe.

Potential problem loans

Potential problem loans are loans where information on possible credit problems among borrowers causes management to seriously doubt their ability to comply with the loan repayment terms. The following concentrations of credit risk have a higher risk of containing potential problem loans.

‘Total Personal lending’ on page 151 includes disclosure about certain homogeneous groups of loans, including interest-only mortgages and ARMs, which are collectively assessed for impairment. Collectively assessed loans and advances approach, as described on page 137, although typically not classified as impaired until more than 90 days past due, are assessed collectively for losses that have been incurred but have not yet been individually identified. This policy is further described on pages 212 and 351.

‘Renegotiated loans and forbearance’ on page 138 includes disclosure about the credit quality of loans whose contractual terms have been changed at some point in the life of the loan because of significant concerns about the borrower’s ability to make contractual payments when due. Renegotiated loans are classified as impaired when:

 

  there has been a change in contractual cash flow as a result of a concession which the lender would otherwise not consider; and

 

  it is probable that without the concession, the borrower would be unable to meet contractual payment obligations in full.

This presentation applies unless the concession is insignificant and there are no other indicators of impairment. The renegotiated loan will continue to be disclosed as impaired until there is sufficient evidence to demonstrate a significant reduction in the risk of non-repayment of future cash flows, and there are no other indicators of impairment. Refer to page 155 for further details on renegotiated loans within HSBC Finance.

Renegotiated loans that are not classified as impaired may have a higher risk of becoming delinquent in the future, and may therefore be potential problem loans. Further information regarding the credit quality classification of renegotiated loans can be found on page 209 .

Areas of special interest’ on page 126 includes information on Oil and Gas, Russia and Greece.

Refinancing risk in the commercial real estate sector is a separate area of focus and is covered on page 146.

 

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Analysis of risk elements in the loan portfolio by geographical region

(Unaudited)

   

2014

US$m

   

2013

US$m

   

2012

US$m

   

2011

US$m

   

2010

US$m

 

Impaired loans

Europe

  10,242      13,228      11,145      11,819      11,500   

Asia

  2,048      1,623      1,624      1,678      1,989   

Middle East and North Africa

  1,981      2,285      2,474      2,445      2,549   

North America

  11,694      15,123      20,345      22,758      27,902   

Latin America

  3,365      4,244      3,188      3,039      3,124   
        29,330            36,503            38,776            41,739            47,064   

Unimpaired loans contractually more than 90 days past due as to principal or interest

Europe

  6      25      33      41      65   

Asia

  1      33      14      24      47   

Middle East and North Africa

  59      56      108      214      263   

North America

  3      13      69      74      265   

Latin America

  3                10      3   
  72      127      224      363      643   

Troubled debt restructurings (not included in the classifications above)

Europe

  1,652      1,427      1,306      753      591   

Asia

  267      277      236      230      403   

Middle East and North Africa

  778      406      593      444      141   

North America

  3,932      4,643      3,813      2,300      1,970   

Latin America

  353      482      1,001      1,037      1,274   
  6,982      7,235      6,949      4,764      4,379   

Trading loans classified as in default

North America

  4      133      166      230      412   

Risk elements on loans61

Europe

  11,900      14,680      12,484      12,613      12,157   

Asia

  2,316      1,933      1,874      1,932      2,439   

Middle East and North Africa

  2,818      2,747      3,175      3,103      2,953   

North America

  15,633      19,912      24,393      25,362      30,549   

Latin America

  3,721      4,726      4,189      4,086      4,401   
  36,388      43,998      46,115      47,096      52,499   

Assets held for resale62

Europe

  29      46      51      60      47   

Asia

  14      10      19      14      7   

Middle East and North Africa

                      2   

North America

  186      370      319      359      1,084   

Latin America

  16      27      55      69      121   
  245      453      444      502      1,261   

Total risk elements

Europe

  11,929      14,726      12,535      12,673      12,204   

Asia

  2,330      1,943      1,893      1,946      2,446   

Middle East and North Africa

  2,818      2,747      3,175      3,103      2,955   

North America

  15,819      20,282      24,712      25,721      31,633   

Latin America

  3,737      4,753      4,244      4,155      4,522   

At 31 December

  36,633      44,451      46,559      47,598      53,760   
    %     %     %     %     %  

Loan impairment allowances as a percentage of risk elements on loans63

  34.0      34.7      35.2      37.6      38.9   

For footnotes, see page 202.

 

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Report of the Directors: Financial Review (continued)

 

 

Country distribution of outstandings and cross-border exposures

(Unaudited)

We control the risk associated with cross-border lending through a centralised structure of internal country limits. Exposures to individual countries and cross-border exposure in the aggregate are kept under continual review.

The following table summarises the aggregate of our in-country foreign currency and cross-border outstandings by type of borrower to countries which individually

represent in excess of 0.75% of our total assets. The classification is based on the country of residence of the borrower but also recognises the transfer of country risk in respect of third-party guarantees, eligible collateral held and residence of the head office when the borrower is a branch. In accordance with the Bank of England Country Exposure Report (Form CE) guidelines, outstandings comprise loans and advances (excluding settlement accounts), amounts receivable under finance leases, acceptances, commercial bills, certificates of deposit (‘CD’s) and debt and equity securities (net of short positions), and exclude accrued interest and intra-HSBC exposures.

 

 

In-country foreign currency and cross-border amounts outstanding

(Unaudited)

    Banks    

Government

and official

institutions

    Other     Total  
            US$bn     US$bn             US$bn             US$bn  

At 31 December 2014

US

  6.8      30.3      32.4      69.5   

Mainland China

  26.5      5.7      28.5      60.7   

UK

  24.0      8.3      41.8      74.2   

Germany

  7.7      26.6      6.7      41.0   

Hong Kong

  8.1      0.4      29.0      37.5   

Japan64

  9.0      15.7      12.2      36.9   

France

  7.3      3.1      11.6      22.1   

At 31 December 2013

US

  10.0      2.3      42.5      54.8   

UK

  5.9      34.3      24.5      64.7   

Mainland China

  28.8      6.9      19.3      55.0   

Germany

  10.0      12.9      31.9      54.8   

France

  12.8      21.1      5.6      39.5   

Hong Kong

  10.9      0.7      26.5      38.1   

Japan64

  7.2      14.8      7.0      29.0   

Ireland64

  6.2      8.7      11.2      26.1   

At 31 December 2012

UK

  5.9      37.9      14.7      58.5   

US

  18.0      2.8      34.7      55.5   

Mainland China

  23.4      3.3      16.0      42.7   

Japan

  11.6      15.9      10.2      37.7   

France

  12.8      11.3      13.2      37.3   

Hong Kong

  8.3      1.0      21.3      30.6   

Germany

  6.7      16.8      1.6      25.1   

Ireland

  0.8      0.1      19.5      20.4   

For footnote, see page 202.

 

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Liquidity and funding

 

        

 

Page

 

         

 

App1

 

         

 

Tables

 

  

 

Page  

 

 
 

Liquidity and funding

     164              215                      
 

Primary sources of funding

                   215                      
 

Liquidity and funding in 2014

     164                                    
 

Customer deposit markets

     164                                    
 

Wholesale senior funding markets

     164                                    
 

Liquidity regulation

     164                                    
 

Management of liquidity and funding risk

     165              215                      
 

Inherent liquidity risk categorisation

                   215                      
 

Core deposits

                   216                      
 

Advances to core funding ratio

     165              216           

Advances to core funding ratios

     165   
 

Stressed coverage ratios

     165              216           

Stressed one-month and three-month coverage ratios

     165   
 

Stressed scenario analysis

                   216                      
 

Liquid assets of HSBC’s principal operating entities

     166              217           

Liquid assets of HSBC’s principal entities

     166   
 

Net contractual cash flows

     166              217           

Net cash inflows/(outflows) for inter-bank loans and intra-group deposits and reverse repo, repo and short positions

     167   
 

Wholesale debt monitoring

                   218                      
 

Liquidity behaviouralisation

                   218                      
 

Funds transfer pricing

                   219                      
 

Contingent liquidity risk arising from committed lending facilities

     167                         

The Group’s contractual undrawn exposures monitored under the contingent liquidity risk limit structure

     167   
 

Sources of funding

     168                                    
 

Repos and stock lending

                   219           

Funding sources and uses

     168   
 

Cross-border intra-Group and cross-currency liquidity and funding risk

     169                         

Advances to core funding ratios by material currency

     169   
 

Wholesale term debt maturity profile

     169                         

Wholesale funding cash flows payable by HSBC under financial  liabilities by remaining contractual maturities

     170   
 

Encumbered and unencumbered assets

     171              220           

Summary of assets available to support potential future funding and collateral needs (on and off-balance sheet)

     171   
 

Collateral

     171                                    
 

The effect of active collateral management

                   220                      
 

Off-balance sheet collateral received and pledged for reverse repo, stock borrowing and derivative transactions

     171                                    
 

Analysis of on-balance sheet encumbered and unencumbered assets

     171                         

Analysis of on-balance sheet encumbered and unencumbered assets

     172   
 

Additional contractual obligations

     173                                    
 

Contractual maturity of financial liabilities

     173                         

Cash flows payable by HSBC under financial liabilities by remaining contractual maturities

     173   
 

Management of cross-currency liquidity and funding risk

                   221                      
 

HSBC Holdings

     174              221           

Cash flows payable by HSBC Holdings under financial liabilities  by remaining contractual maturities

     174   
 

1 Appendix to Risk – risk policies and practices.

                 

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Liquidity and funding

Liquidity risk is the risk that the Group does not have sufficient financial resources to meet its obligations as they fall due, or will have to do so at an excessive cost. The risk arises from mismatches in the timing of cash flows.

There were no material changes to our policies and practices for the management of liquidity and funding risks in 2014.

Following the change in balance sheet presentation explained on page 347, the advances to deposits ratio now excludes non-trading reverse repos and repos with customers. The change had no effect on the 31 December 2013 ratio as disclosed.

A summary of our current policies and practices regarding liquidity and funding is provided in the Appendix to Risk on page 215.

 

 

Our liquidity and funding risk management framework

 

The objective of our liquidity framework is to allow us to withstand very severe liquidity stresses. It is designed to be adaptable to changing business models, markets and regulations.

 

Our liquidity and funding risk management framework requires:

 

•   liquidity to be managed by operating entities on a stand-alone basis with no implicit reliance on the Group or central banks;

 

•   all operating entities to comply with their limits for the advances to core funding ratio; and

 

•   all operating entities to maintain a positive stressed cash flow position out to three months under prescribed Group stress scenarios.

 

Liquidity and funding in 2014

(Unaudited)

The liquidity position of the Group strengthened in 2014, and we continued to enjoy strong inflows of customer deposits and maintained good access to wholesale markets. Customer accounts increased by 4% (US$47bn) on a constant currency basis. On a reported basis, customer account balances decreased marginally by 1% (US$11bn). Loans and advances to customers increased by 3% (US$28bn) on a constant currency basis. On a reported basis, loans and advances to customers decreased by 2% (US$17bn). These changes resulted in a small decrease in our advances to deposits ratio to 72% (2013:73%)

HSBC UK recorded a decrease in its advances to core funding (‘ACF’) ratio to 97% at 31 December 2014 (2013: 100%), mainly because core deposits increased more than advances, and due to the disposal of legacy assets.

The Hongkong and Shanghai Banking Corporation recorded an increase in its ACF ratio to 75% at 31 December 2014 (2013: 72%), mainly because advances increased more than core deposits.

HSBC USA recorded an increase in its ACF ratio to 100% at 31 December 2014 (2013: 85%), mainly because of growth in customer advances.

HSBC UK, The Hongkong and Shanghai Banking Corporation and HSBC USA are defined in footnotes 26 to 28 on page 202. The ACF ratio is discussed on page 216.

Customer deposit markets

(On constant currency basis)

Retail Banking and Wealth Management

RBWM customer account balances increased by 4%, driven by our two home markets of the UK and Hong Kong and the majority of our priority growth markets.

Commercial Banking

Customer accounts increased by 7% in 2014, driven by growth in Payments and Cash Management accounts in our two home markets.

Global Banking and Markets

Customer accounts increased by 2% in 2014, mainly from a rise in Payments and Cash Management accounts.

Global Private Banking

GPB customer account balances decreased by 10% compared with the end of 2013 following the continued repositioning of the GPB business and a client portfolio disposal.

Wholesale senior funding markets

Conditions in the bank wholesale debt markets were generally positive in 2014, supporting increased primary market issuance volumes across the capital structure from banks when compared with 2013. Periods of volatility remained, however, particularly during the latter months of the year when concerns around the decline in the oil price and growth in Europe combined with a variety of other factors to leave the outlook uncertain, with market confidence affected as a result.

In 2014, we issued the equivalent of US$20bn (2013: US$16bn) of senior term debt securities in the public capital markets in a range of currencies and maturities from a number of Group entities.

Liquidity regulation

(Unaudited)

The European adoption of the Basel Committee framework (legislative texts known as the Capital Requirements Regulation and Directive – ‘CRR/CRD IV’) was published in June 2013, and required the reporting of the liquidity coverage ratio (‘LCR’) and the net stable funding ratio (‘NSFR’) to European regulators from January 2014, which was subsequently delayed until 30 June 2014. A significant level of interpretation has been required to report and calculate the LCR as defined in the CRR text as certain areas were only addressed by the finalisation of the LCR delegated act in January 2015, which will not become a regulatory standard until 1 October 2015. The European calibration of NSFR is still pending following the Basel Committee’s final recommendation in October 2014.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Management of liquidity and funding risk

(Audited)

Our liquidity and funding risk management framework (‘LFRF’) employs two key measures to define, monitor and control the liquidity and funding risk of each of our operating entities. The ACF ratio is used to monitor the structural long-term funding position, and the stressed coverage ratio, incorporating Group-defined stress scenarios, is used to monitor the resilience to severe liquidity stresses.

The three principal entities listed in the tables below represented 66% (2013: 66%) of the Group’s customer accounts. Including the other principal entities, the percentage was 95% (2013: 94%).

Advances to core funding ratio

The table to the right shows the extent to which loans and advances to customers in our principal banking entities were financed by reliable and stable sources of funding.

ACF limits set for principal operating entities at 31 December 2014 ranged between 80% and 120%.

Core funding represents the core component of customer deposits and any term professional funding with a residual contractual maturity beyond one year. Capital is excluded from our definition of core funding.

Stressed coverage ratios

The ratios tabulated below express stressed cash inflows as a percentage of stressed cash outflows over both one-month and three-month time horizons. Operating entities are required to maintain a ratio of 100% or greater out to three months.

Inflows included in the numerator of the stressed coverage ratio are generated from liquid assets net of

assumed haircuts, and cash inflows related to assets contractually maturing within the time period.

In general, customer advances are assumed to be renewed and as a result do not generate a cash inflow.

Advances to core funding ratios25

(Audited)

 

At 31 December

 
            2014             2013  
    %     %  

HSBC UK26

Year-end

  97      100   

Maximum

  102      107   

Minimum

  97      100   

Average

  100      104   

The Hongkong and Shanghai Banking Corporation27

Year-end

  75      72   

Maximum

  75      77   

Minimum

  72      70   

Average

  74      74   

HSBC USA28

Year-end

  100      85   

Maximum

  100      85   

Minimum

  85      78   

Average

  95      82   

Total of HSBC’s other principal entities29

Year-end

  92      93   

Maximum

  94      93   

Minimum

  92      89   

Average

  93      91   

For footnotes, see page 202.

The one-month stressed coverage ratio for HSBC UK increased as certain assets previously treated as realisable under stress between 1 and 3 months were reassessed as being either realisable within 1 month or beyond 3 months. The three-month stressed coverage ratio remained broadly unchanged.

The stressed coverage ratios for the other entities remained broadly unchanged.

 

Stressed one-month and three-month coverage ratios25

(Audited)

 

Stressed one-month coverage

ratios at 31 December

Stressed three-month coverage

ratios at 31 December

            2014             2013               2014             2013    
    %     %       %     %    

HSBC UK26

Year-end

  117      106      109      109   

Maximum

  117      114      109      109   

Minimum

  102      100      103      101   

Average

  107      106      104      103   

The Hongkong and Shanghai Banking Corporation27

Year-end

  117      119      112      114   

Maximum

  119      131      114      126   

Minimum

  114      113      111      109   

Average

  116      119      112      114   

HSBC USA28

Year-end

  111      114      104      110   

Maximum

  122      126      111      119   

Minimum

  108      110      104      109   

Average

  115      115      107      112   

Total of HSBC’s other principal entities29

Year-end

  121      121      108      114   

Maximum

  121      128      115      119   

Minimum

  114      113      108      109   

Average

  117      120      110      113   

For footnotes, see page 202.

 

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Report of the Directors: Financial Review (continued)

 

 

Liquid assets of HSBC’s principal operating entities

The table below shows the estimated liquidity value (before assumed haircuts) of assets categorised as liquid and used for the purposes of calculating the three-month stressed coverage ratios, as defined under the LFRF.

The level of liquid assets reported reflects the stock of unencumbered liquid assets at the reporting date, adjusted for the effect of reverse repo, repo and collateral swaps maturing within three months as the liquidity value of these transactions is reflected as a contractual cash flow reported in the net contractual cash flow table.

Like reverse repo transactions with residual contractual maturities within three months, unsecured interbank

loans maturing within three months are not included in liquid assets, but are treated as contractual cash inflows.

Liquid assets are held and managed on a stand-alone operating entity basis. Most of the liquid assets shown are held directly by each operating entity’s Balance Sheet Management function, primarily for the purpose of managing liquidity risk, in line with the LFRF.

Liquid assets also include any unencumbered liquid assets held outside Balance Sheet Management for any other purpose. The LFRF gives ultimate control of all unencumbered assets and sources of liquidity to Balance Sheet Management.

For a summary of our liquid asset policy and definitions of the classifications shown in the table below, see the Appendix to Risk on page 217.

 

 

Liquid assets of HSBC’s principal entities

(Audited)

  Estimated liquidity value30   
        31 December
2014
        31 December
2013
 
    US$m     US$m  

HSBC UK26

Level 1

  131,756      168,877   

Level 2

  4,688      1,076   

Level 3

  66,011      63,509   
  202,455      233,462   

The Hongkong and Shanghai Banking Corporation27

Level 1

  109,683      108,713   

Level 2

  4,854      5,191   

Level 3

  7,043      7,106   
  121,580      121,010   

HSBC USA28

Level 1

  51,969      43,446   

Level 2

  15,184      12,709   

Level 3

  197      5,044   

Other

  9,492      8,000   
  76,842      69,199   

Total of HSBC’s other principal entities29

Level 1

  141,659      144,774   

Level 2

  10,419      12,419   

Level 3

  13,038      13,663   
  165,116      170,856   

For footnotes, see page 202.

 

All assets held within the liquid asset portfolio are unencumbered.

Liquid assets held by HSBC UK decreased as a result of switching from central bank reserves to short-term reverse repo placements. A corresponding improvement can be seen in HSBC UK’s net repo cash flow shown in the net contractual cash flow table.

Liquid assets held by The Hongkong and Shanghai Banking Corporation remained broadly unchanged.

Liquid assets held by HSBC USA increased, mainly due to a reduction in short-term repos and the reclassification of some assets as liquid in line with the LFRF.

Net contractual cash flows

The following table quantifies the contractual cash flows from interbank and intra-Group loans and deposits, and

reverse repo, repo (including intra-Group transactions) and short positions for the principal entities shown. These contractual cash inflows and outflows are reflected gross in the numerator and denominator, respectively, of the one and three-month stressed coverage ratios and should be considered alongside the level of liquid assets.

Outflows included in the denominator of the stressed coverage ratios include the principal outflows associated with the contractual maturity of wholesale debt securities reported in the table headed ‘Wholesale funding cash flows payable by HSBC under financial liabilities by remaining contractual maturities’ on page 170.

For a summary of our policy and definitions of the classifications shown in the table below, see the Appendix to Risk on page 218.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Net cash inflows/(outflows) for interbank and intra-Group loans and deposits and reverse repo, repo and short positions

(Audited)

    At 31 December 2014     At 31 December 2013  
   

Cash flows

within 1 month

   

Cash flows from

1 to 3 months

   

Cash flows

within 1 month

   

Cash flows from

1 to 3 months

 
    US$m     US$m     US$m     US$m  

Interbank and intra-Group loans and deposits

HSBC UK26

  (14,110   (2,846   (19,033   (5,272

The Hongkong and Shanghai Banking Corporation27

  (1,277   6,862      2,314      7,487   

HSBC USA28

  (18,353   1,648      (24,268   729   

Total of HSBC’s other principal entities29

  (1,322   6,158      4,295      10,149   

Reverse repo, repo, stock borrowing, stock lending and outright short positions (including intra-Group)

HSBC UK26

  (16,070   11,551      (39,064   149   

The Hongkong and Shanghai Banking Corporation27

  8,139      8,189      12,662      4,297   

HSBC USA28

  (4,928        (11,001     

Total of HSBC’s other principal entities29

  (22,110   (11,120   (40,223   9,551   

For footnotes, see page 202.

 

Contingent liquidity risk arising from committed lending facilities

(Audited)

The Group’s operating entities provide commitments to various counterparties. In terms of liquidity risk, the most significant risk relates to committed lending facilities which, whilst undrawn, give rise to contingent liquidity risk as they could be drawn during a period of liquidity stress. Commitments are given to customers and committed lending facilities are provided to consolidated multi-seller conduits established to enable clients to access flexible market-based sources of finance (see page 443), consolidated securities investment conduits and third-party sponsored conduits.

The consolidated securities investment conduits include Solitaire Funding Limited (‘Solitaire’) and Mazarin Funding Limited (‘Mazarin’). They issue asset-backed commercial paper secured against the portfolio of securities held by them. At 31 December 2014, HSBC

UK had undrawn committed lending facilities to these conduits of US$11bn (2013: US$15bn), of which Solitaire represented US$9.5bn (2013: US$11bn) and the remaining US$1.6bn (2013: US$4bn) pertained to Mazarin. Although HSBC UK provides a liquidity facility, Solitaire and Mazarin have no need to draw on it so long as HSBC purchases the commercial paper issued, which it intends to do for the foreseeable future. At 31 December 2014, the commercial paper issued by Solitaire and Mazarin was entirely held by HSBC UK. Since HSBC controls the size of the portfolio of securities held by these conduits, no contingent liquidity risk exposure arises as a result of these undrawn committed lending facilities.

The table below shows the level of undrawn commitments to customers outstanding for the five largest single facilities and the largest market sector, and the extent to which they are undrawn.

 

 

The Group’s contractual undrawn exposures at 31 December monitored under the contingent liquidity risk limit structure

(Audited)

    HSBC UK26     HSBC USA28     HSBC Canada    

The Hongkong and

Shanghai Banking

Corporation27

 
    2014     2013     2014     2013     2014     2013     2014     2013  
        US$bn         US$bn         US$bn           US$bn         US$bn         US$bn         US$bn         US$bn  

Commitments to conduits

Consolidated multi-seller conduits

– total lines

  9.8      10.1      2.3      2.5      0.2      1.0             

– largest individual lines

  0.9      0.7      0.5      0.5      0.2      0.7             

Consolidated securities investment conduits – total lines

  11.1      14.8                                 

Third party conduits – total lines

            0.1      0.7                       

Commitments to customers

– five largest31

  2.6      4.4      7.1      6.3      1.7      1.5      1.5      2.4   

– largest market sector32

  16.6      9.5      10.0      8.2      3.5      3.4      3.2      2.7   

For footnotes, see page 202.

 

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Report of the Directors: Financial Review (continued)

 

 

Sources of funding

(Audited)

Our primary sources of funding are customer current accounts and customer savings deposits payable on demand or at short notice. We issue wholesale securities (secured and unsecured) to supplement our customer deposits and change the currency mix, maturity profile or location of our liabilities.

The ‘Funding sources and uses’ table below, which provides a consolidated view of how our balance sheet is funded, should be read in light of the LFRF, which requires operating entities to manage liquidity and funding risk on a stand-alone basis.

The table analyses our consolidated balance sheet according to the assets that primarily arise from

operating activities and the sources of funding primarily supporting these activities. The assets and liabilities that do not arise from operating activities are presented as a net balancing source or deployment of funds.

The level of customer accounts continued to exceed the level of loans and advances to customers. The positive funding gap was predominantly deployed in liquid assets – cash and balances with central banks and financial investments – as required by the LFRF.

Loans and other receivables due from banks continued to exceed deposits taken from banks. The Group remained a net unsecured lender to the banking sector.

For a summary of sources and utilisation of repos and stock lending, see the Appendix to Risk on page 219.

 

Funding sources and uses33

(Audited)

    2014     2013  
    US$m     US$m  

Sources

Customer accounts1

  1,350,642      1,361,297   

Deposits by banks1

  77,426      86,507   

Repurchase agreements – non-trading1

  107,432      164,220   

Debt securities issued

  95,947      104,080   

Subordinated liabilities

  26,664      28,976   

Financial liabilities designated at fair value

  76,153      89,084   

Liabilities under insurance contracts

  73,861      74,181   

Trading liabilities

  190,572      207,025   

– repos

  3,798      17,421   

– stock lending

  12,032      12,218   

– settlement accounts

  17,454      17,428   

– other trading liabilities

  157,288      159,958   

Total equity

  199,979      190,459   

At 31 December

      2,198,676          2,305,829   

For footnote, see page 202.

 

    2014     2013  
    US$m     US$m  

Uses

Loans and advances to customers1

  974,660      992,089   

Loans and advances to banks1

  112,149      120,046   

Repurchase agreements – non-trading1

  161,713      179,690   

Trading assets

  304,193      303,192   
   

– reverse repos

  1,297      10,120   

– stock borrowing

  7,969      10,318   

– settlement accounts

  21,327      19,435   

– other trading assets

  273,600      263,319   

Financial investments

  415,467      425,925   

Cash and balances with central banks

  129,957      166,599   

Net deployment in other balance sheet assets and liabilities

  100,537      118,288   

At 31 December

      2,198,676          2,305,829   

 

 

 

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Report of the Directors: Financial Review (continued)

 

 

Cross-border, intra-Group and cross-currency liquidity and funding risk

(Unaudited)

The stand-alone operating entity approach to liquidity and funding mandated by the LFRF restricts the exposure of our operating entities to the risks that can arise from extensive reliance on cross-border funding. Operating entities manage their funding sources locally, focusing predominantly on the local customer deposit base. The RBWM, CMB and GPB customer relationships that give rise to core deposits within an operating entity generally reflect a local customer relationship with that operating entity. Access to public debt markets is co-ordinated globally by the Global Head of Balance Sheet Management and the Group Treasurer with Group ALCO monitoring all planned public debt issuance on a monthly basis. As a general principle, operating entities are only permitted to issue in their local currency and are encouraged to focus on local private placements. The public issuance of debt instruments in foreign currency is tightly controlled and generally restricted to HSBC Holdings and HSBC Bank.

A central principle of our stand-alone approach to LFRF is that operating entities place no future reliance on other Group entities. However, operating entities may, at their discretion, utilise their respective committed facilities from other Group entities if necessary. In addition, intra-Group large exposure limits are applied by national regulators to individual legal entities locally, which restricts the unsecured exposures of legal entities to the rest of the Group to a percentage of the lender’s regulatory capital.

Our LFRF also considers the ability of each entity to continue to access foreign exchange markets under stress when a surplus in one currency is used to meet a deficit in another currency, for example, by using the foreign currency swap markets. Where appropriate, operating entities are required to monitor stressed coverage ratios and ACF ratios for non-local currencies and set limits for them. Foreign currency swap markets in currency pairs settled through the Continuous Link Settlement Bank are considered to be extremely deep and liquid and it is assumed that capacity to access these markets is not exposed to idiosyncratic risks. The table below shows the ACF ratios by material currencies for the year ended 31 December 2014.

Advances to core funding ratios by material currency25

(Unaudited)

    At 31
December
 
    2014  
    %  

HSBC UK26

Local currency (sterling)

  98   

US dollars

  100   

Euros

  99   

Consolidated

  97   

The Hongkong and Shanghai Banking Corporation27

Local currency (Hong Kong dollars)

  81   

US dollars

  74   

Consolidated

  75   

HSBC USA28

Local currency (US dollars)

  100   

Consolidated

  100   

Total of HSBC’s other principal entities29

Local currency

  97   

US dollars

  101   

Consolidated

  92   

For footnotes, see page 202.

For all HSBC’s operating entities, the only significant foreign currencies that exceed 5% of Group balance sheet liabilities are the Hong Kong dollar, euro, sterling and US dollar.

Wholesale term debt maturity profile

(Unaudited)

The maturity profile of our wholesale term debt obligations is set out in the table on page 170, ‘Wholesale funding principal cash flows payable by HSBC under financial liabilities by remaining contractual maturities’.

The balances in the table do not agree directly with those in the consolidated balance sheet as the table presents gross cash flows relating to principal payments and not the balance sheet carrying value, which includes debt securities and subordinated liabilities measured at fair value.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Wholesale funding cash flows payable by HSBC under financial liabilities by remaining contractual maturities

(Unaudited)

 

   

Due not

more than

1 month

   

Due over

1 month

but not

more than

3 months

   

Due over

3 months

but not

more than

6 months

   

Due over

6 months

but not

more than

9 months

   

Due over

9 months

but not

more than

1 year

   

Due over

1 year

but not

more than

2 years

   

Due over

2 years

but not

more than

5 years

   

Due over

5 years

    Total  
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m  

Debt securities issued

  17,336      17,161      19,030      9,352      9,055      27,312      40,855      31,928      172,029   

– unsecured CDs and CP

  5,637      9,337      9,237      4,793      3,010      3,506      4,158      185      39,863   

– unsecured senior MTNs

  1,300      5,679      7,684      2,922      4,794      17,676      23,523      20,715      84,293   

– unsecured senior structured notes

  1,363      1,082      2,049      1,149      979      4,757      8,444      6,789      26,612   

– secured covered bonds

                 205                2,765      2,942      5,912   

– secured ABCP

  8,602                                         8,602   

– secured ABS

  212      1,063      60      283      272      915      1,562           4,367   

– others

  222                          458      403      1,297      2,380   

Subordinated liabilities

       150           3      185      113      5,556      40,487      46,494   

– subordinated debt securities

       150           3      185      113      5,556      34,750      40,757   

– preferred securities

                                     5,737      5,737   
                                                     

At 31 December 2014

  17,336      17,311      19,030      9,355      9,240      27,425      46,411      72,415      218,523   

Debt securities issued

  25,426      9,752      17,942      11,659      10,587      31,839      46,934      31,066      185,205   

– unsecured CDs and CP

  7,589      7,206      9,867      3,239      5,043      4,449      2,749           40,142   

– unsecured senior MTNs

  6,284      71      5,448      4,221      3,062      21,428      33,091      21,433      95,038   

– unsecured senior structured notes

  987      1,423      1,952      1,689      1,718      3,712      6,036      5,021      22,538   

– secured covered bonds

                 1,250           225      2,747      3,317      7,539   

– secured ABCP

  10,383                                         10,383   

– secured ABS

  74      1,052      675      1,260      764      1,861      2,311           7,997   

– others

  109                          164           1,295      1,568   

Subordinated liabilities

       28      1,171      144      6      1,460      3,374      41,801      47,984   

– subordinated debt securities

       28      1,171      144      6      460      3,374      34,899      40,082   

– preferred securities

                           1,000           6,902      7,902   
                                                     

At 31 December 2013

  25,426      9,780      19,113      11,803      10,593      33,299      50,308      72,867      233,189   

 

HSBC HOLDINGS PLC

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Report of the Directors: Financial Review (continued)

 

 

Encumbered and unencumbered assets

(Unaudited)

The table on page 172, ‘Analysis of on-balance sheet encumbered and unencumbered assets’, summarises the total on and off-balance sheet assets that are capable of supporting future funding and collateral needs and shows the extent to which these assets are currently pledged for this purpose. The objective of this disclosure is to facilitate an understanding of available and unrestricted assets that could be used to support potential future funding and collateral needs.

The disclosure is not designed to identify assets which would be available to meet the claims of creditors or to predict assets that would be available to creditors in the event of a resolution or bankruptcy.

An asset is defined as encumbered if it has been pledged as collateral against an existing liability, and as a result is no longer available to the Group to secure funding, satisfy collateral needs or be sold to reduce the funding requirement. An asset is therefore categorised as unencumbered if it has not been pledged against an existing liability. Unencumbered assets are further analysed into four separate sub-categories; ‘readily realisable assets’, ‘other realisable assets’, ‘reverse repo/stock borrowing receivables and derivative assets’ and ‘cannot be pledged as collateral’.

At 31 December 2014, the Group held US$1,770bn of unencumbered assets that could be used to support potential future funding and collateral needs, representing 85% of the total assets that can support funding and collateral needs (on and off-balance sheet). Of this amount, US$765bn (US$684bn on-balance sheet) were assessed to be readily realisable.

 

 

Summary of assets available to support potential future funding and collateral needs (on and off-balance sheet)

(Unaudited)

    2014     2013  
            US$bn             US$bn  

Total on-balance sheet assets

  2,634      2,671   

Less:

Reverse repo/stock borrowing receivables and derivative assets

  (518   (482

Other assets that cannot be pledged as collateral

  (281   (255

Total on-balance sheet assets that can support funding and collateral needs

  1,835      1,934   

Add off-balance sheet assets:

Fair value of collateral received from reverse repo/stock borrowing/derivatives that is available to sell or repledge

  257      265   

Total assets that can support funding and collateral needs (on and off-balance sheet)

  2,092      2,199   

Less:

On-balance sheet assets pledged

  (146   (187

Off-balance sheet collateral received from reverse repo/stock borrowing/derivatives which has been repledged or sold

  (176   (187

Assets available to support future funding and collateral needs at 31 December

  1,770      1,825   

 

For a summary of our policy on collateral management and definition of encumbrance, see the Appendix to Risk on page 213.

Collateral

(Unaudited)

Off-balance sheet collateral received and pledged for reverse repo, stock borrowing and derivative transactions

The fair value of assets accepted as collateral that we are permitted to sell or repledge in the absence of default was US$257bn at 31 December 2014 (2013: US$265bn). The fair value of any such collateral sold or repledged was US$176bn (2013: US$187bn). We are obliged to return equivalent securities. These transactions are conducted under terms that are usual and customary to standard reverse repo, stock borrowing and derivative transactions.

The fair value of collateral received and repledged in relation to reverse repos, stock borrowing and

derivatives is reported on a gross basis. The related balance sheet receivables and payables are reported on a net basis where required under IFRSs offset criteria.

As a consequence of reverse repo, stock borrowing and derivative transactions where the collateral received could be but had not been sold or repledged, we held US$81bn (2013: US$78bn) of unencumbered collateral available to support potential future funding and collateral needs at 31 December 2014.

Analysis of on-balance sheet encumbered and unencumbered assets

The table below presents an analysis of on-balance sheet holdings only, and shows the amounts of balance sheet assets on a liquidity and funding basis that are encumbered. The table therefore excludes any available off-balance sheet holdings received in respect of reverse repos, stock borrowing or derivatives.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Analysis of on-balance sheet encumbered and unencumbered assets

(Unaudited)

    Encumbered     Unencumbered        
    Assets
pledged as
collateral
    Readily
realisable
assets
    Other
realisable
assets
    Reverse
repos/stock
borrowing
receivables
and derivative
assets
   

Cannot

be pledged

as collateral

    Total  
    US$m     US$m     US$m     US$m     US$m     US$m  

Cash and balances at central banks

       123,990      425           5,542      129,957   

Items in the course of collection from other banks

                      4,927      4,927   

Hong Kong Government certificates of indebtedness

                      27,674      27,674   

Trading assets

  59,162      182,305      17,869      9,266      35,591      304,193   

– Treasury and other eligible bills

  1,994      14,122      4           50      16,170   

– debt securities

  46,311      94,941      23           257      141,532   

– equity securities

  10,857      62,855      1,497           40      75,249   

– loans and advances to banks

       2,530      4,818      2,781      17,452      27,581   

– loans and advances to customers

       7,857      11,527      6,485      17,792      43,661   

Financial assets designated at fair value

       177      2,330      26,530      29,037   

– Treasury and other eligible bills

            52           4      56   

– debt securities

       177      1,058           7,656      8,891   

– equity securities

            1,139           18,867      20,006   

– loans and advances to banks and

customers

            81           3      84   

Derivatives

                 345,008           345,008   

Loans and advances to banks

  178      3,573      74,231      762      33,405      112,149   

Loans and advances to customers

  24,329      92,238      840,241      1,170      16,682      974,660   

Reverse repurchase agreements – non-trading

                 161,713           161,713   

Financial investments

  61,785      275,732      22,780           55,170      415,467   

– Treasury and other eligible bills

  3,176      75,896      2,167           278      81,517   

– debt securities

  58,609      192,411      18,266           53,970      323,256   

– equity securities

       7,425      2,347           922      10,694   

Prepayments, accrued income and other assets

  294      6,334      29,780           38,768      75,176   

Current tax assets

                      1,309      1,309   

Interest in associates and joint ventures

       22      17,875           284      18,181   

Goodwill and intangible assets

                      27,577      27,577   

Deferred tax

                      7,111      7,111   

At 31 December 2014

  145,748      684,371      1,005,531      517,919      280,570      2,634,139   

Cash and balances at central banks

       161,240      269           5,090      166,599   

Items in the course of collection from other banks

                      6,021      6,021   

Hong Kong Government certificates of indebtedness

                      25,220      25,220   

Trading assets

  99,326      142,211      14,654      20,438      26,563      303,192   

– Treasury and other eligible bills

  3,402      17,976      206                21,584   

– debt securities

  83,563      57,850                231      141,644   

– equity securities

  8,373      55,156      363                63,892   

– loans and advances to banks

  1,796      2,813      6,151      5,263      11,861      27,884   

– loans and advances to customers

  2,192      8,416      7,934      15,175      14,471      48,188   

Financial assets designated at fair value

  19      2,706      1,883           33,822      38,430   

– Treasury and other eligible bills

                      50      50   

– debt securities

  19      826      776           10,968      12,589   

– equity securities

       1,874      1,103           22,734      25,711   

– loans and advances to banks and

customers

       6      4           70      80   

Derivatives

                 282,265           282,265   

Loans and advances to banks

  162      8,342      80,231           31,311      120,046   

Loans and advances to customers

  32,218      102,203      854,724      65      2,879      992,089   

Reverse repurchase agreements – non-trading

                 179,690           179,690   

Financial investments

  54,473      289,093      31,096           51,263      425,925   

– Treasury and other eligible bills

  2,985      72,849      2,052           226      78,112   

– debt securities

  51,488      210,516      25,720           50,949      338,673   

– equity securities

       5,728      3,324           88      9,140   

Prepayments, accrued income and other assets

  1,028      16,788      24,619           34,407      76,842   

Current tax assets

                      985      985   

Interest in associates and joint ventures

       12      16,356           272      16,640   

Goodwill and intangible assets

                      29,918      29,918   

Deferred tax

                      7,456      7,456   

At 31 December 2013

  187,226      722,595      1,023,832      482,458      255,207      2,671,318   

 

HSBC HOLDINGS PLC

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Report of the Directors: Financial Review (continued)

 

 

The US$24bn (2013: US$32bn) of loans and advances to customers reported in the table above as encumbered have been pledged predominantly to support the issuance of secured debt instruments such as covered bonds and ABSs, including asset-backed commercial paper issued by consolidated multi-seller conduits. It also includes those pledged in relation to any other form of secured borrowing.

In total, the Group pledged US$121bn (2013: US$150bn) of negotiable securities, predominantly as a result of market-making in securities financing to our clients.

Additional contractual obligations

Under the terms of our current collateral obligations under derivative contracts (which are ISDA compliant CSA contracts and contracts entered for pension obligations, and exclude the contracts entered for special purpose vehicles and additional termination events) and based on the positions at 31 December 2014, we estimate that we could be required to post additional collateral of up to US$0.5bn (2013: US$0.7bn) in the event of a one-notch downgrade in credit ratings, which would increase to US$1.2bn (2013: US$1.2bn) in the event of a two-notch downgrade.

Contractual maturity of financial liabilities

(Audited)

The balances in the table below do not agree directly with those in our consolidated balance sheet as the table incorporates, on an undiscounted basis, all cash flows relating to principal and future coupon payments (except for trading liabilities and derivatives not treated as hedging derivatives). Undiscounted cash flows payable in relation to hedging derivative liabilities are classified according to their contractual maturities. Trading liabilities and derivatives not treated as hedging derivatives are included in the ‘On demand’ time bucket and not by contractual maturity.

A maturity analysis of repos and debt securities in issue included in trading liabilities is presented in Note 31 on the Financial Statements.

In addition, loans and other credit-related commitments and financial guarantees and similar contracts are generally not recognised on our balance sheet. The undiscounted cash flows potentially payable under financial guarantees and similar contracts are classified on the basis of the earliest date they can be called.

 

 

Cash flows payable by HSBC under financial liabilities by remaining contractual maturities

(Audited)

   

On

demand
US$m

   

Due within

3 months

US$m

   

Due between 3

and 12 months

US$m

   

Due between

1 and 5 years

US$m

   

Due after

5 years

US$m

 

Deposits by banks

  52,682      17,337      3,600      3,580      390   

Customer accounts

  1,088,769      187,207      61,687      15,826      390   

Repurchase agreements – non-trading

  8,727      91,542      6,180      23      1,057   

Trading liabilities

  190,572                       

Financial liabilities designated at fair value

  365      2,201      9,192      28,260      39,397   

Derivatives

  335,168      375      1,257      4,231      1,517   

Debt securities in issue

  9      32,513      30,194      37,842      7,710   

Subordinated liabilities

       737      1,256      10,003      42,328   

Other financial liabilities

  41,517      23,228      4,740      1,893      988   
  1,717,809      355,140      118,106      101,658      93,777   

Loan and other credit-related commitments

  406,561      101,156      64,582      62,312      16,769   

Financial guarantees and similar contracts

  13,166      6,306      13,753      9,575      4,278   

At 31 December 2014

        2,137,536             462,602               196,441               173,545               114,824   

Deposits by banks

  56,198      22,965      3,734      2,819      686   

Customer accounts

  1,097,159      196,048      57,243      15,520      726   

Repurchase agreements – non-trading

  37,117      112,621      14,177             

Trading liabilities

  207,025                       

Financial liabilities designated at fair value

  18,689      1,967      3,223      39,554      64,144   

Derivatives

  269,554      456      1,684      6,099      1,638   

Debt securities in issue

  2,528      35,401      33,695      46,141      6,526   

Subordinated liabilities

  55      391      2,687      11,871      44,969   

Other financial liabilities

  31,996      30,706      6,564      2,376      1,300   
  1,720,321      400,555      123,007      124,380      119,989   

Loan and other credit-related commitments

  377,352      79,599      55,124      59,747      16,872   

Financial guarantees and similar contracts

  18,039      4,796      12,040      7,479      3,988   

At 31 December 2013

  2,115,712      484,950      190,171      191,606      140,849   

 

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Report of the Directors: Financial Review (continued)

 

 

HSBC Holdings

(Audited)

Liquidity risk in HSBC Holdings is overseen by HALCO. Liquidity risk arises because of HSBC Holdings’ obligation to make payments to debt holders as they fall due. The liquidity risk related to these cash flows is managed by matching debt obligations with internal loan cash flows and by maintaining an appropriate liquidity buffer that is monitored by HALCO.

At 31 December 2014, the Group had US$9.2bn of CRD IV compliant non-common equity capital instruments, of which US$3.5bn were classified as tier 2 and US$5.7bn were classified as additional tier 1 (for details on the additional tier 1 instruments issued during the year see Note 35 on the Financial Statements). The balances in the table below do not agree directly

with those on the balance sheet of HSBC Holdings as the table incorporates, on an undiscounted basis, all cash flows relating to principal and future coupon payments (except for derivatives not treated as hedging derivatives). Undiscounted cash flows payable in relation to hedging derivative liabilities are classified according to their contractual maturities. Derivatives not treated as hedging derivatives are included in the ‘On demand’ time bucket.

In addition, loan commitments and financial guarantees and similar contracts are generally not recognised on our balance sheet. The undiscounted cash flows potentially payable under financial guarantees and similar contracts are classified on the basis of the earliest date on which they can be called.

 

 

Cash flows payable by HSBC Holdings under financial liabilities by remaining contractual maturities

(Audited)

   

On

demand

US$m

   

Due within

3 months

US$m

   

Due between

3 and 12

months

US$m

   

Due between

1 and 5 years

US$m

   

Due after

5 years

US$m

 

Amounts owed to HSBC undertakings

  1,441      985      42      449        

Financial liabilities designated at fair value

       210      642      6,345      19,005   

Derivatives

  1,066                103        

Debt securities in issue

       16      50      263      1,303   

Subordinated liabilities

       252      770      5,815      28,961   

Other financial liabilities

       1,132      158             
  2,507      2,595      1,662      12,975      49,269   

Loan commitments

  16                       

Financial guarantees and similar contracts

  52,023                       

At 31 December 2014

            54,546                  2,595                  1,662                12,975                49,269   

Amounts owed to HSBC undertakings

  2,053      1,759      2,315      857      5,654   

Financial liabilities designated at fair value

       299      671      4,921      26,518   

Derivatives

  704                       

Debt securities in issue

       37      1,780      279      1,451   

Subordinated liabilities

       225      676      5,699      24,812   

Other financial liabilities

       885      284             
  2,757      3,205      5,726      11,756      58,435   

Loan commitments

  1,245                       

Financial guarantees and similar contracts

  52,836                       

At 31 December 2013

  56,838      3,205      5,726      11,756      58,435   

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Market risk

 

        

 

Page

 

         

 

App1

 

         

 

Tables

 

  

 

Page  

 

 
 

Market risk in 2014

     176                                    
 

Exposure to market risk

     176              221                      
 

Overview of market risk in global businesses

                   221           

Types of risk by global business

     176   
 

Market risk governance

 

                   222                      
 

Market risk measures

                   223                      
 

Monitoring and limiting market risk exposures

     176              223                      
 

Sensitivity analysis

     176              223                      
    

Value at risk

     176              223                      
 

Stress testing

 

     176              224           

Market risk stress testing

     176   
 

Trading portfolios

     176              225                      
 

Value at risk of the trading portfolios

     176                         

Daily VaR (trading portfolios)

     176   
                                  

Trading VaR

     177   
 

Back-testing

     177              224           

Back-testing of trading VaR against hypothetical profit and loss for the Group

     177   
 

Gap risk

                   225                      
 

De-peg risk

                   225                      
 

ABS/MBS exposures

 

                   225                      
 

Non-trading portfolios

     178              225                      
 

Value at risk of the non-trading portfolios

     178                         

Daily VaR (non-trading portfolios)

     178   
                                  

Non-trading VaR

     178   
 

Credit spread risk for available-for-sale debt securities (including SICs)

     178              226                      
 

Equity securities classified as available for sale

 

     179              226           

Fair value of equity securities

     179   
 

Market risk balance sheet linkages

     179                         

Balances included and not included in trading VaR

     179   
                                  

Market risk linkages to the accounting balance sheet

 

     180   
 

Structural foreign exchange exposures

 

     181              226                      
 

Non-trading interest rate risk

     181              226                      
 

Interest rate risk behaviouralisation

     181              226                      
 

Balance Sheet Management

                   227                      
 

Third-party assets in Balance Sheet Management

 

     181                         

Third-party assets in Balance Sheet Management

     181   
 

Sensitivity of net interest income

     181              227           

Sensitivity of projected net interest income

     182   
                                  

Sensitivity of reported reserves to interest rate movements

     183   
 

Defined benefit pension schemes

 

     183              228           

HSBC’s defined benefit pension schemes

     183   
 

Additional market risk measures applicable only to the parent company

     183              228                      
 

Foreign exchange risk

     183                         

HSBC Holdings – foreign exchange VaR

     183   
 

Sensitivity of net interest income

     184                         

Sensitivity of HSBC Holdings net interest income to interest  rate movements

     184   
 

Interest rate repricing gap table

 

     185                         

Repricing gap analysis of HSBC Holdings

     185   
 

1 Appendix to Risk – risk policies and practices.

                 

 

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Report of the Directors: Financial Review (continued)

 

 

Market risk is the risk that movements in market factors, including foreign exchange rates and commodity prices, interest rates, credit spreads and equity prices, will reduce our income or the value of our portfolios.

There were no material changes to our policies and practices for the management of market risk in 2014.

 

 

Exposure to market risk

 

Exposure to market risk is separated into two portfolios:

 

•   Trading portfolios comprise positions arising from market-making and warehousing of customer-derived positions. The interest rate risk on fixed-rate securities issued by HSBC Holdings is not included in Group VaR. The management of this risk is described on page 222.

 

•   Non-trading portfolios comprise positions that primarily arise from the interest rate management of our retail and commercial banking assets and liabilities, financial investments designated as available for sale and held to maturity, and exposures arising from our insurance operations (see page 225).

 

Monitoring and limiting market risk exposures

 

Our objective is to manage and control market risk exposures while maintaining a market profile consistent with our risk appetite.

 

We use a range of tools to monitor and limit market risk exposures, including:

 

•   Sensitivity analysis includes the sensitivity of net interest income and the sensitivity of structural foreign exchange, which are used to monitor the market risk positions within each risk type;

 

•   Value at risk (‘VaR’) is a technique that estimates the potential losses that could occur on risk positions as a result of movements in market rates and prices over a specified time horizon and to a given level of confidence; and

 

•   In recognition of VaR’s limitations we augment VaR with stress testing to evaluate the potential impact on portfolio values of more extreme, though plausible, events or movements in a set of financial variables. Examples of scenarios reflecting current market concerns are the slowdown in mainland China and the potential effects of a sovereign debt default, including its wider contagion effects.

 

 

A summary of our market risk management framework including current policies is provided in the Appendix to Risk on page 221.

Market risk in 2014

(Unaudited)

Global financial markets were characterised by low inflation and weak global growth, leading monetary authorities to maintain accommodative policies, using measures such as low interest rates and asset purchases.

With US data showing GDP growth, the US Federal Reserve’s asset purchase programme came to an end. Despite this, US dollar bond yields fell further. Market focus switched to actions that the ECB can take to address the issues of low growth and deflation. A sustained period of deflation would have a severe detrimental impact on countries already in recession and with high debt to GDP ratios. 2014 can be characterised as a period of benign rates and equity markets in the G7 group of countries.

Against this backdrop, we maintained an overall defensive risk profile in our trading businesses. Defensive positions are characterised by low net open positions or the purchase of volatility protection via options trades. The lower trading VaR from defensive positioning was offset by an increase caused by lower diversification and regulatory changes to the calibrations used in calculating VaR. Non-trading VaR declined during the year as low interest rates, especially in US dollars, caused the duration of non-trading assets to decrease.

Trading portfolios

(Audited)

Value at risk of the trading portfolios

Trading VaR predominantly resides within Global Markets. This was higher at 31 December 2014 than at 31 December 2013 due to an increase in interest rate trading VaR, the removal of diversification effects within risk not in VaR (‘RNIV’) and lower portfolio diversification benefit across asset classes.

The daily levels of total trading VaR over the last year are set out in the graph below.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Daily VaR (trading portfolios), 99% 1 day (US$m)

(Unaudited)

 

LOGO

The Group trading VaR for the year is shown in the table below.

Trading VaR, 99% 1 day34

(Audited)

  Foreign exchange      Interest      Credit     

 

Portfolio

diversification

  

  

  and commodity      rate      Equity      spread      incl RNIV 35     Total 36  
  US$m      US$m      US$m      US$m      US$m      US$m   

At 31 December 2014

  9.8      45.4      7.3      12.5      (14.3          60.7   

Average

  16.9                39.5                6.9                13.7      (17.8             59.2   

Maximum

  34.2      50.6      15.6      20.9      77.8   

At 31 December 2013

  16.0      33.4      9.2      14.2      (20.7   52.1   

Average

  15.2      33.4      5.1      16.5      (20.3   49.9   

Maximum

  26.4      71.9      14.1      25.5      81.3   

For footnotes, see page 202.

 

Back-testing

(Unaudited)

In 2014, the Group experienced one loss exception and two profit exceptions.

The loss exception was due primarily to losses from increased volatility in foreign exchange currencies and interest rates in some developed markets combined with flattening yield curves.

The profit exceptions were driven by the tightening of spreads, and exposures to emerging market foreign exchange and interest rates. There is no evidence of model errors or control failures.

The graph below shows the daily trading VaR against hypothetical profit and loss for the Group during 2014. It excludes exceptions that were exempted by the PRA for regulatory capital purposes.

 

 

Back-testing of trading VaR against hypothetical profit and loss for the Group (US$m)

(Unaudited)

 

LOGO

 

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Report of the Directors: Financial Review (continued)

 

 

Non-trading portfolios

(Audited)

Value at risk of the non-trading portfolios

Non-trading VaR of the Group includes contributions from all global businesses. There is no commodity risk in the non-trading portfolios. The decrease of non-trading VaR during 2014 was due primarily to the shortening of the duration in the non-trading book from lower interest rates, especially in US dollars. The credit spread risks component also added to a lower non-trading VaR as a result of the reduction in the overall position combined

with lower volatilities and credit spread baselines utilised in the VaR calculations. This movement included the reduction in credit spread risks relating to the Group’s holdings of available-for-sale debt securities (excluding those held in insurance operations which are discussed further on page 194.

In the year, the decline in non-trading interest rate and credit spread VaR components was offset by a decrease in diversification benefit.

The daily levels of total non-trading VaR over the last year are set out in the graph below.

 

 

Daily VaR (non-trading portfolios), 99% 1 day (US$m)

(Unaudited)

 

LOGO

The Group non-trading VaR for the year is shown in the table below.

Non-trading VaR, 99% 1 day

(Audited)

   

Interest

rate

     

Credit

spread

     

Portfolio

diversification

      Total  
    US$m       US$m       US$m       US$m  

At 31 December 2014

  88.2      62.5      (28.5   122.2   

Average

  103.3                73.3                (37.4             139.2   

Maximum

  147.7      91.9      189.0   

At 31 December 2013

  150.6      80.4      (76.4   154.6   

Average

  145.7      106.6      (82.1   170.2   

Maximum

  221.7      135.7      252.3   

 

The management of interest rate risk in the banking book is described further in ‘Non-trading interest rate risk’ below, including the role of Balance Sheet Management (‘BSM’).

Non-trading VaR excludes equity risk on available-for- sale securities, structural foreign exchange risk and interest rate risk on fixed rate securities issued by HSBC Holdings, the management of which is described in the relevant sections below. These sections together describe the scope of HSBC’s management of market risks in non-trading books.

Credit spread risk for available-for-sale debt securities (including SICs)

The effect of movements in VaR credit spreads on our available-for-sale debt securities was US$81m (2013: US$113m) at 31 December 2014. This sensitivity includes the gross exposure for the securities investment conduits (‘SICs’) consolidated within our balance sheet based on credit spread VaR. This sensitivity excludes losses which would have been absorbed by the capital note holders.

The decrease in this sensitivity at 31 December 2014 compared with 31 December 2013 was due mainly to reducing the overall positions and lower volatilities and credit spread baselines observed during the year.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Equity securities classified as available for sale

Fair value of equity securities

(Audited)

    2014     2013  
    US$bn     US$bn  

Private equity holdings37

  2.0      2.7   

Investment to facilitate ongoing business38

  1.2      1.2   

Other strategic investments

  7.5      5.2   

At 31 December

            10.7                    9.1   

For footnotes, see page 202.

The fair value of equity securities classified as available for sale can fluctuate considerably. The table above sets out the maximum possible loss on shareholders’ equity

from available-for-sale equity securities. The increase in other strategic investments was largely due to the increase in the market value of the Industrial Bank investment offsetting the decrease in private equity holdings from the disposal of various direct and private equity fund investments.

Market risk balance sheet linkages

(Unaudited)

The information below and on page 180 aims to facilitate an understanding of linkages between line items in the balance sheet and positions included in our market risk disclosures, in line with recommendations made by the Enhanced Disclosure Task Force.

 

 

Balances included and not included in trading VaR

(Unaudited)

   

Balance

sheet

 

Balances

included in

trading VaR

 

Balances not

included in

trading VaR

 

Primary

market risk

sensitivities

 
    US$m   US$m   US$m      

At 31 December 2014

Assets

Cash and balances at central banks

  129,957      129,957      B   

Trading assets

  304,193      276,419      27,774      A   

Financial assets designated at fair value

  29,037      29,037      A   

Derivatives

  345,008      333,880      11,128      A   

Loans and advances to banks

  112,149      112,149      B   

Loans and advances to customers

  974,660      974,660      B   

Reverse repurchase agreements – non-trading

  161,713      161,713      C   

Financial investments

  415,467      415,467      A   

Liabilities

Deposits by banks

  77,426      77,426      B   

Customer accounts

  1,350,642      1,350,642      B   

Repurchase agreements – non-trading

  107,432      107,432      C   

Trading liabilities

  190,572      170,576      19,996      A   

Financial liabilities designated at fair value

  76,153      76,153      A   

Derivatives

  340,669      334,199      6,470      A   

Debt securities in issue

  95,947      95,947      C   

The table represents account lines where there is some exposure to market risk according to the following asset classes:

A Foreign exchange, interest rate, equity and credit spread.

B Foreign exchange and interest rate.

C Foreign exchange, interest rate and credit spread.

 

The table above splits the assets and liabilities into two categories:

 

  those that are included in the trading book and are measured by VaR; and

 

  those that are not in the trading book and/or are not measured by VaR.

The breakdown of financial instruments included and not included in trading VaR provides a linkage with market risk to the extent that it is reflected in our risk framework. However, it is important to highlight that

the table does not reflect how we manage market risk, since we do not discriminate between assets and liabilities in our VaR model.

The assets and liabilities included in trading VaR give rise to a large proportion of the income included in net trading income. As set out on page 49, HSBC’s net trading income in 2014 was US$6,760 (2013: US$8,690m). Adjustments to trading income such as valuation adjustments do not feed the trading VaR model.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Market risk linkages to the accounting balance sheet

 

Trading assets and liabilities

 

The Group’s trading assets and liabilities are in almost all cases originated by GB&M. The assets and liabilities are classified as held for trading if they have been acquired or incurred principally for the purpose of selling or repurchasing in the near term, or form part of a portfolio of identified financial instruments that are managed together and for which there is evidence of a recent pattern of short-term profit-taking. These assets and liabilities are treated as traded risk for the purposes of market risk management, other than a limited number of exceptions, primarily in Global Banking where the short-term acquisition and disposal of the assets are linked to other non-trading related activities such as loan origination.

 

Financial assets designated at fair value

 

Financial assets designated at fair value within HSBC are predominantly held within the Insurance entities. The majority of these assets are linked to policyholder liabilities for either unit-linked or insurance and investment contracts with DPF. The risks of these assets largely offset the market risk on the liabilities under the policyholder contracts, and are risk managed on a non-trading basis.

 

Financial liabilities designated at fair value

 

Financial liabilities designated at fair value within HSBC are primarily fixed-rate securities issued by HSBC entities for funding purposes. An accounting mismatch would arise if the debt securities were accounted for at amortised cost because the derivatives which economically hedge market risks on the securities would be accounted for at fair value with changes recognised in the income statement. The market risks of these liabilities are treated as non-traded risk, the principal risks being interest rate and/or foreign exchange risks. We also incur liabilities to customers under investment contracts, where the liabilities on unit-linked contracts are based on the fair value of assets within the unit-linked funds. The exposures on these funds are treated as non-traded risk and the principal risks are those of the underlying assets in the funds.

 

Derivative assets and liabilities

 

We undertake derivative activity for three primary purposes; to create risk management solutions for clients, to manage the portfolio risks arising from client business and to manage and hedge our own risks. Most of our derivative exposures arise from sales and trading activities within GB&M and are treated as traded risk for market risk management purposes.

 

Within derivative assets and liabilities there are portfolios of derivatives which are not risk managed on a trading intent basis and are treated as non-traded risk for VaR measurement

 

     

purposes. These arise when the derivative was entered into in order to manage risk arising from non-traded exposures. They include non-qualifying hedging derivatives and derivatives qualifying for fair value and cash flow hedge accounting. The use of non-qualifying hedges whose primary risks relate to interest rate and foreign exchange exposure is described on page 181. Details of derivatives in fair value and cash flow hedge accounting relationships are given in Note 16 on the Financial Statements. Our primary risks in respect of these instruments relate to interest rate and foreign exchange risks.

 

Loans and advances to customers

 

The primary risk on assets within loans and advances to customers is the credit risk of the borrower. The risk of these assets is treated as non-trading risk for market risk management purposes.

 

Financial investments

 

Financial investments include assets held on an available-for-sale and held-to-maturity basis. An analysis of the Group’s holdings of these securities by accounting classification and issuer type is provided in Note 18 on the Financial Statements and by business activity on page 60. The majority of these securities are mainly held within Balance Sheet Management (‘BSM’) in GB&M. The positions which are originated in order to manage structural interest rate and liquidity risk are treated as non-trading risk for the purposes of market risk management. Available-for-sale security holdings within insurance entities are treated as non-trading risk and are largely held to back non-linked insurance policyholder liabilities.

 

The other main holdings of available-for-sale assets are the ABSs within GB&M’s legacy credit business, which are treated as non-trading risk for market risk management purposes, the principal risk being the credit risk of the obligor.

 

The Group’s held-to-maturity securities are principally held within the Insurance business. Risks of held-to-maturity assets are treated as non-trading for risk management purposes.

 

Repurchase (repo) and reverse repurchase (reverse repo) agreements non-trading

 

Reverse repo agreements, classified as assets, are a form of collateralised lending. HSBC lends cash for the term of the reverse repo in exchange for receiving collateral (normally in the form of bonds).

 

Repo agreements, classified as liabilities, are the opposite of reverse repo, allowing HSBC to obtain funding by providing collateral to the lender.

 

Both transaction types are treated as non-trading risk for market risk management and the primary risk is counterparty credit risk.

 

For information on the accounting policies applied to financial instruments at fair value, see Note 13 on the Financial Statements.

 

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Report of the Directors: Financial Review (continued)

 

 

Structural foreign exchange exposures

(Unaudited)

For our policies and procedures for managing structural foreign exchange exposures, see page 226 of the Appendix to Risk.

For details of structural foreign exchange exposures see Note 33 on the Financial Statements.

Non-trading interest rate risk

(Unaudited)

For our policies regarding the funds transfer pricing process for non-trading interest rate risk and liquidity and funding risk, see pages 226 and 219, respectively, of the Appendix to Risk.

Asset, Liability and Capital Management (‘ALCM’) is responsible for measuring and controlling non-trading interest rate risk under the supervision of the Risk Management Meeting. Its primary responsibilities are:

 

  to define the rules governing the transfer of non-trading interest rate risk from the global businesses to BSM;

 

  to define the rules governing the interest rate risk behaviouralisation applied to non-trading assets/liabilities (see below);

 

  to ensure that all market interest rate risk that can be neutralised is transferred from the global businesses to BSM; and

 

  to define the rules and metrics for monitoring the residual interest rate risk in the global businesses, including any market risk that cannot be neutralised.

The different types of non-trading interest rate risk and the controls which we use to quantify and limit exposure to these risks can be categorised as follows:

 

  risk which is transferred to BSM and managed by BSM within a defined market risk mandate, predominantly through the use of fixed rate liquid assets (government bonds) held in available-for-sale portfolios and/or interest rate derivatives which are part of fair value hedging or cash flow hedging relationships. This non-trading interest rate risk is reflected in non-trading VaR, as well as in our net interest income (see below) or economic value of equity (‘EVE’) sensitivity;

 

  risk which remains outside BSM because it cannot be hedged or which arises due to our behaviouralised transfer pricing assumptions. This risk is not reflected in non-trading VaR, but is captured by our net interest income or EVE sensitivity and corresponding limits are part of our global and regional risk appetite statements for non-trading interest rate risk. A typical example would be margin compression created by unusually low rates in key currencies;

 

  basis risk which is transferred to BSM when it can be hedged. Any residual basis risk remaining in the global businesses is reported to ALCO. This risk is not reflected in non-trading VaR, but is captured by our net interest income or EVE sensitivity. A typical example would be a managed rate savings product transfer-priced using a Libor-based interest rate curve; and
  model risks which cannot be captured by non-trading VaR, net interest income or EVE sensitivity, but are controlled by our stress testing framework. A typical example would be prepayment risk on residential mortgages or pipeline risk.

Interest rate risk behaviouralisation

For our policies regarding interest risk behaviouralisation, see page 226 of the Appendix to Risk.

Third-party assets in Balance Sheet Management

(Unaudited)

For our BSM governance framework, see page 227 of the Appendix to Risk.

Third-party assets in BSM decreased by 9% during 2014. Deposits with central banks reduced by US$31bn, predominantly in Europe due to a combination of reduced repo activity and a decrease in balances with the ECB as deposit rates became negative. Loans and advances to banks decreased by US$6bn, mainly in Hong Kong and the rest of Asia. Financial investments reduced by US$8bn due to foreign exchange movements, net sales and maturities in Hong Kong and the Americas, partially offset by the increased deployment of funds into securities in Asia.

Third-party assets in Balance Sheet Management

(Unaudited)

    2014     2013  
    US$m     US$m  

Cash and balances at central banks

  103,008      134,086   

Trading assets

  4,610      5,547   

Financial assets designated at fair value

       72   

Loans and advances1:

– to banks

  53,842      59,355   

– to customers

  1,931      2,146   

Reverse repurchase agreements

  59,172      58,968   

Financial investments

          306,763              314,427   

Other

  2,470      3,700   

At 31 December

  531,796      578,301   

For footnote, see page 202.

Sensitivity of net interest income

(Unaudited)

The table below sets out the effect on our future accounting net interest income (excluding insurance) of an incremental 25 basis points parallel rise or fall in all yield curves worldwide at the beginning of each quarter during the 12 months from 1 January 2015. The sensitivities shown represent the change in the base case projected net interest income that would be expected under the two rate scenarios assuming that all other non-interest rate risk variables remain constant, and there are no management actions. In deriving our base case net interest income projections the re-pricing rate of assets and liabilities used is derived from current yield curves. The interest rate sensitivities are indicative and based on simplified scenarios. The limitations of this analysis are discussed in the Appendix to Risk on page 227.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Assuming no management response, a sequence of such rises (‘up-shock’) would increase planned net interest income for 2015 by US$885m (2014: US$938m), while a sequence of such falls (‘down-shock’) would decrease planned net interest income by US$2,089m (2014: US$1,734m).

The net interest income (‘NII’) sensitivity of the Group can be split into three key components; the structural sensitivity arising from the four global businesses excluding BSM and Markets, the sensitivity of the funding of the trading book (Markets) and the sensitivity of BSM.

The structural sensitivity is positive in a rising rate environment and negative in a falling rate environment. The sensitivity of the funding of the trading book is negative in a rising rate environment and positive in a falling rate environment, and in terms of the impact on profit the change in net interest income would be expected to be offset by a similar change in net trading income. The sensitivity of BSM will depend on its position. Typically, assuming no management response, the sensitivity of BSM is negative in a rising rate environment and positive in a falling rate environment.

The NII sensitivity figures below also incorporate the effect of any interest rate behaviouralisation applied and the effect of any assumed repricing across products under the specific interest rate scenario. They do not incorporate the effect of any management decision to change the HSBC balance sheet composition.

See page 227 in the Risk Appendix for more information about interest rate behaviouralisation and the role of BSM.

The NII sensitivity in BSM arises from a combination of the techniques that BSM use to mitigate the transferred interest rate risk and the methods they use to optimise net revenues in line with their defined risk mandate. The figures in the table below do not incorporate the effect of any management decisions within BSM, but in reality it is likely that there would be some short-term adjustment in BSM positioning to offset the NII effects of the specific interest rate scenario where necessary.

The NII sensitivity arising from the funding of the trading book is comprised of the expense of funding trading assets, while the revenue from these trading assets is reported in net trading income. This leads to an asymmetry in the NII sensitivity figures which is cancelled out in our global business results, where we include both net interest income and net trading income. It is likely, therefore, that the overall effect on profit before tax of the funding of the trading book will be much less pronounced than shown in the figures below.

The up-shock sensitivity remained broadly unchanged in 2014. The down-shock sensitivity increased predominantly due to a change in BSM’s interest rate risk profile in US dollars.

 

 

Sensitivity of projected net interest income39

(Unaudited)

   

US dollar

bloc

US$m

 

Rest of

Americas

bloc

US$m

 

Hong Kong

dollar

bloc

US$m

 

    Rest of

Asia

bloc

US$m

 

    Sterling

bloc

US$m

 

Euro

bloc

      US$m

 

Total

      US$m

 

Change in 2015 projected net interest income arising from a shift in yield curves of:

+25 basis points at the beginning of each quarter

  209      (9   245      265      321      (146   885   

–25 basis points at the beginning of each quarter

  (521   (1   (494   (259   (783   (31   (2,089

Change in 2014 projected net interest income arising from a shift in yield curves of:

+25 basis points at the beginning of each quarter

  (107   12      327      236      598      (128   938   

–25 basis points at the beginning of each quarter

  (291   (23   (412   (233   (761   (14   (1,734

For footnote, see page 202.

 

We monitor the sensitivity of reported reserves to interest rate movements on a monthly basis by assessing the expected reduction in valuation of available-for-sale portfolios and cash flow hedges due to parallel movements of plus or minus 100bps in all yield curves. These particular exposures form only a part

of our overall interest rate exposures. The accounting treatment of our remaining interest rate exposures, while economically largely offsetting the exposures shown in the below table, does not require revaluation movements to go to reserves.

 

 

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Report of the Directors: Financial Review (continued)

 

 

The table below describes the sensitivity of our reported reserves to the stipulated movements in yield curves and the maximum and minimum month-end figures during the year. The sensitivities are indicative and based on

simplified scenarios. The change in sensitivity of reported reserves is predominantly due to a reduction in the available-for-sale securities portfolio.

 

 

Sensitivity of reported reserves to interest rate movements

(Unaudited)

    US$m    

Maximum

impact

US$m

   

Minimum

impact

US$m

 

At 31 December 2014

+ 100 basis point parallel move in all yield curves

  (3,696   (5,212   (3,696

As a percentage of total shareholders’ equity

  (1.9%   (2.7%   (1.9%

– 100 basis point parallel move in all yield curves

  3,250      4,915      3,250   

As a percentage of total shareholders’ equity

  1.7%      2.6%      1.7%   

At 31 December 2013

+ 100 basis point parallel move in all yield curves

  (5,762   (5,992   (5,507

As a percentage of total shareholders’ equity

  (3.2%   (3.3%   (3.0%

– 100 basis point parallel move in all yield curves

  5,634      5,786      4,910   

As a percentage of total shareholders’ equity

  3.1%      3.2%      2.7%   

 

Defined benefit pension schemes

(Audited)

Market risk arises within our defined benefit pension schemes to the extent that the obligations of the schemes are not fully matched by assets with determinable cash flows.

HSBC’s defined benefit pension schemes

(Audited)

    2014     2013  
          US$bn             US$bn  

Liabilities (present value)

  42.1      40.5   
    %     %  

Assets:

Equities

  18      18   

Debt securities

  68      70   

Other (including property)

  14      12   

At 31 December

  100      100   

For details of our defined benefit schemes, see Note 6 on the Financial Statements, and for pension risk management see page 200.

Additional market risk measures applicable only to the parent company

(Audited)

The principal tools used in the management of market risk are VaR for foreign exchange rate risk and the projected sensitivity of HSBC Holdings’ net interest income to future changes in yield curves and interest rate gap repricing tables for interest rate risk.

Foreign exchange risk

Total foreign exchange VaR arising within HSBC Holdings in 2014 was as follows:

HSBC Holdings – foreign exchange VaR

(Audited)

   

2014

      US$m

   

2013

       US$m

 

At 31 December

  29.3      54.1   

Average

  42.1      51.1   

Minimum

  29.3      46.7   

Maximum

  50.0      64.1   

The foreign exchange risk largely arises from loans to subsidiaries of a capital nature that are not denominated in the functional currency of either the provider or the recipient and which are accounted for as financial assets. Changes in the carrying amount of these loans due to foreign exchange rate differences are taken directly to HSBC Holdings’ income statement. These loans, and most of the associated foreign exchange exposures, are eliminated on consolidation.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Sensitivity of net interest income

(Audited)

HSBC Holdings monitors net interest income sensitivity over a five year time horizon reflecting the longer-term perspective on interest rate risk management appropriate to a financial services holding company. These sensitivities assume that any issuance where HSBC Holdings has an option to reimburse at a future call date is called at this date. The table below sets out the effect on HSBC Holdings’ future net interest income over a five

year time horizon of incremental 25 basis point parallel falls or rises in all yield curves worldwide at the beginning of each quarter during the 12 months from 1 January 2015.

Assuming no management actions, a sequence of such rises would increase planned net interest income for the next five years by US$600m (2013: increase of US$602m), while a sequence of such falls would decrease planned net interest income by US$539m (2013: decrease of US$464m).

 

 

Sensitivity of HSBC Holdings’ net interest income to interest rate movements39

(Audited)

   

US dollar

bloc

 

Sterling

bloc

 

Euro

bloc

  Total  
    US$m   US$m   US$m   US$m  

Change in projected net interest income as at 31 December arising from a shift in yield curves

2014

of + 25 basis points at the beginning of each quarter

0-1 year

  78      9      2      89   

2-3 years

  281      17      34      332   

4-5 years

  138      17      24      179   

of – 25 basis points at the beginning of each quarter

0-1 year

  (58   (9   (1   (68

2-3 years

  (276   (16   (12   (304

4-5 years

  (138   (17   (12   (167

2013

of + 25 basis points at the beginning of each quarter

0-1 year

  104      (14   2      92   

2-3 years

  382      (93   38      327   

4-5 years

  245      (101   38      182   

of – 25 basis points at the beginning of each quarter

0-1 year

  (53   13      (2   (42

2-3 years

  (300   91      (33   (242

4-5 years

  (243   101      (38   (180

For footnote, see page 202.

 

The interest rate sensitivities tabulated above are indicative and based on simplified scenarios. The figures represent hypothetical movements in net interest income based on our projected yield curve scenarios, HSBC Holdings’ current interest rate risk profile and assumed changes to that profile during the next five years. Changes to assumptions concerning the risk profile over the next five years can have a significant impact on the net interest income sensitivity for that period. However, the figures do not take into account

the effect of actions that could be taken to mitigate this interest rate  risk.

Interest rate repricing gap table

The interest rate risk on the fixed-rate securities issued by HSBC Holdings is not included within the Group VaR but is managed on a repricing gap basis. The interest rate repricing gap table below analyses the full-term structure of interest rate mismatches within HSBC Holdings’ balance sheet.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Repricing gap analysis of HSBC Holdings

(Audited)

    Total    

Up to

1 year

   

From over 1

to 5 years

   

From over 5

to 10 years

   

More than

10 years

   

Non-interest

bearing

 
    US$m     US$m     US$m     US$m     US$m     US$m  

Cash at bank and in hand:

– balances with HSBC undertakings

  249                          249   

Derivatives

  2,771                          2,771   

Loans and advances to HSBC undertakings

  43,910      41,603      290      1,093           924   

Financial investments in HSBC undertakings

  4,073      3,010           731           332   

Investments in subsidiaries

  96,264                          96,264   

Other assets

  597                          597   

Total assets

  147,864      44,613      290      1,824           101,137   

Amounts owed to HSBC undertakings

  (2,892   (1,877                  (1,015

Financial liabilities designated at fair values

  (18,679   (850   (5,472   (5,400   (4,263   (2,694

Derivatives

  (1,169                       (1,169

Debt securities in issue

  (1,009             (1,013        4   

Other liabilities

  (1,415                       (1,415

Subordinated liabilities

  (17,255   (779   (3,766   (2,000   (10,195   (515

Total equity

  (105,445                       (105,445

Total liabilities and equity

  (147,864   (3,506   (9,238   (8,413   (14,458   (112,249

Off-balance sheet items attracting interest rate sensitivity

       (21,525   7,295      7,400      5,763      1,067   

Net interest rate risk gap at 31 December 2014

       19,582      (1,653   811      (8,695   (10,045

Cumulative interest rate gap

       19,582      17,929      18,740      10,045        

Cash at bank and in hand:

– balances with HSBC undertakings

  407      357                     50   

Derivatives

  2,789                          2,789   

Loans and advances to HSBC undertakings

  53,344      49,979      290      1,239      645      1,191   

Financial investments in HSBC undertakings

  1,210      300           731           179   

Investments in subsidiaries

  92,695                          92,695   

Other assets

  391                          391   

Total assets

  150,836      50,636      290      1,970      645      97,295   

Amounts owed to HSBC undertakings

  (11,685   (10,865                  (820

Financial liabilities designated at fair values

  (21,027   (1,928   (4,655   (7,810   (4,325   (2,309

Derivatives

  (704                       (704

Debt securities in issue

  (2,791   (1,722             (1,069     

Other liabilities

  (1,375                       (1,375

Subordinated liabilities

  (14,167        (3,030   (2,066   (8,912   (159

Total equity

  (99,087                       (99,087

Total liabilities and equity

      (150,836         (14,515           (7,685         (9,876         (14,306       (104,454

Off-balance sheet items attracting interest rate sensitivity

       (18,620   4,382      9,876      4,421      (59

Net interest rate risk gap at 31 December 2013

       17,501      (3,013   1,970      (9,240   (7,218

Cumulative interest rate gap

       17,501      14,488      16,458      7,218        

 

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Report of the Directors: Financial Review (continued)

 

 

Operational risk

(Unaudited)

        

 

Page

 

         

 

App1

 

         

 

Tables

 

  

 

Page  

 

 
 

Operational risk

 

    

 

186

 

  

 

         

 

228

 

  

 

                  
 

Operational risk management framework

     186                         

Three lines of defence

     186     
                                  

Operational risk management framework

 

     187     
 

Operational risk in 2014

     187                                    
 

Frequency and amount of operational risk losses

     188                         

Frequency of operational risk incidents by risk category

     189     
                                     

Distribution of operational risk losses in US dollars by risk category

 

    

 

228  

 

  

 

 

Compliance risk

     189              229                      
 

Legal risk

                   229                      
 

Global security and fraud risk

                   230                      
 

Systems risk

                   231                      
 

Vendor risk management

 

                   231                      
 

1 Appendix to Risk – risk policies and practices.

 

                 

 

Operational risk is relevant to every aspect of our business and covers a wide spectrum of issues, in particular legal, compliance, security and fraud. Losses arising from breaches of regulation and law, unauthorised activities, error, omission, inefficiency, fraud, systems failure or external events all fall within the definition of operational risk.

Responsibility for minimising operational risk lies with HSBC’s management and staff. Each regional, global business, country, business unit and functional head is required to maintain oversight over the operational risks and internal controls of the business and operational activities for which they are responsible.

A summary of our current policies and practices regarding operational risk is provided in the Appendix to Risk on page 228.

Operational risk management framework

The Group Operational Risk function and the operational risk management framework (‘ORMF’) directs business management in discharging their responsibilities.

The ORMF defines minimum standards and processes, and the governance structure for operational risk and internal control across the Group. To implement the ORMF a ‘three lines of defence’ model is used for the management of risk, as described below:

Three lines of defence

 

LOGO

A diagrammatic representation of the ORMF is presented on page 187.

Activity to embed the use of our operational risk management framework continued in 2014. At the same time, we are streamlining operational risk management processes and harmonising framework components and risk management processes. This is expected to lead to a stronger operational risk management culture and more forward-looking risk insights to enable businesses to determine whether material risks are being managed within the Group’s risk appetite and whether further action is required. In addition, the Security and Fraud Risk and Financial Crime Compliance functions have built a Financial Intelligence Unit (‘FIU’) which provides intelligence on the potential risks of financial crime posed by customers and business prospects to enable better risk management decision-making. The FIU provides context and expertise to identify, assess and understand financial crime risks holistically in clients, sectors and markets.

Articulating our risk appetite for material operational risks helps the organisation understand the level of risk HSBC is willing to accept. The Group operational risk appetite statement is approved annually by the GRC. The Group risk appetite statement, which includes operational risk appetite metrics, was approved by the HSBC Holdings Board. Monitoring operational risk exposure against risk appetite on a regular basis and implementing our risk acceptance process drives risk awareness in a forward-looking manner. It assists management in determining whether further action is required.

Operational risk and control assessments (‘RCAs’) are performed by individual business units and functions. The risk and control assessment process is designed to provide business areas and functions with a forward looking view of operational risks and an assessment of the effectiveness of controls, and a tracking mechanism for action plans so that they can proactively manage operational risks within acceptable levels. Risk and control assessments are reviewed and updated at least annually.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Operational risk management framework

 

LOGO

 

  RCAs are used to inform the evaluation of the effectiveness of controls over top risks.

 

  Key Indicators are used to help monitor the risks and controls.

 

  Scenarios provide management with a quantified view of our top and emerging operational risks.

 

  Internal incidents are used to forecast typical losses.

 

  External sources are used to inform the assessment of extreme scenarios.

 

Appropriate means of mitigation and controls are considered. These include:

 

  making specific changes to strengthen the internal control environment;

 

  investigating whether cost-effective insurance cover is available to mitigate the risk; and

 

  other means of protecting us from loss.

In addition, an enhanced scenario analysis process has been implemented across material legal entities to improve the quantification and management of material risks.

Operational risk in 2014

During 2014, our operational risk profile continued to be dominated by compliance and legal risks as referred to under ‘Top and emerging risks’ on page 118. Losses were realised relating to events that occurred in previous years. These events included the possible historical mis-selling of payment protection insurance (‘PPI’) products in the UK (see Note 29 on the Financial Statements). A number of mitigating actions continue to be taken to prevent future mis-selling incidents.

The incidence of regulatory and other proceedings against financial service firms is increasing. Proposed changes relating to capital and liquidity requirements, remuneration and/or taxes could increase our cost of doing business, reducing future profitability. We remain subject to a number of regulatory proceedings including investigations and reviews by various national regulatory, competition and enforcement authorities relating to certain past submissions made by panel banks and the process for making submissions in connection with the

setting of Libor and other interbank offered and benchmark interest rates. There are also investigations into foreign exchange, precious metals and credit default swap-related activities in progress. In response, we have undertaken a number of initiatives, including the restructuring of our Compliance sub-functions, enhancing our governance and oversight, measures to implement Global Standards as described on page 26 and other measures put in place designed to ensure we have the appropriate people, processes and procedures to manage emerging risks and new products and business.

For further details see ‘Compliance risk’ on page 189 and for details of the investigations and legal proceedings see Note 40 on the Financial Statements.

In November 2014, the UK FCA and the US Commodity Futures Trading Commission (‘CFTC’) each announced having concluded regulatory settlements with a number of banks, including HSBC Bank plc, in connection with their respective investigations of trading and other conduct involving foreign exchange benchmark rates. Under the settlement terms, HSBC Bank plc agreed to pay a financial penalty to the FCA and a civil monetary penalty to the CFTC and to undertake various remedial actions. For further information, see Note 40 on the Financial Statements.

We have undertaken a review of our compliance with the fixed-sum unsecured loan agreement requirements of the UK Consumer Credit Act (‘CCA’). A liability has been recognised within ‘Accruals, deferred income and other liabilities’ for the repayment of interest to customers where annual statements did not remind them of their right to partially prepay the loan, notwithstanding that the customer loan documentation did include this right.

 

 

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Report of the Directors: Financial Review (continued)

 

 

There is uncertainty as to whether other technical requirements of the CCA have been met, for which we have assessed an additional contingent liability. For further details see Note 40 on the Financial Statements.

We have settled claims by the US Federal Housing Finance Agency in relation to the purchase of mortgage backed securities by the Federal National Mortgage Associations (‘Fannie Mae’) and the Federal Home Loan Mortgage Association (‘Freddie Mac’) between 2005 and 2007. For further information, see Note 40 on the Financial Statements.

Other operational risks included:

 

  fraud risks: the threat of fraud perpetrated by or against our customers, especially in retail and commercial banking, may grow during adverse economic conditions. We increased monitoring, analysed root causes and reviewed internal controls to enhance our defences against external attacks and reduce the level of loss in these areas. In addition, Group Security and Fraud Risk worked closely with the global businesses to continually assess these threats as they evolved and adapt our controls to mitigate these risks;

 

  level of change creating operational complexity: the Global Risk function is engaged with business management in business transformation initiatives to ensure robust internal controls are maintained, including through participation in all relevant management committees. The Global Transactions Team has developed an enhanced risk management framework to be applied to the management of disposal risks;

 

  information security: the security of our information and technology infrastructure is crucial for maintaining our banking services and protecting our customers and the HSBC brand. A failure of the control framework which protects this could have implications for the wider financial sector and result in direct financial loss and/or the loss of customer data and other sensitive information which could undermine both our reputation and our ability to retain the trust of our customers. Programmes of work have been ongoing to strengthen internal security controls to prevent unauthorised access to our systems which may affect live services or facilitate data loss or fraud. In common with other banks and multinational organisations, we continue to be a target of increasingly sophisticated cyber-attacks such as ‘distributed denial of service’ attacks which can affect the availability of customer-facing websites. In addition, reliance on standard internet technologies, protocols and services means we are subject to wide-scale remediation when flaws are reported in these technologies. Lessons learnt from attacks experienced within the industry and information sharing with other financial institutions, government agencies and external intelligence
   

providers allows us to develop a better understanding of our own susceptibilities and to develop scenarios to test against. They will continue to be a focus of ongoing initiatives to strengthen the control environment. Significant investment has already been made in enhancing controls around data access, the heightened monitoring of potential cyber-attacks and continued training to raise staff awareness. This is an area that will require continual investment in our operational processes and contingency plans;

 

  vendor risk management: we continue to focus on the management of vendor risks including making good progress with the implementation of the supplier performance management programme with our most important suppliers. Additional focus is put on the screening of suppliers to enable HSBC to identify if any suppliers are on a sanctions list and to exit such relationships. Vendor risk management is a core element of third party risk management; and

 

  compliance with regulatory agreements and orders: Failure to implement our obligations under the DPAs could have a material adverse effect on our results and operations. Legal proceedings are discussed in Note 40 on the Financial Statements and further details regarding compliance risk are set out below.

Other operational risks are also monitored and managed through the use of the ORMF.

Further information on the nature of these risks is provided in ‘Top and emerging risks’ on page 118.

Frequency and amount of operational risk losses

The profile of operational risk incidents and associated losses is summarised below, showing the distribution of operational risk incidents in terms of their frequency of occurrence and total loss amount in US dollars.

Operational losses rose in 2014, driven by UK customer redress programme charges and settlements relating to legal and regulatory matters.

As in 2013, the operational risk incident profile in 2014 comprised both high frequency, low impact events and high impact events that occurred much less frequently. For example, losses due to external fraud incidents such as credit card fraud occurred more often than other types of event, but the amounts involved were often small in value. By contrast, operational risk incidents in the compliance category were relatively low frequency events, but the total cost was significant.

The number of fraud cases was broadly unchanged during 2014 due to the continued strong control environment.

Losses due to significant historical events, including the possible mis-selling of PPI products in the UK and the incidence of regulatory matters described in Note 40 on the Financial Statements remained substantial in 2014.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Frequency of operational risk incidents by risk category (individual loss >US$10k)

 

LOGO

Distribution of operational risk losses in US dollars by risk category

 

LOGO

Compliance risk

(Unaudited)

Compliance risk is the risk that we fail to observe the letter and spirit of all relevant laws, codes, rules, regulations and standards of good market practice, and incur fines and penalties and suffer damage to our business as a consequence.

In 2014, we completed the restructuring of our Compliance sub-function within Global Risk into two new sub-functions: Financial Crime Compliance and Regulatory Compliance, appropriately supported by shared Compliance Chief Operating Officer, Assurance and Reputational Risk Management teams. We continue to ensure that the Compliance sub-functions, through

their operation and the execution of the Group strategy, including measures to implement Global Standards, are well positioned to meet increased levels of regulation and scrutiny from regulators and law enforcement agencies. In addition, the measures we have put in place are designed to ensure we have the appropriate people, processes and procedures to manage emerging risks and new products and business.

Enhanced global AML and sanctions policies, incorporating risk appetite, were approved by the Board in January 2014. The policies adopt and seek to enforce the highest or most effective standards globally, including a globally consistent approach to knowing our customers.

The policies are being implemented in phases through the development and application of procedures required to embed them in our day to day business operations globally. The overriding policy objective is for every employee to engage in only ‘the right kind of business, conducted in the right way’.

HSBC has fulfilled all of the requirements imposed by the DANY DPA, which expired by its terms at the end of the two-year period of that agreement in December 2014. Breach of the US DPA at any time during its term may allow the DoJ to prosecute HSBC Holdings or HSBC Bank USA in relation to the matters which are the subject of the US DPA. For further information, see ‘Regulatory commitments and consent orders’ on page 120.

In May 2014, the Board approved a globally consistent approach to the management of regulatory conduct designed to ensure we deliver fair outcomes for our customers and conduct orderly and transparent operations in financial markets. Implementation of the global conduct approach is managed through the global lines of business and functions and covers all our business and operational activities. Examples of these activities are disclosed in ‘Conduct of business’ on page 121.

It is clear that the level of inherent compliance risk that we face will continue to remain high for the foreseeable future. However, we consider that good progress is being made and will continue to be made in ensuring that we are well placed to effectively manage those risks.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Risk management of insurance operations

(Audited)

 

        

 

Page

 

         

 

App1

 

         

 

Tables

 

  

 

Page  

 

 
 

HSBC’s bancassurance model

 

     190                                    
 

Overview of insurance products

                   231                      
 

Nature and extent of risks

                   232                      
 

Risk management of insurance operations in 2014

     191                                    
 

Asset and liability matching

     191                         

Balance sheet of insurance manufacturing subsidiaries:

        
                                  

– by type of contract

     191   
                                  

– by geographical region

     193   
                                  

Movement in total equity of insurance operations

     193   
 

Financial risks

     194              232           

Financial assets held by insurance manufacturing subsidiaries

     194   
 

Market risk

     194              232           

Financial return guarantees

     195   
                                  

Sensitivity of HSBC’s insurance manufacturing subsidiaries to market risk factors

     195   
 

Credit risk

     196              234           

Treasury bills, other eligible bills and debt securities in HSBC’s insurance manufacturing subsidiaries

     196   
                                  

Reinsurers’ share of liabilities under insurance contracts

     197   
 

Liquidity risk

     197              234           

Expected maturity of insurance contract liabilities

     197   
                                  

Remaining contractual maturity of investment contract liabilities

     197   
 

Insurance risk

     198              235           

Analysis of insurance risk – liabilities under insurance contracts

     198   
 

Sensitivities to non-economic assumptions

     198                         

Sensitivity analysis

     198   
 

1 Appendix to Risk – policies and practices.

 

                 

 

The majority of the risk in our insurance business derives from manufacturing activities and can be categorised as insurance risk and financial risk. Insurance risk is the risk, other than financial risk, of loss transferred from the holder of the insurance contract to the issuer (HSBC). Financial risks include market risk, credit risk and liquidity risk.

There were no material changes to our policies and practices for the management of risks arising in the insurance operations in 2014.

A summary of HSBC’s policies and practice regarding the risk management of insurance operations and the main contracts we manufacture is provided in the Appendix to Risk on page 231.

HSBC’s bancassurance model

(Unaudited)

We operate an integrated bancassurance model which provides insurance products principally for customers with whom we have a banking relationship. Insurance products are sold through all global businesses, but predominantly by RBWM and CMB through our branches and direct channels worldwide.

The insurance contracts we sell relate to the underlying needs of our banking customers, which we can identify from our point-of-sale contacts and customer knowledge. The majority of sales are of savings and investment products and term and credit life contracts.

By focusing largely on personal and SME lines of business we are able to optimise volumes and diversify individual insurance risks.

Where we have operational scale and risk appetite, mostly in life insurance, these insurance products are manufactured by HSBC subsidiaries. Manufacturing insurance allows us to retain the risks and rewards associated with writing insurance contracts by keeping part of the underwriting profit, investment income and distribution commission within the Group.

Where we do not have the risk appetite or operational scale to be an effective insurance manufacturer, we engage with a handful of leading external insurance companies in order to provide insurance products to our customers through our banking network and direct channels. These arrangements are generally structured with our exclusive strategic partners and earn the Group a combination of commissions, fees and a share of profits.

We distribute insurance products in all of our geographical regions. We have core life insurance manufacturing entities, the majority of which are direct subsidiaries of legal banking entities, in seven countries (Argentina, Brazil, Mexico, France, the UK, Hong Kong and Singapore). There are also life insurance manufacturing subsidiaries in mainland China, Malaysia and Malta.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Risk management of insurance operations in 2014

We measure the risk profile of our insurance manufacturing businesses using an economic capital approach, where assets and liabilities are measured on a market value basis and a capital requirement is held to ensure that there is less than a 1 in 200 chance of insolvency over the next year, given the risks that the businesses are exposed to. In 2014 we aligned the measurement approach for market, credit and insurance risks in the economic capital model to the new pan-European Solvency II insurance capital regulations, which are applicable from 2016.

The risk profile of our life insurance manufacturing businesses did not change materially during 2014 and liabilities to policyholders on these contracts remained constant at US$74bn (2013: US$74bn). However, a notable change arose in the UK where HSBC Life (UK) Ltd entered into an agreement to sell its pensions business.

The full effect will only be recognised once regulatory approval is received and the portfolio is transferred to the purchaser.

Asset and liability matching

(Audited)

A principal tool used to manage exposures to both financial and insurance risk, in particular for life insurance contracts, is asset and liability matching. In many markets in which we operate it is neither possible nor appropriate to follow a perfect asset and liability matching strategy. For long-dated non-linked contracts, in particular, this results in a duration mismatch between assets and liabilities. We therefore structure portfolios to support projected liabilities from non-linked contracts.

The tables below show the composition of assets and liabilities by contract and by geographical region and demonstrate that there were sufficient assets to cover the liabilities to policyholders in each case at the end of 2014.

 

 

Balance sheet of insurance manufacturing subsidiaries by type of contract

(Audited)

    Insurance contracts     Investment contracts              
 

 

With

DPF

  

  

 
 
Unit-
linked
  
  
  Annuities      Other 40   

 

With  

DPF41

  

  

 

 

Unit-

linked

  

  

  Other     

 

Other  

assets42

  

  

  Total   
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m  

Financial assets

  29,040      11,278      1,517      6,253      24,238      2,561      4,322      5,732      84,941   

– trading assets

            3                               3   

– financial assets designated at fair value

  4,304      11,111      533      782      6,346      2,223      1,684      1,713      28,696   

– derivatives

  12      1           1      101      1      10      73      199   

– financial investments

  21,152           886      5,167      15,677           1,807      3,812      48,501   

– other financial assets

  3,572      166      95      303      2,114      337      821      134      7,542   

Reinsurance assets

  190      262           617                     2      1,071   

PVIF43

                                     5,307      5,307   

Other assets and investment properties

  698      328      23      107      831      7      26      7,383      9,403   

Total assets

       29,928           11,868          1,540          6,977           25,069           2,568           4,348           18,424         100,722   

Liabilities under investment contracts

                           2,542      4,155           6,697   

– designated at fair value

                           2,542      3,770           6,312   

– carried at amortised cost

                                385           385   

Liabilities under insurance contracts

  29,479      11,820      1,473      6,021      25,068                     73,861   

Deferred tax44

  12           11      18                     1,180      1,221   

Other liabilities

                                     8,577      8,577   

Total liabilities

  29,491      11,820      1,484      6,039      25,068      2,542      4,155      9,757      90,356   

Total equity

                                     10,366      10,366   

Total liabilities and equity at 31 December 201445

  29,491      11,820      1,484      6,039      25,068      2,542      4,155      20,123      100,722   

 

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Report of the Directors: Financial Review (continued)

 

 

    Insurance contracts     Investment contracts              
 

 

With

DPF

  

  

 
 
Unit-
linked
  
  
  Annuities      Other 40   

 

With

DPF

  

41 

 

 

Unit-

linked

  

  

  Other     

 

Other

assets

  

42 

  Total   
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m  

Financial assets

  26,382      13,348      1,651      4,728      25,676      9,720      4,375      5,846      91,726   

– trading assets

            3                               3   

– financial assets designated at fair value

  3,850      13,131      532      761      6,867      9,293      1,706      1,757      37,897   

– derivatives

  1      3                215      5           55      279   

– financial investments

  19,491           959      3,780      16,556           1,853      3,745      46,384   

– other financial assets

  3,040      214      157      187      2,038      422      816      289      7,163   

Reinsurance assets

  182      291      522      439                     2      1,436   

PVIF43

                                     5,335      5,335   

Other assets and investment properties

  757      284      23      113      791      19      31      546      2,564   

Total assets

       27,321           13,923           2,196           5,280           26,467           9,739          4,406           11,729         101,061   

Liabilities under investment contracts

                           9,730      4,209           13,939   

– designated at fair value

                           9,730      3,761           13,491   

– carried at amortised cost

                                448           448   

Liabilities under insurance contracts

  26,920      13,804      2,158      4,872      26,427                     74,181   

Deferred tax44

  12           17      1                     1,163      1,193   

Other liabilities

                                     2,048      2,048   

Total liabilities

  26,932      13,804      2,175      4,873      26,427      9,730      4,209      3,211      91,361   

Total equity

                                     9,700      9,700   

Total liabilities and equity at 31 December 201345

  26,932      13,804      2,175      4,873      26,427      9,730      4,209      12,911      101,061   

For footnotes, see page 202.

 

Our most significant life insurance products are investment contracts with DPF issued in France, insurance contracts with DPF issued in Hong Kong and unit-linked contracts issued in Latin America, Hong Kong and the UK.

Our exposure to financial risks arising in the above balance sheet varies depending on the type of contract issued. For unit-linked contracts, the policyholder bears the majority of the exposure to financial risks whereas, for non-linked contracts, the majority of financial risks are borne by the shareholder (HSBC). For contracts with DPF, the shareholder is exposed to financial risks to the extent that the exposure cannot be managed by utilising any discretionary participation (or bonus) features within the policy contracts issued.

As noted above, during the year HSBC entered into an agreement to sell its UK pensions business, and the related balances are reported as a disposal group held for sale under IFRS 5 (and are therefore included within the ‘Other assets’ column in the table above). The disposal group comprises US$6.8bn of total liabilities, being liabilities under unit-linked investment contracts, unit-linked insurance contracts and annuity contracts. It also comprises US$6.8bn of total assets, being financial and reinsurance assets backing the liabilities, and the associated PVIF on these contracts. The transfer is subject to regulatory approvals and is expected to complete in the second half of 2015. As part of the transaction we also entered into a reinsurance agreement transferring certain risks and rewards of the business to the purchaser from 1 January 2014 until completion of the transaction. A gain of US$42m was recognised on entering into this reinsurance agreement.

 

 

 

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Report of the Directors: Financial Review (continued)

 

 

Balance sheet of insurance manufacturing subsidiaries by geographical region46

(Audited)

          Europe      Asia 6   
 
Latin
        America
  
  
  Total   
  US$m              US$m      US$m              US$m   

Financial assets

  30,178      47,443      7,320      84,941   

– trading assets

            3      3   

– financial assets designated at fair value

  10,610      12,497      5,589      28,696   

– derivatives

  172      27           199   

– financial investments

  16,947      30,010      1,544      48,501   

– other financial assets

  2,449      4,909      184      7,542   

Reinsurance assets

  308      748      15      1,071   

PVIF43

  711      4,175      421      5,307   

Other assets and investment properties

  7,650      1,145      608      9,403   

Total assets

  38,847      53,511      8,364      100,722   

Liabilities under investment contracts:

– designated at fair value

  1,585      4,727           6,312   

– carried at amortised cost

            385      385   

Liabilities under insurance contracts

  27,312      39,990      6,559      73,861   

Deferred tax44

  273      806      142      1,221   

Other liabilities

  7,932      460      185      8,577   

Total liabilities

  37,102      45,983      7,271      90,356   

Total equity

  1,745      7,528      1,093      10,366   

Total liabilities and equity at 31 December 201445

  38,847      53,511      8,364      100,722   

Financial assets

  41,557      42,352      7,817      91,726   

– trading assets

            3      3   

– financial assets designated at fair value

  20,742      11,420      5,735      37,897   

– derivatives

  272      7           279   

– financial investments

  18,080      26,505      1,799      46,384   

– other financial assets

  2,463      4,420      280      7,163   

Reinsurance assets

  823      596      17      1,436   

PVIF43

  1,156      3,730      449      5,335   

Other assets and investment properties

  868      1,101      595      2,564   

Total assets

  44,404      47,779      8,878      101,061   

Liabilities under investment contracts:

– designated at fair value

  8,760      4,731           13,491   

– carried at amortised cost

            448      448   

Liabilities under insurance contracts

  31,786      35,619      6,776      74,181   

Deferred tax44

  407      645      141      1,193   

Other liabilities

  1,474      371      203      2,048   

Total liabilities

  42,427      41,366      7,568      91,361   

Total equity

  1,977      6,413      1,310      9,700   

Total liabilities and equity at 31 December 201345

      44,404          47,779          8,878          101,061   

For footnotes, see page 202.

Movement in total equity of insurance operations

(Audited)

    Total equity  
    2014     2013  
              US$m             US$m  

At 1 January

          9,700              9,989   

Change in PVIF of long-term insurance business43

  261      525   

Return on net assets

  1,835      848   

Capital transactions

  (673   (590

Disposals of subsidiaries/portfolios

  1      (675

Exchange differences and other

  (758   (397

At 31 December

      10,366          9,700   

For footnote, see page 202.

 

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Report of the Directors: Financial Review (continued)

 

 

Financial risks

(Audited)

Details on the nature of financial risks and how they are managed are provided in the Appendix to Risk on page 232.

Financial risks can be categorised into:

 

  market risk – risk arising from changes in the fair values of financial assets or their future cash flows from fluctuations in variables such as interest rates, credit spreads, foreign exchange rates and equity prices;

 

  credit risk – the risk of financial loss following the failure of third parties to meet their obligations; and
  liquidity risk – the risk of not being able to make payments to policyholders as they fall due as there are insufficient assets that can be realised as cash.

The following table analyses the assets held in our insurance manufacturing subsidiaries at 31 December 2014 by type of contract, and provides a view of the exposure to financial risk. For unit-linked contracts, which pay benefits to policyholders determined by reference to the value of the investments supporting the policies, we typically designate assets at fair value; for non-linked contracts, the classification of the assets is driven by the nature of the underlying contract.

 

 

Financial assets held by insurance manufacturing subsidiaries

(Audited)

    Unit-linked     Non-linked     Other        
        contracts 47          contracts 48              assets 49    Total   
    US$m     US$m     US$m                   US$m  

Trading assets

Debt securities

       3           3   

Financial assets designated at fair value

  13,334      13,649      1,713      28,696   

Treasury bills

       40      16      56   

Debt securities

  4,589      3,507      618      8,714   

Equity securities

  8,745      10,102      1,079      19,926   

Financial investments

Held-to-maturity: debt securities

       21,789      2,494      24,283   

Available-for-sale:

       22,899      1,319      24,218   

– debt securities

       22,899      1,290      24,189   

– equity securities

            29      29   

Derivatives

  2      124      73      199   

Other financial assets49

  503      6,905      134      7,542   

Total financial assets at 31 December 201445

  13,839      65,369      5,733      84,941   

Trading assets

Debt securities

       3           3   

Financial assets designated at fair value

  22,424      13,716      1,757      37,897   

Treasury bills

            50      50   

Debt securities

  7,809      3,910      546      12,265   

Equity securities

  14,615      9,806      1,161      25,582   

Financial investments

Held-to-maturity: debt securities

       21,784      2,142      23,926   

Available-for-sale:

       20,855      1,603      22,458   

– debt securities

       20,855      1,594      22,449   

– equity securities

            9      9   

Derivatives

  8      216      55      279   

Other financial assets49

  636      6,238      289      7,163   

Total financial assets at 31 December 201345

  23,068      62,812      5,846      91,726   

For footnotes, see page 202.

 

Approximately 67% of financial assets were invested in debt securities at 31 December 2014 (2013: 64%) with 24% (2013: 28%) invested in equity securities.

Under unit-linked contracts, premium income less charges levied is invested in a portfolio of assets. We manage the financial risks of this product on behalf of the policyholders by holding appropriate assets in segregated funds or portfolios to which the liabilities are linked. These assets represented 16% (2013: 25%) of the total financial assets of our insurance manufacturing subsidiaries at the end of 2014. The reduction of US$9.3bn in the value of assets backing unit-linked contracts is largely due to the classification of US$6.3bn of assets relating to the UK pensions business as held for

sale (see page 192) and the transfer of US$2.9bn assets backing other unit-linked investment contracts to a third party during the year.

The remaining financial risks are managed either solely on behalf of the shareholder, or jointly on behalf of the shareholder and policyholders where DPF exist.

Market risk

(Audited)

Market risk arises when mismatches occur between product liabilities and the investment assets which back them. For example, mismatches between asset and liability yields and maturities give rise to interest rate risk.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Our current portfolio of assets includes debt securities issued at a time when yields were higher than those observed in the current market. As a result, yields on extant holdings of debt securities exceed those available on current issues.

Long-term insurance or investment products may incorporate benefits that are guaranteed. Fixed guaranteed benefits, for example for annuities in payment, are reserved for as part of the calculation of liabilities under insurance contracts.

The risk of shareholder capital being required to meet liabilities to policyholders increases in products that offer guaranteed financial returns where current yields fall below guaranteed levels for a prolonged period. Reserves are held against the cost of guarantees, calculated by stochastic modelling. Where local rules require, these reserves are held through policyholder liabilities. Any remainder is accounted for as a deduction

to PVIF on the relevant product. The table below shows the total reserve held for the cost of guarantees, the range of investment returns on assets supporting these products and the implied investment return that would enable the business to meet the guarantees.

The financial guarantees offered on some portfolios exceeded the current yield on the assets that back them. The cost of guarantees increased to US$777m (2013: US$575m) primarily because of falling yields in France throughout 2014. As these yields fell, the cost of guarantees on closed portfolios reported in the 2.1%-4.0% and 4.1%-5.0% categories increased, driven by reduced reinvestment yield assumptions. In addition, there was a closed portfolio in Hong Kong with a guaranteed rate of 5.0% compared with the current yield of 4.1%. We reduced short-term bonus rates paid to policyholders on certain DPF contracts to manage the immediate strain on the business.

 

 

Financial return guarantees45,50

(Audited)

    2014     2013  
   

    Investment

returns

implied by

guarantee

   

Current

yields

    Cost of
guarantees
   

Investment

returns

implied by

guarantee

   

Current

yields

    Cost of
guarantees
 
    %     %     US$m     %     %     US$m  

Capital

  0.0      0.0 – 3.5      81      0.0      0.0 – 4.4      57   

Nominal annual return

  0.1 – 2.0      3.6 – 3.6      6      0.1 – 2.0      4.1 – 4.1      9   

Nominal annual return51

  2.1 – 4.0      3.5 – 4.1      646      2.1 – 4.0      4.2 – 4.4      471   

Nominal annual return

  4.1 – 5.0      3.5 – 4.1      30      4.1 – 5.0      4.1 – 4.4      25   

Real annual return52

  0.0 – 6.0      4.7 – 7.5      14      0.0 – 6.0      6.4 – 6.4      13   

At 31 December

  777      575   

For footnotes, see page 202.

 

In addition to the above, a deduction from PVIF of US$53m (2013: US$134m) is made in respect of the modelled cost of guaranteed annuity options attached to certain unit-linked pension products in Brazil.

The following table illustrates the effects of selected interest rate, equity price and foreign exchange rate scenarios on our profit for the year and the total equity of our insurance manufacturing subsidiaries.

Where appropriate, we include the impact of the stress on the PVIF in the results of the sensitivity tests. The relationship between the profit and total equity and the risk factors is non-linear and, therefore, the results disclosed should not be extrapolated to measure sensitivities to different levels of stress. The sensitivities

are stated before allowance for management actions which may mitigate the effect of changes in market rates. The sensitivities presented allow for adverse changes in policyholder behaviour that may arise in response to changes in market rates.

The effects of +/-100 basis points parallel shifts in yield curves have increased from 2013 to 2014, driven mainly by falling yields and a flattening of the yield curve in France during 2014. In the low yield environment the projected cost of options and guarantees described above is particularly sensitive to yield curve movements. The market value of available-for-sale bonds is also sensitive to yield curve movements hence the larger opposite stresses on equity.

 

 

Sensitivity of HSBC’s insurance manufacturing subsidiaries to market risk factors

(Audited)

    2014     2013  
   

Effect on
profit

          after tax

   

        Effect on

total

equity

   

        Effect on
profit

after tax

   

    Effect on

total

equity

 
    US$m     US$m     US$m     US$m  

+ 100 basis points parallel shift in yield curves

  290      (345   151      (199

– 100 basis points parallel shift in yield curves53

  (549   214      (230   139   

10% increase in equity prices

  180      180      149      149   

10% decrease in equity prices

  (153   (153   (129   (129

10% increase in US dollar exchange rate compared to all currencies

  54      54      21      21   

10% decrease in US dollar exchange rate compared to all currencies

  (54   (54   (21   (21

 

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Report of the Directors: Financial Review (continued)

 

 

Credit risk

(Audited)

Credit risk can give rise to losses through default and can lead to volatility in our income statement and balance sheet figures through movements in credit spreads, principally on the US$53bn (2013: US$51bn) bond portfolio supporting non-linked contracts and shareholders’ funds.

The sensitivity of the profit after tax of our insurance subsidiaries to the effects on asset values of increases in credit spreads was a reduction of US$7m (2013: US$21m). The sensitivity of total equity was a reduction of US$9m (2013: US$46m). The sensitivities are relatively small because the vast majority of the debt securities held by our insurance subsidiaries are classified as either held to maturity or available for sale, and consequently any changes in the fair value of these financial investments, absent impairment, would have no effect

on the profit after tax (or to total equity in the case of the held-to-maturity securities). We calculate the sensitivity based on a one-day movement in credit spreads over a two-year period. A confidence level of 99%, consistent with our Group VaR, is applied.

Credit quality

(Audited)

The following table presents an analysis of treasury bills, other eligible bills and debt securities within our insurance business by measures of credit quality.

Only assets supporting liabilities under non-linked insurance and investment contracts and shareholders’ funds are included in the table as financial risk on assets supporting unit-linked liabilities is predominantly borne by the policyholder. 84.8% (2013: 83.4%) of the assets included in the table are invested in investments rated as ‘strong’.

For a definition of the five credit quality classifications, see page 207.

 

 

Treasury bills, other eligible bills and debt securities in HSBC’s insurance manufacturing subsidiaries

(Audited)

    Neither past due nor impaired        
            Strong     Good     Satisfactory     Sub-standard     Total  
    US$m             US$m     US$m     US$m             US$m  

Supporting liabilities under non-linked insurance and investment contracts

Trading assets – debt securities

  3                     3   

Financial assets designated at fair value

  2,550      530      214      255      3,549   

– treasury and other eligible bills

  5                35      40   

– debt securities

  2,545      530      214      220      3,509   

Financial investments – debt securities

  38,515      4,312      1,662      200      44,689   
  41,068      4,842      1,876      455      48,241   

Supporting shareholders’ funds54

Financial assets designated at fair value

  214      322      30      69      635   

– treasury and other eligible bills

                 16      16   

– debt securities

  214      322      30      53      619   

Financial investments – debt securities

  3,378      196      154      54      3,782   
  3,592      518      184      123      4,417   

Total45

Trading assets – debt securities

  3                     3   

Financial assets designated at fair value

  2,764      852      244      324      4,184   

– treasury and other eligible bills

  5                51      56   

– debt securities

  2,759      852        244        273        4,128   

Financial investments – debt securities

  41,893      4,508      1,816      254      48,471   

At 31 December 2014

  44,660      5,360      2,060      578      52,658   

Supporting liabilities under non-linked insurance and investment contracts

Trading assets – debt securities

  3                     3   

Financial assets designated at fair value

  2,780      691      224      215      3,910   

– debt securities

  2,780        691        224        215        3,910   

Financial investments – debt securities

  36,113      4,596      1,699      231      42,639   
  38,896      5,287      1,923      446      46,552   

Supporting shareholders’ funds54

Financial assets designated at fair value

  191      298      73      34      596   

– treasury and other eligible bills

  50                     50   

– debt securities

  141      298      73      34      546   

Financial investments – debt securities

  3,356      176      139      65      3,736   
  3,547      474      212      99      4,332   

Total45

Trading assets – debt securities

  3                     3   

Financial assets designated at fair value

  2,971      989      297      249      4,506   

– treasury and other eligible bills

  50                     50   

– debt securities

  2,921      989      297      249      4,456   

Financial investments – debt securities

  39,469      4,772      1,838      296      46,375   

At 31 December 2013

  42,443      5,761      2,135      545      50,884   

For footnotes, see page 202.

 

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Report of the Directors: Financial Review (continued)

 

 

Credit risk also arises when assumed insurance risk is ceded to reinsurers. The split of liabilities ceded to reinsurers and outstanding reinsurance recoveries, analysed by credit quality, is shown below. Our exposure

to third parties under the reinsurance agreements described in the Appendix to Risk on page 235 is included in this table.

 

 

Reinsurers’ share of liabilities under insurance contracts45

(Audited)

    Neither past due nor impaired Past due but        
          Strong     Good     Satisfactory     Sub-standard     not impaired     Total  
    US$m           US$m     US$m     US$m     US$m             US$m  

Unit-linked insurance

  75      185                     260   

Non-linked insurance55

  751      11      10                772   

At 31 December 2014

  826      196      10                1,032   

Reinsurance debtors

  11      6                21      38   

Unit-linked insurance

  72      218                     290   

Non-linked insurance55

  1,103      8      7                1,118   

At 31 December 2013

      1,175          226      7                    1,408   

Reinsurance debtors

  17      1                10      28   

For footnotes, see page 202.

 

Liquidity risk

(Audited)

The following tables show the expected undiscounted cash flows for insurance contract liabilities and the remaining contractual maturity of investment contract liabilities at 31 December 2014.

The liquidity risk exposure is borne in conjunction with policyholders for the majority of our business, and wholly borne by the policyholder in the case of unit-linked business.

The profile of the expected maturity of the insurance contracts at 31 December 2014 remained comparable with 2013.

 

 

Expected maturity of insurance contract liabilities45

(Audited)

    Expected cash flows (undiscounted)  
      Within 1 year         1-5 years           5-15 years       Over 15 years     Total  
    US$m     US$m     US$m     US$m                 US$m  

Unit-linked insurance

  709      3,280      9,243      14,544      27,776   

Non-linked insurance55

  3,504      12,718      29,905      33,108      79,235   

At 31 December 2014

  4,213      15,998      39,148      47,652      107,011   

Unit-linked insurance

  1,106      3,609      9,757      13,725      28,197   

Non-linked insurance55

  3,977      11,731      26,848      31,306      73,862   

At 31 December 2013

  5,083        15,340        36,605      45,031      102,059   

 

For footnotes, see page 202.

 

Remaining contractual maturity of investment contract liabilities

(Audited)

 

  

  

  

          Liabilities under investment contracts issued
by insurance manufacturing subsidiaries
46
 
         

Unit-linked

    investment
contracts

        Investment
contracts
with DPF
   

Other

    investment

contracts

    Total  
          US$m     US$m     US$m             US$m  

Remaining contractual maturity:

– due within 1 year

          151           389      540   

– due over 1 year to 5 years

          133                133   

– due over 5 years to 10 years

          194                194   

– due after 10 years

          766                766   

– undated56

          1,298      25,068      3,765      30,131   

At 31 December 2014

          2,542      25,068      4,154      31,764   

Remaining contractual maturity:

– due within 1 year

          232           454      686   

– due over 1 year to 5 years

          778                778   

– due over 5 years to 10 years

          852                852   

– due after 10 years

          2,254                2,254   

– undated56

          5,614      26,427      3,755      35,796   

At 31 December 2013

          9,730      26,427      4,209      40,366   

For footnotes, see page 202.

 

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Table of Contents

Report of the Directors: Financial Review (continued)

 

 

Insurance risk

Insurance risk is principally measured in terms of liabilities under the contracts in force.

A principal risk we face is that, over time, the cost of acquiring and administering a contract, claims and benefits may exceed the aggregate amount of premiums received and investment income. The cost of claims and benefits can be influenced by many factors, including

mortality and morbidity experience, lapse and surrender rates and, if the policy has a savings element, the performance of the assets held to support the liabilities. The following table analyses our life insurance risk exposures by geographical region and by type of business. The insurance risk profile and related exposures remain largely consistent with those observed at 31 December 2013.

 

 

Analysis of insurance risk – liabilities under insurance contracts46

(Audited)

                Europe     Asia     Latin
            America
    Total  
    US$m         US$m     US$m         US$m  

Non-linked insurance55

  829      34,261      1,883      36,973   

Insurance contracts with DPF57

  367                  29,112                       29,479   

Credit life

  56      87           143   

Annuities

  71      127      1,275      1,473   

Other

  335      4,935      608      5,878   

Unit-linked insurance

  1,415      5,729      4,676      11,820   

Investment contracts with DPF41,57

  25,068                25,068   

Liabilities under insurance contracts at 31 December 2014

  27,312      39,990      6,559      73,861   

Non-linked insurance55

  1,383      30,554      2,013      33,950   

Insurance contracts with DPF57

  380      26,540           26,920   

Credit life

  130      74           204   

Annuities

  622      129      1,407      2,158   

Other

  251      3,811      606      4,668   

Unit-linked insurance

  3,976      5,065      4,763      13,804   

Investment contracts with DPF41,57

  26,427                26,427   

Liabilities under insurance contracts at 31 December 2013

  31,786      35,619      6,776      74,181   

For footnotes, see page 202.

 

Our most significant life insurance products are insurance contracts with DPF issued in Hong Kong, investment contracts with DPF issued in France and unit-linked contracts issued in Latin America, Hong Kong and the UK.

Sensitivities to non-economic assumptions

(Audited)

Policyholder liabilities and PVIF for life manufacturers are determined by reference to non-economic assumptions including mortality and/or morbidity, lapse rates and expense rates. The table below shows the sensitivity of profit and total equity to reasonably possible changes in these non-economic assumptions at that date across all our insurance manufacturing subsidiaries.

Mortality and morbidity risk is typically associated with life insurance contracts. The effect on profit of an increase in mortality or morbidity depends on the type of business being written. Our largest exposures to mortality and morbidity risk exist in Brazil, France and Hong Kong.

Sensitivity to lapse rates depends on the type of contracts being written. For insurance contracts, claims are funded by premiums received and income earned on the investment portfolio supporting the liabilities. For a portfolio of term assurance, an increase

in lapse rates typically has a negative effect on profit due to the loss of future premium income on the lapsed policies. However, some contract lapses have a positive effect on profit due to the existence of policy surrender charges. Brazil, France, Hong Kong and the UK are where we are most sensitive to a change in lapse rates.

Expense rate risk is the exposure to a change in the cost of administering insurance contracts. To the extent that increased expenses cannot be passed on to policyholders, an increase in expense rates will have a negative effect on our profits.

Sensitivity analysis

(Audited)

    2014     2013  
            US$m             US$m  

Effect on profit after tax and total equity at 31 December

10% increase in mortality and/or morbidity rates

  (65   (76

10% decrease in mortality and/or morbidity rates

  72      79   

10% increase in lapse rates57

  (108   (119

10% decrease in lapse rates57

  122      133   

10% increase in expense rates

  (106   (101

10% decrease in expense rates

  106      100   

For footnote, see page 202.

 

 

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Other material risks

 

        

 

Page

 

         

 

App1

 

         

 

Tables

 

  

 

Page  

 

 
 

 

Reputational risk

     199              235                      
 

Fiduciary risk

     200                                    
 

Pension risk

     200              236                      
 

The principal plan

     200                         

The principal plan – target asset allocation

     200   
                                  

Benefit payments (US$m)

     201   
 

Future developments

     201                                    
 

Defined contribution plans

     201                                    
 

Sustainability risk

     201              237                      
 

1 Appendix to Risk – risk policies and practices.

 

                 

 

Reputational risk

(Unaudited)

Reputational risk is the failure to meet stakeholder expectations as a result of any event, behaviour, action or inaction, either by HSBC itself, our employees or those with whom we are associated, that might cause stakeholders to form a negative view of HSBC.

Reputational risk relates to perceptions, whether based on fact or otherwise. Stakeholders’ expectations are constantly changing and thus reputational risk is dynamic and varies between geographies, groups and individuals. As a global bank, HSBC shows unwavering commitment to operating, and to be seen to be operating, to the high standards we have set for ourselves in every jurisdiction. Reputational risk might result in financial or non-financial impacts, loss of confidence, adverse effects on our ability to keep and attract customers, or other consequences. Any lapse in standards of integrity, compliance, customer service or operating efficiency represents a potential reputational risk.

A number of measures to address the requirements of the US DPA and otherwise to enhance our AML, sanctions and other regulatory compliance frameworks have been taken and/or are ongoing. These measures, which should also serve over time to enhance our reputational risk management, include the following:

 

  simplifying our business through the progressive implementation of our Group strategy, including the adoption of a global financial crime risk filter, which should help to standardise our approach to doing business in higher risk countries;

 

  an increase in reputational risk resources in each region in which we operate and the introduction of a central case management and tracking process for reputational risk and client relationship matters;

 

  the creation of combined reputational risk and client selection committees within the global businesses with a clear process to escalate and address matters at the appropriate level;

 

  the continued roll-out of training and communication about the HSBC Values Programme that defines the way everyone in the Group should act and seeks to
   

ensure that the Values are embedded into our operations; and

 

  the continuous development and implementation of the Global Standards around financial crime compliance, which underpin our businesses. This includes ensuring globally consistent application of policies that govern AML and sanctions compliance programmes.

In July 2014, the new reputational risk and customer selection policies were issued which define a consistent and structured approach to managing these risks:

 

  Reputational risk (new policy): defines reputational risk and sets out HSBC’s approach to managing it;

 

  Customer selection and business acceptance (new policy): outlines the risk factors to be considered when a new customer relationship is identified;

 

  Customer selection and exit management: establishes the globally sustainable approach to customer selection and exit management for all accounts and relationships in all business lines. This details the criteria under which escalation or approval is required; and

 

  Sixth filter: customers operating in high risk jurisdictions carry particular financial crime risks and may require specific approvals, or be considered for an exit, if the relationship exceeds HSBC’s global risk appetite.

HSBC has zero tolerance for knowingly engaging in any business, activity or association where foreseeable reputational damage has not been considered and mitigated. There must be no barriers to open discussion and the escalation of issues that could affect the Group negatively. While there is a level of risk in every aspect of business activity, appropriate consideration of potential harm to HSBC’s good name must be a part of all business decisions.

Detecting and preventing illicit actors’ access to the global financial system calls for constant vigilance and we will continue to cooperate closely with all governments to achieve success. This is integral to the execution of our strategy, to HSBC Values and to preserving and enhancing our reputation.

 

 

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Fiduciary risk

(Unaudited)

Fiduciary risk is the risk to the Group of breaching our fiduciary duties when we act in a fiduciary capacity as trustee or investment manager or as mandated by law or regulation.

A fiduciary duty is one where HSBC holds, manages, oversees or has responsibility for assets for a third party that involves a legal and/or regulatory duty to act with a high standard of care and with good faith. A fiduciary must make decisions and act in the interests of the third party and must place the wants and needs of the client first, above the needs of the Group.

We may be held liable for damages or other penalties caused by failure to act in accordance with these duties. Fiduciary duties may also arise in other circumstances, such as when we act as an agent for a principal, unless the fiduciary duties are specifically excluded (e.g. under the agency appointment contract).

Our principal fiduciary businesses (the ‘designated businesses’) have developed fiduciary risk appetite statements for their various fiduciary roles and have put in place key indicators to monitor their related risks.

Pension risk

(Audited)

We operate a number of defined benefit and defined contribution pension plans throughout the world. The majority of pension risk arises from the Group’s defined benefit plans of which the largest is the HSBC Bank (UK) Pension Scheme (‘the principal plan’).

During 2014, a new global pension risk framework was established, with accompanying new global policies on the management of risks related to defined benefit and defined contribution plans. In addition, a new Global Pensions Oversight Committee was established to oversee the running of all pension plans sponsored by HSBC around the world.

At 31 December 2014, the Group’s aggregate defined benefit pension plan obligation was US$42bn and the net asset was US$2.7bn (2013: US$40bn and US$0.1bn, respectively). The increase in the net asset was mainly due to the increase in the principal plan’s assets exceeding the increase in its benefit obligation. Of the Group total amounts, the principal plan contributed US$30bn to the defined benefit obligation and US$4.8bn to the net asset. The principal plan is the largest contributor to pension risk in the Group.

The principal plan

(Audited)

The principal plan is overseen by a corporate trustee who has fiduciary responsibility for the operation of the pension scheme. The principal plan comprises a defined benefit section and a defined contribution section. Unless stated otherwise, this narrative relates to the defined benefit section.

The investment strategy of the principal plan is to hold the majority of assets in bonds, with the remainder in a more diverse range of investments, and includes a portfolio of interest rate and inflation swaps in order to reduce interest rate risk and inflation risk (see Note 41 in the Financial Statements). The target asset allocation of the principal plan at the year-end is shown below. HSBC and the trustee have developed a general framework which, over time, will see the plan’s asset strategy evolve to be less risky: this is described in further detail below.

The principal plan – target asset allocation

            2014             2013  
    %     %  

Equities58

  19.4      19.4   

Bonds

  64.5      64.5   

Alternative assets59

  10.6      10.6   

Property

  5.5      5.5   

Cash60

         

At 31 December

  100.0      100.0   

For footnotes, see page 202.

The latest actuarial valuation of the principal plan was made as at 31 December 2011 by C G Singer, Fellow of the Institute and Faculty of Actuaries, of Towers Watson Limited. At that date, the market value of the plan’s assets was £18bn (US$28bn) (including assets relating to both the defined benefit and defined contribution plans, and additional voluntary contributions). The market value of the plan assets represented 100% of the amount expected to be required, on the basis of the assumptions adopted, to provide the benefits accrued to members after allowing for expected future increases in earnings under the projected unit method. There was therefore no resulting surplus/deficit and hence no recovery plan was required.

The expected cash flows from the principal plan were projected by reference to the Retail Price Index (‘RPI’) swap break-even curve at 31 December 2011. Salary increases were assumed to be 0.5% per annum above RPI and inflationary pension increases, subject to a minimum of 0% and a maximum of 5% (maximum of 3% per annum in respect of service accrued since 1 July 2009), were assumed to be in line with RPI. The projected cash flows were discounted at the Libor swap curve at 31 December 2011 plus a margin for the expected return on the investment strategy of 160bps per annum. The mortality experience of the principal plan’s pensioners over the six-year period (2006-2011) was analysed and, on the basis of this analysis, the mortality assumptions were set, based on the SAPS S1 series of tables adjusted to reflect the pensioner experience. Allowance was made for future improvements to mortality rates in line with the Continuous Mortality Investigation core projections with a long-run improvement rate set at 2% for males and 1.5% for females. The benefits expected to be payable from the defined benefit plan from 2015 are shown in the chart below.

 

 

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Future benefit payments (US$m)

 

LOGO

As part of the 31 December 2011 valuation, calculations were also made of the amount of assets that might be needed to meet the liabilities if the principal plan was discontinued and the members’ benefits bought out with an insurance company (although in practice this may not be possible for a plan of this size) or the Trustee continued to run the plan without the support of HSBC. The amount required under this approach was estimated to be £26bn (US$41bn) as at 31 December 2011. In arriving at this estimation, a more prudent assumption about future mortality was made than for the assessment of the ongoing position and it was assumed that the Trustee would alter the investment strategy to be an appropriately matched portfolio of UK government bonds. An explicit allowance for expenses was also included.

HSBC and the trustee have developed a general framework which, over time, will see the principal plan’s asset strategy evolve to be less risky and further aligned to the expected future cash-flows, referred to as the Target Matching Portfolio (‘TMP’). The TMP would therefore contain sufficient assets, the majority of which will be bond-like in nature, which are more closely aligned to the liability profile. Progress towards the TMP can be achieved by asset returns in excess of that assumed and/or additional funding. In 2013, HSBC agreed to make general framework contributions of £64m (US$100m) in each of the calendar years 2013, 2014 and 2015 as well as £128m (US$200m) in 2016. Further contributions have been agreed to be made in future years, which are linked to the continued implementation of the general framework.

HSBC Bank is also making contributions to the principal plan in respect of the accrual of benefits

of defined benefit section members. Since April 2013, HSBC has paid contributions at the rate of 43% of pensionable salaries (less member contributions).Contribution levels will be reviewed as part of the next actuarial valuation, which has an effective date of 31 December 2014. The results of this valuation are expected to be included in the Annual Report and Accounts 2015.

Future developments

(Unaudited)

Future service accrual for active members of the defined benefit section will cease with effect from 30 June 2015. All active members of the defined benefit section will become members of the defined contribution section from 1 July 2015, and their accrued defined benefit pensions based on service to 30 June 2015 will continue to be linked to final salary on retirement (underpinned by increases in CPI). The defined benefit service cost will therefore reduce to zero from 1 July 2015 and the defined contribution service cost will increase.

Defined contribution plans

Our global strategy is to move from defined benefit pension provisions to defined contribution, dependent on local legislative requirements and emerging practice. In defined contribution pension plans, the sponsor contributions are known, while the ultimate benefit will vary, typically with investment returns achieved by employee investment choices. While the market risk of defined contribution plans is significantly less than that of defined benefit plans, the Bank is still exposed to operational and reputational risk.

Sustainability risk

(Unaudited)

Assessing the environmental and social impacts of providing finance to our customers is integral to our overall risk management processes.

In 2014, we issued new policies on forestry, agricultural commodities, World Heritage Sites and Ramsar Wetlands, following an extensive internal and external review of our previous forestry policy. The results of two independent reviews into the content and implementation of our previous policy were published on www.hsbc.com.

A summary of our current policies and practices regarding reputational risk, pension risk and sustainability risk is provided in the Appendix to Risk on page 235.

 

 

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Footnotes to Risk

Credit risk

 

1 From 1 January 2014, non-trading reverse repos and repos are presented as separate lines in the balance sheet. Previously, non-trading reverse repos were included within ‘Loans and advances to banks’ and ‘Loans and advances to customers’ and non-trading repos were included within ‘Deposits by banks’ and ‘Customer accounts’. Comparative data have been re-presented accordingly.
2 At 31 December 2014, the credit quality of financial guarantees and similar contracts was: US$17bn strong, US$16bn good, US$12bn satisfactory, and US$2bn sub-standard.
3 The amount of the loan commitments reflects, where relevant, the expected level of take-up of pre-approved loan offers made by mailshots to personal customers. In addition to those amounts, there is a further maximum possible exposure to credit risk of US$71bn (2013: US$34bn), reflecting the full take-up of loan commitments. The take-up of such offers is generally at modest levels. At 31 December 2014, the credit quality of loan and other credit-related commitments was: US$322bn strong, US$191bn good, US$127bn satisfactory, US$10bn sub-standard and US$0.8bn impaired.
4 From 1 January 2014, the geographical region ‘Asia’ replaced the geographical regions previously reported as ‘Hong Kong’ and ‘Rest of Asia-Pacific’ (see Note 23 on the Financial Statements for further details). Comparative data have been re-presented to reflect this change.
5 ‘Financial’ includes loans and advances to banks.
6 ‘First lien residential mortgages’ include Hong Kong Government Home Ownership Scheme loans of US$3.4bn at 31 December 2014 (2013: US$3.2bn). Where disclosed, earlier comparatives were 2012: US$3.2bn; 2011: US$3.3bn; 2010: US$3.5bn.
7 ‘Other personal lending’ includes second lien mortgages and other property-related lending.
8 ‘Other commercial loans and advances’ include advances in respect of agriculture, transport, energy and utilities.
9 Impairment allowances are not reported for financial instruments, for which the carrying amount is reduced directly for impairment and not through the use of an allowance account.
10 Impairment is not measured for assets held in trading portfolios or designated at fair value as assets in such portfolios are managed according to movements in fair value, and the fair value movement is taken directly to the income statement. Consequently, we report all such balances under ‘Neither past due nor impaired’.
11 Loans and advances to customers’ includes asset-backed securities that have been externally rated as strong (2014: US$1.2bn; 2013: US$1.7bn), good (2014: US$256m; 2013: US$255m), satisfactory (2014: US$332m; 2013: US$200m), sub-standard (2014: US$94m; 2013: US$283m) and impaired (2014: US$128m; 2013: US$252m).
12 Collectively assessed impairment allowances’ are allocated to geographical segments based on the location of the office booking the allowances or provisions.
13 Included within ‘Exchange and other movements’ is US$0.4bn of impairment allowances reclassified to held for sale (2013: US$0.2bn).
14 Of the US$2,724m (2013: US$3,580m) of renegotiated loans, US$608m (2013: US$716m) were neither past due nor impaired, US$1m (2013: US$52m) was past due but not impaired and US$2,115m (2013: US$2,812m) were impaired.
15 French Banking Federation Master Agreement Relating to Transactions on Forward Financial Instruments plus CSA equivalent.
16 The German Master Agreement for Financial Derivative Transactions.
17 HSBC Finance lending is shown on a management basis and includes loans transferred to HSBC USA Inc. which are managed by HSBC Finance.
18 Property acquired through foreclosure is initially recognised at the lower of the carrying amount of the loan or its fair value less estimated costs to sell (‘initial foreclosed property carrying amount’). The average gain/loss on sale of foreclosed properties is calculated as cash proceeds less the initial foreclosed properties carrying amount divided by the unpaid loan principal balance prior to write-down (excluding any accrued finance income) plus certain other ancillary disbursements that, by law, are reimbursable from the cash proceeds (e.g. real estate tax advances) and were incurred prior to our taking title to the property. This ratio represents the portion of our total loss on foreclosed properties that occurred after we took title to the property.
19 The average total gain/loss on foreclosed properties includes both the gain/loss on sale of the foreclosed property as discussed in footnote 18 and the cumulative write-downs recognised on the loans up to the time we took title to the property.
20 Included in this category are loans of US$1.5bn (2013: US$1.9bn) that have been re-aged once and were less than 60 days past due at the point of re-age. These loans are not classified as impaired following re-age due to the overall expectation that these customers will perform on the original contractual terms of their borrowing in the future.
21 ‘Currency translation’ is the effect of translating the results of subsidiaries and associates for the previous year at the average rates of exchange applicable in the current year.
22 Negative numbers are favourable: positive numbers are unfavourable.
23 Carrying amount of the net principal exposure.
24 Total includes holdings of ABSs issued by Freddie Mac and Fannie Mae.

Liquidity and funding

 

25 The most favourable metrics are smaller advances to core funding and larger stressed one-month and three-month coverage ratios.
26 The HSBC UK entity shown comprises four legal entities; HSBC Bank plc (including all overseas branches, and SPEs consolidated by HSBC Bank plc for Financial Statement purposes), Marks and Spencer Financial Services Limited, HSBC Private Bank (UK) Ltd and HSBC Trust Company (UK) Limited, managed as a single operating entity, in line with the application of UK liquidity regulation as agreed with the UK PRA.
27 The Hongkong and Shanghai Banking Corporation represents the Group in Hong Kong, including its overseas branches. Each branch is monitored and controlled for liquidity and funding risk purposes as a stand-alone operating entity.
28 The HSBC USA principal entity shown represents the HSBC USA Inc consolidated group; predominantly HSBC USA Inc and HSBC Bank USA, NA. The HSBC USA Inc consolidated group is managed as a single operating entity.
29 The total shown for other principal HSBC operating entities represents the combined position of all the other operating entities overseen directly by the Risk Management Meeting of the GMB.
30 Estimated liquidity value represents the expected realisable value of assets prior to management assumed haircuts.
31 The undrawn balance for the five largest committed liquidity facilities provided to customers other than facilities to conduits.

 

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32 The undrawn balance for the total of all committed liquidity facilities provided to the largest market sector, other than facilities to conduits.
33 The residual contractual maturity profile of the balance sheet is set out on in Note 31 on the Financial Statements.

Market risk

 

34 Trading portfolios comprise positions arising from the market-making and warehousing of customer-derived positions.
35 Portfolio diversification is the market risk dispersion effect of holding a portfolio containing different risk types. It represents the reduction in unsystematic market risk that occurs when combining a number of different risk types, for example, interest rate, equity and foreign exchange, together in one portfolio. It is measured as the difference between the sum of the VaR by individual risk type and the combined total VaR. A negative number represents the benefit of portfolio diversification. As the maximum occurs on different days for different risk types, it is not meaningful to calculate a portfolio diversification benefit for these measures. For presentation purposes, portfolio diversification within the trading portfolio includes VaR-based RNIV.
36 The total VaR is non-additive across risk types due to diversification effects.
37 Investments in private equity are primarily made through managed funds that are subject to limits on the amount of investment. Potential new commitments are subject to risk appraisal to ensure that industry and geographical concentrations remain within acceptable levels for the portfolio as a whole. Regular reviews are performed to substantiate the valuation of the investments within the portfolio.
38 Investments held to facilitate ongoing business include holdings in government-sponsored enterprises and local stock exchanges.
39 Instead of assuming that all interest rates move together, we group our interest rate exposures into currency blocs whose rates are considered likely to move together. See ‘Cautionary statement regarding forward-looking statements’.

Risk management of insurance operations

 

40 Other includes term assurance, credit life insurance, universal life insurance and remaining non-life insurance.
41 Although investment contracts with discretionary participation features (‘DPF’) are financial investments, HSBC continues to account for them as insurance contracts as permitted by IFRS 4.
42 The Other assets column shows shareholder assets as well as assets and liabilities classified as held for sale. The majority of the assets for insurance businesses classified as held for sale are reported as ‘Other assets and investment properties’ and totalled US$6.8bn at 31 December 2014 (31 December 2013: nil). The majority of these assets were debt and equity securities. All liabilities for insurance businesses classified as held for sale are reported in ‘Other liabilities’ and totalled US$6.8bn at 31 December 2014 (31 December 2013: nil). The majority of these liabilities were liabilities under insurance contracts and liabilities under investment contracts.
43 Present value of in-force long-term insurance contracts and investment contracts with DPF.
44 Deferred tax includes the deferred tax liabilities arising on recognition of PVIF.
45 Does not include associated insurance company SABB Takaful Company or joint venture insurance company Canara HSBC Oriental Bank of Commerce Life Insurance Company Limited.
46 HSBC has no insurance manufacturing subsidiaries in the Middle East and North Africa or North America.
47 Comprise unit-linked life insurance contracts and linked long-term investment contracts.
48 Comprise non-linked insurance contracts and non-linked long-term investment contracts.
49 Comprise mainly loans and advances to banks, cash and intercompany balances with other non-insurance legal entities.
50 The cost of guarantees figure presented comprises the modelled cost of guarantees under products manufactured by our insurance subsidiaries, including both the cost of guarantees reserved for through policyholder liabilities and the amount accounted for as a deduction to PVIF. This is considered to provide more relevant information than the total liabilities to policyholders established for guaranteed products manufactured by our insurance subsidiaries as disclosed in prior periods.
51 A block of contracts in France with guaranteed nominal annual returns in the range 1.25%-3.72% are reported entirely in the 2.1%-4.0% category in line with the average guaranteed return of 2.7% offered to policyholders by these contracts.
52 Real annual return guarantees provide the policyholder a guaranteed return in excess of the rate of inflation, and are supported by inflation-linked debt securities with yields that are also expressed in real terms.
53 Where a –100 basis point parallel shift in the yield curve would result in a negative interest rate, the effects on profit after tax and total equity have been calculated using a minimum rate of 0%.
54 Shareholders’ funds comprise solvency and unencumbered assets.
55 Non-linked insurance includes remaining non-life business.
56 In most cases, policyholders have the option to terminate their contracts at any time and receive the surrender values of their policies. These may be significantly lower than the amounts shown.
57 Insurance contracts and investment contracts with DPF can give policyholders the contractual right to receive, as a supplement to their guaranteed benefits, additional benefits that may be a significant portion of the total contractual benefits, but whose amount and timing are determined by HSBC. These additional benefits are contractually based on the performance of a specified pool of contracts or assets, or the profit of the company issuing the contracts.

Pension risk

 

58 In 2014, option overlay strategies which are expected to improve the risk/return profile of the equity allocation were implemented.
59 Alternative assets includes ABSs, MBSs and infrastructure assets.
60 Whilst there is no target cash allocation, the amount of cash is expected to vary between 0-5% depending upon the liquidity requirements of the scheme, which will affect the actual allocation of bonds correspondingly.

 

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Risk elements in the loan portfolio

 

61 In addition to the numbers presented there were US$0.5bn of impaired loans (2013: US$0.2bn); US$1m unimpaired loans contractually more than 90 days past due as to principal or interest (2013: US$40m); and US$ nil of troubled debt restructurings (not included in the classifications above) (2013: US$70m), all relating to assets held for sale at 31 December 2014.
62 Assets held for resale represent assets obtained by taking possession of collateral held as security for financial assets.
63 Ratio excludes trading loans classified as in default.

Country distribution of outstandings and cross-border exposures

 

64 These balances were between 0.75% and 1% of total assets. All other balances were above 1%.

 

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Appendix to Risk

Risk policies and practices

This appendix describes the significant policies and practices employed by HSBC in managing our credit risk, liquidity and funding, market risk, operational risk (including compliance risk, legal risk and fiduciary risk), insurance risk, reputational risk, pension risk and sustainability risk.

Risk governance

(Unaudited)

Our strong risk governance reflects the importance placed by the Board and the Group Risk Committee (‘GRC’) on shaping the Group’s risk strategy and managing risks effectively. It is supported by a clear policy framework of risk ownership, a risk appetite process through which the types and levels of risk that we are prepared to accept in executing our strategy are articulated and monitored, performance scorecards cascaded from the GMB that align business and risk objectives, and the accountability of all staff for identifying, assessing and managing risks within the scope of their assigned responsibilities. This personal accountability, reinforced by the governance structure, mandatory learning and our approach to remuneration, helps to foster a disciplined and constructive culture of risk management and control throughout HSBC.

The executive and non-executive risk governance structures and their interactions are set out in the following table. Each major operating subsidiary has established a board committee with non-executive responsibility for oversight of risk-related matters and an executive committee with responsibility for risk-related matters.

Governance structure for the management of risk

 

 

Authority

 

   Membership    Responsibilities include:

 

Board

  

 

Executive and non-executive Directors

  

 

•  Approving risk appetite, strategy and performance targets for the Group

 

•  Approving appointment of chief risk officers of subsidiary companies

 

•  Encouraging a strong risk governance culture which shapes the Group’s attitude to risk

 

 

GRC

  

 

Independent non-executive Directors

  

 

•  Advising the Board on:

 

–  risk appetite and alignment with strategy

 

–  alignment of remuneration with risk appetite (through advice to the Group Remuneration Committee)

 

–  risks associated with proposed strategic acquisitions and disposals

 

•  Overseeing high-level risk related matters

 

•  Reviewing the effectiveness of the Group’s systems of risk management and internal controls (other than over financial reporting)

 

•  Overseeing the maintenance and development of a supportive culture in relation to the management of risk

 

 

Financial System Vulnerabilities Committee

  

 

Non-executive Directors, including the Chairman of the Group
Remuneration Committee, and
co-opted non-director members

  

 

•  Overseeing controls and procedures designed to identify areas of exposure to financial crime or system abuse

 

•  Overseeing matters relating to anti-money laundering, sanctions, terrorist financing and proliferation financing

 

•  Reviewing policies and procedures to ensure continuing obligations to regulatory and law enforcement agencies are met

 

 

Conduct & Values Committee

  

 

Independent non-executive Directors

  

 

•  Ensuring that in the conduct of its business, HSBC treats all stakeholders fairly

 

•  Advising the Board on HSBC policies, procedures and standards to ensure that the Group conducts business responsibly and consistently adheres to the HSBC Values

 

 

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Authority

 

   Membership    Responsibilities include:

 

Risk Management Meeting of the GMB

  

 

Group Chief Risk Officer

Chief Legal Officer

Group Chief Executive

Group Finance Director

All other Group Managing Directors

  

 

•  Formulating high-level global risk policy

 

•  Exercising delegated risk management authority

 

•  Overseeing implementation of risk appetite and controls

 

•  Monitoring all categories of risk and determining appropriate mitigating action

 

•  Promoting a supportive Group culture in relation to risk management and conduct

 

•  Implementing Global Standards throughout the Group

 

 

Global Risk Management Board

  

 

Group Chief Risk Officer

Chief Risk Officers of HSBC’s global businesses and regions

Heads of Global Risk sub-functions

  

 

•  Supporting the Risk Management Meeting and the Group Chief Risk Officer in providing strategic direction for the Global Risk function, setting priorities and overseeing their execution

 

•  Overseeing consistent approach to accountability for, and mitigation of, risk across the Global Risk function

 

 

Global Business Risk Management Committees

  

 

Global Business Chief Risk Officer

Global Business Chief Executive

Global Business Chief Financial Officer

Heads of Global Risk sub-functions, as appropriate

  

 

•  Forward looking assessment of changes in Global Business activities or the markets in which it operates, analysing the possible risk impact and taking appropriate action

 

•  Overseeing the implementation of Global Business risk appetite and controls

 

•  Monitoring all categories of risk and determining appropriate mitigating actions

 

•  Promoting a strong risk culture

 

 

Regional Risk Management Committees

  

 

Regional Chief Risk Officer

Regional Chief Executive Officer

Regional Chief Financial Officer

Regional Global Business Chief

Heads of Global Risk sub-functions, as appropriate

 

  

 

•  Formulating regional specific risk policy

 

•  Overseeing the implementation of regional risk appetite and controls

 

•  Monitoring all categories of risk and determining appropriate mitigating actions

 

•  Promoting a strong risk culture

 

Subsidiary board committees responsible for risk-related matters and global business risk committees

 

  

 

Independent non-executive directors and/or HSBC employees with no line or functional responsibility for the activities of the relevant subsidiary or global business, as appropriate

 

  

 

•  Providing reports to the GRC or intermediate risk committee on risk-related matters and internal controls (other than over financial reporting) of relevant subsidiaries or businesses, as requested

 

The governance framework also defines the required structure of committees for Risk sub-functions, stress testing and other key areas at Group, global business, regional and country level.

Risk appetite

(Unaudited)

Our risk appetite framework is underpinned by the following core characteristics. These are applied to define the risk appetite statements on Group-wide, global business and regional levels.

 

  Strong capital position: defined by a strong CET1 ratio and overall capital structure, both from a regulatory and internal perspective, which is not overly leveraged;

 

  Conservative liquidity management: defined by a diversified funding structure and a conservative discipline whereby subsidiaries plan their contingency liquidity requirements on the assumption that there is no ‘lender of last resort’, either in the form of local supervisory intervention or via support from HSBC Holdings;

 

  Strong balance sheet: core to HSBC’s philosophy, generating a resilient stream of earnings;

 

  Strong brand: our brand – ‘the world’s leading international bank’ – is of paramount importance as is the Group’s reputation and the quality of its business ethics;

 

  Risk must be commensurate with returns: returns should be generated in line with the risk taken and in alignments with strategic plans and risk management policies;

 

  Robust Group structure of separate legal entities: the legal entity structure provides the potential for firewalls to mitigate liquidity and capital contagion in crisis situations;

 

  The global business mix should produce sustainable long-term earnings growth: our global businesses should be suitably diversified to provide a stream of non-volatile, predictable earnings;

 

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  Risk diversification: the globally diverse nature of our activities produces significant risk diversification benefits which must be closely assessed on an ongoing basis and reflected in our capital requirements; and

 

  Financial crime risk: our overarching approach and appetite to financial crime risk is that the Group will not tolerate operating without systems and controls in place aimed at preventing and detecting financial crime and will not conduct business with individuals or entities we believe are engaged in illicit behaviour.

 

 

Credit risk

Credit risk management

(Audited)

The role of an independent credit control unit is fulfilled by the Global Risk function. Credit approval authorities are delegated by the Board to certain executive officers of HSBC Holdings. Similar credit approval authorities are delegated by the boards of subsidiary companies to executive officers of the relevant subsidiaries. In each major subsidiary, a Chief Risk Officer reports to the local Chief Executive Officer on credit-related issues, while maintaining a direct functional reporting line to the Group Chief Risk Officer in Global Risk. Details of the roles and responsibilities of the credit risk management function and the policies and procedures for managing credit risk are set out below. There were no significant changes in 2014.

 

 

The high-level oversight and management of credit risk provided globally by the Credit Risk function in Global Risk

 

•  to formulate Group credit policy. Compliance, subject to approved dispensations, is mandatory for all operating companies which must develop local credit policies consistent with Group policies;

 

•  to guide operating companies on our appetite for credit risk exposure to specified market sectors, activities and banking products and controlling exposures to certain higher-risk sectors;

 

•  to undertake an independent review and objective assessment of risk. Global Risk assesses all commercial non-bank credit facilities and exposures over designated limits, prior to the facilities being committed to customers or transactions being undertaken;

 

•  to monitor the performance and management of portfolios across the Group;

 

•  to control exposure to sovereign entities, banks and other financial institutions, as well as debt securities which are not held solely for the purpose of trading;

 

•  to set Group policy on large credit exposures, ensuring that concentrations of exposure by counterparty, sector or geography do not become excessive in relation to our capital base, and remain within internal and regulatory limits;

 

•  to control our cross-border exposures (see page 207);

 

•  to maintain and develop our risk rating framework and systems, the governance of which is under the general oversight of the Group Model Oversight Committee (‘MOC’). The Group MOC meets bi-monthly and reports to the Risk Management Meeting. It is chaired by the risk function and its membership is drawn from Global Risk and relevant global functions or businesses;

 

•  to report to the Risk Management Meeting, the GRC and the Board on high risk portfolios, risk concentrations, country limits and cross-border exposures, large impaired accounts, impairment allowances, stress testing results and recommendations and retail portfolio performance; and

 

•  to act on behalf of HSBC Holdings as the primary interface, for credit-related issues, with the Bank of England, the PRA, local regulators, rating agencies, analysts and counterparts in major banks and non-bank financial institutions.

 

Principal objectives of our credit risk management

 

  to maintain across HSBC a strong culture of responsible lending and a robust risk policy and control framework;

 

  to both partner and challenge our businesses in defining, implementing and continually re-evaluating our risk appetite under actual and scenario conditions; and

 

  to ensure there is independent, expert scrutiny of credit risks, their costs and their mitigation.

Concentration of exposure

(Audited)

Concentrations of credit risk arise when a number of counterparties or exposures have comparable economic characteristics or such counterparties are engaged in similar activities or operate in the same geographical areas or industry sectors so that their collective ability to meet contractual obligations is uniformly affected by changes in economic, political or other conditions. We use a number of controls and measures to minimise undue concentration of exposure in our portfolios across industry, country and global business. These include portfolio and counterparty limits, approval and review controls, and stress testing.

Wrong-way risk occurs when a counterparty’s exposures are adversely correlated with its credit quality. There are two types of wrong-way risk:

 

  general wrong-way risk occurs when the probability of counterparty default is positively correlated with general risk factors such as, for example, where the counterparty is resident and/or incorporated in a higher-risk country and seeks to sell a non-domestic currency in exchange for its home currency; and

 

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  specific wrong-way risk occurs when the exposure to a particular counterparty is positively correlated with the probability of counterparty default, such as a reverse repo on the counterparty’s own bonds. It is HSBC policy that specific wrong-way transactions are approved on a case-by-case basis.

We use a range of tools to monitor and control wrong-way risk, including requiring the business to obtain prior approval before undertaking wrong-way risk transactions outside pre-agreed guidelines.

Cross-border exposures

We assess the vulnerability of countries to foreign currency payment restrictions, including economic and political factors, when considering impairment allowances on cross-border exposures. Impairment allowances are assessed in respect of all qualifying exposures within vulnerable countries unless these exposures and the inherent risks are:

 

  performing, trade-related and of less than one year’s maturity;
  mitigated by acceptable security cover which is, other than in exceptional cases, held outside the country concerned;
  in the form of securities held for trading purposes for which a liquid and active market exists, and which are measured at fair value daily; and
  performing facilities with a principal (excluding security) of US$1m or below and/or with maturity dates shorter than three months.

Credit quality of financial instruments

(Audited)

Our credit risk rating systems and processes differentiate exposures in order to highlight those with greater risk factors and higher potential severity of loss. In the case of individually significant accounts that are predominantly within our wholesale businesses, risk ratings are reviewed regularly and any amendments are implemented promptly. Within our retail businesses, risk is assessed and managed using a wide range of risk and pricing models to generate portfolio data.

Our risk rating system facilitates the internal ratings – based approach under the Basel framework adopted by the Group to support calculation of our minimum credit regulatory capital requirement. Our credit quality classifications are defined below.

Special attention is paid to problem exposures in order to accelerate remedial action. When appropriate, our operating companies use specialist units to provide customers with support to help them avoid default wherever possible.

Group and regional Credit Review and Risk Identification teams regularly review exposures and processes in order to provide an independent, rigorous assessment of credit risk across the Group, reinforce secondary risk management controls and share best practice. Internal audit, as a tertiary control function, focuses on risks with a global perspective and on the design and effectiveness of primary and secondary controls, carrying out oversight audits via the sampling of global and regional control frameworks, themed audits of key or emerging risks and project audits to assess major change initiatives.

The five credit quality classifications defined below each encompass a range of granular internal credit rating grades assigned to wholesale and retail lending businesses and the external ratings attributed by external agencies to debt securities.

Credit quality classification

(Unaudited)

   

          Debt securities  

          and other bills  

 

Wholesale lending

and derivatives

  Retail lending    

External  

credit rating  

Internal

credit rating

12 month             probability of  

default %  

Internal  

          credit rating1

Expected  

loss %  

Quality classification

Strong

A– and above   CRR21 to CRR2 0 – 0.169   EL31 to EL2   0 – 0.999  

Good

BBB+ to BBB–   CRR3 0.170 – 0.740   EL3   1.000 – 4.999  

Satisfactory

BB+ to B and   unrated   CRR4 to CRR5 0.741 – 4.914   EL4 to EL5   5.000 – 19.999  

Sub-standard

B- to C   CRR6 to CRR8 4.915 – 99.999   EL6 to EL8   20.000 – 99.999  

Impaired

Default             CRR9 to CRR10 100   EL9 to EL10         100+ or defaulted4

 

1 We observe the disclosure convention that, in addition to those classified as EL9 to EL10, retail accounts classified EL1 to EL8 that are delinquent by 90 days or more are considered impaired, unless individually they have been assessed as not impaired (see page 136, ‘Past due but not impaired gross financial instruments’).
2 Customer risk rating.
3 Expected loss.
4 The EL percentage is derived through a combination of PD and LGD, and may exceed 100% in circumstances where the LGD is above 100% reflecting the cost of recoveries.

 

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Quality classification definitions

 

•  ‘Strong’ exposures demonstrate a strong capacity to meet financial commitments, with negligible or low probability of default and/or low levels of expected loss. Retail accounts operate within product parameters and only exceptionally show any period of delinquency.

 

•  ‘Good’ exposures require closer monitoring and demonstrate a good capacity to meet financial commitments, with low default risk. Retail accounts typically show only short periods of delinquency, with any losses expected to be minimal following the adoption of recovery processes.

 

•  ‘Satisfactory’ exposures require closer monitoring and demonstrate an average to fair capacity to meet financial commitments, with moderate default risk. Retail accounts typically show only short periods of delinquency, with any losses expected to be minor following the adoption of recovery processes.

 

•   ‘Sub-standard’ exposures require varying degrees of special attention and default risk is of greater concern. Retail portfolio segments show longer delinquency periods of generally up to 90 days past due and/or expected losses are higher due to a reduced ability to mitigate these through security realisation or other recovery processes.

 

 ‘Impaired’ exposures have been assessed as impaired. These include wholesale exposures where the bank considers that either the customer is unlikely to pay its credit obligations in full, without recourse by the bank to the actions such as realising security if held, or the customer is past due more than 90 days on any material credit obligation; retail accounts include loans and advances classified as EL9 to EL10, and for those classified EL1 to EL8 they are greater than 90 days past due unless individually they have been assessed as not impaired; and renegotiated loans that have met the requirements to be disclosed as impaired and have not yet met the criteria to be returned to the unimpaired portfolio (see below).

 

The customer risk rating (‘CRR’) 10-grade scale summarises a more granular underlying 23-grade scale of obligor probability of default (‘PD’). All HSBC customers are rated using the 10 or 23-grade scale, depending on the degree of sophistication of the Basel II approach adopted for the exposure.

Each CRR band is associated with an external rating grade by reference to long-run default rates for that grade, represented by the average of issuer-weighted historical default rates. This mapping between internal and external ratings is indicative and may vary over time.

The expected loss (‘EL’) 10-grade scale for retail business summarises a more granular underlying EL scale for this customer segment; this combines obligor and facility/product risk factors in a composite measure.

For debt securities and certain other financial instruments, external ratings have been aligned to the five quality classifications based upon the mapping of related CRR to external credit grade. The most recent mapping review resulted in ‘B‘ being mapped to CRR5. Accordingly ‘B‘ ratings are now mapped to ‘Satisfactory’. This represents a change in disclosure mapping unrelated to changes in counterparty creditworthiness.

Renegotiated loans and forbearance

(Audited)

A range of forbearance strategies is employed in order to improve the management of customer relationships, maximise collection opportunities and, if possible, avoid default, foreclosure or repossession. They include extended payment terms, a reduction in interest or principal repayments, approved external debt management plans, debt consolidations, the deferral of foreclosures and other forms of loan modifications and re-ageing.

Our policies and practices are based on criteria which enable local management to judge whether repayment is likely to continue. These typically provide a customer with terms and conditions that are more favourable than those provided initially. Loan forbearance is only granted in situations where the customer has showed a willingness to repay their loan and is expected to be able to meet the revised obligations.

Identifying renegotiated loans

The contractual terms of a loan may be modified for a number of reasons including changing market conditions, customer retention and other factors not related to the current or potential credit deterioration of a customer. When the contractual payment terms of a loan are modified because we have significant concerns about the borrower’s ability to meet contractual payments when due, these loans are classified as ‘renegotiated loans’.

For retail lending our credit risk management policy sets out restrictions on the number and frequency of renegotiations, the minimum period an account must have been opened before any renegotiation can be considered and the number of qualifying payments that must be received. The application of this policy varies according to the nature of the market, the product and the management of customer relationships through the occurrence of exceptional events. When considering whether there is significant concern regarding a customer’s ability to meet contractual loan repayments when due, we assess the customer’s delinquency status, account behaviour, repayment history, current financial situation and continued ability to repay. If the customer is not meeting contractual repayments or it is evident that they will be unable to do so without the renegotiation, there will be a significant concern regarding their ability to meet contractual payments, and the loan will be disclosed as impaired, unless the concession granted is insignificant as discussed below.

 

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For loan restructurings in wholesale lending, indicators of significant concerns regarding a borrower’s ability to pay include:

 

  the debtor is currently in default on any of its debt;
  the debtor has declared or is in the process of declaring bankruptcy or entering into a similar process;
  there is significant doubt as to whether the debtor will continue to be a going concern;
  currently, the debtor has securities that have been delisted, are in the process of being delisted, or are under threat of being delisted from an exchange as a result of trading or financial difficulties;
  based on estimates and projections that only encompass current business capabilities, the Group forecasts that the debtor’s entity-specific cash flows will be insufficient to service the debt (both interest and principal) in accordance with the contractual terms of the existing agreement through maturity. In this instance, actual payment default may not yet have occurred; and
  absent the modification, the debtor cannot obtain funds from sources other than its existing creditors at an effective interest rate equal to the current market interest rate for similar debt for a non-distressed debtor.

Where the modification of a loan’s contractual payment terms represents a concession for economic or legal reasons relating to the borrower’s financial difficulty, and is a concession that we would not otherwise consider, then the renegotiated loan is disclosed as impaired in accordance with our impaired loan disclosure convention described in more detail on page 212, unless the concession is insignificant and there are no other indicators of impairment. Insignificant concessions are primarily restricted to our CML portfolio in HSBC Finance, where loans which are in the early stages of delinquency (less than 60 days delinquent) and typically have the equivalent of two payments deferred for the first time, are excluded from our impaired loan classification, as the contractual payment deferrals are deemed to be insignificant compared with payments due on the loan as a whole. For details of HSBC Finance’s loan renegotiation programmes and portfolios, see pages 154 and 155.

Credit quality classification of renegotiated loans

(Audited)

Under IFRSs, an entity is required to assess whether there is objective evidence that financial assets are impaired at the end of each reporting period. A loan is impaired and an impairment allowance is recognised when there is objective evidence of a loss event that has an effect on the cash flows of the loan which can be reliably estimated. Granting a concession to a customer that we would not otherwise consider, as a result of their financial difficulty, is objective evidence of impairment and impairment losses are measured accordingly.

A renegotiated loan is presented as impaired when:

 

  there has been a change in contractual cash flows as a result of a concession which the lender would otherwise not consider, and
  it is probable that without the concession, the borrower would be unable to meet contractual payment obligations in full.

This presentation applies unless the concession is insignificant and there are no other indicators of impairment.

The renegotiated loan will continue to be disclosed as impaired until there is sufficient evidence to demonstrate a significant reduction in the risk of non-payment of future cash flows, and there are no other indicators of impairment. For loans that are assessed for impairment on a collective basis, the evidence typically comprises a history of payment performance against the original or revised terms, as appropriate to the circumstances. For loans that are assessed for impairment on an individual basis, all available evidence is assessed on a case-by-case basis.

For retail lending the minimum period of payment performance required depends on the nature of loans in the portfolio, but is typically not less than six months. Where portfolios have more significant levels of forbearance activity, such as that undertaken by HSBC Finance, the minimum repayment performance period required may be substantially more (for further details on HSBC Finance see page 153). Payment performance periods are monitored to ensure they remain appropriate to the levels of recidivism observed within the portfolio. These performance periods are in addition to a minimum of two payments which must be received within a 60-day period for the customer to initially qualify for the renegotiation (in the case of HSBC Finance, in certain circumstances, for example where debt has been restructured in bankruptcy proceedings, fewer or no qualifying payments may be required). The qualifying payments are required in order to demonstrate that the renegotiated terms are sustainable for the borrower. For corporate and commercial loans, which are individually assessed for impairment and where non-monthly payments are more commonly agreed, the history of payment performance will depend on the underlying structure of payments agreed as part of the restructuring.

Renegotiated loans are classified as unimpaired where the renegotiation has resulted from significant concern about a borrower’s ability to meet their contractual payment terms but the renegotiated terms are based on current market rates and contractual cash flows are expected to be collected in full following the renegotiation. Unimpaired renegotiated loans also include previously impaired renegotiated loans that have demonstrated satisfactory performance over a period of time or have been assessed based on all available evidence as having no remaining indicators of impairment.

 

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Loans that have been identified as renegotiated retain this designation until maturity or derecognition. When a loan is restructured as part of a forbearance strategy and the restructuring results in derecognition of the existing loan, such as in some debt consolidations, the new loan is disclosed as renegotiated.

When determining whether a loan that is restructured should be derecognised and a new loan recognised, we consider the extent to which the changes to the original contractual terms result in the renegotiated loan, considered as a whole, being a substantially different financial instrument. The following are examples of circumstances that, individually or in aggregate, are likely to result in this test being met and derecognition accounting being applied:

 

  an uncollateralised loan becomes fully collateralised;
  the addition or removal of cross-collateralisation provisions;
  removal or addition of conversion features attached to the loan agreement;
  a change in the currency in which the principal or interest is denominated;
  a change in the liquidation preference or ranking of the instrument; or
  the contract is altered in any other manner so that the terms under the new or modified contract are substantially different from those under the original contract.

The following are examples of factors that we consider may indicate that the revised loan is a substantially different financial instrument, but are unlikely to be conclusive in themselves:

 

  changes in guarantees or loan covenants provided;
  less significant changes to collateral arrangements; or
  the addition of repayment provisions or prepayment premium clauses.

Renegotiated loans and recognition of impairment allowances

(Audited)

For retail lending, renegotiated loans are segregated from other parts of the loan portfolio for collective impairment assessment to reflect the higher rates of losses often encountered in these segments. When empirical evidence indicates an increased propensity to default and higher losses on such accounts, such as for re-aged loans in the US, the use of roll-rate methodology ensures these factors are taken into account when calculating impairment allowances by applying roll rates specifically calculated on the pool of loans subject to forbearance. When the portfolio size is small or when information is insufficient or not reliable enough to adopt a roll-rate methodology, a basic formulaic approach based on historical loss rate experience is used. As a result of our roll-rate methodology, we recognise collective impairment allowances on homogeneous groups of loans, including renegotiated loans, where there is historical evidence that there is a likelihood that loans in these groups will progress through the various stages of delinquency, and ultimately prove irrecoverable as a result of events occurring before the balance sheet date. This treatment applies irrespective of whether or not those loans are presented as impaired in accordance with our impaired loans disclosure convention. When we consider that there are additional risk factors inherent in the portfolios that may not be fully reflected in the statistical roll rates or historical experience, these risk factors are taken into account by adjusting the impairment allowances derived solely from statistical or historical experience. For further details of the risk factor adjustments see Note 1k on the Financial Statements.

In the corporate and commercial sectors, renegotiated loans are typically assessed individually. Credit risk ratings are intrinsic to the impairment assessment. A distressed restructuring is classified as an impaired loan. The individual impairment assessment takes into account the higher risk of the non-payment of future cash flows inherent in renegotiated loans.

Corporate and commercial forbearance

(Unaudited)

In the corporate and commercial sectors, forbearance activity is undertaken selectively where it has been identified that repayment difficulties against the original terms have already materialised, or are very likely to materialise. These cases are treated as impaired loans where:

 

  the customer is experiencing, or is very likely to experience, difficulty in meeting a payment obligation to the Group (i.e. due to current credit distress); and
  the Group is offering to the customer revised payment arrangements which constitute a concession (i.e. it is offering terms it would not normally be prepared to offer).

These cases are described as distressed restructurings. The agreement of a restructuring which meets the criteria above requires all loans, advances and counterparty exposures to the customer to be treated as impaired. Against the background of this requirement, as a customer approaches the point at which it becomes clear that there is an increasing risk that a restructuring of this kind might be necessary, the exposures will typically be regarded as sub-standard to reflect the deteriorating credit risk profile and will be graded as impaired when the restructure is proposed for approval, or sooner if there is sufficient concern regarding the customer’s likeliness to pay.

 

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For the purposes of determining whether changes to a customer’s agreement should be treated as a distressed restructuring the following types of modification are regarded as concessionary:

 

  transfers from the customer of receivables from third parties, real estate, or other assets to satisfy fully or partially a debt;
  issuance or other granting of an equity interest to satisfy fully or partially a debt unless the equity interest is granted pursuant to existing terms for converting the debt into an equity interest; and
  modification of the terms of a debt, such as one or more of the following:

 

  reduction (absolute or contingent) of the stated interest rate for the remaining original life of the debt;
  extension of the maturity date or dates at a stated interest rate lower than the current market rate for new debt with similar risk;
  reduction (absolute or contingent) of the face amount or maturity amount of the debt; and
  reduction (absolute or contingent) of accrued interest.

Modifications that are unrelated to payment arrangements, such as the restructuring of collateral or security arrangements or the waiver of rights under covenants within documentation, are not regarded by themselves to be evidence of credit distress affecting payment capacity. Typically, covenants are in place to give the Group rights of repricing or acceleration, but they are frequently set at levels where payment capacity has yet to be affected, providing rights of action at earlier stages of credit deterioration. Such concessions do not directly affect the customer’s ability to service the original contractual debt and are not reported as renegotiated loans. However, where a customer requests a non-payment related covenant waiver, the significance of the underlying breach of covenant will be considered together with any other indicators of impairment, and where there is a degree of severity of credit distress indicating uncertainty of payment, all available evidence will be considered in determining whether a loss event has occurred. The waiver will not, however, trigger classification as a renegotiated loan as payment terms have not been modified.

When both payment-related and non-payment related modifications are made together as a result of significant concerns regarding the payment of contractual cash flows, the loan is treated as a distressed restructuring and disclosed as a renegotiated loan.

Within corporate and commercial business segments, modifications of several kinds are frequently agreed for a customer contemporaneously. Transfer to an interest-only arrangement is the most common type of modification granted in the UK, whether in isolation or in combination with other concessions. Throughout the rest of the world, term extensions occur more frequently with other types of concession such as interest rate changes occurring less often.

In assessing whether payment-related forbearance is a satisfactory and sustainable strategy, the customer’s entire exposure and facilities will be reviewed and their ability to meet the terms of both the revised obligation and other credit facilities not amended in the renegotiation is assessed. Should this assessment identify that a renegotiation will not deal with a customer’s payment capacity issues satisfactorily, other special management options may be applied. This process may identify the need to provide assistance to a customer specifically to restructure their business operations and activities so as to restore satisfactory payment capacity.

When considering acceptable restructuring terms we consider the ability of the customer to be able to service the revised interest payments as a necessity. When principal payment modifications are considered, again we require the customer to be able to comply with the revised terms as a necessary pre-condition for the restructuring to proceed. When principal payments are modified resulting in permanent forgiveness, or when it is otherwise considered that there is no longer a realistic prospect of recovery of outstanding principal, the affected balances are written off. When principal repayments are postponed, it is expected that the customer will be capable of paying in line with the renegotiated terms, including instances when the postponed principal repayment is expected from refinancing. In all cases, a loan renegotiation is only granted when the customer is expected to be able to meet the revised terms.

Modifications may be made on a temporary basis when time is needed for the customer to make arrangements for payment, when deterioration in payment capacity is expected to be acute but short lived, or when more time is needed to accommodate discussions regarding a more permanent accommodation with other bankers, for example in syndicated facilities where multilateral negotiation commonly features.

If a restructuring proceeds and the customer demonstrates satisfactory performance over a period of time, the case may be returned to a non-impaired grade (CRR1-8) provided no other indicators of impairment remain. Such a case cannot be returned to a non-impaired grade when a specific impairment allowance remains against any of the customer’s credit facilities. The period of performance will vary depending on the frequency of payments to be made by the customer under the amended agreement and the extent to which the customer’s financial position is considered to have improved.

 

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Impairment assessment

(Audited)

It is our policy that each operating company in HSBC creates impairment allowances for impaired loans promptly and appropriately, when there is objective evidence that impairment of a loan or portfolio of loans has occurred.

For details of our impairment policies on loans and advances and financial investments, see Note 1k on the Financial Statements.

Impairment and credit risk mitigation

The existence of collateral has an effect when calculating impairment on individually assessed impaired loans. When we no longer expect to recover the principal and interest due on a loan in full or in accordance with the original terms and conditions, it is assessed for impairment. If exposures are secured, the current net realisable value of the collateral will be taken into account when assessing the need for an impairment allowance. No impairment allowance is recognised in cases where all amounts due are expected to be settled in full on realisation of the security.

Personal lending portfolios are generally assessed for impairment on a collective basis as the portfolios typically consist of large groups of homogeneous loans. Two methods are used to calculate allowances on a collective basis: a roll-rate methodology or a more basic formulaic approach based on historical losses. In 2014, we reviewed the impairment allowance methodology used for retail banking and small business portfolios across the Group to ensure that the assumptions used in our collective assessment models continued to appropriately reflect the period of time between a loss event occurring and the account proceeding to delinquency and eventual write-off.

 

  The historical loss methodology is typically used to calculate collective impairment allowances for secured or low default portfolios such as mortgages until the point at which they are individually identified and assessed as impaired. For loans which are collectively assessed using historical loss methodology, the historical loss rate is derived from the average contractual write-off net of recoveries over a defined period. The net contractual write-off rate is the actual amount of loss experienced after the realisation of collateral and receipt of recoveries.

 

  A roll-rate methodology is more commonly adopted for unsecured portfolios when there are sufficient volumes of empirical data to develop robust statistical models. In certain circumstances mortgage portfolios have a statistically significant number of defaults and losses available, enabling reliable roll rates to be generated. In these cases a roll-rate methodology is applied until the point at which the loans are individually identified and assessed as impaired, and the average loss rate for each delinquency bucket is adjusted to reflect the average loss expected following realisation of security and receipt of recoveries. The average loss expected is derived from average historical collateral realisation values.

The nature of the collective allowance assessment prevents individual collateral values or LTV ratios from being included within the calculation. However, the loss rates used in the collective assessment are adjusted for the collateral realisation experiences which will vary depending on the LTV composition of the portfolio. For example, mortgage portfolios under a historical loss rate methodology with lower LTV ratios will typically experience lower loss history and consequently a lower net contractual write-off rate.

For wholesale collectively assessed loans, historical loss methodologies are applied to measure loss event impairments which have been incurred but not reported. Loss rates are derived from the observed contractual write-off net of recoveries over a defined period, typically no less than 60 months. The net contractual write-off rate is the actual or expected amount of loss experienced after realisation of collateral and receipt of recoveries. These historical loss rates are adjusted by an economic factor which amends the historical averages to better represent current economic conditions affecting the portfolio. In order to reflect the likelihood of a loss event not being identified and assessed an emergence period assumption is applied which reflects the period between a loss occurring and its identification. The emergence period is estimated by management for each identified portfolio. The factors that may influence this estimation include economic and market conditions, customer behaviour, portfolio management information, credit management techniques and collection and recovery experiences in the market. The emergence period is assessed empirically on a periodic basis and may vary over time as these factors change.

Write-off of loans and advances

(Audited)

For details of our policy on the write-off of loans and advances, see Note 1k on the Financial Statements.

In HSBC Finance, the carrying amounts of residential mortgage and second lien loans in excess of net realisable value are written off at or before the time foreclosure is completed or settlement is reached with the borrower. If there is no reasonable expectation of recovery, and foreclosure is pursued, the loan is normally written off no later than the end of the month in which the loan becomes 180 days contractually past due. We regularly obtain new appraisals for these collateral dependent loans (every 180 days) and adjust carrying values to the most recent appraisal if they have improved or deteriorated as the best estimate of the cash flows that will be received on the disposal of the collateral.

 

 

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Unsecured personal facilities, including credit cards, are generally written off at between 150 and 210 days past due, the standard period being the end of the month in which the account becomes 180 days contractually delinquent. Write-off periods may be extended, generally to no more than 360 days past due but, in very exceptional circumstances, to longer than that figure in a few countries where local regulation or legislation constrain earlier write-off or where the realisation of collateral for secured real estate lending takes this time.

In retail lending, final write-off should occur within 60 months of the default at the latest.

In the event of bankruptcy or analogous proceedings, write-off may occur earlier than at the periods stated above. Collections procedures may continue after write-off.

Impairment methodologies

(Audited)

To identify objective evidence of impairment for available-for-sale ABSs, an industry standard valuation model is normally applied which uses data with reference to the underlying asset pools and models their projected future cash flows. The estimated future cash flows of the securities are assessed at the specific financial asset level to determine whether any of them are unlikely to be recovered as a result of loss events occurring on or before the reporting date.

The principal assumptions and inputs to the models are typically the delinquency status of the underlying loans, the probability of delinquent loans progressing to default, the prepayment profiles of the underlying assets and the loss severity in the event of default. However, the models utilise other variables relevant to specific classes of collateral to forecast future defaults and recovery rates. Management uses externally available data and applies judgement when determining the appropriate assumptions in respect of these factors. We use a modelling approach which incorporates historically observed progression rates to default to determine if the decline in aggregate projected cash flows from the underlying collateral will lead to a shortfall in contractual cash flows. In such cases, the security is considered to be impaired.

In respect of CDOs, expected future cash flows for the underlying collateral are assessed to determine whether there is likely to be a shortfall in the contractual cash flows of the CDO.

When a security benefits from a contract provided by a monoline insurer that insures payments of principal and interest, the expected recovery on the contract is assessed in determining the total expected credit support available to  the ABS.

Loan Management Unit

(Unaudited)

The HSBC Loan Management Unit (‘LMU’) is a front line customer contact department within Wholesale Credit and Market Risk that assumes responsibility for managing business customer relationships requiring intensive and close control where the bank’s lending is at risk. LMU operates on a regional basis across the Group and is independent of the originating business management units. It reports locally to the chief credit officer position. Customers are identified and transferred to LMU by business management or the Wholesale Credit and Market Risk approval teams.

Customers managed by LMU are normally operating outside the Group’s risk appetite. They typically show symptoms of significant financial difficulty, the management team displays limited experience of managing a business in distress and the management and financial information provided to the bank is insufficient and unreliable.

The levels of customer exposure under management and the size of the LMU team varies between countries depending on the breadth of business undertaken locally but LMU will always manage highly distressed situations where individual customer exposure exceeds US$1.5m.

The primary focus of LMU is to protect the bank’s capital and minimise losses by working consensually with customers to promote and support viable recovery strategies wherever achievable, with the ultimate intention of returning the customer to front line relationship management. In some cases, rehabilitation is not possible and LMU will consider a range of options to protect the bank’s exposure and solvency of the customer. On occasion, it is not possible to find a satisfactory solution and the customer may file for insolvency or local equivalent. In all outcomes, LMU seeks to treat customers fairly, sympathetically and positively, in a professional way with transparent processes and procedures.

Remediation and restructuring strategies available in the business and LMU include granting a customer various types of concessions while seeking to enhance the ability of the customer to ultimately repay the Group which could include enhancing the overall security available to the bank. Any decision to approve a concession will be a function of the region’s specific country and sector appetite, the key metrics of the customer, the market environment, the loan structure and security. Internal reviews on customers managed directly by LMU are performed on a scheduled basis in accordance with relevant accounting guidelines, credit policies and national banking regulations. Under certain circumstances, concessions granted may result in the loan being classified as a renegotiated loan.

Collateral and other credit enhancements held

(Audited)

Loans and advances held at amortised cost

The Group’s practice is to lend on the basis of customers’ ability to meet their obligations out of cash flow resources rather than rely on the value of security offered. Depending on a customer’s standing and the type of product, facilities may be provided without security. For other lending, a charge over collateral is obtained and considered in determining the credit decision and pricing. In the event of default, the bank may utilise the collateral as a source of repayment. Depending on its form, collateral can have a significant financial effect in mitigating our exposure to credit risk.

 

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Additionally, risk may be managed by employing other types of collateral and credit risk enhancements such as second charges, other liens and unsupported guarantees, but the valuation of such mitigants is less certain and their financial effect has not been quantified.

Refinance risk

(Audited)

Many types of lending require the repayment of a significant proportion of the principal at maturity. Typically, the mechanism of repayment for the customer is through the acquisition of a new loan to settle the existing debt. Refinance risk arises where a customer is unable to repay such term debt on maturity, or to refinance debt at commercial rates. When there is evidence that this risk may apply to a specific contract, HSBC may need to refinance the loan on concessionary terms that it would not otherwise have considered, in order to recoup the maximum possible cash flows from the contract and potentially avoid the customer defaulting on the repayment of principal. When there is sufficient evidence that borrowers, based on their current financial capabilities, may fail at maturity to repay or refinance their loans, these loans are disclosed as impaired with recognition of a corresponding impairment allowance where appropriate.

Nature of HSBC’s securitisation and other structured exposures

(Audited)

Mortgage-backed securities (‘MBS’s) are securities that represent interests in groups of mortgages and provide investors with the right to receive cash from future mortgage payments (interest and/or principal). An MBS which references mortgages with different risk profiles is classified according to the highest risk class.

Collateralised debt obligations (‘CDO’s) are securities backed by a pool of bonds, loans or other assets such as asset-backed securities (‘ABS’s). CDOs may include exposure to sub-prime or Alt-A mortgage assets where these are part of the underlying assets or reference assets. As there is often uncertainty surrounding the precise nature of the underlying collateral supporting CDOs, all CDOs supported by residential mortgage-related assets are classified as sub-prime. Our holdings of ABSs and CDOs and direct lending positions, and the categories of mortgage collateral and lending activity, are described overleaf.

Our exposure to non-residential mortgage-related ABSs includes securities with collateral relating to commercial property mortgages, leveraged finance loans, student loans, and other assets such as securities with other receivable-related collateral.

Definitions and classifications of ABSs and CDOs

 

 

Categories of

ABSs and CDOs

 

  

Definition

 

  

Classification

 

 

Sub-prime

  

 

Loans to customers who have limited credit histories, modest incomes or high debt-to-income ratios or have experienced credit problems caused by occasional delinquencies, prior charge-offs, bankruptcy or other credit-related actions.

 

  

 

For US mortgages, a FICO score of 620 or less has primarily been used to determine whether a loan is sub-prime. For non-US mortgages, management judgement is used.

 

US Home Equity Lines of Credit (‘HELoC’s) (categorised within ‘Sub-prime’)

 

  

 

A form of revolving credit facility provided to customers, which is supported in the majority of circumstances by a second lien or lower ranking charge over residential property.

 

  

 

Holdings of HELoCs are classified as sub-prime.

 

US Alt-A

  

 

Lower risk loans than sub-prime, but they share higher risk characteristics than lending under fully conforming standard criteria.

  

 

US credit scores and the completeness of documentation held (such as proof of income), are considered when determining whether an Alt-A classification is appropriate. Non sub-prime mortgages in the US are classified as Alt-A if they are not eligible for sale to the major US Government mortgage agencies or sponsored entities.

 

 

US Government agency and sponsored enterprises mortgage-related assets

  

 

Securities that are guaranteed by US Government agencies such as the Government National Mortgage Association (‘Ginnie Mae’), or by US Government sponsored entities including Fannie Mae and Freddie Mac.

 

  

 

Holdings of US Government agency and US Government sponsored enterprises’ mortgage-related assets are classified as prime exposures.

 

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Categories of

ABSs and CDOs

 

  

Definition

 

  

Classification

 

 

UK non-conforming mortgages (categorised within ‘Sub-prime’)

  

 

UK mortgages that do not meet normal lending criteria. Examples include mortgages where the expected level of documentation is not provided (such as income with self-certification), or where poor credit history increases risk and results in pricing at a higher than normal lending rate.

 

  

 

UK non-conforming mortgages are treated as sub-prime exposures.

 

Other residential mortgages

  

 

Residential mortgages, including prime mortgages, that do not meet any of the classifications described above.

 

  

 

Prime residential mortgage-related assets are included in this category.

 

 

 

Liquidity and funding

(Audited)

The management of liquidity and funding is primarily undertaken locally (by country) in our operating entities in compliance with the Group’s liquidity and funding risk management framework (the ‘LFRF’), and with practices and limits set by the GMB through the Risk Management Meeting and approved by the Board. These limits vary according to the depth and the liquidity of the markets in which the entities operate. Our general policy is that each defined operating entity should be self-sufficient in funding its own activities. Where transactions exist between operating entities, they are reflected symmetrically in both entities.

As part of our Asset, Liability and Capital Management (‘ALCM’) structure, we have established ALCOs at Group level, in the regions and in operating entities. The terms of reference of all ALCOs include the monitoring and control of liquidity and funding.

The primary responsibility for managing liquidity and funding within the Group’s framework and risk appetite resides with the local operating entities’ ALCOs. Our most significant operating entities are overseen by regional ALCOs, Group ALCO and the Risk Management Meeting. The remaining smaller operating entities are overseen by regional ALCOs, with appropriate escalation of significant issues to Group ALCO and the Risk Management Meeting.

Operating entities are predominately defined on a country basis to reflect our local management of liquidity and funding. Typically, an operating entity will be defined as a single legal entity. However, to take account of the situation where operations in a country are booked across multiple subsidiaries or branches:

 

  an operating entity may be defined as a wider sub-consolidated group of legal entities if they are incorporated in the same country, liquidity and funding are freely fungible between the entities and permitted by local regulation, and the definition reflects how liquidity and funding are managed locally; or
  an operating entity may be defined more narrowly as a principal office (branch) of a wider legal entity operating in multiple countries, reflecting the local country management of liquidity and funding.

The Risk Management Meeting reviews and agrees annually the list of entities it directly oversees and the composition of these entities.

Primary sources of funding

(Audited)

Customer deposits in the form of current accounts and savings deposits payable on demand or at short notice form a significant part of our funding, and we place considerable importance on maintaining their stability. For deposits, stability depends upon maintaining depositor confidence in our capital strength and liquidity, and on competitive and transparent pricing.

We also access wholesale funding markets by issuing senior secured and unsecured debt securities (publically and privately) and borrowing from the secured repo markets against high quality collateral, in order to obtain funding for non-banking subsidiaries that do not accept deposits, to align asset and liability maturities and currencies and to maintain a presence in local wholesale markets.

The management of liquidity and funding risk

(Audited)

Inherent liquidity risk categorisation

We place our operating entities into one of two categories (low and medium) to reflect our assessment of their inherent liquidity risk considering political, economic and regulatory factors within the host country and factors specific to the operating entities themselves, such as their local market, market share and balance sheet strength. The categorisation involves management judgement and is based on the perceived liquidity risk of an operating entity relative to other entities in the Group. The categorisation is intended to reflect the possible impact of a liquidity event, not the probability of an event, and forms part of our risk appetite. It is used to determine the prescribed stress scenario that we require our operating entities to be able to withstand and manage to.

 

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Core deposits

A key element of our internal framework is the classification of customer deposits into core and non-core based on our expectation of their behaviour during periods of liquidity stress. This characterisation takes into account the inherent liquidity risk categorisation of the operating entity originating the deposit, the nature of the customer and the size and pricing of the deposit. No deposit is considered to be core in its entirety unless it is contractually collateralising a loan. The core deposit base in each operating entity is considered to be a long-term source of funding and therefore is assumed not to be withdrawn in the liquidity stress scenario that we use to calculate our principal liquidity risk metrics.

The three filters considered in assessing whether a deposit in any operating entity is core are:

 

  price: any deposit priced significantly above market or benchmark rates is generally treated as entirely non-core;
  size: depositors with total funds above certain monetary thresholds are excluded. Thresholds are established by considering the business line and inherent liquidity risk categorisation; and
  line of business: the element of any deposit remaining after the application of the price and size filters is assessed on the basis of the line of business with which the deposit is associated. The proportion of any customer deposit that can be considered core under this filter is between 35% and 90%.

Repo transactions and bank deposits cannot be classified as core deposits.

Advances to core funding ratio

Core customer deposits are an important source of funding to finance lending to customers, and mitigate against reliance on short-term wholesale funding. Limits are placed on operating entities to restrict their ability to increase loans and advances to customers without corresponding growth in core customer deposits or long-term debt funding with a residual maturity beyond one year; this measure is referred to as the ‘advances to core funding’ ratio.

Advances to core funding ratio limits are set by the Risk Management Meeting for the most significant operating entities, and by regional ALCOs for smaller operating entities, and are monitored by ALCM teams. The ratio describes loans and advances to customers as a percentage of the total of core customer deposits and term funding with a remaining term to maturity in excess of one year. In general, customer loans are assumed to be renewed and are included in the numerator of the ratio, irrespective of the contractual maturity date. Reverse repo arrangements are excluded from the advances to core funding ratio.

Stressed coverage ratios

Stressed coverage ratios are derived from stressed cash flow scenario analyses and express stressed cash inflows as a percentage of stressed cash outflows over one-month and three-month time horizons.

The stressed cash inflows include:

 

  inflows (net of assumed haircuts) expected to be generated from the realisation of liquid assets; and
  contractual cash inflows from maturing assets that are not already reflected as a utilisation of liquid assets.

In line with the approach adopted for the advances to core funding ratio, customer loans are generally assumed not to generate any cash inflows under stress scenarios and are therefore excluded from the numerator of the stressed coverage ratio, irrespective of the contractual maturity date.

A stressed coverage ratio of 100% or higher reflects a positive cumulative cash flow under the stress scenario being monitored. Group operating entities are required to maintain a ratio of 100% or more out to three months under the combined market-wide and HSBC-specific stress scenario defined by the inherent liquidity risk categorisation of the operating entity concerned.

Compliance with operating entity limits is monitored by ALCM teams and reported monthly to the Risk Management Meeting for the main operating entities and to regional ALCOs for the smaller operating entities.

Stressed scenario analysis

(Unaudited)

We use a number of standard Group stress scenarios designed to model:

 

  combined market-wide and HSBC-specific liquidity crisis scenarios; and
  market-wide liquidity crisis scenario.

These scenarios are modelled by all operating entities. The appropriateness of the assumptions for each scenario is reviewed by ALCM regularly and formally approved by the Risk Management Meeting and the Board annually as part of the liquidity and funding risk appetite approval process.

Stressed cash outflows are determined by applying a standard set of prescribed stress assumptions to the Group’s cash flow model. Our framework prescribes the use of two market-wide scenarios and two further combined market-wide and HSBC-specific stress scenarios of increasing severity. In addition to our standard stress scenarios, individual operating entities are required to design their own scenarios to reflect specific local market conditions, products and funding bases.

 

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The two combined market-wide and HSBC-specific scenarios model a more severe scenario than the market-wide scenario. The relevant combined market-wide and HSBC-specific stress scenario that an operating entity manages to is based upon its inherent liquidity risk categorisation. The key assumptions factored into the two combined market-wide and HSBC-specific stress scenarios are summarised as follows:

 

  all non-core deposits are deemed to be withdrawn within three months (80% within one month), with the level of non-core deposits dependent on the operating entity’s inherent liquidity risk categorisation;

 

  the ability to access interbank funding and unsecured term debt markets ceases for the duration of the scenario;

 

  the ability to generate funds from illiquid asset portfolios (securitisation and secured borrowing) is restricted to 25-75% of the lower of issues in the last six months or expected issues in the next six months. The restriction is based on current market conditions and is dependent on the operating entity’s inherent liquidity risk categorisation;

 

  the ability to access repo funding ceases for any asset not classified as liquid under our liquid asset policy for the duration of the scenario;

 

  drawdowns on committed lending facilities must be consistent with the severity of the market stress being modelled and dependent on the inherent liquidity risk categorisation of the operating entity;

 

  outflows are triggered by a defined downgrade in long-term ratings. We maintain an ongoing assessment of the appropriate number of notches to reflect;

 

  customer loans are assumed to be renewed at contractual maturity;

 

  interbank loans and reverse repos are assumed to run off contractually; and

 

  assets defined as liquid assets are assumed to be realised in cash ahead of their contractual maturity, after applying a defined stressed haircut of up to 20%.

Liquid assets of HSBC’s principal operating entities

(Audited)

Stressed scenario analysis and the numerator of the coverage ratio include the assumed cash inflows that would be generated from the realisation of liquid assets, after applying the appropriate stressed haircut. These assumptions are made on the basis of management’s expectation of when an asset is deemed to be realisable.

Liquid assets are unencumbered assets that meet the Group’s definition of liquid assets and are either held outright or as a consequence of a reverse repo transaction with a residual contractual maturity beyond the time horizon of the stressed coverage ratio being monitored. Any unencumbered asset held as a result of reverse repo transactions with a contractual maturity within the time horizon of the stressed coverage ratio being monitored is excluded from the stock of liquid assets and is instead reflected as a contractual cash inflow.

Our framework defines the asset classes that can be assessed locally as high quality and realisable within one month and between one month and three months. Each local ALCO has to be satisfied that any asset which may be treated as liquid in accordance with the Group’s liquid asset policy will remain liquid under the stress scenario being managed to.

Inflows from the utilisation of liquid assets within one month can generally only be based on confirmed withdrawable central bank deposits or the sale or repo of government and quasi-government exposures generally restricted to those denominated in the sovereign’s domestic currency. High quality ABSs (predominantly US MBSs) and covered bonds are also included but inflows assumed for these assets are capped.

Inflows after one month are also reflected for high quality non-financial and non-structured corporate bonds and equities within the most liquid indices.

 

 

Internal categorisation

 

   Cash inflow recognised    Asset classes

Level 1

 

  

 

Within one month

  

 

•  Central government

 

•  Central bank (including confirmed withdrawable reserves)

 

•  Supranationals

 

•  Multilateral development banks

 

•  Coins and banknotes

 

 

Level 2

  

 

Within one month but capped

  

 

•  Local and regional government

 

 

•  Public sector entities

 

•  Secured covered bonds and pass-through ABSs

 

•  Gold

 

 

Level 3

  

 

From one to three months

  

 

•  Unsecured non-financial entity securities

 

•  Equities listed on recognised exchanges and within liquid indices

 

Any entity owned and controlled by central or local/regional government but not explicitly guaranteed is treated as a public sector entity.

Any exposure explicitly guaranteed is reflected as an exposure to the ultimate guarantor.

 

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In terms of the criteria used to ensure liquid assets are of a high quality, the Group’s liquid asset policy sets out the following additional criteria:

 

1. Central bank and central government exposures denominated in the domestic currency of the related sovereign and held onshore in the domestic banking system qualify as level 1 liquid assets.

 

2. Central bank and central government exposures denominated in the domestic currency of the related sovereign and held offshore must be risk weighted 20% or lower under the Basel standardised risk weighting methodology to qualify as level 1 liquid assets.

 

3. Central bank and central government exposures denominated in a currency other than the currency of the related sovereign (i.e. foreign currency) must be risk weighted 20% or lower under the Basel standardised risk weighting methodology and issued in a limited number of major currencies to qualify as level 1 liquid assets.

 

  The treatment of eurozone countries using the euro as their domestic currency depends on whether the exposures are held onshore in the domestic banking system or offshore. Central bank and central government exposures held onshore in the domestic banking system qualify as level 1 liquid assets under criteria 1, but central bank and central government exposures held offshore are considered to be denominated in a foreign currency under criteria 3.

 

4. Local/regional government exposures held onshore and considered by the local regulator to be the same risk as central government exposures can be considered central government exposures.

 

5. Supranationals and multilateral development banks must be 0% risk weighted under the Basel standardised risk- weighting methodology to qualify as level 1 liquid assets.

 

6. To qualify as a level 2 liquid asset, the exposure must be risk weighted 20% or lower under the Basel standardised risk-weighting methodology.

 

7. To qualify as a level 3 liquid asset, an unsecured non-financial corporate debt exposure must satisfy a minimum internal rating requirement.

On a case-by-case basis, operating entities are permitted to treat other assets as liquid if these assets are realistically assessed to be liquid under stress. These liquid assets are reported as ‘Other’, separately from level 1, level 2 and level 3 liquid assets.

Net cash flow arising from interbank and intragroup loans and deposits

Under the LFRF, a net cash inflow within three months arising from interbank and intra-Group loans and deposits will give rise to a lower liquid asset requirement. Conversely, a net cash outflow within three months arising from interbank and intra-Group loans and deposits will give rise to a higher liquid assets requirement.

Net cash flow arising from reverse repo, repo, stock borrowing, stock lending and outright short positions (including intra-Group)

A net cash inflow represents liquid resources in addition to liquid assets because any unencumbered asset held as a consequence of a reverse repo transaction with a residual contractual maturity within the stressed coverage ratio time period is not reflected as a liquid asset.

The impact of net cash outflow depends on whether the underlying collateral encumbered as a result will qualify as a liquid asset when released at the maturity of the repo. The majority of the Group’s repo transactions are collateralised by liquid assets and, as such, any net cash outflow shown is offset by the return of liquid assets, which are excluded from the liquid asset table above.

Wholesale debt monitoring

(Unaudited)

Where wholesale debt term markets are accessed to raise funding, ALCO is required to establish cumulative rolling three-month and 12-month debt maturity limits to ensure no concentration of maturities within these timeframes.

Liquidity behaviouralisation

(Unaudited)

Liquidity behaviouralisation is applied to reflect our assessment of the expected period for which we are confident that we will have access to our liabilities, even under a severe liquidity stress scenario, and the expected period for which we must assume that we will need to fund our assets. Behaviouralisation is applied when the contractual terms do not reflect the expected behaviour. Liquidity behaviouralisation is reviewed and approved by local ALCO in compliance with policies set by the Risk Management Meeting. Our approach to liquidity risk management will often mean different approaches are applied to assets and liabilities. For example, management may assume a shorter life for liabilities and a longer-term funding requirement for assets. All core deposits are assumed under the Group’s core/non-core and advances to core funding frameworks to have a liquidity behaviouralised life beyond one year and to represent a homogeneous source of core funding. The behaviouralisation of assets is far more granular and seeks to differentiate the period for which we must assume that we will need to fund the asset.

 

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Funds transfer pricing

(Unaudited)

Our funds transfer pricing policies give rise to a two-stage funds transfer pricing approach, reflecting the fact that we separately manage interest rate risk and liquidity and funding risk under different assumptions. They have been developed to be consistent with our risk management frameworks. Each operating entity is required to apply the Group’s transfer pricing policy framework to determine for each material currency the most appropriate interest rate risk transfer pricing curve, a liquidity premium curve (which is the spread over the interest rate risk transfer pricing curve) and a liquidity recharge assessment (which is the spread under or over the interest rate risk transfer pricing curve).

The interest rate risk transfer pricing policy seeks to ensure that all market interest rate risk arising structurally from non-trading (banking book) assets and liabilities which is capable of being neutralised externally in the market or neutralised internally by off-setting transfers, is transferred to BSM to be managed centrally as non-trading market risk. For each material currency each operating entity employs a single interest rate risk transfer pricing curve. The transfer price curve used for this purpose reflects how BSM in each operating entity is best able to neutralise the interest rate risk in the market at the point of transfer. Where basis risk can be identified between the re-pricing basis of an external asset or external liability and the re-pricing basis of the interest rate risk transfer pricing curve, this basis risk may be transferred to BSM provided it can neutralise the basis risk in the market.

Liquidity and funding risk is transfer priced independently from interest rate risk because the liquidity and funding risk of an operating entity is transferred to ALCO to be managed centrally. ALCO monitors and manages the advances to core funding ratio and delegates the management of the liquid asset portfolio and execution of the wholesale term debt funding plan to BSM. This assists ALCO in ensuring the Group’s stressed coverage ratios remain above 100% out to three months.

The liquidity and funding risk transfer price consists of two components:

 

  Liquidity recharge: the cost of holding the benchmark liquid asset (the yield under the transfer price) to meet stressed cash outflows. The benchmark liquid asset is decided by ALCO and based on the weighted average duration that can be achieved by investing in level 1 liquid assets, with a residual duration of up to one year.

 

  Liquidity premium: the assessed cost/value of term funding (the yield over the transfer price) to pay for term debt and core deposits.

The assessed cost of holding liquid assets is allocated to the outflows modelled by the Group’s internal stressed coverage ratio framework.

Liquidity premium is charged to any asset that affects our three-month stressed coverage ratios based on the assessed behaviouralised liquidity life of the asset, with any asset affecting the Group’s advances to core funding metric required to have a minimum behaviouralised life of at least one year, and the prevailing liquidity premium curve rate set by ALCO and calibrated in line with Group’s calibration principles. Core deposits therefore share equally in the liquidity premiums charged to the assets they support, after deducting the cost of any term funding.

Repos and stock lending

GB&M provides collateralised security financing services to its clients, providing them with cash financing or specific securities. When cash is provided to clients against collateral in the form of securities, the cash provided is recognised on the balance sheet as a reverse repo. When securities are provided to clients against cash collateral the cash received is recognised on the balance sheet as a repo or, if the securities are equity securities, as stock lending.

Each operating entity manages its collateral through a central collateral pool, in line with the LFRF. When specific securities need to be delivered and the entity does not have them currently available within the central collateral pool, the securities are borrowed on a collateralised basis. When securities are borrowed against cash collateral the cash provided is recognised on the balance sheet as a reverse repo or, if the securities are equity securities, as stock borrowing.

Operating entities may also borrow cash against collateral in the form of securities, using the securities available in the central collateral pool. Repos and stock lending can be used in this way to fund the cash requirement arising from securities owned outright by Markets to facilitate client business, and the net cash requirement arising from financing client securities activity.

Reverse repos, stock borrowing, repos and stock lending are reported net when the IFRSs offsetting criteria are met. In some cases transactions to borrow or lend securities are collateralised using securities. These transactions are off-balance sheet.

Any security accepted as collateral for a reverse repo or stock borrowing transaction must be of very high quality and its value subject to an appropriate haircut. Securities borrowed under reverse repo or stock borrowing transactions can only be recognised as part of the liquidity asset buffer for the duration of the transactions and only if the security received is eligible under the liquid asset policy within the LFRF.

Credit controls are in place to ensure that the fair value of any collateral received remains appropriate to collateralise the cash or fair value of securities given.

 

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The effect of active collateral management

Collateral is managed on an operating entity basis, consistent with the approach adopted in managing liquidity and funding. Available collateral held by each operating entity is managed as a single collateral pool. In deciding which collateral to pledge, each operating entity seeks to optimise the use of the available collateral pool within the confines of the LFRF, irrespective of whether the collateral pledged is recognised on-balance sheet or was received in respect of reverse repo, stock borrowing or derivative transactions.

Managing collateral in this manner affects the presentation of asset encumbrance in that we may encumber on-balance sheet holdings while maintaining available unencumbered off-balance sheet holdings, even though we are not seeking to directly finance the on-balance sheet holdings pledged.

In quantifying the level of encumbrance of negotiable securities, the encumbrance is analysed by individual security. When a particular security is encumbered and we hold the security both on-balance sheet and off-balance sheet with the right to repledge, we assume for the purpose of this disclosure that the off-balance sheet holding received from the third party is encumbered ahead of the on-balance sheet holding.

An on-balance sheet encumbered and off-balance sheet unencumbered asset will occur, for example, if we receive a specific security as a result of a reverse repo/stock borrowing transaction, but finance the cash lent by pledging a generic collateral basket, even if the security received is eligible for the collateral basket pledged. It will also occur if we receive a generic collateral basket as a result of a reverse repo transaction but finance the cash lent by pledging specific securities, even if the securities pledged are eligible for the collateral basket.

Encumbered and unencumbered assets

 

 

Definitions of the categories included in the table ‘Analysis of on-balance sheet encumbered and unencumbered assets’:

 

 Encumbered assets are assets on our balance sheet which have been pledged as collateral against an existing liability, and as a result are assets which are unavailable to the bank to secure funding, satisfy collateral needs or be sold to reduce potential future funding requirements.

 

•  Unencumbered – readily realisable assets are assets regarded by the bank to be readily realisable in the normal course of business to secure funding, meet collateral needs, or be sold to reduce potential future funding requirements, and are not subject to any restrictions on their use for these purposes.

 

•  Unencumbered – other realisable assets are assets where there are no restrictions on their use to secure funding, meet collateral needs, or be sold to reduce potential future funding requirements, but they are not readily realisable in the normal course of business in their current form.

 

•  Unencumbered – reverse repo/stock borrowing receivables and derivative assets are assets related specifically to reverse repo, stock borrowing and derivative transactions. They are shown separately as these on-balance sheet assets cannot be pledged but often give rise to the receipt of non-cash assets which are not recognised on the balance sheet, and can additionally be used to raise secured funding, meet additional collateral requirements or be sold.

 

•  Unencumbered – cannot be pledged as collateral are assets that have not been pledged and which we have assessed could not be pledged and therefore could not be used to secure funding, meet collateral needs, or be sold to reduce potential future funding requirements. An example is assets held by the Group’s insurance subsidiaries that back liabilities to policyholders and support the solvency of these entities.

 

Historically, the Group has not recognised any contingent liquidity value for assets other than those assets defined under the LFRF as being liquid assets, and any other negotiable instruments that under stress are assumed to be realisable after three months, even though they may currently be realisable. This approach has generally been driven by our risk appetite not to place any reliance on central banks. In a few cases, we have recognised the contingent value of discrete pools of assets, but the amounts involved are insignificant. As a result, we have reported the majority of our loans and advances to customers and banks in the category ‘Other realisable assets’ as management would need to perform additional actions in order to make the assets transferable and readily realisable.

 

Additional information

The amount of assets pledged to secure liabilities reported in Note 19 on the Financial Statements may be greater than the book value of assets reported as being encumbered in the table on page 172. Examples of where such differences occur are:

 

  ABSs and covered bonds, where the amount of liabilities issued plus the required mandatory over-collateralisation is lower than the book value of assets pledged to the pool. Any difference is categorised in the table above as ‘Unencumbered – readily realisable assets’;

 

  negotiable securities held by custodians or settlement agents, where a floating charge has been given over the entire holding to secure intra-day settlement liabilities, are only reported as encumbered to the extent that we have a liability to the custodian or settlement agent at the reporting date, with the balance reported as ‘Unencumbered – readily realisable assets’; and

 

  assets pre-positioned with central banks or government agencies are only reported as encumbered to the extent that we have secured funding with the collateral. The unutilised pre-positioned collateral is reported as ‘Unencumbered – readily realisable assets’.

 

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Securities reflected on the balance sheet that are pledged as collateral against an existing liability or lent are reflected as encumbered for the duration of the transaction. When securities are received as collateral or borrowed, and when we have the right to sell or re-pledge these securities, they are reflected as available and unencumbered for the duration of the transaction, unless re-pledged or sold. Further analysis regarding the encumbrance of securities resulting from repos and stock lending and available unencumbered assets arising from reverse repos and stock borrowing is provided under the heading ‘Encumbered and unencumbered assets’ on page 171.

In the normal course of business we do not seek to utilise repo financing as a source of funding to finance customer assets, beyond the collateralised security financing activities within Markets described above.

The original contractual maturity of reverse repo, stock borrowing, repo and stock lending is short term with the vast majority of transactions being for less than 90 days.

Management of cross-currency liquidity and funding risk

(Unaudited)

Our liquidity and funding risk framework also considers the ability of each entity to continue to access foreign exchange markets under stress when a surplus in one currency is used to meet a deficit in another currency, for example, by the use of the foreign currency swap markets. Where appropriate, operating entities are required to monitor stressed coverage ratios and advances to core funding ratios for non-local currencies.

HSBC Holdings

(Audited)

HSBC Holdings’ primary sources of cash are dividends received from subsidiaries, interest on and repayment of intra-group loans and interest earned on its own liquid funds. HSBC Holdings also raises ancillary funds in the debt capital markets through subordinated and senior debt issuance. Cash is primarily used for the provision of capital to subsidiaries, interest payments to debt holders and dividend payments to shareholders.

HSBC Holdings is also subject to contingent liquidity risk by virtue of loan and other credit-related commitments and guarantees and similar contracts issued. Such commitments and guarantees are only issued after due consideration of HSBC Holdings’ ability to finance the commitments and guarantees and the likelihood of the need arising.

HSBC Holdings actively manages the cash flows from its subsidiaries to optimise the amount of cash held at the holding company level. The ability of subsidiaries to pay dividends or advance monies to HSBC Holdings depends on, among other things, their respective local regulatory capital and banking requirements, statutory reserves, and financial and operating performance. During 2014 and 2013, none of the Group’s subsidiaries experienced significant restrictions on paying dividends or repaying loans and advances. Also, there are no foreseen restrictions envisaged by our subsidiaries on paying dividends or repaying loans and advances. None of the subsidiaries which are excluded from our regulatory consolidation has capital resources below its minimum regulatory requirement.

 

 

Market risk

Market risk is the risk that movements in market factors, including foreign exchange rates and commodity prices, interest rates, credit spreads and equity prices, will reduce our income or the value of our portfolios.

Market risk exposures (including graphs and tables) are provided under Market Risk on page 175.

Exposure to market risk

(Unaudited)

Exposure to market risk is separated into two portfolios:

 

  Trading portfolios comprise positions arising from market-making and the warehousing of customer-derived positions.

 

  Non-trading portfolios comprise positions that primarily arise from the interest rate management of our retail and commercial banking assets and liabilities, financial investments designated as available for sale and held to maturity, and exposures arising from our insurance operations.

Where appropriate, we apply similar risk management policies and measurement techniques to both trading and non-trading portfolios. Our objective is to manage and control market risk exposures in order to optimise return on risk while maintaining a market profile consistent with our status as one of the world’s largest banking and financial services organisations.

The nature of the hedging and risk mitigation strategies performed across the Group corresponds to the market risk management instruments available within each operating jurisdiction. These strategies range from the use of traditional market instruments, such as interest rate swaps, to more sophisticated hedging strategies to address a combination of risk factors arising at portfolio level.

 

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Overview of market risk in global businesses

(Unaudited)

The diagram below illustrates the main business areas where trading and non-trading market risks reside and market risk measures to monitor and limit exposures.

 

LOGO

 

1 The interest rate risk on the fixed-rate securities issued by HSBC Holdings is not included in the Group VaR. The management of this risk is described on page 181.

Market risk governance

(Audited)

Market risk is managed and controlled through limits approved by the Risk Management Meeting of the GMB for HSBC Holdings and our various global businesses. These limits are allocated across business lines and to the Group’s legal entities.

 

LOGO

The management of market risk is principally undertaken in Global Markets, where 77% of the total value at risk of HSBC (excluding insurance) and almost all trading VaR resides, using risk limits approved by the GMB. VaR limits are set for portfolios, products and risk types, with market liquidity being a primary factor in determining the level of limits set.

 

Group Risk, an independent unit within Group Head Office, is responsible for our market risk management policies and measurement techniques. Each major operating entity has an independent market risk management and control function which is responsible for measuring market risk exposures in accordance with the policies defined by Group Risk, and monitoring and reporting these exposures against the prescribed limits on a daily basis. The market risk limits are governed according to the framework illustrated to the left.

 

Each operating entity is required to assess the market risks arising on each product in its business and to transfer them to either its local Markets unit for management, or to separate books managed under the supervision of the local ALCO.

 

Our aim is to ensure that all market risks are consolidated within operations that have the necessary skills, tools, management and governance to manage them. In certain cases where the market risks cannot be fully transferred, we identify the impact of varying scenarios on valuations or on net interest income resulting from any residual risk positions. Further details on the control and management process for residual risks are provided on page 224.

Model risk is governed through Model Oversight Committees (‘MOC’s) at the regional and global Wholesale Credit and Market Risk levels. They have direct oversight and approval responsibility for all traded risk models utilised for risk measurement and management and stress testing. The MOCs prioritise the development of models, methodologies and practices used for traded risk management within the Group and ensure that they remain within our risk appetite and business plans. The Markets MOC reports into the Group MOC, which oversees all model risk types at Group level. Group MOC informs the Group Risk Management Meeting about material issues at least on a bi-annual basis. The Risk Management Meeting is the Group’s ‘Designated Committee’ according to regulatory rules and has delegated day-to-day governance of all traded risk models to the Markets MOC.

 

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Our control of market risk in the trading and non-trading portfolios is based on a policy of restricting individual operations to trading within a list of permissible instruments authorised for each site by Group Risk, of enforcing new product approval procedures, and of restricting trading in the more complex derivative products only to offices with appropriate levels of product expertise and robust control systems.

Market risk measures

(Audited)

Monitoring and limiting market risk exposures

Our objective is to manage and control market risk exposures while maintaining a market profile consistent with our risk appetite.

We use a range of tools to monitor and limit market risk exposures including sensitivity analysis, value at risk and stress testing.

Sensitivity analysis

(Unaudited)

Sensitivity analysis measures the impact of individual market factor movements on specific instruments or portfolios, including interest rates, foreign exchange rates and equity prices, such as the effect of a one basis point change in yield. We use sensitivity measures to monitor the market risk positions within each risk type. Sensitivity limits are set for portfolios, products and risk types, with the depth of the market being one of the principal factors in determining the level of limits set.

Value at risk

(Audited)

Value at risk (‘VaR’) is a technique that estimates the potential losses on risk positions as a result of movements in market rates and prices over a specified time horizon and to a given level of confidence. The use of VaR is integrated into market risk management and is calculated for all trading positions regardless of how we capitalise those exposures. Where there is not an approved internal model, we use the appropriate local rules to capitalise exposures.

In addition, we calculate VaR for non-trading portfolios in order to have a complete picture of risk. Our models are predominantly based on historical simulation. VaR is calculated at a 99% confidence level for a one-day holding period. Where we do not calculate VaR explicitly, we use alternative tools as summarised in the Market Risk Stress Testing table found in the Stress testing section below.

Our VaR models derive plausible future scenarios from past series of recorded market rates and prices, taking into account inter-relationships between different markets and rates such as interest rates and foreign exchange rates. The models also incorporate the effect of option features on the underlying exposures.

The historical simulation models used incorporate the following features:

 

  historical market rates and prices are calculated with reference to foreign exchange rates and commodity prices, interest rates, equity prices and the associated volatilities;

 

  potential market movements utilised for VaR are calculated with reference to data from the past two years; and

 

  VaR measures are calculated to a 99% confidence level and use a one-day holding period.

The nature of the VaR models means that an increase in observed market volatility will lead to an increase in VaR without any changes in the underlying positions.

We are committed to the ongoing development of our in-house risk models.

VaR model limitations

Although a valuable guide to risk, VaR should always be viewed in the context of its limitations. For example:

 

  the use of historical data as a proxy for estimating future events may not encompass all potential events, particularly those which are extreme in nature;

 

  the use of a holding period assumes that all positions can be liquidated or the risks offset during that period. This may not fully reflect the market risk arising at times of severe illiquidity, when the holding period may be insufficient to liquidate or hedge all positions fully;

 

  the use of a 99% confidence level, by definition, does not take into account losses that might occur beyond this level of confidence;

 

  VaR is calculated on the basis of exposures outstanding at the close of business and therefore does not necessarily reflect intra-day exposures; and

 

  VaR is unlikely to reflect loss potential on exposures that only arise under conditions of significant market movement.

 

 

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Risk not in VaR framework

(Unaudited)

Our VaR model is designed to capture significant basis risks such as credit default swap versus bond, asset swap spreads and cross-currency basis. Other basis risks which are not completely covered in VaR, such as the Libor tenor basis, are complemented by our risk not in VaR (‘RNIV’) calculations, and are integrated into our capital framework.

The RNIV framework therefore aims to capture and capitalise material market risks that are not adequately covered in the VaR model. An example of this is Libor-overnight index swap basis risk for minor currencies. In such instances the RNIV framework uses stress tests to quantify the capital requirement. On average in 2014, the capital requirement derived from these stress tests represented 2.6% of the total internal model-based market risk requirement.

Risks covered by RNIV represent 18% of market risk RWAs for models with regulatory approval and include those resulting from underlying risk factors which are not observable on a daily basis across asset classes and products, such as dividend risk and correlation risks.

Risk factors are reviewed on a regular basis and either incorporated directly in the VaR models, where possible, or quantified through the VaR-based RNIV approach or a stress test approach within the RNIV framework. The severity of the scenarios is calibrated to be in line with the capital adequacy requirements. The outcome of the VaR-based RNIV is included in the VaR calculation and back-testing; a stressed VaR RNIV is also computed for the risk factors considered in the VaR-based RNIV approach.

In 2014, we modified our RNIV model on a non-diversified basis across risk factors to comply with new PRA CRD IV implementation guidelines.

Level 3 assets

The fair values of Level 3 assets and liabilities in trading portfolios are disclosed on page 380, and represent only a small proportion of the overall trading portfolio. Market risk arising from Level 3 instruments is managed by various market risk techniques such as stress testing and notional limits. The table on page 384 shows the movement in Level 3 financial instruments.

Back-testing

We routinely validate the accuracy of our VaR models by back-testing them against both clean and hypothetical profit and loss against the corresponding VaR numbers. Hypothetical profit and loss excludes non-modelled items such as fees, commissions and revenues of intra-day transactions.

We would expect on average to see two or three profits and two or three losses in excess of VaR at the 99% confidence level over a one-year period. The actual number of profits or losses in excess of VaR over this period can therefore be used to gauge how well the models are performing. To ensure a conservative approach to calculating our risk exposures, it is important to note that profits in excess of VaR are only considered when back-testing the accuracy of our models and are not used to calculate the VaR numbers used for risk management or capital purposes.

We back-test our Group VaR at various levels which reflect a full legal entity scope of HSBC, including entities that do not have local permission to use VaR for regulatory purposes.

Stress testing

(Unaudited)

Stress testing is an important tool that is integrated into our market risk management tool to evaluate the potential impact on portfolio values of more extreme, although plausible, events or movements in a set of financial variables. In such abnormal scenarios, losses can be much greater than those predicted by VaR modelling.

Stress testing is implemented at legal entity, regional and overall Group levels. A standard set of scenarios is utilised consistently across all regions within the Group. Scenarios are tailored to capture the relevant events or market movements at each level. The risk appetite around potential stress losses for the Group is set and monitored against referral limits.

 

 

LOGO

 

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Market risk reverse stress tests are undertaken on the premise that there is a fixed loss. The stress test process identifies which scenarios lead to this loss. The rationale behind the reverse stress test is to understand scenarios which are beyond normal business settings that could have contagion and systemic implications.

Stressed VaR and stress testing, together with reverse stress testing and the management of gap risk, provide management with insights regarding the ‘tail risk’ beyond VaR for which HSBC’s appetite is limited.

Trading portfolios

(Audited)

Gap risk

Certain products are structured in such a way that they give rise to enhanced gap risk, being the risk that loss is incurred upon occurrence of a gap event. A gap event is a significant and sudden change in market price with no accompanying trading opportunity. Such movements may occur, for example, when, in reaction to an adverse event or unexpected news announcement, some parts of the market move far beyond their normal volatility range and become temporarily illiquid. In 2014 gap risk principally arose from non-recourse loan transactions, mostly for corporate clients, where the collateral against the loan is limited to the posted shares. Upon occurrence of a gap event, the value of the equity collateral could fall below the outstanding loan amount.

Given their characteristics, these transactions make little or no contribution to VaR nor to traditional market risk sensitivity measures. We capture their risks within our stress testing scenarios and monitor gap risk on an ongoing basis. We did not incur any notable gap loss in 2014.

De-peg risk

For certain currencies (pegged or managed) the spot exchange rate is pegged at a fixed rate (typically to USD or EUR), or managed within a predefined band around a pegged rate. De-peg risk is the risk of the peg or managed band changing or being abolished, and moving to a floating regime.

HSBC has a lot of experience in managing fixed and managed currency regimes. Using stressed scenarios on spot rates, we are able to analyse how de-peg events would impact the positions held by HSBC. We monitor such scenarios to pegged or managed currencies, such as the Hong Kong dollar, renminbi, Middle Eastern currencies and the Swiss franc with appreciation capped against the euro during 2014, and limit any potential losses that would occur. This complements traditional market risk metrics, such as historical VaR, which may not fully capture the risk involved in holding positions in pegged or managed currencies. Historical VaR relies on past events to determine the likelihood of potential profits or losses. However, pegged or managed currencies may not have experienced a de-peg event during the historical timeframe being considered.

ABS/MBS exposures

The ABS/MBS exposures within the trading portfolios are managed within sensitivity and VaR limits as described on page 176, and are included within the stress testing scenarios described above.

Non-trading portfolios

(Audited)

Most of the Group’s non-trading VaR relates to Balance Sheet Management (‘BSM’) or local treasury management functions. Contributions to Group non-trading VaR are driven by interest rates and credit spread risks arising from all global businesses. There is no commodity market risk in the non-trading portfolios.

Non-trading VaR also includes the interest rate risk of non-trading financial instruments held by the global businesses and transferred into portfolios managed by BSM or local treasury functions. In measuring, monitoring and managing risk in our non-trading portfolios, VaR is just one of the tools used. The management of interest rate risk in the banking book is described further in ‘Non-trading interest rate risk’ below, including the role of BSM.

Non-trading VaR excludes equity risk on available-for-sale securities, structural foreign exchange risk, and interest rate risk on fixed rate securities issued by HSBC Holdings, the scope and management of which are described in the relevant sections below.

Our control of market risk in the non-trading portfolios is based on transferring the assessed market risk of non-trading assets and liabilities created outside BSM or Markets, to the books managed by BSM, provided the market risk can be neutralised. The net exposure is typically managed by BSM through the use of fixed rate government bonds (liquid assets held in available-for-sale books) and interest rate swaps. The interest rate risk arising from fixed rate government bonds held within available-for-sale portfolios is reflected within the Group’s non-traded VaR. Interest rate swaps used by BSM are typically classified as either a fair value hedge or a cash flow hedge and are included within the Group’s non-traded VaR. Any market risk that cannot be neutralised in the market is managed by local ALCO in segregated ALCO books.

 

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Credit spread risk for available-for-sale debt instruments

The risk associated with movements in credit spreads is primarily managed through sensitivity limits, stress testing and VaR. The VaR shows the effect on income from a one-day movement in credit spreads over a two-year period, calculated to a 99% confidence interval.

Equity securities classified as available for sale

Potential new commitments are subject to risk appraisal to ensure that industry and geographical concentrations remain within acceptable levels for the portfolio. Regular reviews are performed to substantiate the valuation of the investments within the portfolio and investments held to facilitate ongoing business, such as holdings in government-sponsored enterprises and local stock exchanges.

Structural foreign exchange exposures

(Unaudited)

Structural foreign exchange exposures represent net investments in subsidiaries, branches and associates, the functional currencies of which are currencies other than the US dollar. An entity’s functional currency is that of the primary economic environment in which the entity operates.

Exchange differences on structural exposures are recognised in ‘Other comprehensive income’. We use the US dollar as our presentation currency in our consolidated financial statements because the US dollar and currencies linked to it form the major currency bloc in which we transact and fund our business. Our consolidated balance sheet is, therefore, affected by exchange differences between the US dollar and all the non-US dollar functional currencies of underlying subsidiaries.

We hedge structural foreign exchange exposures only in limited circumstances. Our structural foreign exchange exposures are managed with the primary objective of ensuring, where practical, that our consolidated capital ratios and the capital ratios of individual banking subsidiaries are largely protected from the effect of changes in exchange rates. This is usually achieved by ensuring that, for each subsidiary bank, the ratio of structural exposures in a given currency to risk-weighted assets denominated in that currency is broadly equal to the capital ratio of the subsidiary in question.

We may also transact hedges where a currency in which we have structural exposures is considered likely to revalue adversely, and it is possible in practice to transact a hedge. Any hedging is undertaken using forward foreign exchange contracts which are accounted for under IFRSs as hedges of a net investment in a foreign operation, or by financing with borrowings in the same currencies as the functional currencies involved.

Non-trading interest rate risk

(Unaudited)

Non-trading interest rate risk in non-trading portfolios arises principally from mismatches between the future yield on assets and their funding cost, as a result of interest rate changes. Analysis of this risk is complicated by having to make assumptions on embedded optionality within certain product areas such as the incidence of mortgage prepayments, and from behavioural assumptions regarding the economic duration of liabilities which are contractually repayable on demand such as current accounts, and the re-pricing behaviour of managed rate products. These assumptions around behavioural features are captured in our interest rate risk behaviouralisation framework, which is described below.

We aim, through our management of market risk in non-trading portfolios, to mitigate the effect of prospective interest rate movements which could reduce future net interest income, while balancing the cost of such hedging activities on the current net revenue stream.

Analysis of interest rate risk is complicated by having to make assumptions on embedded optionality within certain product areas such as the incidence of mortgage prepayments.

Our funds transfer pricing policies give rise to a two stage funds transfer pricing approach. For details see page 219.

Interest rate risk behaviouralisation

Unlike liquidity risk, which is assessed on the basis of a very severe stress scenario, non-trading interest rate risk is assessed and managed according to ‘business-as-usual’ conditions. In many cases the contractual profile of non-trading assets/liabilities arising from assets/liabilities created outside Markets or BSM does not reflect the behaviour observed.

Behaviouralisation is therefore used to assess the market interest rate risk of non-trading assets/liabilities and this assessed market risk is transferred to BSM, in accordance with the rules governing the transfer of interest rate risk from the global businesses to BSM.

Behaviouralisation is applied in three key areas:

 

  the assessed re-pricing frequency of managed rate balances;

 

  the assessed duration of non-interest bearing balances, typically capital and current accounts; and

 

  the base case expected prepayment behaviour or pipeline take-up rate for fixed rate balances with embedded optionality.

 

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Interest rate behaviouralisation policies have to be formulated in line with the Group’s behaviouralisation policies and approved at least annually by local ALCO, regional ALCM and Group ALCM, in conjunction with local, regional and Group market risk monitoring teams.

The extent to which balances can be behaviouralised is driven by:

 

  the amount of the current balance that can be assessed as ‘stable’ under business-as-usual conditions; and

 

  for managed rate balances, the historic market interest rate re-pricing behaviour observed; or

 

  for non-interest bearing balances, the duration for which the balance is expected to remain under business-as-usual conditions. This assessment is often driven by the re-investment tenors available to BSM to neutralise the risk through the use of fixed rate government bonds or interest rate derivatives, and for derivatives the availability of cash flow hedging capacity.

Balance Sheet Management

Effective governance across BSM is supported by the dual reporting lines it has to the CEO of GB&M and to the Group Treasurer. In each operating entity, BSM is responsible for managing liquidity and funding under the supervision of the local ALCO (which usually meets on a monthly basis). It also manages the non-trading interest rate positions transferred to it within a Global Markets limit structure.

In executing the management of the liquidity risk on behalf of ALCO, and managing the non-trading interest rate positions transferred to it, BSM invests in highly-rated liquid assets in line with the Group’s liquid asset policy. The majority of the liquidity is invested in central bank deposits and government, supranational and agency securities with most of the remainder held in short-term interbank and central bank loans.

Withdrawable central bank deposits are accounted for as cash balances. Interbank loans, statutory central bank reserves and loans to central banks are accounted for as loans and advances to banks. BSM’s holdings of securities are accounted for as available-for-sale or, to a lesser extent, held-to-maturity assets.

Statutory central bank reserves are not recognised as liquid assets. The statutory reserves that would be released in line with the Group’s stressed customer deposit outflow assumptions are reflected as stressed inflows.

BSM is permitted to use derivatives as part of its mandate to manage interest rate risk. Derivative activity is predominantly through the use of vanilla interest rate swaps which are part of cash flow hedging and fair value hedging relationships.

Credit risk in BSM is predominantly limited to short-term bank exposure created by interbank lending, exposure to central banks and high quality sovereigns, supranationals or agencies which constitute the majority of BSM’s liquidity portfolio. BSM does not manage the structural credit risk of any Group entity balance sheets.

BSM is permitted to enter into single name and index credit derivatives activity, but it does so to manage credit risk on the exposure specific to its securities portfolio in limited circumstances only. The risk limits are extremely limited and closely monitored. At 31 December 2014 and 31 December 2013, BSM had no open credit derivative index risk.

VaR is calculated on both trading and non-trading positions held in BSM. It is calculated by applying the same methodology used for the Markets business and utilised as a tool for market risk control purposes.

BSM holds trading portfolio instruments in only very limited circumstances. Positions and the associated VaR were not significant during 2014 and 2013.

Sensitivity of net interest income

(Unaudited)

A principal part of our management of market risk in non-trading portfolios is to monitor the sensitivity of projected net interest income under varying interest rate scenarios (simulation modelling). This monitoring is undertaken at an entity level by local ALCOs.

Entities apply a combination of scenarios and assumptions relevant to their local businesses, and standard scenarios which are required throughout HSBC. The latter are consolidated to illustrate the combined pro forma effect on our consolidated net interest income.

Projected net interest income sensitivity figures represent the effect of the pro forma movements in net interest income based on the projected yield curve scenarios and the Group’s current interest rate risk profile. This effect, however, does not incorporate actions which would probably be taken by BSM or in the business units to mitigate the effect of interest rate risk. In reality, BSM seeks proactively to change the interest rate risk profile to minimise losses and optimise net revenues. The net interest income sensitivity calculations assume that interest rates of all maturities move by the same amount in the ‘up-shock’ scenario. Rates are not assumed to become negative in the ‘down-shock’ scenario which may, in certain currencies, effectively result in non-parallel shock. In addition, the net interest income sensitivity calculations take account of the effect on net interest income of anticipated differences in changes between interbank interest rates and interest rates over which the entity has discretion in terms of the timing and extent of rate changes.

 

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Defined benefit pension schemes

(Audited)

Market risk arises within our defined benefit pension schemes to the extent that the obligations of the schemes are not fully matched by assets with determinable cash flows. Pension scheme obligations fluctuate with changes in long-term interest rates, inflation, salary levels and the longevity of scheme members. Pension scheme assets include equities and debt securities, the cash flows of which change as equity prices and interest rates (and credit risk) vary. There is a risk that market movements in equity prices and interest rates could result in asset values which, taken together with regular ongoing contributions, are insufficient over time to cover the level of projected obligations and these, in turn, could increase with a rise in inflation and members living longer. Management and, in certain instances, trustees (who act on behalf of the pension schemes’ beneficiaries) assess these risks using reports prepared by independent external consultants, take action and, where appropriate, adjust investment strategies and contribution levels accordingly.

HSBC Holdings

(Audited)

As a financial services holding company, HSBC Holdings has limited market risk activity. Its activities predominantly involve maintaining sufficient capital resources to support the Group’s diverse activities; allocating these capital resources across our businesses; earning dividend and interest income on its investments in our businesses; providing dividend payments to HSBC Holdings’ equity shareholders and interest payments to providers of debt capital; and maintaining a supply of short-term capital resources for deployment under extraordinary circumstances. It does not take proprietary trading positions.

The main market risks to which HSBC Holdings is exposed are non-trading interest rate risk and foreign currency risk. Exposure to these risks arises from short-term cash balances, funding positions held, loans to subsidiaries, investments in long-term financial assets and financial liabilities including debt capital issued. The objective of HSBC Holdings’ market risk management strategy is to reduce exposure to these risks and minimise volatility in capital resources, cash flows and distributable reserves. Market risk for HSBC Holdings is monitored by HSBC Holdings ALCO in accordance with its risk appetite statement.

HSBC Holdings uses interest rate swaps and cross currency interest rate swaps to manage the interest rate risk and foreign currency risk arising from its long-term debt issues.

 

 

Operational risk

(Unaudited)

The objective of our operational risk management is to manage and control operational risk in a cost effective manner within targeted levels of operational risk consistent with our risk appetite, as defined by the GMB.

Operational risk is organised as a specific risk discipline within Global Risk, and a formal governance structure provides oversight over its management. The Global Operational Risk function reports to the Group Chief Risk Officer and supports the Global Operational Risk Committee. It is responsible for establishing and maintaining the operational risk management framework (‘ORMF’) and monitoring the level of operational losses and the effectiveness of the control environment. It is also responsible for operational risk reporting at Group level, including the preparation of reports for consideration by the Risk Management Meeting and Group Risk Committee. The Global Operational Risk Committee meets at least quarterly to discuss key risk issues and review the effective implementation of the ORMF.

The ORMF defines minimum standards and processes and the governance structure for the management of operational risk and internal control in our geographical regions, global businesses and global functions. The ORMF has been codified in a high level standards manual supplemented with detailed policies which describes our approach to identifying, assessing, monitoring and controlling operational risk and gives guidance on mitigating action to be taken when weaknesses are identified.

Business managers throughout the Group are responsible for maintaining an acceptable level of internal control commensurate with the scale and nature of operations, and for identifying and assessing risks, designing controls and monitoring the effectiveness of these controls. The ORMF helps managers to fulfil these responsibilities by defining a standard risk assessment methodology and providing a tool for the systematic reporting of operational loss data.

A centralised database is used to record the results of the operational risk management process. Operational risk and control self-assessments are input and maintained by business units. Business and functional management and Business Risk and Control Managers monitor the progress of documented action plans to address shortcomings. To ensure that operational risk losses are consistently reported and monitored at Group level, all Group companies are required to report individual losses when the net loss is expected to exceed US$10,000, and to aggregate all other operational risk losses under US$10,000. Losses are entered into the Group Operational Risk database and are reported to the Risk Management Meeting on a monthly basis.

For further details, see the Pillar 3 Disclosures 2014 report.

 

 

 

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Compliance risk

(Unaudited)

Compliance risk falls within the definition of operational risk. All Group companies are required to observe the letter and spirit of all relevant laws, codes, rules, regulations and standards of good market practice. These rules, regulations, standards and Group policies include those relating to anti-money laundering, anti-bribery and corruption, counter-terrorist and proliferation financing, sanctions compliance, conduct of business, market conduct and other financial regulations.

The two Compliance sub-functions: Financial Crime Compliance (‘FCC’) and Regulatory Compliance (‘RC’), are appropriately supported by shared Compliance Chief Operating Officer, Assurance and Reputational Risk Management teams. The Global Head of Financial Crime Compliance and the Global Head of Regulatory Compliance both report to the Group Chief Risk Officer.

There are compliance teams in each of the countries where we operate and in all global businesses. These compliance teams are principally overseen by Heads of Financial Crime Compliance and Regulatory Compliance located in Europe, the US, Canada, Latin America, Asia and the Middle East and North Africa. The effectiveness of the regional and global business compliance teams are reviewed by the Assurance team.

Global policies and procedures require the prompt identification and escalation to Financial Crime Compliance or Regulatory Compliance of all actual or suspected breaches of any law, rule, regulation, policy or other relevant requirement. These escalation procedures are supplemented by a requirement for the submission of compliance certificates at the half-year and year-end by all Group companies and functions detailing any known breaches as above. The contents of these escalation and certification processes are reported to the Risk Management Meeting, the Group Risk Committee and the Board. They are disclosed in the Annual Report and Accounts and Interim Report, as appropriate.

Our focus on compliance and conduct issues is further reinforced by the Financial System Vulnerabilities Committee, which reports to the Board on matters relating to financial crime and financial system abuse and provides a forward-looking perspective on financial crime risk. In addition, the Conduct & Values Committee reports to the Board on matters relating to the responsible conduct of business and adherence to HSBC’s Values.

In 2014, the new enhanced global AML and sanctions policies and a globally consistent approach to the management of conduct were approved by the Board as described in ‘Compliance risk’ on page 189.

 

 

Legal risk

(Unaudited)

Each legal department is required to have processes and procedures in place to manage legal risk that conform to Group standards.

Legal risk falls within the definition of operational risk and includes:

 

  contractual risk, which is the risk of a member of HSBC suffering financial loss, legal or regulatory action or reputational damage because its rights and/or obligations under a contract to which it is a party are technically defective;

 

  dispute risk, which is the risk of a member of HSBC suffering financial loss or reputational damage due to an adverse dispute environment or a failure to take appropriate steps to defend, prosecute and/or resolve actual or threatened legal claims brought against or by a Group member;

 

  legislative risk, which is the risk that an HSBC company fails to adhere to the laws of the jurisdictions in which it operates; and

 

  non-contractual rights risk, which is the risk that a Group member’s assets are not properly owned or protected or are infringed by others or the infringement by a Group member of another party’s rights.

Our global legal function assists management in controlling legal risk. There are legal departments in 49 of the countries in which we operate. In addition to the Group Legal function, there are regional legal functions in each of Europe, North America, Latin America, the Middle East and North Africa and Asia headed by regional General Counsels, and a global General Counsel responsible for each of the global businesses.

Global security and fraud risk

(Unaudited)

Security and fraud risk issues are managed at Group level by Global Security and Fraud Risk. This unit, which has responsibility for information, fraud, contingency, financial intelligence, physical and geopolitical risks is fully integrated within the central Group Risk function. This enables management to identify and mitigate the permutations of these and other non-financial risks to its business lines across the jurisdictions in which we operate.

The Information Security Risk function is responsible for defining the strategy and policy by which the organisation protects its information assets and services from compromise, corruption or loss, whether caused deliberately or inadvertently by internal or external parties. It provides independent advice, guidance and oversight to the business about the effectiveness of information security controls and practices in place or being proposed.

 

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The Fraud Risk function is responsible for ensuring that effective prevention, detection and investigation measures are in place against all forms of fraudulent activity, whether initiated internally or externally, and is available to support any part of the business. To achieve that and to attain the level of integration needed to face the threat, the management of all types of fraud (e.g. card fraud, non-card fraud and internal fraud, including investigations) is established within one management structure and is part of the Global Risk function.

We use technology extensively to prevent and detect fraud. For example, customers’ credit and debit card spending is monitored continuously and suspicious transactions are highlighted for verification, internet banking sessions are reviewed and transactions monitored in a similar way and all new account applications are screened for fraud. We have a fraud systems strategy which is designed to provide minimum standards and allow easier sharing of best practices to detect fraud and minimise false alerts.

We have developed a holistic and effective anti-fraud strategy which, in addition to the use of advanced technology, includes fraud prevention policies and practices, the implementation of strong internal controls, investigations response teams and liaison with law enforcement where appropriate.

The Contingency Risk function is responsible for ensuring that the group’s critical systems, processes and functions have the resilience to maintain continuity in the face of major disruptive events.

Within this wider risk, Business Continuity Management covers the pre-planning for recovery, seeking to minimise the adverse effects of major business disruption, either globally, regionally or within country, against a range of actual or emerging risks. The pre-planning concentrates on the protection of customer services, our staff, revenue generation, the integrity of data and documents and meeting regulatory requirements.

Each business has its own recovery plan, which is developed following the completion of a Business Impact Analysis. This determines how much time the business could sustain an outage before the level of losses becomes unacceptable, i.e. its criticality. These plans are reviewed and tested every year. The planning is undertaken against Group policy and standards and each business confirms in an annual compliance certificate that all have been met. Should there be exceptions, these are raised and their short-term resolution is overseen by Group and regional business continuity teams.

It is important that plans are dynamic and meet all risks, particularly those of an emerging nature such as possible pandemics and cyber-attacks. The ORMF is used to measure our resilience to these risks, and is confirmed to Group and regional risk committees.

Resilience is managed through various risk mitigation measures. These include agreeing with IT acceptable recovery times of systems, ensuring our critical buildings have the correct infrastructure to enable ongoing operations, requiring critical vendors to have their own recovery plans and arranging with Group Insurance appropriate cover for business interruption costs.

The Financial Intelligence Unit is jointly administered by Security and Fraud Risk and Financial Crime Compliance. It uses advanced analytics and subject matter expertise to detect indicators of financial crime in the Group’s clients and counter-parties.

The Physical Security function develops practical physical, electronic and operational counter-measures to ensure that the people, property and assets managed by the Group are protected from crime, theft, attack and groups hostile to HSBC’s interests.

Geopolitical risk unit provides both regular and ad hoc reporting to business executives and senior Security and Fraud Risk management on geopolitical risk profiles and evolving threats in countries in which the Group operates. This both enhances strategic business planning and provides an early view into developing security risks. Security travel controls and guidance are also maintained.

 

 

Systems risk

(Unaudited)

Systems risk is the risk of failure or other deficiency in the automated platforms that support the Group’s daily execution (application systems) and the systems infrastructure on which they reside (data centres, networks and distributed computers).

The management of systems risk is overseen globally by the HSBC Technology and Services (‘HTS’) organisation. Oversight is provided through monthly risk management committee meetings that provide a comprehensive overview of existing and emerging top risks.

HTS line management manages the control environment over systems risks using risk and control assessments and scenario analysis. Key risk indicators are used to assure a consistent basis of risk evaluation across geographical and line of business boundaries. Material risks are monitored through the periodic testing of associated key controls.

Business-critical services have been identified through a central, global oversight body. Quantitative scorecards, called risk appetite statements, are used for monitoring performance, and have been established for each of these services.

 

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Service Resilience and Systems Continuity Planning functions are in place to ensure systems meet agreed target service levels and, in the event of major disruptive events, can be recovered within recovery time objectives agreed with the business.

 

 

Vendor risk management

(Unaudited)

Our vendor risk management (‘VRM’) programme is a global framework for managing risk with third party vendors, especially where we are reliant on outsourced agreements to provide critical services to our customers. VRM contains a rigorous process to identify material contracts and their key risks and ensure controls are in place to manage and mitigate these risks. Global and regional governance structures have been implemented to oversee vendor third party service providers.

 

 

Risk management of insurance operations

Overview of insurance products

(Audited)

HSBC manufactures the following main classes of contract:

 

  life insurance contracts with discretionary participation features (‘DPF’);

 

  credit life insurance business;

 

  annuities;

 

  term assurance and critical illness policies;

 

  linked life insurance;

 

  investment contracts with DPF;

 

  unit-linked investment contracts; and

 

  other investment contracts (including pension contracts written in Hong Kong).

We additionally write a small amount of non-life insurance business primarily covering personal and commercial property.

Nature and extent of risks

(Audited)

The majority of the risks in our Insurance business derive from manufacturing activities and can be categorised between financial risks and insurance risk; financial risks include market risk, credit risk and liquidity risk. Operational and sustainability risks are also present and are covered by the Group’s respective overall risk management processes.

The following sections describe how financial risks and insurance risk are managed. The assets of insurance manufacturing subsidiaries are included within the consolidated risk disclosures on pages 111 to 203, although separate disclosures in respect of insurance manufacturing subsidiaries are provided in the ‘Risk management of insurance operations’ section on pages 190 to 198.

Insurance manufacturers establish control procedures complying with the guidelines and requirements issued by Group Insurance and local regulatory requirements. Country level oversight is exercised by local risk management committees. Country Chief Risk Officers have direct reporting lines into local Insurance Chief Executive Officers and functional reporting lines into the Group Insurance Chief Risk Officer, who has overall accountability for risk management in insurance operations globally. The Group Insurance Executive Committee oversees the control framework globally and is accountable to the RBWM Risk Management Committee on risk matters.

In addition, local ALCOs monitor and review the duration and cash flow matching of insurance assets and liabilities.

All insurance products, whether manufactured internally or by a third party, are subjected to a product approval process prior to introduction.

Financial risks

(Audited)

Our insurance businesses are exposed to a range of financial risks, including market risk, credit risk and liquidity risk. Market risk includes interest rate, equity and foreign exchange risks. The nature and management of these risks is described below.

Manufacturing subsidiaries are exposed to financial risks when, for example, the proceeds from financial assets are not sufficient to fund the obligations arising from insurance and investment contracts. In many jurisdictions, local regulatory requirements prescribe the type, quality and concentration of assets that these subsidiaries must maintain to meet insurance liabilities. These requirements complement Group-wide policies.

 

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Market risk

(Audited)

Description of market risk

The main features of products manufactured by our insurance manufacturing subsidiaries which generate market risk, and the market risk to which these features expose the subsidiaries, are discussed below.

Interest rate risk arises to the extent that yields on the assets are lower than the investment returns implied by the guarantees payable to policyholders by insurance manufacturing subsidiaries. When the asset yields are below guaranteed yields, products may be closed to new business, repriced or restructured. A list of the different types of guarantees within our insurance contracts is outlined below.

 

 

Categories of guaranteed benefits

 

•   annuities in payment;

 

•   deferred/immediate annuities: these consist of two phases – the savings and investing phase and the retirement income phase;

 

•   annual return: the annual return is guaranteed to be no lower than a specified rate. This may be the return credited to the policyholder every year, or the average annual return credited to the policyholder over the life of the policy, which may occur on the maturity date or the surrender date of the contract; and

 

•   capital: policyholders are guaranteed to receive no less than the premiums paid plus declared bonuses less expenses.

 

The proceeds from insurance and investment products with DPF are primarily invested in bonds with a proportion allocated to other asset classes in order to provide customers with the potential for enhanced returns. Subsidiaries with portfolios of such products are exposed to the risk of falls in market prices which cannot be fully reflected in the discretionary bonuses. An increase in market volatility could also result in an increase in the value of the guarantee to the policyholder.

Long-term insurance and investment products typically permit the policyholder to surrender the policy or let it lapse at any time. When the surrender value is not linked to the value realised from the sale of the associated supporting assets, the subsidiary is exposed to market risk. In particular, when customers seek to surrender their policies when asset values are falling, assets may have to be sold at a loss to fund redemptions.

A subsidiary holding a portfolio of long-term insurance and investment products, especially with DPF, may attempt to reduce exposure to its local market by investing in assets in countries other than that in which it is based. These assets may be denominated in currencies other than the subsidiary’s local currency. Where the foreign exchange exposure associated with these assets is not hedged, for example because it is not cost effective to do so, this exposes the subsidiary to the risk of its local currency strengthening against the currency of the related assets.

For unit-linked contracts, market risk is substantially borne by the policyholder, but market risk exposure typically remains as fees earned for management are related to the market value of the linked assets.

Asset and liability matching

It is not always possible to match asset and liability durations, partly because there is uncertainty over policyholder behaviour which introduces uncertainty over the receipt of all future premiums and the timing of claims, and partly because the forecast payment dates of liabilities may exceed the duration of the longest dated investments available.

We use models to assess the effect of a range of future scenarios on the values of financial assets and associated liabilities, and ALCOs employ the outcomes in determining how to best structure asset holdings to support liabilities. The scenarios include stresses applied to factors which affect insurance risk such as mortality and lapse rates. Of particular importance is assessing the expected pattern of cash inflows against the benefits payable on the underlying contracts, which can extend for many years.

Our current portfolio of assets includes debt securities issued at a time when yields were higher than those observed in the current market. As a result, yields on extant holdings of debt securities exceed those available on current issues. We reduced short-term bonus rates paid to policyholders on certain participating contracts to manage the immediate strain on the business. Should interest rates and yield curves remain low further reductions may be necessary.

How market risk is managed

All our insurance manufacturing subsidiaries have market risk mandates which specify the investment instruments in which they are permitted to invest and the maximum quantum of market risk which they may retain. They manage market risk by using some or all of the techniques listed below, depending on the nature of the contracts they write.

 

 

Techniques for managing market risk

 

•   for products with DPF, adjusting bonus rates to manage the liabilities to policyholders. The effect is that a significant portion of the market risk is borne by the policyholder;

 

•   structuring asset portfolios to support projected liability cash flows;

 

•   using derivatives, to a limited extent, to protect against adverse market movements or better match liability cash flows;

 

 

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•   for new products with investment guarantees, considering the cost when determining the level of premiums or the price structure;

 

•   periodically reviewing products identified as higher risk, which contain investment guarantees and embedded optionality features linked to savings and investment products;

 

•   including features designed to mitigate market risk in new products, such as charging surrender penalties to recoup losses incurred when policyholders surrender their policies;

 

•   exiting, to the extent possible, investment portfolios whose risk is considered unacceptable; and

 

•   repricing of premiums charged to policyholders.

 

In the product approval process, the risks embedded in new products are identified and assessed. When, for example, options and guarantees are embedded in new products, the due diligence process ensures that complete and appropriate risk management procedures are in place. For all but the simplest of guaranteed benefits the assessment is undertaken by Group Insurance. Management reviews certain exposures more frequently when markets are more volatile to ensure that any matters arising are dealt with in a timely fashion.

How the exposure to market risk is measured

Our insurance manufacturing subsidiaries monitor exposures against mandated limits regularly and report them to Group Insurance. Exposures are aggregated and reported on a quarterly basis to senior risk management forums in Group Insurance.

In addition, large insurance manufacturing subsidiaries perform a high-level monthly assessment of market risk exposure against risk appetite. This is submitted to Group Insurance and a global assessment presented to the RBWM Risk Management Committee.

 

 

Standard measures for quantifying market risks

 

•   for interest rate risk, the sensitivities of the net present values of asset and expected liability cash flows, in total and by currency, to a one basis point parallel shift in the discount curves used to calculate the net present values;

 

•   for equity price risk, the total market value of equity holdings and the market value of equity holdings by region and country; and

 

•   for foreign exchange risk, the total net short foreign exchange position and the net foreign exchange positions by currency.

 

The standard measures are relatively straightforward to calculate and aggregate, but they have limitations. The most significant one is that a parallel shift in yield curves of one basis point does not capture the non-linear relationships between the values of certain assets and liabilities and interest rates. Non-linearity arises, for example, from investment guarantees and product features which enable policyholders to surrender their policies. We bear the shortfall if the yields on investments held to support contracts with guaranteed benefits are less than the investment returns implied by the guaranteed benefits.

We recognise these limitations and augment our standard measures with stress tests which examine the effect of a range of market rate scenarios on the aggregate annual profits and total equity of our insurance manufacturing subsidiaries, after taking into consideration tax and accounting treatments where material and relevant. The results of these tests are reported to Group Insurance and risk committees every quarter.

The table, ‘Sensitivity of HSBC’s insurance manufacturing subsidiaries to market risk factors’ on page 195, indicates the sensitivity of insurance manufacturers profit and total equity to market risk factors.

Credit risk

(Audited)

Description of credit risk

Credit risk arises in two main areas for our insurance manufacturers:

 

(i) risk of default by debt security counterparties after investing premiums to generate a return for policyholders and shareholders; and

 

(ii) risk of default by reinsurance counterparties and non-reimbursement for claims made after ceding insurance risk.

How credit risk is managed

Our insurance manufacturing subsidiaries are responsible for the credit risk, quality and performance of their investment portfolios. Our assessment of the creditworthiness of issuers and counterparties is based primarily upon internationally recognised credit ratings and other publicly available information.

Investment credit exposures are monitored against limits by our local insurance manufacturing subsidiaries, and are aggregated and reported to Group Insurance Credit Risk and Group Credit Risk. Stress testing is performed by Group Insurance on the investment credit exposures using credit spread sensitivities and default probabilities.

 

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We use a number of tools to manage and monitor credit risk. These include a Credit Watch Report which contains a watch-list of investments with current credit concerns and is circulated fortnightly to senior management in Group Insurance and the individual Country Chief Risk Officers to identify investments which may be at risk of future impairment.

Liquidity risk

(Audited)

Description of liquidity risk

It is an inherent characteristic of almost all insurance contracts that there is uncertainty over the amount of claims liabilities that may arise and the timing of their settlement, and this creates liquidity risk.

There are three aspects to liquidity risk. The first arises in normal market conditions and is referred to as funding liquidity risk; specifically, the capacity to raise sufficient cash when needed to meet payment obligations. Secondly, market liquidity risk arises when the size of a particular holding may be so large that a sale cannot be completed around the market price. Finally, standby liquidity risk refers to the capacity to meet payment terms in abnormal conditions.

How liquidity risk is managed

Our insurance manufacturing subsidiaries primarily fund cash outflows arising from claim liabilities from the following sources of cash inflows:

 

  premiums from new business, policy renewals and recurring premium products;

 

  interest and dividends on investments and principal repayments of maturing debt investments;

 

  cash resources; and

 

  the sale of investments.

They manage liquidity risk by utilising some or all of the following techniques:

 

  matching cash inflows with expected cash outflows using specific cash flow projections or more general asset and liability matching techniques such as duration matching;

 

  maintaining sufficient cash resources;

 

  investing in good credit-quality investments with deep and liquid markets to the degree to which they exist;

 

  monitoring investment concentrations and restricting them where appropriate, for example, by debt issues or issuers; and

 

  establishing committed contingency borrowing facilities.

Each of these techniques contributes to mitigating the three types of liquidity risk described above.

Every quarter, our insurance manufacturing subsidiaries are required to complete and submit liquidity risk reports to Group Insurance for collation and review. Liquidity risk is assessed in these reports by measuring changes in expected cumulative net cash flows under a series of stress scenarios designed to determine the effect of reducing expected available liquidity and accelerating cash outflows. This is achieved, for example, by assuming new business or renewals are lower, and surrenders or lapses are greater, than expected.

Insurance risk

(Audited)

Insurance risk is the risk, other than financial risk, of loss transferred from the holder of the insurance contract to the issuer (HSBC). The principal risk we face in manufacturing insurance contracts is that, over time, the cost of acquiring and administering a contract, claims and benefits may exceed the aggregate amount of premiums received and investment income.

The cost of claims and benefits can be influenced by many factors, including mortality and morbidity experience, lapse and surrender rates and, if the policy has a savings element, the performance of the assets held to support the liabilities.

Insurance risks are controlled by high-level policies and procedures set both centrally and locally, taking into account where appropriate local market conditions and regulatory requirements. Formal underwriting, reinsurance and claims-handling procedures designed to ensure compliance with regulations are applied, supplemented with stress testing.

As well as exercising underwriting controls, we use reinsurance as a means of mitigating exposure to insurance risk. Where we manage our exposure to insurance risk through the use of third-party reinsurers, the associated revenue and manufacturing profit is ceded to the reinsurers. Although reinsurance provides a means of managing insurance risk, such contracts expose us to credit risk, the risk of default by the reinsurer.

The principal drivers of our insurance risk are described below. The liabilities for long-term contracts are set by reference to a range of assumptions around these drivers. These typically reflect the issuers’ own experiences. The type and quantum of insurance risk arising from life insurance depends on the type of business, and varies considerably.

 

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  mortality and morbidity: the main contracts which generate exposure to these risks are term assurance, whole life products, critical illness and income protection contracts and annuities. The risks are monitored on a regular basis, and are primarily mitigated by underwriting controls and reinsurance and by retaining the ability in certain cases to amend premiums in the light of experience;

 

  lapses and surrenders: the risks associated with this are generally mitigated by product design, the application of surrender charges and management actions, for example, managing the level of bonus payments to policyholders. A detailed persistency analysis at a product level is carried out at least on an annual basis; and

 

  expense risk is mitigated by pricing, for example, retaining the ability in certain cases to amend premiums and/or policyholder charges based on experience, and cost management discipline.

Liabilities are affected by changes in assumptions (see ‘Sensitivity analysis’ on page 198).

 

 

Reputational risk

(Unaudited)

We regularly review our policies and procedures for safeguarding against reputational risk. This is an evolutionary process which takes account of relevant developments, industry guidance, best practice and societal expectations.

We have always aspired to the highest standards of conduct and, as a matter of routine, take account of reputational risks to our business. Reputational risks can arise from a wide variety of causes. As a banking group, our good reputation depends not only upon the way in which we conduct our business, but also by the way in which clients to whom we provide financial services, and our vendors, conduct themselves.

The Global Head of Financial Crime Compliance and the Global Head of Regulatory Compliance are the risk stewards for reputational risk. The development of policies, and an effective control environment for the identification, assessment, management and mitigation of reputational risk, is co-ordinated through the Group Reputational Risk Policy Committee (‘GRRPC’), which is chaired by the Group Chairman. The primary role of the GRRPC is to consider areas and activities presenting significant reputational risk and, where appropriate, to make recommendations to the Group Risk Management Meeting for policy or procedural changes to mitigate such risk. Each of the Group’s geographical regions is required to ensure that reputational risks are also considered at a regional level, either through a special section of their respective Regional Risk Management Committee meetings, or a Regional Reputational Risk Policy Committee. A summary of the minutes from the regional meetings is tabled at GRRPC. Significant issues posing reputational risk are reported to Group Risk Committee and the Holdings Board and, where appropriate, to the Conduct & Values Committee.

In July 2014, the new Reputational Risk and Customer Selection policies were issued which define a consistent and structured approach to managing these risks. For further details, see ‘Reputational risk’ on page 199. Each of the global businesses and functions is required to have a procedure to assess and address reputational risks potentially arising from proposed business transactions and client activity. These are supported by a central team which ensures that issues are directed to the appropriate forum, that decisions taken are implemented and that management information is collated and actions reported to senior management. In 2014, the combined Reputational Risk and Client Selection committees were created within the global businesses with a clear process to escalate and address matters at the appropriate level. The global functions manage and escalate reputational risks within established operational risk frameworks.

Standards on all major aspects of business are set for HSBC and for individual subsidiaries, businesses and functions. Reputational risks, including environmental, social and governance matters, are considered and assessed by the Board, the GMB, the Risk Management Meeting, the Global Standards Steering Meeting, subsidiary company boards, Board committees and senior management during the formulation of policy and the establishment of our standards. These policies, which form an integral part of the internal control system (see page 288), are communicated through manuals and statements of policy and are promulgated through internal communications and training. The policies set out our risk appetite and operational procedures in all areas of reputational risk, including money laundering deterrence, counter-terrorist financing, environmental impact, anti-bribery and corruption measures and employee relations. The policy manuals address risk issues in detail and co-operation between Group departments and businesses is required to ensure a strong adherence to our risk management system and our sustainability practices.

 

 

Fiduciary risk

(Unaudited)

Business activities in which fiduciary risk is inherent are only permitted within designated lines of business. Fiduciary risk is managed within the designated businesses via a comprehensive policy framework and monitoring of key indicators. The Group’s principal fiduciary businesses and activities (‘designated businesses and activities’) are:

 

  HSBC Securities Services, which is exposed to fiduciary risk via its Funds Services and Corporate Trust and loan agency activities;

 

  HSBC Global Asset Management, which is exposed to fiduciary risks via its investment management activities on behalf of clients;

 

  HSBC Global Private Banking, which is exposed to fiduciary risks via its private trust division and discretionary investment management;

 

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  HSBC Insurance, which is exposed to fiduciary risks via the investment management activities it undertakes when providing insurance products and services;

 

  RBWM Trust Investment Wrappers, required by regulation for the provision of normal RBWM Wealth Management products and services; and

 

  HSBC Employee Pension Scheme activities, where fiduciary duties may arise as part of carrying out a function of discretion or control over an HSBC employee pension scheme’s operations.

The Group’s requirements for the management of fiduciary risk are laid down in the fiduciary section of the Global Risk Functional Instruction Manual, which is owned by Global Operational Risk. No business other than the designated businesses may undertake fiduciary activities without notifying Global Operational Risk and receiving specific dispensations from the relevant fiduciary policy requirements.

Other policies around the provision of advice, including investment advice and corporate advisory, and the management of potential conflicts of interest, also mitigate our fiduciary risks.

 

 

Pension risk

(Audited)

We operate a number of pension plans throughout the world, as described in the Pension risk section on page 200 and below.

In order to fund the benefits associated with defined benefit plans, sponsoring Group companies (and, in some instances, employees) make regular contributions in accordance with advice from actuaries and in consultation with the scheme’s trustees (where relevant). The defined benefit plans invest these contributions in a range of investments designed to meet their long-term liabilities.

The level of these contributions has a direct impact on HSBC’s cash flow and would normally be set to ensure that there are sufficient funds to meet the cost of the accruing benefits for the future service of active members. However, higher contributions will be required when plan assets are considered insufficient to cover the existing pension liabilities. Contribution rates are typically revised annually or triennially, depending on the plan. The agreed contributions to the principal plan are revised triennially.

 

 

A deficit in a defined benefit plan may arise from a number of factors, including:

 

•   investments delivering a return below that required to provide the projected plan benefits. This could arise, for example, when there is a fall in the market value of equities, or when increases in long-term interest rates cause a fall in the value of fixed income securities held;

 

•   the prevailing economic environment leading to corporate failures, thus triggering write-downs in asset values (both equity and debt);

 

•   a change in either interest rates or inflation which causes an increase in the value of the scheme liabilities; and

 

•   scheme members living longer than expected (known as longevity risk).

 

A plan’s investment strategy is determined after taking into consideration the market risk inherent in the investments and its consequential impact on potential future contributions. The long-term investment objectives of both HSBC and, where relevant and appropriate, the trustees are:

 

  to limit the risk of the assets failing to meet the liabilities of the plans over the long-term; and
  to maximise returns consistent with an acceptable level of risk so as to control the long-term costs of the defined benefit plans.

In pursuit of these long-term objectives, a benchmark is established for the allocation of the defined benefit plan assets between asset classes. In addition, each permitted asset class has its own benchmarks, such as stock market or property valuation indices and, where relevant, desired levels of out-performance. The benchmarks are reviewed at least triennially within 18 months of the date at which an actuarial valuation is made, or more frequently if required by local legislation or circumstances. The process generally involves an extensive asset and liability review.

Ultimate responsibility for investment strategy rests with either the trustees or, in certain circumstances, a management committee. The degree of independence of the trustees from HSBC varies in different jurisdictions.

Defined contribution plans result in far less exposure to market risk for the bank, but remain exposed to operational and reputational risks as they place the responsibility and flexibility more directly with employees. To manage these risks, the performance of defined contribution investment funds are monitored and local engagement with employees is actively promoted to ensure they are provided with sufficient information about the options available to them.

Pension plans in the UK

The HSBC Bank (UK) Pension Scheme (the principal plan) has both defined benefit and defined contribution sections. The defined benefit section accounts for approximately 72% of our total defined benefit obligations around the world. The defined benefit section was closed to new entrants in 1996 and from 1 July 2015 it will be closed to further accrual for

 

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current employees who are in that section, who will join the defined contribution section for future pensions. All new employees have joined the defined contribution section since 1996. The principal plan is overseen by an independent corporate trustee who has a fiduciary responsibility for the operation of the pension plan. The trustee is responsible for monitoring and managing the investment strategy and administration of scheme benefits. The principal plan holds a diversified portfolio of investments to meet future cash flow liabilities arising from accrued benefits as they fall due to be paid. The trustee of the principal plan is required to produce a written Statement of Investment Principles which governs decision-making about how investments are made and the need for adequate diversification is taken into account in the choice of asset allocation and manager structure in the defined benefit section. Longevity risk in the principal plan is assessed as part of the measurement of the pension liability and managed through the funding process of the plan.

 

 

Sustainability risk

(Unaudited)

Sustainability risks arise from the provision of financial services to companies or projects which run counter to the needs of sustainable development; in effect, this risk arises when the environmental and social effects outweigh economic benefits. Within Group Head Office, a separate function, Global Corporate Sustainability, is mandated to manage these risks globally working through local offices as appropriate. Sustainability Risk Managers have regional or national responsibilities for advising on and managing environmental and social risks. Global Corporate Sustainability’s risk management responsibilities include:

 

  formulating sustainability risk policies. This includes overseeing our sustainability risk standards, our application of the Equator Principles and our sustainability policies (covering agricultural commodities, chemicals, defence, energy, forestry, freshwater infrastructure, mining and metals, and World Heritage Sites and Ramsar Wetlands); undertaking an independent review of transactions where sustainability risks are assessed to be high; and supporting our operating companies to assess similar risks of a lower magnitude;

 

  building and implementing systems-based processes to ensure consistent application of policies, reduce the costs of sustainability risk reviews and capture management information to measure and report on the effect of our lending and investment activities on sustainable development; and

 

  providing training and capacity building within our operating companies to ensure sustainability risks are identified and mitigated consistently to either our own standards, international standards or local regulations, whichever is higher.

 

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Report of the Directors: Financial Review (continued)

 

 

 

 

 

Capital

 

  

 

 

 

 

Page

 

 

  

 

     

 

 

 

 

App1

 

 

  

 

     

 

Tables

 

  

 

 

 

 

Page

 

 

  

 

 

Capital overview

 

    

 

239

 

  

 

                     

Capital ratios

 

    

 

239

 

  

 

 

Capital management

                   257           

Total regulatory capital and risk-weighted assets

     239   
 

Approach and policy

                   257                      
 

Stress testing

                   257                      
 

Risks to capital

                   257                      
 

Risk-weighted asset targets

                   257                      
 

Capital generation

                   258                      
 

Capital measurement and allocation

                   258                      
 

Regulatory capital

                   258                      
 

Pillar 1 capital requirements

                   258                      
 

Pillar 2 capital requirements

                   259                      
 

Pillar 3 disclosure requirements

                   260                      
 

Risk-weighted assets

     239                         

RWAs by risk type

     240   
                                  

RWAs by global businesses

     240   
                                  

RWAs by geographical regions

     240   
 

Credit risk RWAs

     240                         

Credit risk exposure – RWAs by geographical region

     240   
                                  

Credit risk exposure – RWAs by global businesses

     240   
                                  

RWA movement by geographical regions by key driver – credit risk – IRB only

     242   
                                  

RWA movement by global businesses by key driver – credit risk – IRB only

     242   
 

Counterparty credit risk and market risk RWAs

     243                         

Counterparty credit risk RWAs

     243   
                                  

RWA movement by key driver – counterparty credit risk – advanced approach

     243   
                                  

Market risk RWAs

     244   
                                  

RWA movement by key driver – market risk – internal model based

     244   
                                  

Capital and RWA movements by major driver – CRD IV end point basis

     245   
 

Operational risk RWAs

     244                                    
 

RWA movement by key driver – basis of preparation and supporting notes

                   260                      
 

Credit risk drivers – definitions and quantifications

                   260                      
 

Counterparty risk drivers – definitions and quantifications

                   261                      
 

Market risk drivers – definitions and quantifications

                   261                      
 

Capital structure

     245                         

Source and application of total regulatory capital

     245   
                                  

Composition of regulatory capital

     246   
                                  

Reconciliation of regulatory capital from transitional basis to an estimated CRD IV end point basis

     247   
 

Regulatory balance sheet

     248                         

Reconciliation of balance sheets – financial accounting to regulatory scope of consolidation

     249   
 

Regulatory and accounting consolidations

     248                                    
 

Leverage ratio

     251                         

Estimated leverage ratio

     251   
 

Leverage ratio: basis of preparation

                   261                      
 

Regulatory developments

     252                                    
 

Regulatory capital buffers

     252                         

Capital requirements framework

     254   
 

Regulatory stress testing

     254                                    
 

RWA developments

     254                                    
 

Leverage ratio proposals

     255                                    
 

Banking structural reform and recovery and resolution planning

     255                                    
 

Other regulatory updates

 

    

 

256

 

  

 

                                
  1 Appendix to Capital.                  

 

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Our objective in the management of Group capital is to maintain appropriate levels of capital to support our business strategy and meet our regulatory and stress testing related requirements.

 

Capital highlights

 

•  The transitional CET1 ratio of 10.9% was up from 10.8% at the end of 2013 as a result of continued capital generation and management initiatives offset by RWA growth, foreign exchange movements and regulatory changes.

 

•  The end point CET1 ratio of 11.1% was up from 10.9% at the end of 2013 as a result of similar drivers.

 

Capital overview

(Unaudited)

Capital ratios

(Unaudited)

         At 31 December  
                 2014                  2013  
         %          %  

CRD IV transitional

         

Common equity tier 1 ratio

       10.9           10.8   

Tier 1 ratio

       12.5           12.0   

Total capital ratio

       15.6           14.9   

CRD IV end point

         

Common equity tier 1 ratio

       11.1           10.9   

Basel 2.5

         

Core tier 1 ratio

       n/a           13.6   

Tier 1 ratio

       n/a           14.5   

Total capital ratio

       n/a           17.8   

Total regulatory capital and risk-weighted assets

(Unaudited)

        

CRD IV

transitional

at

31 Dec 2014

US$m

        

CRD IV

transitional

estimated at

31 Dec 2013

US$m

        

Basel 2.5 at

31 Dec 2013

US$m

 

Common equity tier 1 capital

       133,200           131,233        

Core tier 1 capital

                 149,051   

Additional tier 1 capital

       19,539           14,408           9,104   

Tier 2 capital

       37,991           35,538           35,854   

Total regulatory capital

       190,730           181,179           194,009   

Risk-weighted assets

       1,219,765           1,214,939           1,092,653   

On 1 January 2014, CRD IV came into force and capital and RWAs at 31 December 2014 are calculated and presented on the Group’s interpretation of final CRD IV legislation and final rules issued by the PRA. Prior to 1 January 2014, RWAs and capital were calculated and presented in accordance with the previous regime under CRD III, also referred to as ‘Basel 2.5’. As a result, unless otherwise stated, comparatives for capital and RWAs at 31 December 2013 are on a Basel 2.5 basis.

The capital and RWAs on a CRD IV basis incorporate the effect of the PRA’s final rules as set out in the PRA Rulebook. This transposed various areas of national discretion within the final CRD IV legislation into UK law. In its final rules, the PRA did not adopt most of the CRD IV transitional provisions available, instead opting for an acceleration of the CRD IV end point definition of common equity tier 1 (‘CET1’) capital. However, CRD IV

transitional provisions for unrealised gains were applied, such that unrealised gains on investment property and available-for-sale securities are not recognised for capital until 1 January 2015. As a result, our transitional capital ratio in 2014 is slightly lower than the comparable end point capital ratio.

In April 2014, the PRA published its rules and supervisory statements implementing some of the CRD IV provisions relating to capital buffers, further details of which are provided in the ‘Regulatory capital buffers’ section on page 252.

In June 2014, the PRA published its revised expectations in relation to capital ratios for major UK banks and building societies, namely that from 1 July 2014 we are expected to meet a 7% CET1 ratio using the CRD IV end point definition. This applies alongside CRD IV requirements.

Despite the rules published to date, there remains continued uncertainty around the amount of capital that UK banks will be required to hold. This relates specifically to the quantification and interaction of capital buffers and Pillar 2. The PRA is currently consulting on their revised approach to Pillar 2, the PRA buffer and its interaction with the CRD IV buffers. Furthermore, there are a significant number of draft and unpublished EBA technical and implementation standards due in 2015.

Our approach to managing Group capital is designed to ensure that we exceed current regulatory requirements and that we respect the payment priority of our capital providers. Throughout 2014, we complied with the PRA’s regulatory capital adequacy requirements, including those relating to stress testing. We are also well placed to meet our expected future capital requirements.

During 2014, we managed our capital position to meet an internal target CET1 ratio on an end point basis of greater than 10%. This has since been reviewed, and in 2015 we expect to manage Group capital to meet a medium-term target for return on equity of more than 10%. This is modelled on a CET1 ratio on an end point basis in the range of 12% to 13%.

A summary of our policies and practices regarding capital management, measurement and allocation is provided in the Appendix to Capital on page 257.

Risk-weighted assets

(Unaudited)

CRD IV contributed to an increased capital requirement. The key changes introduced were:

 

  securitisation positions which were previously deducted 50% from core tier 1 and 50% from total capital, are now included in RWAs at 1,250%;

 

  an additional capital charge to cover the risk of mark-to-market losses on expected counterparty risk referred to as credit valuation adjustment (‘CVA’) risk;

 

  deferred tax assets and significant investments, subject to thresholds, are now risk weighted at 250%;
 

 

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  increased risk weights on exposures to financial institutions, referred to as asset value correlation (‘AVC’); and

 

  new requirements for exposures to central counterparties (‘CCP’). There are enhanced incentives for clearing OTC derivative transactions through CCP.

RWAs by risk type

(Unaudited)

 

    CRD IV transitional
and end point
   

Basel 2.5

basis

 
    2014     2013     2013  
        US$bn         US$bn         US$bn  

Credit risk

  955.3      936.5      864.3   

Standardised approach

  356.9      358.6      329.5   

IRB foundation approach

  16.8      13.5      13.6   

IRB advanced approach

  581.6      564.4      521.2   

Counterparty credit risk

  90.7      95.8      45.8   

Standardised approach

  25.2      36.6      3.6   

Advanced approach

  65.5      59.2      42.2   

Market risk

  56.0      63.4      63.4   

Operational risk

  117.8      119.2      119.2   

At 31 December

  1,219.8      1,214.9      1,092.7   

Of which:

US run-off portfolios

  99.2      142.3      104.9   

Legacy credit in GB&M

  44.1      63.7      26.4   

US CML and Other

  55.1      78.6      78.5   

Card and Retail Services1

       1.1      1.1   

For footnotes, see page 256.

RWAs by global businesses

(Unaudited)

 

   

CRD IV

transitional

and end point

   

Basel 2.5

basis

 
    2014     2013  
    US$bn     US$bn  

Retail Banking and Wealth Management

  205.1      233.5   

Commercial Banking

  432.4      391.7   

Global Banking and Markets

  516.1      422.3   

Global Private Banking

  20.8      21.7   

Other

  45.4      23.5   

At 31 December

  1,219.8      1,092.7   

 

RWAs by geographical regions2

(Unaudited)

 

  

  

   

CRD IV

transitional

and end point

   

Basel 2.5

basis

 
    2014     2013  
    US$bn     US$bn  

Europe

  375.4      300.1   

Asia

  499.8      430.7   

Middle East and North Africa

  63.0      62.5   

North America

  221.4      223.8   

Latin America

  88.8      89.5   

At 31 December

  1,219.8      1,092.7   

For footnote, see page 256.

 

 

Credit risk RWAs

(Unaudited)

Credit risk exposure – RWAs by geographical region

 

              Europe     Asia3     MENA    

North

          America

   

Latin

          America

    Total  
    US$bn               US$bn               US$bn     US$bn     US$bn               US$bn  

CRD IV basis

IRB approach

  216.1      213.1      15.6      142.0      11.6      598.4   

IRB advanced approach

  203.3      213.1      11.6      142.0      11.6      581.6   

IRB foundation approach

  12.8           4.0                16.8   

Standardised approach

  47.1      186.0      39.0      29.6      55.2      356.9   

RWAs at 31 December 2014

  263.2      399.1      54.6      171.6      66.8      955.3   

Basel 2.5 basis

IRB advanced approach

  157.1      182.9      11.2      161.5      8.5      521.2   

IRB foundation approach

  9.8           3.8                13.6   

Standardised approach

  44.5      165.9      40.0      22.7      56.4      329.5   

RWAs at 31 December 2013

  211.4      348.8      55.0      184.2      64.9      864.3   

For footnote, see page 256.

Credit risk exposure – RWAs by global businesses

 

   

    Principal

RBWM

   

RBWM

    (US run-off

portfolio)

   

Total

    RBWM

    CMB         GB&M     GPB     Other     Total  
    US$bn     US$bn     US$bn         US$bn     US$bn         US$bn         US$bn         US$bn  

CRD IV basis

IRB approach

  55.9      47.3      103.2      217.4      255.6      10.2      12.0      598.4   
                           

IRB advanced approach

  55.9      47.3        103.2        209.4        248.1        10.0        10.9        581.6   

IRB foundation approach

                     8.0        7.5        0.2        1.1        16.8   

Standardised approach

  60.4      4.8      65.2      181.8      70.1      6.6      33.2      356.9   

RWAs at 31 December 2014

  116.3      52.1      168.4      399.2      325.7      16.8      45.2      955.3   

Basel 2.5 basis

IRB advanced approach

  58.4      72.6      131.0      183.2      192.8      10.4      3.8      521.2   

IRB foundation approach

            6.3      5.8      0.1      1.4      13.6   

Standardised approach

  60.6      3.1      63.7      169.3      71.6      6.9      18.0      329.5   

RWAs at 31 December 2013

  119.0      75.7      194.7      358.8      270.2      17.4      23.2      864.3   

 

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Credit risk RWAs are calculated using three approaches, as permitted by the PRA. For consolidated Group reporting, we have adopted the advanced internal ratings-based (‘IRB’) approach for the majority of our business, with a small proportion being on the foundation IRB approach and the remaining portfolios on the standardised approach.

Standardised approach

For portfolios treated under the standardised approach, credit risk RWAs increased by US$27.4bn, which reflected a reduction of US$13.6bn due to foreign exchange movements.

Corporate growth in Asia, Europe, North America and Latin America, including term and trade-related lending, increased RWAs by US$25.0bn, of which growth in our associate, BoCom, accounted for US$6.4bn.

The move to a CRD IV basis increased RWAs on 1 January 2014 by US$ 7.1bn. This movement mainly comprised material holdings and deferred tax asset amounts in aggregate below the capital threshold risk-weighted at 250% US$28.3bn, partially offset by the reclassification of non-credit obligation assets to the IRB approach for reporting purposes US$16.3bn and the netting of collective impairments against exposure at default under the standardised approach US$3.5bn.

During the year, several individually immaterial portfolios moved from the IRB approach to the standardised approach, increasing standardised RWAs by US$6.0bn and reducing IRB RWAs by US$4.8bn.

The disposal of our operations in Jordan, Pakistan, Colombia and Kazakhstan reduced RWAs by US$1.0bn.

In Asia, movement in the fair value of our material holdings, mainly in Industrial Bank, resulted in an increase in RWAs of US$5.9bn. This was partially offset by the reclassification of Vietnam Technological and Commercial Joint Stock Bank from an associate to an investment, which reduced RWAs by US$1.1bn.

Internal ratings-based approach

Credit risk RWA movements by key driver for portfolios treated under the IRB approach are set out in the tables on page 242 and 243. For basis of preparation on Credit risk, Counterparty credit risk and Market risk RWA flow, see Annual Reports and Accounts Appendix to Capital on page 257. For portfolios treated under the IRB approach, credit risk RWAs increased by US$63.6bn which reflected a reduction of US$20.1bn due to foreign exchange movements driven by the strengthening of the US dollar against other currencies.

Acquisitions and disposals

In GB&M, the sale of ABSs in North America reduced RWAs by US$4.2bn. Additionally, GB&M continued to manage down the securitisation positions held through the sale of certain structured investment conduit positions, lowering RWAs by US$3.0bn in Europe. The disposal of our businesses in Kazakhstan, Colombia, Pakistan and Jordan resulted in a reduction in RWAs of

US$1.2bn in Europe, Latin America, the Middle East and North Africa.

Book size

Book size movement reflected higher corporate lending, including term and trade-related lending, increasing RWAs by US$40.3bn in Asia, Europe and North America for CMB and GB&M. Sovereign book growth in GB&M increased RWAs by US$3.3bn, mainly in Asia, Latin America, the Middle East and North Africa.

In North America, in RBWM, continued run-off of the US CML retail mortgage portfolios resulted in a RWA reduction of US$6.9bn.

Book quality

RWAs reduced by US$8.5bn in the US run-off portfolio, primarily due to continued run-off which resulted in an improvement in the book quality of the residual portfolio.

Book quality improvements in the Principal RBWM business of US$5.9bn related to model recalibrations reflecting improving property prices in the US and favourable changes in portfolio mix reducing RWAs in Europe.

A ratings upgrade for securitisation portfolio resulted in a decrease in RWAs of US$3.2bn.

This was partially offset by adverse movements in average customer credit quality in corporate, sovereign and institutional portfolios in Europe, North America, Middle East, North Africa, Asia and Latin America increased RWAs by US$7.6bn.

Model updates

In Europe, a loss given default (‘LGD’) floor applied to UK corporate portfolios resulted in an increase in RWAs of US$19.0bn in CMB and GB&M.

This was partially offset by model updates in North America, primarily the implementation of new risk models for the US mortgage run-off portfolio, resulting in a decrease in RWAs of US$6.2bn.

Methodology and policy changes

Methodology and policy updates increased RWAs by US$52.2bn.

CRD IV impact

The rise related to the implementation of CRD IV rules at 1 January 2014, which increased RWAs by US$48.2bn. The main CRD IV movements arose from securitisation positions that were previously deducted from capital and are now included as a part of credit risk RWAs and risk-weighted at 1,250%, resulting in a US$40.2bn increase in GB&M, primarily Europe. CRD IV also introduced an asset valuation correlation multiplier for financial counterparties, producing a US$9.2bn increase in RWAs primarily in GB&M in Asia and Europe.

 

 

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Internal updates

A decrease in RWAs of US$9.2bn arose from the set-off of negative AFS reserves against EAD for GB&M legacy credit portfolios.

In Asia, internal methodology changes associated with trade finance products accounted for a reduction in RWAs of US$4.9bn.

Additionally, the transfer of individually immaterial portfolios moving to the standardised approach reduced IRB RWAs by US$4.8bn in Principal RBWM and CMB in most regions and increased RWAs in the standardised approach by US$6.0bn.

The reclassification of part of the mortgage portfolio led to a decrease in RWAs of US$4.5bn in North America, of which US$4.1bn was in the run-off portfolio.

External updates

Selected portfolios with a low default history, mainly in Europe, Asia and North America, were subjected to external updates with the introduction of LGD floors applied to corporates and institutions, increasing RWAs by US$9.8bn. A further RWA floor was introduced on retail mortgages in Asia, resulting in an increase of US$1.7bn.

Non-credit obligation assets

The reclassification of non-credit obligation assets from the standardised to the IRB approach for reporting purposes increased RWAs under the latter approach by US$16.3bn and reduced the STD RWAs by the same amount.

 

 

RWA movement by geographical regions by key driver – credit risk – IRB only

(Unaudited)

 

            Europe     Asia     MENA    

North

        America

    Latin
        America
    Total  
    US$bn             US$bn             US$bn     US$bn     US$bn             US$bn  

RWAs at 1 January 2014 on Basel 2.5 basis

  166.9      182.9      15.0      161.5      8.5      534.8   

Foreign exchange movement

  (11.6   (4.0   (0.2   (2.4   (1.9   (20.1

Acquisitions and disposals

  (3.5        (0.7   (4.2   (0.1   (8.5

Book size

  11.4      19.5      1.8      2.9      2.0      37.6   

Book quality

  (1.5        (0.8   (10.3   1.4      (11.2

Model updates

  19.4      0.3           (6.1        13.6   

New/updated models

  19.4      0.3           (6.1        13.6   

Methodology and policy

  35.0      14.4      0.5      0.6      1.7      52.2   

Internal updates

  (11.7   (5.2   (0.2   (6.4   (0.1   (23.6

External updates

  2.2      8.5      (0.2   0.7      0.1      11.3   

CRD IV impact

  37.0      5.7      0.4      4.9      0.2      48.2   

NCOA moving from STD to IRB

  7.5      5.4      0.5      1.4      1.5      16.3   

 

                             
                                                                   

Total RWA movement

  49.2      30.2      0.6      (19.5   3.1      63.6   

RWAs at 31 December 2014 on CRD IV basis

  216.1      213.1      15.6      142.0      11.6      598.4   

RWAs at 1 January 2013 on Basel 2.5 basis

  150.7      162.3      12.6      187.1      11.2      523.9   

Foreign exchange movement

  3.3      (4.5   (0.5   (1.9   (1.0   (4.6

Acquisitions and disposals

  (1.5             (8.6   (1.7   (11.8

Book size

  2.1      21.2      1.4      (10.6   0.2      14.3   

Book quality

  (1.5   5.3      1.3      (10.8   (0.3   (6.0

Model updates

  11.6           0.1      (0.2        11.5   

Portfolios moving onto IRB approach

  13.4                          13.4   

New/updated models

  (1.8        0.1      (0.2        (1.9

Methodology and policy

  2.2      (1.4   0.1      6.5      0.1      7.5   

Internal updates

  (0.2   (7.8   0.1      (0.6   0.1      (8.4

External updates

  2.4      6.4           7.1           15.9   

 

                             
                                                                   

Total RWA movement

  16.2      20.6      2.4      (25.6   (2.7   10.9   

RWAs at 31 December 2013 on Basel 2.5 basis

  166.9      182.9      15.0      161.5      8.5      534.8   

For footnote, see page 256.

 

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Report of the Directors: Financial Review (continued)

 

 

RWA movement by global businesses by key driver – credit risk – IRB only

(Unaudited)

 

   

        Principal

RBWM

   

RBWM

    (US run-off)

   

Total

        RBWM

    CMB     GB&M     GPB     Other     Total  
    US$bn     US$bn     US$bn             US$bn             US$bn             US$bn             US$bn             US$bn  

RWAs at 1 January 2014 on Basel 2.5 basis

  58.4      72.6      131.0      189.5      198.5      10.6      5.2      534.8   

Foreign exchange movement

  (2.6        (2.6   (8.7   (8.1   (0.2   (0.5   (20.1

Acquisitions and disposals

                      (8.2        (0.3   (8.5

Book size

  1.8      (6.9   (5.1   23.2      21.1      (0.5   (1.1   37.6   

Book quality

  (5.7   (8.6   (14.3   2.8      (0.2   (0.3   0.8      (11.2

Model updates

  0.6      (6.2   (5.6   12.2      7.0                13.6   

New/updated models

  0.6      (6.2   (5.6   12.2      7.0                13.6   

Methodology and policy

  3.4      (3.6   (0.2   (1.6   45.5      0.6      7.9      52.2   

Internal updates

  (3.0   (3.9   (6.9   (5.0   (11.2   (0.5        (23.6

External updates

  1.8           1.8      2.5      6.3      0.5      0.2      11.3   

CRD IV impact

                 (0.7   48.6      0.2      0.1      48.2   

NCOA moving from STD to IRB

  4.6      0.3      4.9      1.6      1.8      0.4      7.6      16.3   

Total RWA movement

  (2.5   (25.3   (27.8   27.9      57.1      (0.4   6.8      63.6   

RWAs at 31 December 2014 on CRD IV basis

  55.9      47.3      103.2      217.4      255.6      10.2      12.0      598.4   

 

   

RBWM

          US$bn

   

CMB

          US$bn

    GB&M
          US$bn
    GPB
          US$bn
   

Other

          US$bn

   

Total

          US$bn

 

RWAs at 1 January 2013 on Basel 2.5 basis

  163.1      169.0      177.7      9.6      4.5      523.9   

Foreign exchange movement

  (0.4   (1.5   (2.7   0.1      (0.1   (4.6

Acquisitions and disposals

  (10.1   (0.1   (1.6             (11.8

Book size

  (12.7   14.5      13.5      (0.7   (0.3   14.3   

Book quality

  (6.4   3.5      (3.4   0.3           (6.0

Model updates

  (0.2   10.1      (1.0   2.6           11.5   

Portfolios moving onto IRB approach

       10.0      0.8      2.6           13.4   

New/updated models

  (0.2   0.1      (1.8             (1.9

Methodology and policy

  (2.3   (6.0   16.0      (1.3   1.1      7.5   

Internal updates

  (2.3   (3.4   (0.6   (2.1        (8.4

External updates

       (2.6   16.6      0.8      1.1      15.9   

 

                             
                                                                   

Total RWA movement

  (32.1   20.5      20.8      1.0      0.7      10.9   

RWAs at 31 December 2013 on Basel 2.5 basis

  131.0      189.5      198.5      10.6      5.2      534.8   

 

Counterparty credit risk and market risk RWAs

(Unaudited)

Counterparty credit risk RWAs

(Unaudited)

 

    CRD IV basis     Basel 2.5 basis  
    2014     2013  
    US$bn     US$bn  

Advanced approach

  65.5      42.2   

CCR IRB approach

  62.0      42.2   

CVA

  3.5        

Standardised approach

  25.2      3.5   

CCR standardised approach

  4.4      3.5   

CVA

  18.0        

CCP

  2.8        

 

         
                       

RWAs at 31 December

  90.7      45.7   

RWA movement by key driver – counterparty credit risk – advanced approach

(Unaudited)

 

    CRD IV basis     Basel 2.5 basis  
    2014     2013  
    US$bn     US$bn  

RWAs at 1 January

  42.2      45.7   

Book size

  1.6      (0.9

Book quality

  (0.6   (2.7

Model updates

  0.1        

Methodology and policy

  22.2      0.1   

Internal updates

  (3.8   0.1   

External regulatory updates

  9.0        

CRD IV impact

  17.0        

Total RWA movement

  23.3      (3.5

RWAs at 31 December

  65.5      42.2   
 

 

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Report of the Directors: Financial Review (continued)

 

 

Market risk RWAs

(Unaudited)

 

         CRD IV basis          Basel 2.5 basis  
         2014          2013  
         US$bn          US$bn  

Internal model based

         

VaR

       7.3           4.9   

Stressed VaR

       10.4           9.4   

Incremental risk charge

       20.1           23.1   

Comprehensive risk measure

                 2.6   

Other VaR and stressed VaR

       6.8           12.2   

Internal model based

       44.6           52.2   

Standardised approach

       11.4           11.2   

At 31 December

       56.0           63.4   

RWA movement by key driver – market risk –
internal model based

(Unaudited)

 

         CRD IV basis          Basel 2.5 basis  
         2014          2013  
         US$bn          US$bn  

RWAs at 1 January

       52.2           44.5   

Acquisitions and disposals

       (2.2          

Movement in risk levels

       (4.2        (14.5

Model updates

                 17.6   

Methodology and policy

       (1.2        4.6   

Internal updates

       (3.8        4.6   

External updates

       2.6             

 

         
                       

Total RWA movement

  (7.6   7.7   

RWAs at 31 December

  44.6      52.2   

Counterparty credit risk RWAs

Counterparty credit risk RWAs increased by US$45.0bn, in 2014. The RWA increase of US$21.7bn for the standardised approach mainly relates to the implementation of CRD IV on 1 January 2014, which introduced CVA and CCP RWAs.

Advanced approach

Book size

The increase in book size was mainly driven by business movements and the impact of the strengthening of the US dollar against other currencies on the mark to market of derivatives contracts.

Model updates

In Europe, an LGD floor applied to UK corporate portfolios resulted in an increase in RWAs of US$2.2bn. This was offset by a decrease in RWAs of US$2.0bn due to model updates to the Internal Model Method (‘IMM’) used for selected portfolios in London.

Methodology and policy changes

The CVA and AVC multiplier for financial counterparties introduced by the implementation of CRD IV increased RWAs by US$6.8bn and US$10.2bn, respectively, on 1 January 2014.

Within external regulatory and policy updates, selected portfolios were subject to PRA LGD floors, which increased RWAs by US$7.5bn, mainly in Europe and Asia. Additionally, guidance received in the fourth quarter of 2014 led to the application of a ‘potential future

exposure’ charge on sold options, contributing to a US$1.5bn increase in RWAs.

Decreases in RWAs from internal methodology updates were mainly driven by additional CVA exemptions following internal due diligence and review alongside a more efficient allocation of collateral in Europe, which decreased RWAs by US$3.8bn.

Market risk RWAs

Total market risk RWAs decreased by US$7.4bn in 2014.

Standardised approach

The market risk RWA movements for portfolios not within the scope of modelled approaches resulted in an increase of US$0.2bn. The increase in RWAs of US$2.6bn related to CRD IV treatment of trading book securitisation positions that were previously deducted from capital. This was offset by reductions in RWAs of US$2.5bn for interest rate position risk, primarily in Latin America due to the introduction of the scenario matrix method for options and a general reduction in positions in Latin America and the US.

Internal model based

Acquisitions and disposals

The sale of our correlation trading portfolio, reduced comprehensive risk measure RWAs by US$2.0bn. The disposal of our business in Kazakhstan resulted in a reduction of US$0.2bn in RWAs.

Movement in risk levels

Movement in risk levels reflected a decrease mainly in VaR and Stressed VaR as a result of reduced FX and Equity trading positions.

Methodology and policy changes

The increase in RWAs from external updates related mainly to the introduction, for collateralised transactions, of the basis between the currency of trade and the currency of collateral into the VaR calculation and the removal of the diversification benefit from Risks not in VaR (‘RNIV’) calculations, driving an increase of US$6.7bn.

This was partially offset by decreases in RWAs of US$4.3bn from Internal updates, mainly due to refinements in the RNIV calculation for the Equities and Rates desks.

Further decreases in RWAs following regulatory approval for a change in the basis of consolidation for modelled market risk charges delivered a reduction in RWAs of US$4.1bn.

Operational risk RWAs

The reduction in operational risk RWAs of US$1.4bn was due to the full amortisation of operational risk RWAs for the US CRS portfolio disposed of in May 2012, combined with a lower three-year average operating income.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Capital and RWA movements by major driver – CRD IV end point basis

(Unaudited)

 

    CET1        
            capital     RWAs  
    US$bn             US$bn  

CRD IV end point basis at 1 January 20144

  132.5      1,214.9   

Accounting profit for the period

  13.7        

Regulatory adjustments to accounting profit

  (1.0     

Dividends net of scrip5

  (7.5     

Regulatory change: LGD floors

  38.6   

Corporate lending growth

       64.8   

Management initiatives:

  2.2      (66.3

– legacy reduction and run-off

  2.2      (43.0

– portfolio and entity disposals

       (5.2

– RWA initiatives

       (18.1

Exchange differences

  (8.4   (33.6

Other movements

  4.5      1.4   

CRD IV end point basis at 31 December 2014

  136.0      1,219.8   

RWAs increased in the year, primarily from corporate lending growth and regulatory change. These have been largely offset by management initiatives and foreign exchange movements. Management initiatives include legacy reduction and run-off, portfolio and entity disposals and a number of other initiatives including a better alignment of VaR scope to management’s view of risk, improved collateral allocation, increased use of IMM and a review of product mappings to regulatory categories.

 

 

Capital structure

Source and application of total regulatory capital

(Audited)

 

    CRD IV
transitional
    Basel 2.5  
   

Year to

        31 Dec 2014

US$m

   

Year to

        31 Dec 2013

US$m

 

Movement in total regulatory capital

Opening common equity/core tier 1 capital4

  131,233      138,789   

Contribution to common equity/core tier 1 capital from profit for the period

  12,678      17,124   

Consolidated profits attributable to shareholders of the parent company

  13,688      16,204   

Removal of own credit spread net of tax

  (328   920   

Debit valuation adjustment

  254     

Deconsolidation of insurance entities and SPE entities

  (936      

Net dividends including foreseeable net dividends5

  (7,541   (6,987

Dividends net of scrip recognised under Basel 2.5

    (6,987

Update for fourth interim dividend scrip take-up in excess of plan

  1,108     

First interim dividend net of scrip

  (1,766  

Second interim dividend net of scrip

  (1,686  

Third interim dividend net of scrip

  (1,835  

Fourth foreseeable interim dividend

  (4,131  

Add back: planned scrip take-up

  769         

Decrease in goodwill and intangible assets deducted

  2,424      535   

Ordinary shares issued

  267      297   

Foreign currency translation differences

  (8,356   (1,294

Other, including regulatory adjustments

  2,495      587   

Closing common equity/core tier 1 capital

  133,200      149,051   

Opening additional/other tier 1 capital4

  14,408      12,259   

Issued hybrid capital securities net of redemptions

  4,961      (1,151

Unconsolidated investments

  17      (2,004

Other, including regulatory adjustments

  153        

Closing tier 1 capital

  152,739      158,155   

Opening other tier 2 capital4

  35,538      29,758   

Issued tier 2 capital securities net of redemptions

  2,414      1,609   

Unconsolidated investments

  26      6,447   

Other, including regulatory adjustments

  13      (1,960

Closing total regulatory capital

  190,730      194,009   

For footnotes, see page 256.

 

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Report of the Directors: Financial Review (continued)

 

 

Internal capital generation contributed US$5.1bn to common equity tier 1 capital, being profits attributable to shareholders of the parent company after regulatory adjustment for own

credit spread, debit valuation adjustment, deconsolidation of insurance entities and net of dividends. The 2014 fourth interim dividend is net of planned scrip.

 

 

Composition of regulatory capital

 

          CRD IV transitional     Basel 2.5  
    Ref    

At

        31 Dec 2014

(Audited)

US$m

   

Estimated at
        31 Dec 2013

(Unaudited)

US$m

   

At

        31 Dec 2013

(Audited)

US$m

 

Tier 1 capital

Shareholders’ equity

  166,617      164,057      173,449   

Shareholders’ equity per balance sheet6

  a      190,447      181,871      181,871   

Foreseeable interim dividend5

  (3,362   (3,005  

Preference share premium

  b      (1,405   (1,405   (1,405

Other equity instruments

  c      (11,532   (5,851   (5,851

Deconsolidation of special purpose entities7

  a      (323   (1,166   (1,166

Deconsolidation of insurance entities

  a      (7,208   (6,387      

Non-controlling interests

  4,640      3,644      4,955   

Non-controlling interests per balance sheet

  d      9,531      8,588      8,588   

Preference share non-controlling interests

  e      (2,127   (2,388   (2,388

Non-controlling interests transferred to tier 2 capital

  f      (473   (488   (488

Non-controlling interests in deconsolidated subsidiaries

  d      (851   (757   (757

Surplus non-controlling interests disallowed in CET1

  (1,440   (1,311      

Regulatory adjustments to the accounting basis

  (6,309   (2,230   480   

Unrealised (gains)/losses in available-for-sale debt and equities8

  (1,378        1,121   

Own credit spread9

  767      1,112      1,037   

Debit valuation adjustment

  (197   (451  

Defined benefit pension fund adjustment10

  g      (4,069   (1,731   (518

Reserves arising from revaluation of property

  (1,375   (1,281   (1,281

Cash flow hedging reserve

  (57   121      121   

Deductions

  (31,748   (34,238   (29,833

Goodwill and intangible assets

  h      (22,475   (24,899   (25,198

Deferred tax assets that rely on future profitability (excludes those arising from temporary differences)

  n      (1,036   (680  

Additional valuation adjustment (referred to as PVA)

  (1,341   (2,006  

Investments in own shares through the holding of composite products of which HSBC is a component (exchange traded funds, derivatives and index stock)

  (1,083   (677  

50% of securitisation positions

      (1,684

50% of tax credit adjustment for expected losses

      151   

Negative amounts resulting from the calculation of expected loss amounts

  i      (5,813   (5,976   (3,102

Common equity/core tier 1 capital

  133,200      131,233      149,051   

Additional tier 1 capital

Other tier 1 capital before deductions

  19,687      14,573      16,110   

Preference share premium

  b      1,160      1,160      1,405   

Preference share non-controlling interests

  e      1,955      1,955      2,388   

Allowable non-controlling interest in AT1

  d      884      731     

Hybrid capital securities

  j      15,688      10,727      12,317   

Deductions

  (148   (165   (7,006

Unconsolidated investments11

  (148   (165   (7,157

50% of tax credit adjustment for expected losses

              151   

Tier 1 capital

  152,739      145,641      158,155   

 

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Report of the Directors: Financial Review (continued)

 

 

          CRD IV transitional     Basel 2.5  
    Ref    

At

31 Dec 2014

(Audited)

US$m

   

Estimated at
31 Dec 2013

(Unaudited)

US$m

   

At

31 Dec 2013

(Audited)

US$m

 

Tier 2 capital

Total qualifying tier 2 capital before deductions

  38,213      35,786      47,812   

Reserves arising from revaluation of property and unrealised gains in available-for-sale equities

      2,755   

Collective impairment allowances

  k          2,616   

Allowable non-controlling interest in tier 2

  d      99      86     

Perpetual subordinated debt

  l      2,218      2,218      2,777   

Term subordinated debt

  m      35,656      33,242      39,364   

Non-controlling interests in tier 2 capital

  f      240      240      300   

Total deductions other than from tier 1 capital

  (222   (248   (11,958

Unconsolidated investments11

  (222   (248   (7,157

50% of securitisation positions

      (1,684

50% negative amounts resulting from the calculation of expected loss amounts

  i          (3,102

Other deductions

              (15

 

                   
                                       

Total regulatory capital

  190,730      181,179      194,009   

For footnotes, see page 256.

The references (a) – (n)  identify balance sheet components on page 249 which are used in the calculation of regulatory capital.

Reconciliation of regulatory capital from transitional basis to an estimated CRD IV end point basis

(Unaudited)

 

   

At

31 Dec 2014

   

Estimated at

31 Dec 2013

 
    US$m     US$m  

Common equity tier 1 capital on a transitional basis

  133,200      131,233   

Unrealised gains arising from revaluation of property

  1,375      1,281   

Unrealised gains in available for sale reserves

  1,378        

Common equity tier 1 capital end point basis

  135,953      132,514   

Additional tier 1 capital on a transitional basis

  19,539      14,408   

Grandfathered instruments:

Preference share premium

  (1,160   (1,160

Preference share non-controlling interests

  (1,955   (1,955

Hybrid capital securities

  (10,007   (10,727

Transitional provisions:

Allowable non-controlling interest in AT1

  (487   (366

Unconsolidated investments

  148      165   

Additional tier 1 capital end point basis

  6,078      365   

Tier 1 capital end point basis

  142,031      132,879   

 

Tier 2 capital on a transitional basis

 

 

 

37,991

 

  

 

 

 

35,538

 

  

Grandfathered instruments:

Perpetual subordinated debt

  (2,218   (2,218

Term subordinated debt

  (21,513   (21,513

Transitional provisions:

Non-controlling interest in tier 2 capital

  (240   (240

Allowable non-controlling interest in tier 2

  396      345   

Unconsolidated investments

  (148   (165

Tier 2 capital end point basis

  14,268      11,747   

Total regulatory capital end point basis

  156,299      144,626   

 

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Report of the Directors: Financial Review (continued)

 

 

The capital position presented on a CRD IV transitional basis follows the CRD IV legislation as implemented in the UK via the PRA’s final rules in the Policy Statement (‘PS 7/13’) issued in December 2013, and as incorporated in the PRA Rulebook.

The effects of draft EBA technical standards are not generally captured in our numbers. These could have additional effects on our capital position and RWAs.

Whilst CRD IV allows for the majority of regulatory adjustments and deductions from CET1 to be implemented on a gradual basis from 1 January 2014 to 1 January 2018, the PRA has largely decided not to make use of these transitional provisions. Due to the exclusion of unrealised gains on investment property and available-for-sale securities which are only capable of being recognised in CET1 capital from 1 January 2015, and PRA acceleration of unrealised losses on these items, our CET1 capital and ratio is lower on a transitional basis than it is on an end point basis.

For additional tier 1 and tier 2 capital, the PRA followed the transitional provisions timing as set out in CRD IV to apply the necessary regulatory adjustments and deductions. The effect of these adjustments is being phased in at 20% per annum from 1 January 2014 to 1 January 2018.

Furthermore, non-CRD IV compliant additional tier 1 and tier 2 instruments benefit from a grandfathering period. This progressively reduces the eligible amount by 10% annually, following an initial reduction of 20% on 1 January 2014, until they are fully phased out by 1 January 2022.

Under CRD IV, as implemented in the UK, banks are required to meet a minimum CET1 ratio of 4.0% of RWAs (increasing to 4.5% from 1 January 2015), a minimum tier 1 ratio of 5.5% of RWAs (increasing to 6% from 1 January 2015) and a total capital ratio of 8% of RWAs. Alongside CRD IV requirements, from 1 July 2014, the PRA expects major UK banks and building societies to meet a 7% CET1 ratio using the CRD IV end point definition. Going forward, as the grandfathering provisions fall away, we intend to meet these regulatory minima in an economically efficient manner by issuing non-common equity capital as necessary. At 31 December 2014, the Group had US$19.8bn of CRD IV compliant non-common equity capital instruments, of which US$3.5bn of tier 2 and US$5.7bn of additional tier 1 were issued during the year (for details on the additional tier 1 instruments issued during the year see Note 35 on the Financial Statements). At 31 December 2014, the Group also had US$37.1bn of non-common equity capital instruments qualifying as eligible capital under CRD IV by virtue of the application of the grandfathering provisions, after applying the 20% reduction outlined above.

Regulatory balance sheet

Regulatory and accounting consolidations

(Unaudited)

The basis of consolidation for the purpose of financial accounting under IFRS, described in Note 1 on the Financial Statements, differs from that used for regulatory purposes as described in ‘Structure of the regulatory group’ on page 13 of the Pillar 3 Disclosures 2014 report. The table below provides a reconciliation of the financial accounting balance sheet to the regulatory scope of consolidation.

Interests in banking associates are equity accounted in the financial accounting consolidation, whereas their exposures are proportionally consolidated for regulatory purposes in accordance with PRA’s application of EU legislation.

Subsidiaries engaged in insurance activities are excluded from the regulatory consolidation, leaving the investment to be recorded at cost. In prior years, the investment of these insurance subsidiaries was recorded at the net asset value. This change in treatment from 1 January 2014 has been aligned to the capital treatment under CRD IV where we have excluded post-acquisition reserves from our CET1 capital and the investment to be deducted from CET1 (subject to thresholds) valued at cost.

The regulatory consolidation does not include special purpose entities (‘SPEs’) where significant risk has been transferred to third parties. Exposures to these SPEs are risk-weighted as securitisation positions for regulatory purposes.

Entities in respect of which the basis of consolidation for financial accounting purposes differs from that used for regulatory purposes can be found in table 5 of the Pillar 3 Disclosures 2014 report.

 

 

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Report of the Directors: Financial Review (continued)

 

 

Reconciliation of balance sheets – financial accounting to regulatory scope of consolidation

(Unaudited)

 

          At 31 December 2014  
    Ref    

    Accounting

balance
sheet
US$m

   

Deconsolidation

of insurance/

other entities
US$m

   

Consolidation

of banking

associates
US$m

   

    Regulatory

balance
sheet
US$m

 

Assets

Cash and balances at central banks

  129,957           30,731      160,688   

Items in the course of collection from other banks

  4,927           80      5,007   

Hong Kong Government certificates of indebtedness

  27,674                27,674   

Trading assets

  304,193      (720   2,357      305,830   

Financial assets designated at fair value

  29,037      (28,791   3,312      3,558   

Derivatives

  345,008      (94   353      345,267   

Loans and advances to banks

  112,149      (2,727   7,992      117,414   

Loans and advances to customers

  974,660      (10,809   116,484      1,080,335   

of which:

– impairment allowances on IRB portfolios

  i      (6,942             (6,942

– impairment allowances on standardised portfolios

  (5,395        (2,744   (8,139

Reverse repurchase agreements – non-trading

  161,713      (30   7,510      169,193   

Financial investments

  415,467      (50,420   33,123      398,170   

Capital invested in insurance and other entities

       2,542           2,542   

Current tax assets

  1,309      (16        1,293   

Prepayments, accrued income and other assets

  75,176      (5,295   8,501      78,382   

of which:

– goodwill and intangible assets of disposal groups held for sale

  h      8                8   

– retirement benefit assets

  g      (5,028             (5,028

– impairment allowances on assets held for sale

  (16             (16

of which:

– IRB portfolios

  i      (16             (16

– standardised portfolios

                     

Interests in associates and joint ventures

  18,181           (17,479   702   

of which:

– positive goodwill on acquisition

  h      621           (606   15   

Goodwill and intangible assets

  h      27,577      (5,593   571      22,555   

Deferred tax assets

  n      7,111      163      474      7,748   

Total assets

  2,634,139      (101,790   194,009      2,726,358   

Liabilities and equity

Hong Kong currency notes in circulation

  27,674                27,674   

Deposits by banks

  77,426      (21   40,530      117,935   

Customer accounts

  1,350,642      (535   141,858      1,491,965   

Repurchase agreements – non-trading

  107,432                107,432   

Items in course of transmission to other banks

  5,990      (3        5,987   

Trading liabilities

  190,572      (42   50      190,580   

Financial liabilities designated at fair value

  76,153      (6,317        69,836   

of which:

– term subordinated debt included in tier 2 capital

  m      21,822                21,822   

– hybrid capital securities included in tier 1 capital

  j      1,495                1,495   

Derivatives

  340,669      37      331      341,037   

Debt securities in issue

  95,947      (7,797   3,720      91,870   

Current tax liabilities

  1,213      (138   317      1,392   

Liabilities under insurance contracts

  73,861      (73,861          

Accruals, deferred income and other liabilities

  53,396      (3,659   5,145      54,882   

of which:

– retirement benefit liabilities

  3,208      (2   56      3,262   

– contingent liabilities and contractual commitments

  234                234   

of which:

– credit-related provisions on IRB portfolios

  i      132                132   

– credit-related provisions on standardised portfolios

  102                102   

Provisions

  4,998      (63        4,935   

Deferred tax liabilities

  1,524      (1,009   2      517   

Subordinated liabilities

  26,664           2,056      28,720   

of which:

– hybrid capital securities included in tier 1 capital

  j      2,761                2,761   

– perpetual subordinated debt included in tier 2 capital

  l      2,773                2,773   

– term subordinated debt included in tier 2 capital

  m      21,130                21,130   

 

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          At 31 December 2014  
    

Ref

 

   

    Accounting

balance
sheet

US$m

 

   

Deconsolidation

of insurance/

other entities
US$m

 

   

Consolidation

of banking

associates
US$m

 

   

    Regulatory

balance
sheet

US$m

 

 

Total shareholders’ equity

  a      190,447      (7,531        182,916   

of which:

– other equity instruments included in tier 1 capital

  c, j      11,532                11,532   

– preference share premium included in tier 1 capital

  b      1,405                1,405   

Non-controlling interests

  d      9,531      (851        8,680   

of which:

– non-cumulative preference shares issued by subsidiaries included in tier 1 capital

  e      2,127                2,127   

– non-controlling interests included in tier 2 capital, cumulative preferred stock

  f      300                300   

– non-controlling interests attributable to holders of ordinary shares in subsidiaries included in tier 2 capital

  f, m      173                173   

 

                        
                                                  

Total liabilities and equity at 31 December 2014

  2,634,139      (101,790   194,009      2,726,358   
          At 31 December 2013  
    Ref    

Accounting

balance

sheet

US$m

   

Deconsolidation

of insurance/

other entities
US$m

   

Consolidation

of banking

associates
US$m

   

Regulatory

balance

sheet

US$m

 

Assets

Trading assets

  303,192      32      1,686      304,910   

Loans and advances to customers

  1,080,304      (13,182   110,168      1,177,290   

of which:

– impairment allowances on IRB portfolios

  i      (9,476             (9,476

– impairment allowances on standardised portfolios

  k      (5,667        (2,465   (8,132

Financial investments

  425,925      (52,680   31,430      404,675   

Capital invested in insurance and other entities

       9,135           9,135   

Interests in associates and joint ventures

  16,640           (15,982   658   

of which:

– positive goodwill on acquisition

  h      608           (593   15   

Goodwill and intangible assets

  h      29,918      (5,369   631      25,180   

Other assets

  815,339      (37,634   57,477      835,182   

of which:

– goodwill and intangible assets of disposal groups held for sale

  h      3                3   

– retirement benefit assets

  g      2,140                2,140   

– impairment allowances on assets held for sale

  (111             (111

of which:

– IRB portfolios

  i                       

– standardised portfolios

  k      (111             (111
                               
       

Total assets at 31 December 2013

  2,671,318      (99,698   185,410      2,757,030   

Liabilities and equity

Deposits by banks

  129,212      (193   33,296      162,315   

Customer accounts

  1,482,812      (711   142,924      1,625,025   

Trading liabilities

  207,025      (129   161      207,057   

Financial liabilities designated at fair value

  89,084      (13,471        75,613   

of which:

– term subordinated debt included in tier 2 capital

  m      18,230                18,230   

– hybrid capital securities included in tier 1 capital

  j      3,685                3,685   

Debt securities in issue

  104,080      (9,692   1,021      95,409   

Retirement benefit liabilities

  g      2,931      (11   56      2,976   

Subordinated liabilities

  28,976      2      2,961      31,939   

of which:

– hybrid capital securities included in tier 1 capital

  j      2,873                2,873   

– perpetual subordinated debt included in tier 2 capital

  l      2,777                2,777   

– term subordinated debt included in tier 2 capital

  m      23,326                23,326   

Other liabilities

  436,739      (73,570   4,991      368,160   

of which:

– contingent liabilities and contractual commitments

  177                177   

of which:

– credit-related provisions on IRB portfolios

  i      155                155   

– credit-related provisions on standardised portfolios

  k      22                22   

 

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          At 31 December 2013  
    Ref    

    Accounting

balance

sheet
US$m

   

Deconsolidation

of insurance/

other entities
US$m

   

Consolidation

of banking

associates
US$m

   

    Regulatory

balance

sheet
US$m

 

Total shareholders’ equity

  a      181,871      (1,166        180,705   

of which:

– other equity instruments included in tier 1 capital

  c, j      5,851                5,851   

– preference share premium included in tier 1 capital

  b      1,405                1,405   

Non-controlling interests

  d      8,588      (757        7,831   

of which:

– non-cumulative preference shares issued by subsidiaries included in tier 1 capital

  e      2,388                2,388   

– non-controlling interests included in tier 2 capital, cumulative preferred stock

  f      300                300   

– non-controlling interests attributable to holders of ordinary shares in subsidiaries included in tier 2 capital

 
 
f,
m
  
  
  188                188   

 

                        
                                                  

Total liabilities and equity at 31 December 2013

  2,671,318      (99,698   185,410      2,757,030   

The references (a) – (n) identify balance sheet components which are used in the calculation of regulatory capital on page 246.

Leverage ratio

(Unaudited)

For a detailed basis of preparation of the leverage ratio, see the Appendix to Capital, page 261.

Estimated leverage ratio

(Unaudited)

 

   

EU Delegated Act
basis at

31 Dec 2014
US$bn

   

Basel III 2010
basis at

31 Dec 2013
US$bn

 

Total assets per accounting balance sheet

  2,634      2,671   

Deconsolidation of insurance/other entities

  (104

Capital invested in insurance entities

  2   

Consolidation of banking associates

  194         

Total assets per regulatory/accounting balance sheet

  2,726      2,671   

Adjustment to reverse netting of loans and deposits allowable under IFRS

  38      93   

Reversal of accounting values:

  (525   (482

Derivatives

  (345   (282

Repurchase agreement and securities finance

  (180   (200

Replaced with values after applying regulatory rules:

Derivatives:

  166      239   

Mark-to-market value

  81      69   

Deductions of receivables assets for cash variation margin

  (82  

Add-on amounts for potential future exposure

  148      170   

Exposure amount resulting from the additional treatment for written credit derivatives

  19         

Repurchase agreement and securities finance:

  188      147   

Gross securities financing transactions assets

  269         

Netted amounts of cash payables and cash receivables of gross securities financing transactions assets

  (89  

Securities financing transactions assets netted under Basel III 2010 framework

    147   

Measurement of counterparty risk

  8         

Addition of off balance sheet commitments and guarantees:

  396      388   

Guarantees and contingent liabilities

  67      85   

Commitments

  321      295   

Other

  8      8   

Exclusion of items already deducted from the capital measure

  (36   (28

Exposure measure after regulatory adjustments

  2,953      3,028   

Tier 1 capital under CRD IV (end point)

  142      133   

Estimated leverage ratio (end point)

  4.8%      4.4%   

 

In January 2014, the Basel Committee published its finalised leverage ratio framework, along with public disclosure requirements applicable from 1 January 2015, updating its 2010 recommendations.

 

In June 2014, the PRA published its revised expectations in relation to the leverage ratio for major UK banks and building societies, namely that from 1 July 2014, we are expected to meet a 3% end point tier 1 leverage ratio,

 

 

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calculated using the CRD IV definition of capital for the numerator and the Basel 2014 exposure measure for the denominator.

In October 2014, the European Commission adopted a delegated act to establish a common definition of the leverage ratio for EU banks (based on the Basel revised definition). This was published in the EU’s Official Journal in January 2015.

Under CRD IV, the legislative proposals and final calibration of the leverage ratio are expected to be determined following a review of the revised Basel proposals and the basis of the EBA’s assessment of the impact and effectiveness of the leverage ratio during a monitoring period between 1 January 2014 and 30 June 2016.

In January 2015, the PRA issued a letter setting out the approach to be taken for calculating the leverage ratio for 2014 year end disclosures. While the numerator continues to be calculated using the final CRD IV end point tier 1 capital definition, the exposure measure is now calculated based on the EU delegated act (rather than the Basel 2014 definition used in the Interim Report 2014). Reporting on the basis of the EU Delegated Act (rather than the Basel 2014 definition) results in an immaterial 2bps positive difference.

Our leverage ratio for 2013 as disclosed above and in our Annual Report and Accounts 2013 was based on the Basel 2010 text at the direction of the PRA. The change to reporting on the EU Delegated Act from the Basel 2010 text contributes a US$115bn increase in the exposure measure. Key changes include:

 

  A change to the regulatory scope of consolidation increases the exposure measure by US$132bn.

 

  The netting of securities financing transactions (SFTs) is based on the accounting criteria and an additional add-on for counterparty risk increases the exposure measure by US$66bn.

 

  The inclusion of written credit derivatives at a notional amount increases the exposure measure by US$23bn.

 

  Revision to permit the offsetting of cash variation margin against derivative assets and liabilities results in a decrease in the exposure measure of US$65bn.

 

  A change to the Credit Conversion Factors (CCFs) applied to off-balance sheet exposures decreases the exposure measure by US$41bn.

For further details on the basis of preparation, see page 261.

It should be noted that the UK specific leverage ratio proposals published in October 2014 by the Financial Policy Committee (‘FPC’) are conceptually different to the Basel and CRD IV leverage frameworks and are not yet in place. Further details of the UK proposals can be found under ‘Leverage ratio proposals’ on page 255.

Regulatory developments

(Unaudited)

Regulatory capital buffers

CRD IV establishes a number of capital buffers, to be met with CET1 capital, broadly aligned with the Basel III framework. CRD IV contemplates that these will be phased in from 1 January 2016, subject to national discretion.

Automatic restrictions on capital distributions apply if a bank’s CET1 capital falls below the level of its CRD IV combined buffer. This is defined as the total of the capital conservation buffer (‘CCB’), the countercyclical capital buffer (‘CCyB’), the global systemically important institutions (‘G-SII’s) buffer and the systemic risk buffer (‘SRB’) as these become applicable. The PRA have proposed that the use of the PRA buffer will not result in automatic restrictions on capital distributions.

In April 2014, HM Treasury published the statutory instrument ‘Capital Requirements (Capital Buffers and Macro-Prudential Measures) Regulations 2014’ transposing into UK legislation the main provisions in CRD IV related to capital buffers, with the exception of the SRB. In January 2015, HM Treasury published amendments to this statutory instrument in order to transpose the SRB.

The PRA is the designated authority for the G-SIIs buffer, the other systemically important institutions (‘O-SII’s) buffer and the CCB. In April 2014, they published rules and supervisory statements implementing the main CRD IV provisions in relation to these buffers. The Bank of England is the designated authority for the CCyB and other macro prudential measures. Whilst the PRA is the designated authority for applying and determining the SRB, the FPC is responsible for creating the SRB framework for calibration.

G-SII buffer

The G-SII buffer (which is the EU implementation of the Basel G-SIB buffer) is to be met with CET1 capital and will be phased in from 1 January 2016. In October 2014, finalised technical standards on the methodology for identification of G-SIIs were published in the EU’s Official Journal and came into effect from 1 January 2015.

In November 2014, the FSB and the Basel Committee updated the list of G-SIBs, using end-2013 data. The add-on of 2.5% previously assigned to HSBC was left unchanged.

Following direction from the PRA to UK banks in its Supervisory Statement issued in April 2014, and in accordance with the EBA final draft Implementing Technical Standards (‘ITS’) and guidelines published in June 2014, we published the EBA template in July 2014. This disclosed the information used for the identification and scoring process which underpins our G-SIB designation. The final ITS for disclosure requirements were published in September 2014, and will form the basis of our future 2015 disclosure of G-SII indicators.

 

 

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Capital conservation buffer

The CCB was designed to ensure banks build up capital outside periods of stress that can be drawn down when losses are incurred and is set at 2.5% of RWAs. The PRA will phase-in this buffer from 1 January 2016 to 1 January 2019.

Countercyclical and other macro-prudential buffers

CRD IV contemplates a countercyclical buffer in line with Basel III, in the form of an institution-specific CCyB and the application of increased requirements to address macro-prudential or systemic risk.

In January 2014, the FPC issued a policy statement on its powers to supplement capital requirements, through the use of the CCyB and the Sectoral Capital Requirements (‘SCR’) tools. The CCyB is expected to be set in the range of 0-2.5% of relevant credit exposures RWAs, although it is uncapped. Under UK legislation, the FPC is required to determine whether to recognise any CCyB rates set by other EEA countries before 2016.

In June 2014, the FPC set the CCyB rate for UK exposures at 0%. At its September 2014 meeting, the FPC left the CCyB rate for UK exposures unchanged at 0% and recognised the 1% CCyB rates introduced by Norway and Sweden to become effective from 3 October 2015. In January 2015, the HKMA announced the application of a CCyB rate of 0.625% to Hong Kong exposures, to apply from 1 January 2016. In accordance with UK legislation and PRA supervisory statement PS 3/14, this rate will directly apply to the calculation of our institution-specific CCyB rate from 1 January 2016.

The institution-specific CCyB rate for the Group will be based on the weighted average of the CCyB rates that apply in the jurisdictions where relevant credit exposures are located. Currently the Group’s institution specific CCyB is zero. The SCR tool is not currently deployed in the UK.

Systemic risk buffer

In addition to the measures above, CRD IV sets out an SRB for the financial sector as a whole, or one or more sub-sectors, to be deployed as necessary by each EU member state with a view to mitigating structural macro-prudential risk.

In January 2015, the legislative changes necessary to transpose the SRB were implemented. The SRB is to be applied to ring fenced banks and building societies (over a certain threshold), which are together defined as ‘SRB institutions’. The SRB can be applied on an individual, sub-consolidated or consolidated basis and is applicable from 1 January 2019. By 31 May 2016, the FPC is required to create a framework for identifying the extent to which the failure or distress of SRB institutions will pose certain long-term non-cyclical systemic or macro-prudential risks. The PRA will apply this framework to determine whether specific SRB institutions would be subject to an SRB rate, and the level at which the buffer would be applied, and is able to exercise supervisory

judgement to determine what the rate should be. Where applicable, the buffer rate must be set in the range of 1% to 3%. The buffer rate would apply to all the SRB institution’s exposures unless the PRA has recognised a buffer rate set in another member state. If the SRB is applied on a consolidated basis it is expected that the higher of the G-SII or SRB would apply, in accordance with CRD IV.

Pillar 2 and the ‘PRA buffer’

Under the Pillar 2 framework, banks are already required to hold capital in respect of the internal capital adequacy assessment and supervisory review which leads to a final determination by the PRA of individual capital guidance under Pillar 2A and Pillar 2B. Pillar 2A was previously met by total capital, but since 1 January 2015, in accordance with the PRA supervisory statement SS 5/13, is met with at least 56% CET1.

Pillar 2A guidance is a point in time assessment of the amount of capital the PRA considers that a bank should hold to meet the overall financial adequacy rule. It is therefore subject to change pending annual assessment and the supervisory review process. During 2014, the Group Pillar 2A guidance amounted to 1.5% of RWAs, of which 0.9% was to be met by CET1. In February 2015, this was revised to 2.0% of RWAs, of which 1.1% is to be met by CET1 and is effective immediately.

In January 2015, the PRA published a consultation on the Pillar 2 Framework. This set out the methodologies that the PRA proposed to use to inform its setting of firms’ Pillar 2 capital requirements, including proposing new approaches for determining Pillar 2 requirements for credit risk, operational risk, credit concentration risk and pension obligation risk.

As part of CRD IV implementation, the PRA proposed to introduce a PRA buffer, to replace the capital planning buffer (‘CPB’) (known as Pillar 2B), also to be held in the form of CET1 capital. This was reconfirmed in the recent PRA consultation on the Pillar 2 framework. It is proposed that a PRA buffer will avoid duplication with CRD IV buffers and will be set for a particular firm depending on its vulnerability in a stress scenario or where the PRA has identified risk management and governance failings. In order to address weaknesses in risk management and governance, the PRA propose a scalar applied to firms’ CET1 Pillar 1 and Pillar 2A capital requirements. Where the PRA considers there is overlap between the CRD IV buffers and the PRA buffer assessment, the PRA proposes to set the PRA buffer as the excess capital required over and above the CCB and relevant systemic buffers. The PRA buffer will, however, be in addition to the CCyB and sectoral capital requirements.

The PRA expects to finalise the Pillar 2 framework in July 2015, with implementation expected from 1 January 2016. Until this consultation is finalised and revised rules and guidance issued, there remains uncertainty as to the exact buffer rate requirements, and their ultimate capital impact.

 

 

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Overall capital requirements

Following the developments outlined above, details are beginning to emerge of the various elements of the capital requirements framework. However, there remains residual uncertainty as to what HSBC’s precise end point CET1 capital requirement will be. Elements of the capital requirements that are known or quantified to date are set out in the diagram below. Time-varying elements such as the macro-prudential tools, the Pillar 2 requirements, and systemic buffers are subject to change.

Capital requirements framework (end point)

 

LOGO

In addition to the capital requirements tabulated above, we will need to consider the effect of FSB proposals published in November 2014 in relation to total loss absorbing capacity (‘TLAC’) requirements. For further details, see page 256.

Regulatory stress testing

The Group is subject to supervisory stress testing in many jurisdictions. These supervisory requirements are increasing in frequency and in the granularity with which results are required. As such, stress testing represents a key focus for the Group.

In October 2013, the Bank of England published an initial discussion paper ‘A framework for stress testing the UK banking system’. The framework replaces the current stress testing for the capital planning buffer with annual concurrent stress tests, the results of which are expected to inform the setting of the PRA buffer, the CCyB, sectoral capital requirements and other FPC recommendations to the PRA. In April 2014, the Bank of England published details of the UK stress testing exercise, which the Group subsequently participated in. The results of this exercise were published in December 2014.

Throughout 2014, the Group participated in various stress testing exercises in a number of different jurisdictions. For further details on all stress testing exercises, see page 122.

RWA developments

Throughout 2014, regulators issued a series of recommendations and consultations designed to revise the various components of the RWA regime and increase related reporting and disclosures.

UK

In March 2014, the FPC published that it was minded to recommend that firms report and disclose capital ratios using the standardised approach to credit risk as soon as practicable in 2015 following a Basel review of the standardised approach.

In June 2014, the PRA issued its consultation CP12/14, which proposed changes to the credit risk rules in two areas. Firstly, a proposal that exposures on the advanced internal ratings-based (‘AIRB’) approach for central governments, public sector entities, central banks and financial sector entities would be moved to the foundation approach from June 2015. Secondly, a proposal to introduce stricter criteria for the application of the standardised risk weight for certain commercial real estate (‘CRE’) exposures located in non-EEA countries, which would be dependent upon loss rates in these jurisdictions over a representative period. In October, the PRA published a policy statement (‘PS 10/14’) containing final rules on the second proposal, which introduces more stringent criteria for the application of risk weights to non-EEA CRE exposures from April 2015.

EU

In May 2014, the EBA published a consultation on benchmarks of internal approaches for calculating own funds requirements for credit and market risk exposures in RWAs. This follows a series of benchmarking exercises run in 2013 to better understand the drivers of differences observed in RWAs across EU institutions. The future annual benchmarking exercise outlined in the consultation paper aims to improve the comparability of capital requirements calculated using internal modelled approaches and will be used by regulators to inform their policy decisions.

In June 2014, the EBA published a consultation on thresholds for the application of the standardised approach for exposures treated under permanent partial use and the IRB roll-out plan. The finalised Regulatory Technical Standards (‘RTS’) is yet to be published.

In December 2014, the list of non-EEA countries deemed to have equivalent regulatory regimes for CRD IV purposes was published in the EU’s Official Journal, and became effective on 1 January 2015. This equivalence evaluation affects the treatment of exposures across

 

 

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a number of different areas in CRD IV, such as the treatment of exposures to third country investment firms, credit institutions and exchanges; standardised risk weights applicable to exposures to central governments, central banks, regional governments, local authorities and public sector entities; and the calculation of RWAs for exposures to corporates, institutions, central governments and central banks under the IRB approach.

International

Throughout 2014, the Basel Committee published proposals across all Pillar 1 risk types, to update standardised, non-modelled approaches for calculating capital requirements and to provide the basis for the application of a capital floor.

In particular, in March 2014, the Basel Committee published finalised proposals for the standardised approach for calculating counterparty credit risk exposures for OTC derivatives, exchange traded derivatives and long settlement transactions. Following this, another technical paper on the foundations of the new standard was published in August 2014. The new approach is proposed to replace both the current exposure measure and the standardised method and is expected to come into effect on 1 January 2017.

In October 2014, the Basel Committee also published a consultation and a Quantitative Impact Study (‘QIS’) to revise the standardised approach for calculating operational risk. The proposals seek to establish a new unitary standardised approach to replace the current non-model-based approaches, which comprise the basic indicator approach and the standardised approach, including its variant the alternative standardised approach. An implementation date is yet to be proposed.

In December 2014, the Basel Committee undertook a further consultation on its fundamental review of the trading book. This included revisions to the market risk framework that was published for consultation in October 2013. The Committee intends to carry out a further QIS in early 2015 to inform finalised proposals expected at the end of 2015.

In December 2014, the Basel Committee published a revised framework for securitisation risk, which will come into effect on 1 January 2018.

In December 2014, the Basel Committee also published a consultation paper on revisions to the Standardised Approach for credit risk. Proposals include a reduced reliance on external credit ratings; increased granularity and risk sensitivity; and updated risk weight calibrations. Proposed calibration for risk weights are indicative only and will be further informed by responses from this consultation and results from a QIS.

Additionally, in December 2014, the Basel Committee published a consultation on the design of a capital floor framework, which will replace the Basel I floor. The calibration of the floor is, however, outside the scope of this consultation. The Committee has stated its intention

to publish final proposals including calibration and implementation timelines by the end of 2015.

All finalised Basel Committee proposals for standardised approaches for calculating risk requirements and the introduction of a revised capital floor would need to be transposed into EU requirements before coming into legal effect.

Leverage ratio proposals

In October 2014, the FPC published final recommendations on the design of a UK specific leverage ratio framework and calibration. This followed an earlier FPC consultation in July 2014 on the design of the framework. The FPC finalised recommendations included a minimum leverage ratio of 3% to be implemented as soon as practicable for UK G-SIBs and major UK banks and building societies, a supplementary leverage ratio buffer applied to systemically important firms of 35% of the relevant risk-weighted systemic risk buffer rates, and a further countercyclical leverage ratio buffer (‘CCLB’) of 35% of the relevant risk-weighted CCyB. The minimum leverage ratio is to be met 75% with CET1 and 25% with AT1, and both the supplementary leverage ratio buffer and CCLB are to be met 100% with CET1. The FPC recommended that HM Treasury provide the FPC with the necessary powers to direct the PRA to set leverage ratio requirements implementing the above mentioned calibration and framework.

HM Treasury published a consultation paper in November 2014, which responded to and agreed with the FPC recommendations in relation to the design of the leverage ratio framework. Specifically, HM Treasury agreed that the FPC should be granted powers to direct the PRA on a minimum requirement, additional leverage ratio buffer (for G-SIBs, major UK banks and building societies, including ring fenced banks) and a CCLB. HM Treasury did not, however, provide any views on the calibration. The consultation paper included legislative changes to provide the FPC with new powers. In February 2015, HM Treasury published a summary of responses, alongside the draft instrument which was laid before Parliament.

Banking structural reform and recovery and resolution planning

In the EU, the Bank Recovery and Resolution Directive (‘BRRD’) was finalised and published in June 2014. This came into effect from 1 January 2015, with the option to delay implementation of bail-in provisions until 1 January 2016. Regardless of this, the UK introduced bail-in powers from 1 January 2015. The UK transposition of the BRRD builds on the resolution framework already in place in the UK. In January 2015, the PRA published a policy statement containing updated requirements for recovery and resolution planning which revises PRA rules that have been in force since 1 January 2014. In addition, the EBA has produced a number of RTS, some of which are yet to be finalised, that will further inform the BRRD requirements.

 

 

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In December 2013, the UK’s Financial Services (Banking Reform) Act 2013 received royal assent, which implements ring-fencing recommendations of the ICB. This has been supplemented through secondary legislation which was finalised in July 2014. In October 2014, the PRA published a consultation paper on ring-fencing rules. The PRA intends to undertake further consultation and finalise ring-fencing rules in due course, with implementation by 1 January 2019.

In January 2014, the European Commission also published legislative proposals on ring-fencing trading activities from deposit taking and a prohibition on proprietary trading in financial instruments and commodities. This is currently under discussion in the European Parliament and the Council.

For further details of the policy background and the Group’s approach to recovery and resolution planning, see page 14.

Total loss absorbing capacity proposals

In November 2014, as part of the ‘too big to fail’ agenda, the FSB published proposals for total loss absorbing capacity (‘TLAC’) for G-SIBs.

The FSB proposals include a minimum TLAC requirement in the range of 16-20% of RWAs and a TLAC leverage ratio of at least twice the Basel III tier 1 leverage ratio. The TLAC requirement is to be applied in accordance with individual resolution strategies, as determined by the G-SIB’s crisis management group. A QIS is currently underway, the results of which will inform finalised proposals. The conformance period for the TLAC requirement will also be influenced by the QIS, but will not be before 1 January 2019. Once finalised, it is expected that any new TLAC standard should be met alongside the Basel III minimum capital requirements.

The draft proposals require G-SIBs to be subject to a minimum TLAC requirement with the precise requirement to be informed by the QIS. There are a number of requirements relating to the types of liabilities which can be used to meet the TLAC requirement, the composition of TLAC, and the location of liabilities within a banking group, in accordance with its resolution strategy. The TLAC proposals are expected to be finalised in 2015 and will then need to be implemented into national legislation.

Other regulatory updates

In January 2015, the EBA published revised final draft RTS on prudent valuation. Finalised requirements will need to be adopted by the European Commission and published in the EU’s Official Journal before coming into effect.

In June 2014, the EBA and Basel Committee each issued a consultation on the Pillar 3 disclosures. The final EBA guidelines were issued in December 2014 and entail additional process and governance around the Pillar 3 report, as well as semi-annual or quarterly disclosure of key capital, ratio, RWA, leverage and risk model information, exceeding the scope of our current interim disclosures. The guidelines are subject to implementation by national supervisors and are expected to enter into force in 2015.

The final Basel standards on ‘Revised Pillar 3 disclosure requirements’ were issued in January 2015. They mandate extensive use of standardised templates to enhance comparability between banks’ disclosures as well as requiring a considerable volume of disclosures to be produced semi-annually, rather than annually as hitherto. The revised framework calls for disclosure at the latest from 2016 year-ends, concurrently with financial reports.

 

 

Footnotes to Capital

 

  1 Operational risk RWAs, under the standardised approach, are calculated using an average of the last three years’ revenues. For business disposals, the operational risk RWAs are not removed immediately on disposal, but diminish over a period of time. The RWAs for the CRS business represent the remaining operational risk RWAs for the business.
  2 RWAs are non-additive across geographical regions due to market risk diversification effects within the Group.
  3 From 1 January 2014, the geographical region ‘Asia’ replaced the geographical regions previously reported as ‘Hong Kong’ and ‘Rest of Asia-Pacific’ (see Note 23 on the Financial Statements for further details). Comparative data have been re-presented to reflect this change.
  4 CRD IV opening balances as at December 2013 were estimated based on the Group’s interpretation of final CRD IV legislation and final rules issued by the PRA, details of which can be found in the basis of preparation on page 324 of the Annual Report and Accounts 2013.
  5 This includes dividends on ordinary shares, quarterly dividends on preference shares and coupons on capital securities, classified as equity.
  6 Includes externally verified profits for the year to 31 December 2014.
  7 Mainly comprise unrealised gains/losses in available-for-sale debt securities related to SPEs.
  8 Unrealised gains/losses in available-for-sale securities are net of tax.
  9 Includes own credit spread on trading liabilities.
10 Under Basel 2.5 rules, any defined benefit asset is derecognised and a defined benefit liability may be substituted with the additional funding that will be paid into the relevant schemes over the following five-year period.
11 Mainly comprise investments in insurance entities.

 

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Appendix to Capital

Capital management

(Audited)

Approach and policy

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. Pre-tax return on risk-weighted assets (‘RoRWA’) is an operational metric by which the global businesses are managed on a day-to-day basis. The metric combines return on equity and regulatory capital efficiency objectives. It is our objective to maintain a strong capital base to support the risks inherent in our business and invest in accordance with our six filters framework, exceeding both consolidated and local regulatory capital requirements at all times.

Our policy on capital management is underpinned by a capital management framework which enables us to manage our capital in a consistent manner. The framework, which is approved by the GMB annually, incorporates a number of different capital measures including market capitalisation, invested capital, economic capital and regulatory capital. Given that CRD IV has been in effect since 1 January 2014, during 2014 we managed our internal capital ratio target on an end point CRD IV CET1 basis of greater than 10%. We have since reviewed this and in 2015 expect to manage group capital to meet a medium-term target for return on equity of more than 10%. This is modelled on CET1 ratio on an end point basis in the range of 12% to 13%.

 

 

Capital measures

 

•  market capitalisation is the stock market value of HSBC;

 

•  invested capital is the equity capital invested in HSBC by our shareholders, adjusted for certain reserves and goodwill previously amortised or written off;

 

•  economic capital is the internally calculated capital requirement which we deem necessary to support the risks to which we are exposed; and

 

•  regulatory capital is the capital which we are required to hold in accordance with the rules established by the PRA for the consolidated Group and by our local regulators for individual Group companies.

 

Our assessment of capital adequacy is aligned to our assessment of risks, including: credit, market, operational, interest rate risk in the banking book, pensions, insurance, structural foreign exchange risk and residual risks.

Stress testing

In addition to our internal stress tests, the Group is subject to supervisory stress testing in many jurisdictions. Supervisory requirements are increasing in frequency and in the granularity with which the results are required. These exercises include the programmes of the PRA, the FRB, the EBA, the ECB and the HKMA, as well as stress tests undertaken in other jurisdictions. We take into account the results of all such regulatory stress testing when assessing our internal capital requirements.

Risks to capital

Outside the stress-testing framework, a list of top and emerging risks is regularly evaluated for their effect on our CET1 capital ratio. In addition, other risks may be identified which have the potential to affect our 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 responsibility for global capital allocation principles and decisions rests with the GMB. Through our internal governance processes, we seek to maintain discipline over our investment and capital allocation decisions and seek to ensure that returns on investment meet the Group’s management objectives. Our strategy is to allocate capital to businesses and entities on the basis of their ability to achieve established RoRWA objectives and their regulatory and economic capital requirements.

Risk-weighted asset targets

RWA targets for our global businesses are established in accordance with the Group’s strategic direction and risk appetite, and approved through the Group’s annual planning process. As these targets are deployed to lower levels of management, action plans for implementation are developed. These may include growth strategies; active portfolio management; restructuring; business and/or customer-level reviews; RWA accuracy and allocation initiatives and risk mitigation. Our capital management process is articulated in the annual Group capital plan which forms part of the Annual Operating Plan that is approved by the Board.

Business performance against RWA targets is monitored through regular reporting to the Group ALCO. The management of capital deductions is also addressed in the RWA monitoring framework through additional notional charges for these items.

 

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Analysis is undertaken within the RWA monitoring framework to identify the key drivers of movements in the position, such as book size and book quality. Particular attention is paid to identifying and segmenting items within the day-to-day control of the business and those items that are driven by changes in risk models or regulatory methodology.

Capital generation

HSBC Holdings is the primary provider of equity capital to its subsidiaries and also provides them with non-equity capital where necessary. These investments are substantially funded by HSBC Holdings’ own capital issuance and profit retention. As part of its capital management process, HSBC Holdings seeks to maintain a prudent balance between the composition of its capital and its investment in subsidiaries.

 

 

Capital measurement and allocation

(Unaudited)

The PRA supervises HSBC on a consolidated basis and therefore receives information on the capital adequacy of, and sets capital requirements for, the Group as a whole. Individual banking subsidiaries are directly regulated by their local banking supervisors, who set and monitor their capital adequacy requirements. In 2013, we calculated capital at a Group level using the Basel II framework as amended for CRD III, commonly known as Basel 2.5, and also estimated capital on an end point CRD IV basis. From 1 January 2014, our capital at Group level is calculated under CRD IV and supplemented by PRA rules to effect the transposition of directive requirements.

Our policy and practice in capital measurement and allocation at Group level is underpinned by the CRD IV rules. However, local regulators are at different stages of implementation and some local reporting is still on a Basel I basis, notably in the US for the reporting of RWAs for some institutions during 2014. In most jurisdictions, non-banking financial subsidiaries are also subject to the supervision and capital requirements of local regulatory authorities.

The Basel III framework, similarly to Basel II, is structured around three ‘pillars’: minimum capital requirements, supervisory review process and market discipline. 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. The CRD IV and PRA legislation came into force on 1 January 2014.

Regulatory capital

For regulatory purposes, our capital base is divided into three main categories, namely common equity tier 1, additional tier 1 and tier 2, depending on their characteristics.

 

  Common equity tier 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, holdings of capital securities of financial sector entities and surplus defined benefit pension fund assets.
  Additional tier 1 capital comprises eligible non-common equity capital securities and any related share premium; it also includes qualifying securities issued by subsidiaries subject to certain limits. Holdings of additional tier 1 securities of financial sector entities are deducted.
  Tier 2 capital comprises eligible capital securities and any related share premium and qualifying tier 2 capital securities issued by subsidiaries subject to limits. Holdings of tier 2 capital securities of financial sector entities are deducted.

Pillar 1 capital requirements

Pillar 1 covers the capital resources requirements for credit risk, market risk and operational risk. Credit risk includes counterparty credit risk and securitisation requirements. These requirements are expressed in terms of RWAs.

Credit risk capital requirements

CRD IV applies three approaches of increasing sophistication to the calculation of Pillar 1 credit risk capital requirements. The most basic, the standardised approach, requires banks to use external credit ratings to determine the risk weightings applied to rated counterparties. Other counterparties are grouped into broad categories and standardised risk weightings are applied to these categories. The next level, the internal ratings-based (‘IRB’) foundation approach, allows banks to calculate their credit risk capital requirements on the basis of their internal assessment of a counterparty’s probability of default (‘PD’), but their estimates of exposure at default (‘EAD’) and loss given default (‘LGD’) are subject to standard supervisory parameters. Finally, the IRB advanced approach allows banks to use their own internal assessment in both determining PD and quantifying EAD and LGD.

The capital resources requirement, which is intended to cover unexpected losses, is derived from a formula specified in the regulatory rules which incorporates PD, LGD, EAD and other variables such as maturity and correlation. Expected losses under the IRB approaches are calculated by multiplying PD by EAD and LGD. Expected losses are deducted from capital to the extent that they exceed total accounting impairment allowances.

 

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For credit risk we have adopted the IRB advanced approach for the majority of our portfolios, with the remainder on either IRB foundation or standardised approaches.

Under our CRD IV rollout plans, a number of our Group companies and portfolios are in transition to advanced IRB approaches. At the end of 2014, global models for sovereigns, banks, large corporates and portfolios in most of Europe, Asia and North America were on advanced IRB approaches. Others remain on the standardised or foundation approaches pending definition of local regulations or model approval, or under exemptions from IRB treatment. In some instances, regulators have allowed us to transition from advanced to standardised approaches for a limited number of portfolios.

 

  Counterparty credit risk

Counterparty credit risk (‘CCR’) arises for OTC derivatives and securities financing transactions. It is calculated in both the trading and non-trading books and is the risk that the counterparty to a transaction may default before completing the satisfactory settlement of the transaction. Three approaches to calculating CCR and determining exposure values are defined by CRD IV: standardised, mark-to-market and internal model method. These exposure values are used to determine capital requirements under one of the credit risk approaches: standardised, IRB foundation and IRB advanced.

We use the mark-to-market and internal model method approaches for CCR. Our longer-term aim is to migrate more positions from the mark-to-market to the internal model method approach.

In addition, CRD IV applies a capital requirement for CVA risk. Where we have both specific risk VaR approval and internal model method approval for a product, the CVA VaR approach has been used to calculate the CVA capital charge. Where we do not hold both approvals, the standardised approach has been applied.

 

  Securitisation

Securitisation positions are held in both the trading and non-trading books. For non-trading book securitisation positions, CRD IV specifies two methods for calculating credit risk requirements, the standardised and the IRB approaches. Both rely on the mapping of rating agency credit ratings to risk weights, which range from 7% to 1,250%.

Within the IRB approach, we use the ratings-based method for the majority of our non-trading book securitisation positions, and the internal assessment approach for unrated liquidity facilities and programme-wide enhancements for asset-backed securitisations.

The majority of securitisation positions in the trading book are treated for capital purposes as if they are held in the non-trading book under the standardised or IRB approaches. Other traded securitisation positions, known as correlation trading, are treated under an internal model approach approved by the PRA.

Market risk capital requirement

The market risk capital requirement is measured using internal market risk models where approved by the PRA, or the standard rules of the EU Capital Requirement Regulation. Our internal market risk models comprise VaR, stressed VaR and the incremental risk charge. Since the sale of our correlation portfolio in September 2014, there is no market risk capital requirement associated with the comprehensive risk measure.

Operational risk capital requirement

CRD IV includes a capital requirement for operational risk, again utilising three levels of sophistication. The capital required under the basic indicator approach is a simple percentage of gross revenues, whereas under the standardised approach it is one of three different percentages of total operating income less insurance premiums allocated to each of eight defined business lines. Both these approaches use an average of the last three financial years’ revenues. Finally, the advanced measurement approach uses banks’ own statistical analysis and modelling of operational risk data to determine capital requirements. We have adopted the standardised approach in determining our operational risk capital requirements.

Pillar 2 capital requirements

We conduct an internal capital adequacy assessment process (‘ICAAP’) to determine a forward looking assessment of our capital requirements given our business strategy, risk profile, risk appetite and capital plan. This process incorporates the Group’s risk management processes and governance framework. A range of stress tests are applied to our base capital plan. These, coupled with our economic capital framework and other risk management practices, are used to assess our internal capital adequacy requirements.

The ICAAP is examined by the PRA as part of its supervisory review and evaluation process, which occurs periodically to enable the regulator to define the individual capital guidance or minimum capital requirements for HSBC and our capital planning buffer where required.

 

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Pillar 3 disclosure requirements

Pillar 3 of the Basel regulatory framework is related to market discipline and aims to make firms more transparent by requiring them to publish, at least annually, wide-ranging information on their risks and capital, and how these are managed. Our Pillar 3 Disclosures 2014 are published on our website, www.hsbc.com, under Investor Relations.

 

 

RWA movement by key driver – basis of preparation and supporting notes

(Unaudited)

Credit risk drivers – definitions and quantification

The causal analysis of RWA movements splits the total movement in IRB RWAs into six drivers, described below. The first four relate to specific, identifiable and measurable changes. The remaining two, book size and book quality, are derived after accounting for movements in the first four specific drivers.

1. Foreign exchange movements

This is the movement in RWAs as a result of changes in the exchange rate between the functional currency of the HSBC company owning each portfolio and US dollars, being our presentation currency for consolidated reporting. Our structural foreign exchange exposures are managed with the primary objective of ensuring, where practical, that our consolidated capital ratios and the capital ratios of individual banking subsidiaries are largely protected from the effect of changes in exchange rates. This is usually achieved by ensuring that, for each subsidiary bank, the ratio of structural exposures in a given currency to risk-weighted assets denominated in that currency is broadly equal to the capital ratio of the subsidiary in question. We hedge structural foreign exchange exposures only in limited circumstances.

2. Acquisitions and disposals

This is the movement in RWAs as a result of the disposal or acquisition of business operations. This can be whole businesses or parts of a business. The movement in RWAs is quantified based on the credit risk exposures as at the end of the month preceding a disposal or following an acquisition.

3. Model updates

New/updated models

RWA movements arising from the implementation of new models and from changes to existing parameter models are allocated to this driver. This figure will also include changes which arise following review of modelling assumptions. Where a model recalibration reflects an update to more recent performance data, the resulting RWA changes are not assigned here, but instead reported under book quality.

RWA changes are estimated based on the impact assessments made in the testing phase prior to implementation. These values are used to simulate the effect of new or updated models on the portfolio at the point of implementation, assuming there were no major changes in the portfolio from the testing phase to implementation phase.

Portfolios moving onto IRB approach

Where a portfolio moves from the standardised approach to the IRB approach, the RWA movement by key driver statement shows the increase in IRB RWAs, but does not show the corresponding reduction in standardised approach RWAs as its scope is limited to IRB only.

The movement in RWAs is quantified at the date at which the IRB approach is applied, and not during the testing phase as with a new/updated model.

4. Methodology and policy

Internal regulatory updates

This captures the effect on RWAs of changing the internal treatment of exposures. This may include, but is not limited to, a portfolio or a part of one moving from an existing IRB model onto a standardised model, identification of netting and credit risk mitigation.

External regulatory updates

This specifies the effect of additional or changing regulatory requirements. This includes, but is not limited to, regulatory-prescribed changes to the RWA calculation. The movement in RWAs is quantified by comparing the RWAs calculated for that portfolio under the old and the new requirements.

5. Book size

RWA movements attributed to this driver are those we would expect to experience for the given movement in exposure, as measured by EAD, assuming a stable risk profile. These RWA movements arise in the normal course of business, such as growth in credit exposures or reduction in book size from run-offs and write-offs.

 

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The RWA movement is quantified as follows:

 

  RWA and EAD changes captured in the four drivers above are excluded from the total movements to create an adjusted movement in EAD and RWA for the period.

 

  The average RWA to EAD percentage is calculated for the opening position and is applied to the adjusted movement in EAD. This results in an estimated book size RWA movement based on the assumption that the EAD to RWA percentage is constant throughout the period.

As the calculation relies on averaging, the output is dependent upon the degree of portfolio aggregation and the number of discrete time periods for which the calculation is undertaken. For each quarter of 2014 this calculation was performed for each HSBC company with an IRB portfolio by global businesses, split by the main Basel categories of credit exposures, as described in the table below:

 

 

Basel categories of IRB credit exposures within HSBC

 

Central governments and central banks    Corporate foundation IRB    Qualifying revolving retail exposures
Institutions    Other advanced IRB    Retail SME
Corporate advanced IRB    Retail mortgages    Other retail

The total of the results is shown in book size within the RWA movement by key driver table.

6. Book quality

This represents RWA movements resulting from changes in the underlying credit quality of customers. These are caused by changes to IRB risk parameters which arise from actions such as, but not limited to, model recalibration, change in counterparty external rating, or the influence of new lending on the average quality of the book. The change in RWAs attributable to book quality is calculated as the balance of RWA movements after taking account of all drivers described above.

The RWA movement by key driver statement includes only movements which are calculated under the IRB approach. Certain classes of credit risk exposure are treated as capital deductions and therefore reductions are not shown in this statement. If the treatment of a credit risk exposure changes from RWA to capital deduction in the period, then only the reduction in RWAs would appear in the RWA movement by key driver tables. In this instance, a reduction in RWAs does not necessarily indicate an improvement in the capital position.

Counterparty risk drivers – definitions and quantification

The RWA movement by key driver for counterparty credit risk calculates the credit risk drivers 5 and 6 at a more granular level, by using transaction level details provided by regional sites. ‘Foreign exchange movement’ is not a reported layer for counterparty risk drivers, as there is cross currency netting across the portfolio.

Market risk drivers – definitions and quantification

The RWA movement by key driver for market risk combines the credit risk drivers 5 and 6 into a single driver called ‘Movements in risk levels’.

 

 

Leverage ratio: basis of preparation

(Unaudited)

The numerator, capital measure, is calculated using the ‘end point’ definition of tier 1 capital applicable from 1 January 2022, which is set out in the final CRD IV rules. This is supplemented with the EBA’s Own Funds’ RTS to the extent that these have been published in the EU’s Official Journal of the European Commission as at the reporting date, as well as making reference to the PRA Rulebook where appropriate. The denominator, exposure measure, is calculated on the basis of the Leverage Ratio Delegated Act adopted by the European Commission in October 2014 and published in the EU’s Official Journal in January 2015, which is aligned to the Basel 2014 leverage ratio framework. This follows the same scope of regulatory consolidation used for the risk-based capital framework, which differs to the 2010 Basel text that required banks to include items using their accounting balance sheet. The exposure measure generally follows the accounting value, adjusted as follows:

 

  on-balance sheet, non-derivative exposures are included in the exposure measure net of specific provisions or accounting valuation adjustments (e.g. accounting credit valuation adjustments);

 

  loans are not netted with deposits;

 

  the scope of netting for derivatives is extended to all scenarios where we would recognise a netting agreement for regulatory purposes;

 

  the scope for offsetting of cash variation margin against derivative assets and liabilities is extended subject to certain additional conditions including the requirement that the margin be exchanged daily and be in the same currency as the currency of settlement of the derivative contract. For these purposes we have considered this to include any currency that can be used to make payments under the derivative contract, the governing qualifying master netting agreement, or its associated credit support annex. Such offsetting is not permitted under the Basel 2010 text;

 

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  the approach to netting securities financing transactions (‘SFT’s) is aligned to that permitted under IFRS, though for the purposes of the leverage ratio there is an additional counterparty credit risk add-on to the extent that an SFT is under collateralised. This represents a stricter requirement compared with the Basel 2010 text;

 

  there is an add-on for potential future exposure for both OTC and exchange-traded derivatives;

 

  the notional amount of written credit derivatives is included in the exposure measure, subject to offsets for purchased protection. This represents a stricter requirement compared with the Basel 2010 text;

 

  off-balance sheet items are converted into credit exposure equivalents through the use of credit conversion factors (‘CCF’s). Depending on the risk category of the exposure a CCF of 10%, 20%, 50% or 100% is applied. In contrast, the Basel 2010 text requires that off-balance sheet items are included in full except for commitments that are unconditionally cancellable at any time by HSBC without prior notice, where only 10% of the exposures are included; and

 

  items deducted from the end point tier 1 capital such as goodwill and intangible assets, are excluded.

 

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Report of the Directors: Corporate Governance (continued)

 

 

   

Corporate Governance

 

  

Page

 

    

App1

 

 
 

Corporate Governance Report

 

    

 

263

 

  

 

        
 

Letter from the Group Chairman

 

    

 

263

 

  

 

        
 

Directors

 

    

 

264

 

  

 

        
 

Secretary

 

    

 

268

 

  

 

        
 

Group Managing Directors

 

    

 

268

 

  

 

        
 

Board of Directors

 

    

 

270

 

  

 

        
 

Directors

 

    

 

270

 

  

 

        
 

Corporate governance codes

 

    

 

275

 

  

 

        
 

Board committees

 

    

 

276

 

  

 

        
 

Group Management Board

 

    

 

276

 

  

 

        
 

Group Audit Committee

 

    

 

277

 

  

 

        
 

Group Risk Committee

 

    

 

280

 

  

 

        
 

Financial System Vulnerabilities Committee

 

    

 

282

 

  

 

        
 

Group Remuneration Committee

 

    

 

284

 

  

 

        
 

Nomination Committee

 

    

 

284

 

  

 

        
 

Conduct & Values Committee

 

    

 

286

 

  

 

        
 

Chairman’s Committee

 

    

 

288

 

  

 

        
 

Philanthropic and Community Investment Oversight Committee

 

    

 

288

 

  

 

        
 

Internal control

 

    

 

288

 

  

 

        
 

Going concern

 

    

 

290

 

  

 

        
 

Employees

 

    

 

291

 

  

 

        
 

Reward

 

    

 

291

 

  

 

        
 

Employee relations

 

    

 

291

 

  

 

        
 

Diversity and inclusion

 

    

 

291

 

  

 

        
 

Employee development

 

    

 

291

 

  

 

        
 

Employment of disabled persons

 

    

 

291

 

  

 

        
 

Health and safety

 

    

 

291

 

  

 

        
 

Remuneration policy

 

    

 

292

 

  

 

        
 

Employee share plans

 

    

 

292

 

  

 

        
 

Other disclosures

 

    

 

293

 

  

 

        
 

Share capital

 

             

 

294

 

  

 

 

Directors’ interests

 

             

 

297

 

  

 

 

Dividends and shareholders

 

             

 

298

 

  

 

 

2014 Annual General Meeting

 

    

 

293

 

  

 

        
 

1 Appendix to Report of the Directors.

 

     

Corporate Governance Report

The statement of corporate governance practices set out on pages 263 to 333 and information incorporated by reference constitutes the Corporate Governance Report of HSBC Holdings. The reports of Board Committees are contained within the Corporate Governance Report.

Letter from the Group Chairman

 

Dear Shareholder

 

This year, 2015, marks the 150th anniversary of our foundation in Hong Kong and Shanghai. In these days of companies ascending to the top ranks of valuation within a decade or so of being formed and often descending as rapidly, we should reflect positively on the enormous skill and foresight of those who built this firm sustainably from modest beginnings to its position as one of the leading international banking groups in the world. Given the history of the world over this period and the episodic intensity of financial market crises, this could not have been achieved without strong governance and a prudent character. It is among the Board’s primary responsibilities to ensure that the firm’s governance and character are such as to underpin its continuing success. Describing what good governance and a prudent character look like is relatively simple; understanding how to embed these and to measure success in so doing is the greater challenge and one which lies firmly within the Board’s accountability.

 

At the heart of good governance lie three responsibilities reserved to the Board. Firstly, selection of the appropriate business model and countries within which to pursue all or elements of that model; secondly, determining the appropriate risk appetite of the firm across the variety of risks to which each business line is exposed; and finally, and most importantly, ensuring that the composition of the management team is best placed to deliver the right outcome for all stakeholders, is aligned in its incentives with the interests of shareholders and is committed to building long-term sustainable success, including in planning for its own succession.

 

Over the last four years, as the industry emerged from the global financial crisis and fresh regulatory requirements were determined, the Board has engaged actively with management on all these areas. Through this governance process, the Board has been able to endorse the progressive redefinition and clarity brought to HSBC’s business model, its geographic representation and its risk appetite proposed by Stuart Gulliver and his management team. At the same time, the Board has been able to assess the composition and quality of the most senior management team; the Board continued to be impressed by their dedication and commitment as well as their success in meeting the objectives set for them by the Board.

 

The Board also has a critical role in overseeing the performance of management, including oversight of the transformation agenda which is underway to simplify and control more effectively the management of the Group. This agenda reflects HSBC’s three strategic priorities: to implement Global Standards, grow the business and simplify and streamline processes. At each of its meetings and through its committees, the Board reviews progress made on implementation of this agenda, challenging management over the speed of delivery against agreed milestones and seeking insight into options considered but rejected.

 

Finally, governance is also about ensuring that the lessons of unexpected outcomes, of mistakes and of control failings are both acknowledged and responded to in a timely and effective manner. More importantly, it imposes a responsibility to ensure actions are taken to ensure that repetition is remote and that pre-emptive controls are established to warn, so far as is possible, of emerging areas of concern.

 

During 2014, regrettably, there were further instances of legal and regulatory proceedings that reinforced the need for greater governance oversight over conduct and financial crime risk. Indeed 2014 saw a sustained focus on conduct and behaviour

 

 

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risks with the establishment of the Banking Standards Review Council, the setting up of an enquiry by the UK Chancellor into Fair and Effective Markets and an update statement by former members of the Parliamentary Commission on Banking Standards.

 

HSBC has progressively enhanced its own governance oversight capabilities in these areas through the establishment in 2013 of the Financial System Vulnerabilities Committee to address financial crime matters and, in 2014, the Conduct & Values Committee, demonstrating the importance we place on adhering to high behavioural standards and ‘doing the right thing’. Reports from these committees can be found on pages 282 to 283 and 286 to 287, respectively.

 

Ensuring we have a diverse balance of skills, knowledge and experience on the Board is a fundamental aspect of successful corporate governance. Since my letter of last year the Board was strengthened by the appointments during 2014 of Jonathan Symonds and Heidi Miller as non-executive Directors on 14 April and 1 September, respectively, and Phil Ameen as of 1 January, 2015. These fresh appointments have added considerable experience in financial and governance matters and also in the case of Heidi Miller detailed banking expertise at the top level gained over more than 30 years in the industry. Biographies for all Directors can be found on pages 264 to 268.

 

Good governance has to extend throughout the Group, not just at the top company level. We address this by bringing together annually non-executives from our major subsidiaries in an NED forum to discuss governance issues and share best practices. Additionally, the chairmen of HSBC’s principal subsidiary company committees with responsibility for non-executive oversight of financial reporting and risk-related matters meet each year to share issues and to reinforce consistent standards.

 

As we view the year ahead, we will see finalisation of the new Senior Managers Regime brought in by the Financial Services (Banking Reform) Act 2013, which is likely to include specific responsibilities in respect of non-executive Directors. Also in this coming year, an update to the UK Corporate Governance Code will apply encompassing certain changes to its principles and provisions relating to remuneration, engagement with shareholders, risk management and going concern. The Board unreservedly supports the evolution of best practice, recognising that good governance is key both to sustainable success and to capturing the business growth opportunities that our distinctive business model affords us.

 

Douglas Flint

Group Chairman

23 February 2015

Directors

 

 

Douglas Flint, CBE, 59

Group Chairman

 

Skills and experience: Douglas has extensive board-level experience and knowledge of governance, including experience gained through membership of the Boards of HSBC and BP p.l.c. He has considerable knowledge of finance and risk management in banking, multinational financial reporting, treasury and securities trading operations. He joined HSBC as Group Finance Director in 1995.

He is a member of the Institute of Chartered Accountants of Scotland and the Association of Corporate Treasurers and also a fellow of the Chartered Institute of Management Accountants. In 2006 he was honoured with a CBE in recognition of his services to the finance industry.

Appointed to the Board: 1995. Group Chairman since 2010.

Current appointments include: Douglas is a director of The Hong Kong Association and Chairman of the Institute of International Finance. He is a member of the Mayor of Beijing’s International Business Leaders’ Advisory Council as well as the Mayor of Shanghai’s International Business Leaders’ Advisory Council and the International Advisory Board of the China Europe International Business School, Shanghai. He is also an independent external member of the UK Government’s Financial Services Trade and Investment Board, a British Business Ambassador and was appointed a director of the Peterson Institute for International Economics on 10 December 2014.

Former appointments include: Douglas was formerly Group Finance Director, Chief Financial Officer and Executive Director, Risk and Regulation of HSBC and non-executive director and Chairman of the Audit Committee of BP p.l.c. He has chaired and been a member of highly influential bodies which set standards for taxation, governance, accounting and risk management. Douglas served as a partner in KPMG.

 

 

Stuart Gulliver, 55

Group Chief Executive

Chairman of the Group Management Board

 

Skills and experience: Stuart joined HSBC in 1980. He is a career banker with over 30 years’ international experience. He has held a number of key roles in the Group’s operations worldwide, including in London, Hong Kong, Tokyo, Kuala Lumpur and the United Arab Emirates. Stuart played a leading role in developing and expanding Global Banking and Markets.

Appointed to the Board: 2008. Group Chief Executive since 2011.

Current appointments include: Stuart is Chairman of The Hongkong and Shanghai Banking Corporation Limited and of the Group Management Board. He is a member of the Monetary Authority of Singapore International Advisory Panel and the International Advisory Council of the China Banking Regulatory Commission.

 

 

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Former appointments include: Stuart served as Chairman of Europe, Middle East and Global Businesses and of HSBC Bank plc, HSBC Bank Middle East Limited, HSBC Private Banking Holdings (Suisse) SA and HSBC France and Deputy Chairman of HSBC Trinkaus & Burkhardt AG and a member of its supervisory board. He was Head of Global Banking and Markets; Co-Head of Global Banking and Markets; Head of Global Markets; and Head of Treasury and Capital Markets in Asia-Pacific.

 

 

Phillip Ameen, 66

Independent non-executive Director

 

Member of the Group Audit Committee with effect from 1 January 2015.

Skills and experience: As a Certified Public Accountant with extensive financial and accounting experience, Phil served as Vice President, Comptroller, and Principal Accounting Officer of General Electric Capital Co. Prior to joining GE, he was a partner of KPMG. He also has a depth of technical knowledge from his participation in accounting standards setting.

Appointed to the Board: 1 January 2015

Current appointments include: A non-executive director of HSBC North America Holdings Inc., HSBC Bank USA, HSBC Finance Corporation and HSBC USA Inc. He is a non-executive director of Skyonic Corporation and R3 Fusion, Inc. and is a member of the Advisory Board of the Business School, University of North Carolina.

Former appointments include: Vice President, Comptroller and Principal Accounting Officer of General Electric Corp; a technical audit partner at Peat Marwick Mitchell & Co (now KPMG). He served on the International Financial Reporting Interpretations Committee of the International Accounting Standards Board, the Accounting Standards Executive Committee of the American Institute of Certified Public Accountants, the Financial Accounting Standards Board Emerging Issues Task Force, was Chair of the Committee on Corporate Reporting of Financial Executives International and was a Trustee of the Financial Accounting Foundation.

 

 

Kathleen Casey, 48

Independent non-executive Director

 

Member of the Group Audit Committee and the Financial System Vulnerabilities Committee.

Skills and experience: Kathleen has extensive financial regulatory policy experience. She is a former Commissioner of the US Securities and Exchange Commission, acting as the regulator’s principal representative in multilateral and bilateral regulatory dialogues, the G-20 Financial Stability Board and the International Organisation of Securities Commissions.

Appointed to the Board: 1 March 2014

Current appointments include: Kathleen is the Chairman of the Alternative Investment Management Association and a senior adviser to Patomak Global Partners. She is a member of the Board of Trustees of Pennsylvania State University, the Trust Fund Board of the Library of Congress and the Advisory Council of the Public Company Accounting Oversight Board.

Former appointments include: Kathleen was a Staff Director and Counsel of the United States Senate Committee on Banking, Housing, and Urban Affairs and Legislative Director and Chief of Staff for a US Senator.

 

 

Safra Catz, 53

Independent non-executive Director

 

Skills and experience: Safra has a background in international business leadership, having helped transform Oracle into the largest producer of business management software and the world’s leading supplier of software for information management.

Appointed to the Board: 2008

Current appointments include: Safra was appointed joint Chief Executive Officer of Oracle Corporation on 18 September 2014, having previously been President and Chief Financial Officer. She joined Oracle in 1999 and was appointed to the board of directors in 2001.

Former appointments include: Safra was Managing Director of Donaldson, Lufkin & Jenrette.

 

 

Laura Cha, GBS, 65

Independent non-executive Director

 

Chairman of the Philanthropic and Community Investment Oversight Committee since 5 December 2014 and a member of the Conduct & Values Committee and the Nomination Committee.

Skills and experience: Laura has extensive regulatory and policy making experience in the finance and securities sector in Hong Kong and mainland China. She is the former Vice Chairman of the China Securities Regulatory Commission, being the first person outside mainland China to join the Central Government of the People’s Republic of China at vice-ministerial rank. Laura was awarded Gold and Silver Bauhinia Stars by the Hong Kong Government for public service.

Appointed to the Board: 2011

Current appointments include: Laura is a non-executive Deputy Chairman of The Hongkong and Shanghai Banking Corporation Limited and non-official member of the Executive Council of Hong Kong SAR. She is a Hong Kong Delegate to the 12th National People’s Congress of China and a non-executive director of China Telecom Corporation Limited, Unilever PLC and Unilever N.V. Laura is also a Senior International Adviser for Foundation Asset Management Sweden AB and a member of the State Bar of California and the China Banking Regulatory Commission’s International Advisory Council. She is Chairman of the Financial Services Development Council of Hong Kong SAR and Vice Chairman of the International Advisory Council of the China Securities Regulatory Commission.

 

 

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Former appointments include: Laura was a non-executive director of Bank of Communications Co., Ltd., Baoshan Iron and Steel Co. Limited, Johnson Electric Holdings Limited, Hong Kong Exchanges and Clearing Limited and Tata Consultancy Services Limited. She served as Chairman of the University Grants Committee in Hong Kong and the ICAC Advisory Committee on Corruption. Laura also served as Deputy Chairman of the Securities and Futures Commission in Hong Kong and was a member of the Advisory Board of the Yale School of Management.

 

 

Lord Evans of Weardale, 57

Independent non-executive Director

 

Chairman of the Financial System Vulnerabilities Committee and a member of the Conduct & Values Committee and Philanthropic and Community Investment Oversight Committee since 5 December 2014.

Skills and experience: Jonathan has extensive experience in national security policy and operations. Formerly Director General of MI5 with responsibility for the leadership, policy and strategy of the Security Service, including international and domestic counter-terrorism, counter-espionage and counter-proliferation activities and cyber security.

Appointed to the Board: 2013

Current appointments include: Jonathan is a non-executive director of the UK National Crime Agency and a Senior Adviser of Accenture plc. He is a member of the advisory board of Darktrace Limited and of Facewatch Limited.

Former appointments include: Jonathan has held various positions in the UK Security Service over a 30-year career with responsibility for the oversight of the Joint Terrorist Analysis Centre and the Centre for the Protection of National Infrastructure and attended the National Security Council.

 

 

Joachim Faber, 64

Independent non-executive Director

 

Chairman of the Group Risk Committee.

Skills and experience: Joachim has experience in banking and asset management with significant international experience, having worked in Germany, Tokyo, New York and London. He is a former Chief Executive Officer of Allianz Global Investors AG and member of the management board of Allianz SE. He has 14 years’ experience with Citigroup Inc. holding positions in Trading and Project Finance and as Head of Capital Markets for Europe, North America and Japan.

Appointed to the Board: 2012

Current appointments include: Joachim is Chairman of the supervisory board of Deutsche Börse AG and of the Shareholder Committee of Joh A. Benckiser SARL. He is an independent director of Coty Inc. and a director of Allianz France S.A. Joachim is also a member of the advisory board of the European School for Management

and Technology; and council member of The Hongkong – Europe Business Council.

Former appointments include: Joachim served as Chairman of various Allianz subsidiaries. He was a member of the supervisory board of Bayerische Börse AG, and of the supervisory board and Chairman of the audit and risk committee of OSRAM Licht AG. He was also a member of the German Council for Sustainable Development and a member of the advisory board of the Siemens Group Pension Board.

 

 

Rona Fairhead, CBE, 53

Independent non-executive Director

 

Member of the Financial System Vulnerabilities Committee and the Nomination Committee.

Skills and experience: Rona has a background in international industry, publishing, finance and general management. She was a former Chairman and Chief Executive Officer of the Financial Times Group Limited responsible for its strategy, management and operations and Finance Director of Pearson plc with responsibility for overseeing the day-to-day running of the finance function and directly responsible for global financial reporting and control, tax and treasury.

Appointed to the Board: 2004

Current appointments include: Rona is Chairman of HSBC North America Holdings Inc. She is a non-executive director of PepsiCo Inc. Rona is also a British Business Ambassador and, since 8 October 2014, Chairman of the BBC Trust.

Former appointments include: Rona was an Executive Vice President, Strategy and Group Control of Imperial Chemical Industries plc and Chairman and director of Interactive Data Corporation. She was a member of the board of the UK Government’s Cabinet Office until 1 September 2014 and a non-executive director of The Economist Newspaper Limited until 1 July 2014.

 

 

Sam Laidlaw, 59

Independent non-executive Director

 

Member of the Group Remuneration Committee and the Nomination Committee.

Skills and experience: Sam has international experience, particularly in the energy sector, having had responsibility for businesses in four continents. He is a qualified solicitor with a Master’s in Business Administration.

Appointed to the Board: 2008

Former appointments include: Sam was the Chief Executive Officer of Centrica plc and the lead non-executive board member of the UK Department for Transport until 31 December 2014. Sam was also an Executive Vice President of Chevron Corporation, non-executive director of Hanson PLC, Chief Executive Officer of Enterprise Oil plc, President and Chief Operating Officer of Amerada Hess Corporation, and a member of the UK Prime Minister’s Business Advisory Group.

 

 

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John Lipsky, 68

Independent non-executive Director

 

Member of the Group Risk Committee, the Nomination Committee and the Group Remuneration Committee.

Skills and experience: John has international experience having worked in Chile, New York, Washington and London and interacted with financial institutions, central banks and governments in many countries. He served at the International Monetary Fund as First Deputy Managing Director, Acting Managing Director and as Special Adviser.

Appointed to the Board: 2012

Current appointments include: John is a Senior Fellow, Foreign Policy Institute at the Paul H. Nitze School of Advanced International Studies, Johns Hopkins University. He is co-chairman of the Aspen Institute Program on the World Economy and a director of the National Bureau of Economic Research and the Center for Global Development. John is a member of the advisory board of the Stanford Institute for Economic Policy Research and the Council on Foreign Relations. He is Chairman of the World Economic Forum’s Global Agenda Council on the International Monetary System.

Former appointments include: John served as Vice Chairman of JPMorgan Investment Bank; a director of the American Council on Germany and the Japan Society; a trustee of the Economic Club of New York, and a Global Policy Adviser for Anderson Global Macro, LLC.

 

 

Rachel Lomax, 69

Independent non-executive Director

 

Chairman of the Conduct & Values Committee and a member of the Group Audit Committee and the Group Risk Committee.

Skills and experience: Rachel has experience in both the public and private sectors and a deep knowledge of the operation of the UK government and financial system.

Appointed to the Board: 2008

Current appointments include: Rachel is Chairman of the International Regulatory Strategy Group. She is a director of TheCityUK and Bruegel, a Brussels-based European think tank; a non-executive director of Arcus European Infrastructure Fund GP LLP and Heathrow Airport Holdings Limited. Rachel is also a member of the Council of Imperial College, London and President of the Institute of Fiscal Studies, a Trustee of the Ditchley Foundation, and a non-executive director and chairman of the corporate responsibility committee of Serco Group plc.

Former appointments include: Rachel served as Deputy Governor, Monetary Stability, at the Bank of England and member of the Monetary Policy Committee, Permanent Secretary at the UK Government Departments for Transport and Work and Pensions and the Welsh Office, and Vice President and Chief of Staff to the President of the World Bank. She was a non-executive director of Reinsurance Group of America Inc. and The Scottish American Investment Company PLC.

 

Iain Mackay, 53

Group Finance Director

 

Skills and experience: Iain joined HSBC in 2007 as Chief Financial Officer of HSBC North America Holdings Inc. He has extensive financial and international experience, having worked in London, Paris, US, Africa and Asia. Iain is a member of the Institute of Chartered Accountants of Scotland.

Appointed to the Board: 2010

Current appointments include: Iain is a member of the Group Management Board and was also appointed as a member of the audit committee of the British Heart Foundation on 4 December 2014.

Former appointments include: Iain served as a director of Hang Seng Bank Limited, Chief Financial Officer, Asia-Pacific, Vice President and Chief Financial Officer of GE Global Consumer Finance and Vice President and Chief Financial Officer of GE Healthcare – Global Diagnostic Imaging.

 

 

Heidi Miller, 61

Independent non-executive Director

 

Member of the Group Risk Committee and Conduct & Values Committee since 1 September 2014.

Skills and experience: Heidi has extensive international banking and finance experience. She is a former President of International at JPMorgan Chase, and was responsible for leading the global expansion and international business strategy across the investment bank, asset management, and treasury and securities services divisions.

Appointed to the Board: 1 September 2014

Current appointments include: Heidi is a non-executive director of First Data Corporation and General Mills Inc. She is a Trustee of the International Financial Reporting Standards Foundation.

Former appointments include: Heidi served as non-executive director of Merck & Co. Inc. and also Progressive Corp until 1 August 2014. She was an Executive Vice President and Chief Executive Officer, Treasury and Securities Services at JPMorgan Chase & Co.; Executive Vice President and Chief Financial Officer of Bank One Corporation; Senior Executive Vice President of Priceline.com Inc.; and Executive Vice President and Chief Financial Officer of Citigroup Inc.

 

 

Marc Moses, 57

Group Chief Risk Officer

 

Skills and experience: Marc joined HSBC in 2005 as Chief Financial and Risk Officer, Global Banking and Markets. He has extensive risk management and financial experience. Marc is a member of the Institute of Chartered Accountants in England and Wales.

Appointed to the Board: 1 January 2014

Current appointments include: Marc is a member of the Group Management Board. A director of HSBC Private Bank (Suisse) SA and of HSBC Private Banking Holdings (Suisse) SA.

 

 

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Former appointments include: Marc served as Chief Financial and Risk Officer, Global Banking and Markets and a director of HSBC Insurance (Bermuda) Limited. He was a European chief financial officer at JP Morgan and audit partner at PricewaterhouseCoopers.

 

 

Sir Simon Robertson, 73

Deputy Chairman and senior independent

non-executive Director

 

Chairman of the Nomination Committee and the Group Remuneration Committee. Member of the Financial System Vulnerabilities Committee.

Skills and experience: Simon has a background in international corporate advisory work with a wealth of experience in mergers and acquisitions, merchant banking, investment banking and financial markets. He was honoured with a knighthood in recognition of his services to business. Simon has extensive international experience having worked in France, Germany, the UK and the US.

Appointed to the Board: 2006. Senior Independent non-executive Director since 2007 and Deputy Chairman since 2010.

Current appointments include: Simon is the founding member of Simon Robertson Associates LLP. He is a non-executive director of Berry Bros. & Rudd Limited, The Economist Newspaper Limited and Troy Asset Management. He is also a trustee of the Eden Project Trust and the Royal Opera House Endowment Fund.

Former appointments include: Simon served as non-executive Chairman of Rolls-Royce Holdings plc, Managing Director of Goldman Sachs International, Chairman of Dresdner Kleinwort Benson, and non-executive director of Royal Opera House, Covent Garden Limited and NewShore Partners Limited.

 

 

Jonathan Symonds, CBE, 55

Independent non-executive Director

 

Chairman of the Group Audit Committee since 1 September 2014. A member of the Group Remuneration Committee from 14 April 2014 until 1 September 2014 and a member of the Conduct & Values Committee.

Skills and experience: Jonathan has extensive international financial experience, having worked in the UK, US and Switzerland. He served as Chief Financial Officer of Novartis AG and AstraZeneca plc. Jonathan is a Fellow of the Institute of Chartered Accountants in England and Wales.

Appointed to the Board: 14 April 2014

Current appointments include: Jonathan is Chairman of HSBC Bank plc and of Innocoll AG. He is a non-executive director of Genomics England Limited and of Proteus Digital Health Inc.

Former appointments include: Jonathan was a partner and managing director of Goldman Sachs, and a partner of KPMG. He was a non-executive director and Chairman of the Audit Committee of Diageo plc.

Secretary

 

 

Ben Mathews, 48

Group Company Secretary

 

Ben joined HSBC in June 2013 and became Group Company Secretary in July 2013. He is a Fellow of the Institute of Chartered Secretaries and Administrators. Former appointments include: Group Company Secretary of Rio Tinto plc and of BG Group plc.

Group Managing Directors

 

 

Ann Almeida, 58

Group Head of Human Resources and Corporate Sustainability

(due to retire 31 May 2015)

 

Ann joined HSBC in 1992. A Group Managing Director since 2008. Former HSBC appointments include: Global Head of Human Resources for Global Banking and Markets, Global Private Banking, Global Transaction Banking and HSBC Amanah.

 

 

Samir Assaf, 54

Chief Executive, Global Banking and Markets

 

Samir joined HSBC in 1994. A Group Managing Director since 2011. He is Chairman of the Global Financial Markets Association and of HSBC France, a director of HSBC Trinkaus & Burkhardt AG and of HSBC Bank plc since 28 March 2014. Former appointments include: director of HSBC Global Asset Management Limited and of HSBC Bank Egypt S.A.E., Head of Global Markets, and Head of Global Markets for Europe, Middle East and Africa.

 

 

Peter Boyles, 59

Chief Executive of Global Private Banking

 

Peter joined HSBC in 1975. A Group Managing Director since October 2013. He is Chairman of HSBC Private Bank (Monaco) SA. Former appointments include: Chief Executive of HSBC France and Continental Europe. A director of HSBC Bank plc, HSBC Bank Malta p.l.c. and of HSBC Trinkaus & Burkhardt AG. Peter ceased to be a director of HSBC Global Asset Management Limited on 29 September 2014.

 

 

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Simon Cooper, 47

Chief Executive, Global Commercial Banking

 

Simon joined HSBC in 1989. A Group Managing Director and Chief Executive of Global Commercial Banking since October 2013. He is a director of HSBC Bank plc. Former HSBC appointments include: Chairman of HSBC Bank Egypt S.A.E. and of HSBC Bank Oman; Chairman and Chief Executive of HSBC Bank Middle East and Chief Executive of HSBC Korea. Head of Corporate and Investment Banking of HSBC Singapore. A director of The Saudi British Bank and of HSBC Bank Middle East Limited.

 

 

John Flint, 46

Chief Executive, Retail Banking and Wealth Management

 

John joined HSBC in 1989. A Group Managing Director since January 2013. He is a director of HSBC Private Banking Holdings (Suisse) SA. Former appointments include: a Director of HSBC Bank Canada, Chief of Staff to the Group Chief Executive and Group Head of Strategy and Planning, Chief Executive Officer, HSBC Global Asset Management, Group Treasurer, and Deputy Head of Global Markets.

 

 

Pam Kaur, 51

Group Head of Internal Audit

 

Pam joined HSBC and became a Group Managing Director in April 2013. She is a co-opted member of The Institute of Chartered Accountants in England & Wales. Former appointments include: Global Head of Group Audit for Deutsche Bank AG, Chief Financial Officer and Chief Operating Officer, Restructuring and Risk Division, Royal Bank of Scotland Group plc, Group Head of Compliance and Anti-Money Laundering, Lloyds TSB, and Global Director of Compliance, Global Consumer Group, Citigroup.

 

 

Alan Keir, 56

Chief Executive, HSBC Bank plc

 

Alan joined HSBC in 1981. A Group Managing Director since 2011. He is a director of HSBC Bank Middle East Limited, HSBC Trinkaus & Burkhardt AG and of HSBC France. Alan is a member of the Advisory Council of TheCityUK and of the Advisory Board of Bradford University School of Management. Former appointments include: Global Head, Global Commercial Banking; director of HSBC Bank A.S. and HSBC Bank Polska S.A.

 

Stuart Levey, 51

Chief Legal Officer

 

Stuart joined HSBC and became a Group Managing Director in 2012. Former appointments include: Under Secretary for Terrorism and Financial Intelligence in the US Department of the Treasury, Senior Fellow for National Security and Financial Integrity at the Council on Foreign Relations, Principal Associate Deputy Attorney General at the US Department of Justice, and Partner at Miller, Cassidy, Larroca & Lewin LLP and Baker Botts LLP.

 

 

Antonio Losada, 60

Chief Executive, Latin America

 

Antonio joined HSBC in 1973. A Group Managing Director since December 2012. He is a director of HSBC Latin America Holdings (UK) Limited, HSBC Bank Argentina S.A., HSBC Argentina Holdings S.A., HSBC Mexico, S.A., Institucion de Banca Multiple, Grupo Financiero HSBC, Grupo Financiero HSBC, S.A. de C.V. and of HSBC North America Holdings Inc. Former appointments include: Chief Executive Officer, HSBC Argentina; Chairman of HSBC Bank (Panama) S.A. and of HSBC Argentina Holdings S.A., and Deputy Head, Personal Financial Services, Brazil.

 

 

Sean O’Sullivan, 59

Group Chief Operating Officer

(due to retire 31 March 2015)

 

Sean joined HSBC in 1980. A Group Managing Director since 2011. Former appointments include: Group Chief Technology and Services Officer, director and Chief Operating Officer of HSBC Bank plc, and Chief Operating Officer of HSBC Bank Canada.

 

 

Peter Wong, 63

Deputy Chairman and Chief Executive, The Hongkong and Shanghai Banking Corporation Limited

 

Peter joined HSBC in 2005. A Group Managing Director since 2010. He is Chairman of HSBC Bank (China) Company Limited and HSBC Bank Malaysia Berhad, and a non-executive director of Hang Seng Bank Limited, Shek O Development Company Limited and Bank of Communications Co. Ltd. He is also an independent non-executive director of Cathay Pacific Airways Limited. Former appointments include: Vice Chairman of HSBC Bank (Vietnam) Ltd, director of HSBC Bank Australia Limited and of Ping An Insurance (Group) Company of China, Ltd.

 

 

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Board of Directors

The Board of Directors of HSBC Holdings (the ‘Board’) exists to promote the long-term success of the Company and deliver sustainable value to our shareholders. Led by the Group Chairman, it sets the strategy and risk appetite for the Group and approves capital and operating plans presented by management for the achievement of the strategic objectives. Implementation of the strategy is delegated to the Group Management Board (‘GMB’) which, in turn, is led by the Group Chief Executive.

Directors

HSBC Holdings has a unitary Board. The authority of the Directors is exercised in Board meetings where the Board acts collectively. The Directors who served during the year were Kathleen Casey (appointed 1 March 2014), Safra Catz, Laura Cha, Marvin Cheung (retired 1 August 2014), John Coombe (retired 23 May 2014), Lord Evans of Weardale, Joachim Faber, Rona Fairhead, Renato Fassbind (retired 1 September 2014), Douglas Flint, Stuart Gulliver, James Hughes-Hallett (retired 23 May 2014), Sam Laidlaw, John Lipsky, Rachel Lomax, Iain Mackay, Heidi Miller (appointed 1 September 2014), Marc Moses (appointed 1 January 2014), Sir Simon Robertson and Jonathan Symonds (appointed 14 April 2014).

Phillip Ameen was appointed with effect from 1 January 2015.

At the date of approval of the Annual Report and Accounts 2014, the Board comprised the Group Chairman, Group Chief Executive, Group Finance Director, Group Chief Risk Officer and 13 non-executive Directors.

The names and brief biographical details of the Directors are included on pages 264 to 268.

Executive Directors

The Group Chairman, Group Chief Executive, Group Finance Director and Group Chief Risk Officer are HSBC employees.

Non-executive Directors

Non-executive Directors are not HSBC employees and do not participate in the daily management of HSBC; they bring an independent perspective, constructively challenge and help develop proposals on strategy, scrutinise the performance of management in meeting agreed goals and objectives and monitor the Group’s risk profile and the reporting of performance. The non-executive Directors bring a wide variety of experience from the public and private sectors, including the leadership of large complex multinational enterprises.

Non-executive Directors’ terms of appointment

The Board has determined the minimum time commitment expected of non-executive Directors to be about 30 days per annum. Time devoted to the Company could be considerably more, particularly if serving on Board committees.

Non-executive Directors are appointed for an initial three-year term and, subject to re-election by shareholders at annual general meetings, are typically expected to serve two three-year terms. The Board may invite a director to serve additional periods. All Directors are subject to annual election by shareholders.

Letters setting out the terms of appointment of each of the non-executive Directors are available for inspection at the Company’s registered office.

Group Chairman and Group Chief Executive

The roles of Group Chairman and Group Chief Executive are separate, with a clear division of responsibilities between the running of the Board and the executive responsibility for running HSBC’s business. Descriptions of the roles and responsibilities of the Group Chairman and the Group Chief Executive are available at www.hsbc.com/investor-relations/governance/board-committees. Their key responsibilities are set out below.

Key responsibilities

 

 

Group Chairman – Douglas Flint

 

•  Leads the Board and ensures its effectiveness.

 

•  Develops relationships with governments, regulators and investors.

 

•  Leads the Group’s interactions on matters of public policy and regulatory reform with regard to the banking and financial services industry.

 

•  Maintains corporate reputation and character.

 

•  Undertakes performance management of the Group Chief Executive.

 

Group Chief Executive – Stuart Gulliver

 

•  Develops, and delivers performance against, business plans.

 

•  Develops Group strategy, in agreement with the Group Chairman, for recommendation to the Board.

 

•  As Chairman of the GMB, drives performance within strategic goals and commercial objectives agreed by the Board.

 

Deputy Chairman and senior independent non-executive Director

    A description of the roles and responsibilities of the Deputy Chairman and senior independent non-executive Director, which has been approved by the Board, is available at www.hsbc.com/investor-relations/governance/board-committees. His key responsibilities are set out below.

 

 

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Report of the Directors: Corporate Governance (continued)

 

 

Key responsibilities

 

 

Deputy Chairman and senior independent non-executive Director – Sir Simon Robertson

 

•  Deputises for the Group Chairman at meetings of the Board or shareholders and supports the Group Chairman in his role.

 

•  Acts as an intermediary for other non-executive Directors when necessary.

 

•  Leads the non-executive Directors in the oversight of the Group Chairman.

 

•  Ensures there is a clear division of responsibility between the Group Chairman and Group Chief Executive.

Appointment, retirement and re-election of Directors

The Board may at any time appoint any person who is willing to act as a Director, either to fill a vacancy or as an addition to the existing Board, but the total number of Directors shall not be less than five or exceed 25. Any Director so appointed by the Board shall retire at the Annual General Meeting following his or her appointment and shall be eligible for election but would not be taken into account in determining the number of Directors who are to retire by rotation at such meeting in accordance with the Articles of Association. The Board may appoint any Director to hold any employment or executive office and may revoke or terminate any such appointment. Shareholders may, by ordinary resolution, appoint a person a Director or remove any Director before the expiration of his or her period of office. On the recommendation of the Nomination Committee and in compliance with the UK Corporate Governance Code, the Board has decided that all of the Directors should be subject to annual re-election by shareholders. Accordingly, all of the Directors will retire at the forthcoming Annual General Meeting and offer themselves for election or re-election.

Powers of the Board

The Board is responsible for overseeing the management of HSBC globally and, in so doing, may exercise its powers, subject to any relevant laws and regulations and to the Articles. The Board has adopted terms of reference which are available at www.hsbc.com/1/2/ about/board-of-directors. The Board reviews its terms of reference annually.

In particular, the Board may exercise all the powers of the Company to borrow money and to mortgage or

charge all or any part of the undertaking, property or assets (present or future) of HSBC Holdings and may also exercise any of the powers conferred on it by the Companies Act 2006 and/or by shareholders. The Board is able to delegate and confer on any executive Director any of its powers, authorities and discretions (including the power to sub-delegate) for such time and on such terms as it thinks fits. In addition, the Board may establish any local or divisional boards or agencies for managing the business of HSBC Holdings in any specified locality and delegate and confer on any local or divisional board, manager or agent so appointed any of its powers, authorities and discretions (including the power to sub-delegate) for such time and on such terms as it thinks fit. The Board may also, by power of attorney or otherwise, appoint any person or persons to be the agent of HSBC Holdings and may delegate to any such person or persons any of its powers, authorities and discretions (including the power to sub-delegate) for such time and on such terms as it thinks fit.

The Board delegates the day-to-day management of HSBC Holdings to the GMB but reserves to itself approval of certain matters including operating plans, risk appetite and performance targets, procedures for monitoring and controlling operations, credit, market risk limits, acquisitions, disposals, investments, capital expenditure or realisation or creation of a new venture, specified senior appointments and any substantial change in balance sheet management policy.

HSBC Holdings was registered in Hong Kong under part XI of the Companies Ordinance on 17 January 1991.

Board meetings

Eight Board meetings and two one-day strategy meetings were held in 2014. At least one Board meeting each year is held in a key strategic location outside the UK. During 2014, Board meetings were held in Hong Kong and Beijing.

The table below shows each Director’s attendance at meetings of the Board during 2014.

During 2014, the non-executive Directors and the Group Chairman met once without the other executive Directors. The non-executive Directors also met four times without the Group Chairman, including to appraise the Group Chairman’s performance.

 

 

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Report of the Directors: Corporate Governance (continued)

 

 

2014 Board attendance record

 

   

Meetings

attended

   

Meetings

eligible to

attend as

a Director

 

Kathleen Casey1,8

  5      5   

Safra Catz

  8      8   

Laura Cha

  8      8   

Marvin Cheung2

  4      5   

John Coombe3

  4      4   

Lord Evans of Weardale8

  7      7   

Joachim Faber

  8      8   

Rona Fairhead8

  7      7   

Renato Fassbind4

  7      7   

Douglas Flint

  8      8   

Stuart Gulliver

  8      8   

James Hughes-Hallett3

  4      4   

Sam Laidlaw

  8      8   

John Lipsky8

  7      7   

Rachel Lomax

  8      8   

Iain Mackay

  8      8   

Heidi Miller5,8

  2      2   

Marc Moses6

  8      8   

Sir Simon Robertson

  8      8   

Jonathan Symonds7

  6      6   

Meetings held in 20148

  8   

 

1 Appointed a Director on 1 March 2014.
2 Retired as a Director on 1 August 2014.
3 Retired as a Director on 23 May 2014.
4 Retired as a Director on 1 September 2014.
5 Appointed a Director on 1 September 2014.
6 Appointed a Director on 1 January 2014.
7 Appointed a Director on 14 April 2014.
8 A meeting was called at short notice. Those Directors not able to attend were briefed prior to the meeting.

Board balance and independence of Directors

The Board comprises a majority of independent non-executive Directors. The size of the Board is considered to be appropriate given the complexity and geographical spread of our business and the significant time demands placed on the Directors.

The Nomination Committee regularly reviews the structure, size and composition of the Board (including skills, knowledge, experience, independence and diversity) and makes recommendations to the Board with regard to any changes.

The Board has adopted a policy on Board diversity which is consistent with the Group’s strategic focus on ethnicity, age and gender diversity for the employee base. Further information on the Board diversity policy can be found on page 285.

The Board considers all of the non-executive Directors to be independent. When determining independence the Board considers that calculation of the length of service of a non-executive Director begins on the date of his or her election by shareholders following their appointment as a Director of HSBC Holdings. Rona Fairhead has served on the Board for more than nine years and, in that respect only, does not meet the usual criteria for independence set out in the UK Corporate Governance Code. The Board has determined Rona Fairhead to be independent in character and judgement,

notwithstanding her length of service, taking into account her continuing level of constructive challenge of management and strong contribution to Board discussions. Rona Fairhead will stand for re-election at the 2015 Annual General Meeting. It is our view that the experience of current and previous service on an HSBC subsidiary company board can be a considerable benefit but that such service does not detract from a non-executive Director’s independence. The Board has concluded that there are no relationships or circumstances which are likely to affect a non-executive Director’s judgement and any relationships or circumstances which could appear to do so are not considered to be material.

In accordance with the Rules Governing the Listing of Securities on the Stock Exchange of Hong Kong Limited, each non-executive Director determined by the Board to be independent has provided an annual confirmation of his or her independence.

Information and support

The Board regularly reviews reports on performance against financial and other strategic objectives, business developments and investor and external relations. The chairmen of Board committees and the Group Chief Executive report to each meeting of the Board on the activities of the committees since the previous Board meeting. The Board receives regular reports and presentations on strategy and developments in the global businesses and principal geographical areas. Regular reports are also provided on the Group’s risk appetite, top and emerging risks, risk management, credit exposures and the Group’s loan portfolio, asset and liability management, liquidity, litigation, financial and regulatory compliance and reputational issues.

The Directors have free and open contact with management at all levels. When attending Board offsite meetings and when travelling for other reasons, non-executive Directors are encouraged to take opportunities to see local business operations at first hand and to meet local management.

Role of the Group Company Secretary

All Directors have access to the advice and services of the Group Company Secretary, who is responsible to the Board for ensuring that Board procedures and all applicable rules and regulations are complied with.

Under the direction of the Group Chairman, the Group Company Secretary’s responsibilities include ensuring good information flows within the Board and its committees and between senior management and non-executive Directors, as well as facilitating induction and assisting with professional development as required.

The Group Company Secretary is responsible for advising the Board through the Group Chairman on corporate governance matters.

The agenda and supporting papers are distributed in advance of all Board and Board committee meetings to allow time for appropriate review and to facilitate full discussion at the meetings. All Directors have full and timely access to all relevant information and may take independent professional advice if necessary at HSBC Holdings’ expense.

 

 

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Report of the Directors: Corporate Governance (continued)

 

 

Induction

Formal, tailored induction programmes are arranged for newly appointed Directors. The programmes are based on an individual Director’s needs and vary according to the skills and experience of each Director. Typical induction programmes consist of a series of meetings with other Directors and senior executives to enable new Directors to familiarise themselves with the business. Directors also receive comprehensive guidance from the Group Company Secretary on directors’ duties and liabilities.

Training and development

We provide training and development for Directors with sessions often arranged in conjunction with scheduled Board meetings. Executive Directors develop and refresh their skills and knowledge through day-to-day

interactions and briefings with senior management of the Group’s businesses and functions. Non-executive Directors have access to internal training and development resources and personalised training is provided where necessary. All newly appointed Directors attended a tailored induction programme. The Chairman regularly reviews the training and development of each Director.

During the year, Directors received training on the following topics:

 

  The Dodd-Frank Act;

 

  UK Financial Services (Banking Reform) Act 2014 including Senior Managers Regime; and

 

  the changing financial and regulatory reporting landscape.

The table below shows a summary of training and development undertaken by each Director during 2014.

 

 

Training and development

 

     Training areas  
   

Regulatory

updates

   

Corporate

Governance

   

Financial

industry
developments

   

Briefings on

Board committee
related topics

 

Executive Directors

Douglas Flint

  ü      ü      ü      ü   

Stuart Gulliver

  ü      ü      ü      ü   

Iain Mackay

  ü      ü      ü      ü   

Marc Moses

  ü      ü      ü      ü   

Non-executive Directors

Kathleen Casey

  ü      ü      ü   

Safra Catz

  ü      ü   

Laura Cha

  ü      ü      ü   

Lord Evans of Weardale

  ü      ü      ü   

Joachim Faber

  ü      ü      ü      ü   

Rona Fairhead

  ü      ü      ü   

Sam Laidlaw

  ü      ü   

John Lipsky

  ü      ü   

Rachel Lomax

  ü      ü      ü   

Heidi Miller

  ü      ü   

Sir Simon Robertson

  ü      ü      ü   

Jonathan Symonds

  ü      ü      ü   

 

Board performance evaluation

The Board is committed to regular evaluation of its own effectiveness and that of its committees. In 2012 and 2013, the review of the effectiveness of the Board and its committees was undertaken by Bvalco Ltd1, an independent third-party firm. The 2013 review process mirrored that of 2012 with Bvalco conducting in-depth interviews with the members of the Board and a number

of other senior executives. The findings of the 2013 review were presented to the Board, an action plan developed and progress against these actions reported to the Board during 2014. The 2013 review concluded that the Board continues to operate effectively and is well positioned to address the challenges faced by the Group. Themes emerging from the 2013 review and the actions taken included:

 

 

1 A legal firm which is engaged from time to time by the Company to provide legal services holds a 20% shareholding in Bvalco Ltd. Bvalco Ltd has confirmed that it does not have any other connection with the Company.
 

 

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Report of the Directors: Corporate Governance (continued)

 

 

 

 2013 Review of Board effectiveness

 

Theme

 

Action taken

 

Ensuring an appropriate balance between regulatory, business and strategic issues at Board meetings.

Key issues have been further prioritised.

 

More time has been provided for the debate of these issues at Board meetings.

 

Providing further opportunities for the executive and non-executive Directors to meet outside of the formal setting of the boardroom.

Informal executive and non-executive Directors’ events have been planned around Board meetings providing additional forums for discussion.

 

Non-executive Directors have been invited to a number of events attended by executive Directors.

 

Arrangements made for non-executive Directors to meet senior members of local management teams in HSBC local offices when travelling.

 

Ensuring increased time and opportunity for non-executive Director meetings.

Non-executive Director-only sessions are scheduled around Board meetings.

 

A number of informal non-executive Director events were organised throughout the year.

 

Maintaining focus on succession planning.

Succession planning remains a key area of focus with formal governance processes in place.

 

Those named in succession plans are scheduled to present to Board meetings.

 

 

A third and final review was facilitated by Bvalco during the year, providing continuity and allowing for progress against prior year themes to be evaluated.

Director performance evaluation

Evaluation of the individual performance of each non-executive Director is undertaken annually by the Group Chairman. During this evaluation, the Group Chairman discusses the individual contribution of the Director, explores training and development needs, seeks input on areas where the Director feels he or she could make a greater contribution and discusses whether the time commitment required of the Director can continue to be delivered. Based upon their individual evaluation, the Group Chairman has confirmed that all of the non-executive Directors continue to perform effectively, contribute positively to the governance of HSBC and demonstrate full commitment to their roles.

Evaluation of the individual performance of each executive Director is undertaken as part of the performance management process for all employees, the results of which are considered by the Group Remuneration Committee when determining variable pay awards each year.

The non-executive Directors, led by the Deputy Chairman and senior independent non-executive Director, are responsible for the evaluation of the performance of the Group Chairman.

The Board monitors the implementation of actions arising from each performance evaluation.

It is the intention of the Board to continue to undertake an evaluation of its performance and that of its committees and individual Directors annually, with independent external input to the process, as appropriate, at least every third year.

 

Relations with shareholders

All Directors are encouraged to develop an understanding of the views of major shareholders. Non-executive Directors are invited to attend analyst presentations and other meetings with institutional investors and their representative bodies. Directors also meet representatives of institutional shareholders annually to discuss corporate governance matters.

All executive Directors and certain other senior executives hold regular meetings with institutional investors. The Board receives a regular investor relations activity report which provides feedback from meetings with institutional shareholders and brokers, analysts’ forecasts, information from research reports and share price performance data. The Board also receives regular reports from one of our corporate brokers.

The Group’s shareholder communication policy is available on www.hsbc.com/governance.

On several occasions during 2014, non-executive Directors, including the Deputy Chairman and senior independent non-executive Director, met or corresponded with institutional investors and their representatives to discuss corporate governance topics and executive remuneration.

As Deputy Chairman and senior independent non-executive Director, Sir Simon Robertson is available to shareholders should they have concerns which contact through the normal channels of Group Chairman, Group Chief Executive, Group Finance Director, Group Chief Risk Officer, or other executives cannot resolve or for which such contact would be inappropriate. He may be contacted through the Group Company Secretary at 8 Canada Square, London E14 5HQ.

 

 

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Report of the Directors: Corporate Governance (continued)

 

 

Conflicts of interest, indemnification of Directors and contracts of significance

The Board has adopted a policy and procedures relating to Directors’ conflicts and potential conflicts of interest and can determine the terms of authorisation for such situations. The Board’s powers to authorise conflicts are operating effectively and the procedures are being followed. A review of situational conflicts which have been authorised from time-to-time and the terms of those authorisations are undertaken by the Board annually.

The Articles of Association provide that Directors are entitled to be indemnified out of the assets of HSBC Holdings against claims from third parties in respect of certain liabilities. Such provisions have been in place during the financial year but have not been utilised by the Directors. All Directors have the benefit of directors’ and officers’ liability insurance.

None of the Directors had, during the year or at the end of the year, a material interest, directly or indirectly, in any contract of significance with any HSBC company.

Corporate governance codes

HSBC is committed to high standards of corporate governance. During 2014, HSBC has complied with the applicable code provisions of: (i) The UK Corporate Governance Code issued by the Financial Reporting Council in September 2012; and (ii) the Hong Kong Corporate Governance Code set out in Appendix 14 to the Rules Governing the Listing of Securities on The Stock

Exchange of Hong Kong Limited, save that the Group Risk Committee is responsible for the oversight of internal control (other than internal control over financial reporting) and risk management systems (Hong Kong Corporate Governance Code provision C.3.3 paragraphs (f), (g) and (h)). If there were no Group Risk Committee, these matters would be the responsibility of the Group Audit Committee. The UK Corporate Governance Code is available at www.frc.org.uk and the Hong Kong Corporate Governance Code is available at www.hkex.com.hk.

The Board has adopted a code of conduct for transactions in HSBC Group securities by Directors. The code of conduct complies with The Model Code in the Listing Rules of the FCA and with The Model Code for Securities Transactions by Directors of Listed Issuers (‘Hong Kong Model Code’) in the Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited, save that The Stock Exchange of Hong Kong Limited has granted certain waivers from strict compliance with the Hong Kong Model Code. The waivers granted by The Stock Exchange of Hong Kong Limited primarily take into account accepted practices in the UK, particularly in respect of employee share plans. Following specific enquiry, each Director has confirmed that he or she has complied with the code of conduct for transactions in HSBC Group securities throughout the year.

All Directors are routinely reminded of their obligations under the code of conduct for transactions in HSBC Group securities.

 

 

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Report of the Directors: Corporate Governance (continued)

 

 

Board committees

 

LOGO

 

1 Established on 17 January 2014.
2 Established on 5 December 2014.

 

The Board has established a number of committees consisting of Directors, Group Managing Directors and, in the case of the Financial System Vulnerabilities Committee, co-opted non-director members. The key roles of the Board committees are described above. The Chairman of each non-executive Board committee reports to each meeting of the Board on the activities of the committee since the previous Board meeting.

Group Management Board

Role and members

The GMB exercises all of the powers, authorities and discretions of the Board of Directors in so far as they concern the management and day-to-day running of the Company and its subsidiaries.

 

 

Members

    

 

Stuart Gulliver (Chairman), Iain Mackay and Marc Moses who are executive Directors, and Ann Almeida, Samir Assaf, Peter Boyles, Simon Cooper, John Flint, Pam Kaur (non-voting), Alan Keir, Stuart Levey, Antonio Losada, Sean O’Sullivan and Peter Wong, all of whom are Group Managing Directors.

 

The Group Chief Executive chairs the GMB. The head of each global business and global function and the chief

executive of each region attend GMB meetings, either as members or by invitation.

The GMB is a key element of our management reporting and control structure such that all of our line operations are accountable either to a member of the GMB or directly to the Group Chief Executive, who in turn reports to the Group Chairman. The Board has set objectives and measures for the GMB. These align senior executives’ objectives and measures with the strategy and operating plans throughout HSBC.

The Chairman of the GMB reports to each meeting of the Board on the activities of the GMB.

The Group Chief Risk Officer chairs regular Risk Management Meetings of the GMB. The Risk Management Meetings provide strategic direction and oversight of enterprise-wide management of all risks and establish, maintain and periodically review the policy and guidelines for the management of risk within the Group. The Risk Management Meeting also reviews the development and implementation of Global Standards reflecting best practices which must be adopted and adhered to consistently throughout the Group. The Head of Group Financial Crime Compliance and Group Money Laundering Reporting Officer attends this section of the Risk Management Meeting.

 

 

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Report of the Directors: Corporate Governance (continued)

 

 

Group Audit Committee

Chairman’s Statement

 

The GAC has non-executive responsibility for oversight of and provision to the Board of advice on matters relating to financial reporting and internal controls over financial reporting. This report sets out the activities of the GAC that underpin this work and issues faced by the committee during the year.

 

Key areas of GAC activity during the year include: overseeing the external auditor transition from KPMG Audit Plc (‘KPMG’) to PricewaterhouseCoopers LLP (‘PwC’); considering provisioning for conduct-related legal and regulatory issues; and integrating the approach to financial reporting and internal controls to ensure consistency across committees of the Board.

 

In 2015, an area of focus for the GAC will be to monitor the implementation of recovery and resolution plans, which are designed to ensure that the effects of a banking failure are mitigated, thus avoiding severe systemic disruption, while protecting the economic functions provided by the relevant banking entity. The GAC will also monitor the financial control and reporting implications of ring-fencing the retail banking operations in the UK and the establishment of operating companies globally. A further area of focus in 2015 will be the implementation of revised International Financial Reporting Standard 9 ‘Financial Instruments’ concerning the classification and measurement of financial instruments (‘IFRS 9’). This is of particular significance given the potential impact IFRS 9 will have on how we classify and measure financial assets.

 

Kathleen Casey joined the GAC in March 2014 and Phillip Ameen joined the GAC on 1 January 2015, bringing with them extensive experience in US financial regulatory policy and accounting standards setting and reporting, respectively. Further details are provided in Kathleen’s and Phillip’s biographies on page 265.

 

Finally, I would like to thank Renato Fassbind, whom I succeeded as Chairman of the GAC, John Coombe and the late Marvin Cheung, all of whom stepped down from the GAC during the year, for their respective contributions to the work of the committee.

 

Jonathan Symonds

Chairman, Group Audit Committee

23 February 2015

 

Role and membership

The key areas of responsibility for the GAC include:

 

  monitoring the integrity of financial statements;

 

  overseeing the internal controls systems over financial reporting;

 

  monitoring and reviewing the effectiveness of the Internal Audit function;

 

  reviewing the Company’s financial and accounting policies and practices; and

 

  oversight and remuneration of the external auditor and advising the Board on the appointment of the external auditor.

 

        

    Meetings

attended

        

Meetings

eligible
to attend

 

Members1

         

Jonathan Symonds (Chairman)2,7

       2           2   

John Coombe3

       4           4   

Renato Fassbind4

       5           5   

Kathleen Casey5,7

       4           4   

Marvin Cheung6

       4           5   

Rachel Lomax7

       7           7   

Meetings held in 2014

            7   

 

1 All members are independent non-executive Directors.
2 Appointed as a member and Chairman on 1 September 2014.
3 Retired as Chairman and member on 23 May 2014.
4 Appointed Chairman on 23 May 2014 and retired as a member and Chairman on 1 September 2014.
5 Appointed as a member on 1 March 2014.
6 Retired as a member on 1 August 2014.
7 The Board has determined member to be independent according to SEC criteria and may be regarded as audit committee financial experts for the purposes of section 407 of the Sarbanes-Oxley Act and have recent and relevant financial experience for the purposes of the UK Corporate Governance Code.

Governance

The table below sets out the governance structure for the Board Committees whose duties relate to the integrity of HSBC’s reporting to shareholders and other investors. Each major operating subsidiary has established a board committee with non-executive responsibility for oversight of matters relating to financial reporting.

A forum for the chairmen of our principal subsidiary company committees with non-executive oversight responsibility for financial reporting and risk-related matters was held in June 2014 to share views and to facilitate a consistent approach to the way in which these subsidiary company committees operate. The next forum is scheduled to be held in June 2015.

 

 

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Report of the Directors: Corporate Governance (continued)

 

 

Governance structure for the oversight of financial reporting

 

 

Authority

 

   Membership    Responsibilities include:

 

Board

  

 

Executive and non-executive Directors

  

 

•  Financial reporting

•  Appointing senior financial officers

 

Disclosure Committee    Representatives from global businesses, functions and certain Group companies   

•  Reviewing the Group’s material communications with investors

•  Assisting the Group Chief Executive and Group Finance Director to discharge their obligations relating to financial reporting under the Securities Exchange Act of 1934

•  Monitoring and reviewing the effectiveness of controls and procedures established to ensure that information is disclosed appropriately and on a timely basis

•  Reporting findings and making recommendations to the Group Chief Executive, Group Finance Director and the GAC

 

Subsidiary board committees responsible for oversight of financial reporting and global business audit committees

 

  

Independent non-executive directors and/or HSBC Group employees with no line of functional responsibility for the activities of relevant subsidiary or global business, as appropriate

 

  

•  Providing reports to the GAC on financial statements and internal controls over financial reporting of relevant subsidiaries or businesses, as requested

 

How the Committee discharged its responsibilities

Throughout the year, the GAC received regular reports on a number of matters including internal audit findings and follow-up work, accounting issues and judgements, and legal and regulatory matters. The GAC received presentations from a number of members of the senior management including the Group Finance Director, Group Chief Accounting Officer and Group Head of Internal Audit. The Chairman of the GAC also had meetings with a number of these individuals separately, providing an additional forum to discuss specific issues.

During the year, the GAC held meetings with the Group Head of Internal Audit and with the external auditors in the absence of management.

In discharging its responsibilities the GAC undertakes the following principal activities:

 

  oversight and challenge of the effectiveness of internal control processes that form the internal control framework for financial reporting and also of those internal controls processes that relate to the Sarbanes-Oxley Act. The Group Head of Internal Audit and the external auditor regularly report to the GAC without management present. During the year, the GAC confirmed that the Finance function was adequately resourced and that qualifications and experience of staff in that function were appropriate. Further details on internal control can be found on pages 288 to 290;

 

  the adoption for full implementation in 2015 of the revised Committee of Sponsoring Organisations of the Treadway Commission (‘COSO’) framework, an integrated internal control framework to meet our internal controls obligations under the Sarbanes-Oxley Act and also under the UK and Hong Kong corporate governance codes;

 

  review of HSBC’s financial and accounting policies and their application to the reporting of the Group’s activities and financial performance. Further details of this area of the GAC’s work are provided in the
 

‘Principal activities and significant issues considered’ table on page 279;

 

  monitoring of the legal and regulatory environment; the GAC received regular reports on litigation and on the application of changes in law, regulation, accounting policies and practices including reports on developments in programmes to implement IFRSs, Basel III/CRD IV and the recommendations of the Parliamentary Commission on Banking Standards, particularly as they relate to accounting policies and financial reporting;

 

  review of the effectiveness of the Internal Audit function. The GAC’s effectiveness review encompassed the scope of the Internal Audit function’s work and the adequacy of the skills of the internal audit team. The GAC found the Internal Audit function remained effective and this conclusion was supported by the findings of a quality assurance review of the Internal Audit function undertaken by PwC. During the year, the GAC terms of reference and the audit charter of internal audit were updated to clarify the GAC’s responsibility for the oversight of the governance of the Internal Audit function and the reporting line of the Group Head of Internal Audit to the Chairman of the GAC. The Audit Charter is available on the HSBC website at www.hsbc.com/ investor-relations/governance/internal-control.

 

  an annual assessment of the effectiveness of the external auditor which includes assessments by the Group’s chief financial officers of its major geographical regions. The GAC also considered the level of scrutiny applied during the audit and the interaction of the auditor with senior management. Following this review the GAC was satisfied that KPMG continued to perform effectively as external auditor; and

 

 

an annual review of the independence of the external auditor. All services provided by KPMG during the 2014 were pre-approved by the GAC and were entered into under the pre-approval policies established by the GAC. The pre-approved services

 

 

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relate to regulatory reviews, agreed-upon procedures reports, other types of attestation reports, the provision of advice and other non-audit services allowed under the SEC independence rules. The services fall into the categories of audit services, audit-related services, tax services and other services.

Following its review, the GAC confirmed that it considered KPMG to be independent and KPMG, in accordance with industry standards, has provided the GAC with written confirmation of its independence for the duration of the financial year ended 31 December 2014. The GAC approved the remuneration and terms of engagement and recommended to the Board the re-appointment of KPMG for the financial year ended 31 December 2014.

The GAC’s oversight of the audit tender process in 2013 resulted in the GAC’s recommendation to the Board that PwC be appointed as the Group’s auditor for the financial year beginning on 1 January 2015. The GAC has recommended to the Board that PwC be appointed at the forthcoming Annual General Meeting. PwC provided written confirmation of its independence from HSBC prior to its appointment. During 2014, regular meetings were held with PwC’s audit engagement team to assist in developing the 2015 external audit plan.

The Board has approved, on the recommendation of the GAC, a policy for the employment by HSBC of former employees of KPMG and PwC. The GAC receives an annual report on such former employees who are employed and the number in senior positions. This report enables the GAC to consider whether there has been any impairment, or appearance of impairment, of the external auditor’s judgement, objectivity or independence in respect of the audit. An analysis of the remuneration paid in respect of audit and non-audit services provided by KPMG for each of the past three years is disclosed in Note 7 on the Financial Statements.

In addition to addressing the matters noted above, the GAC considered the significant accounting issues described below. The GAC considered the appropriateness of management’s judgements and estimates, where appropriate discussing these with KPMG, the external auditors, and reviewing the matters referred to in the external auditor’s report as risks of material mis-statement.

The GAC undertakes an annual review of its own terms of reference and effectiveness. The terms of reference can be found on our website at www.hsbc.com/ investor-relations/governance/ board-committees.

 

Principal activities and significant issues considered include:

 

Key area

 

  

Action taken

 

Appropriateness of provisioning for legal proceedings and regulatory matters   

The GAC received reports from management on the recognition and amounts of provisions, the existence of contingent liabilities, and the disclosures relating to provisions and contingent liabilities, for legal proceedings and regulatory matters. Specific areas addressed included the legal action brought by the US Federal Housing Finance Agency in respect of mortgage-backed securities offerings, and provisioning arising from investigations conducted by the UK Financial Conduct Authority and US regulators and law enforcement agencies relating to trading activities in the foreign exchange market. In 2015, the GAC considered reports and disclosures concerning potential liabilities in connection with investigations of HSBC’s Swiss Private Bank by a number of tax administration, regulatory and law enforcement authorities.

 

Loan impairment, allowances and charges   

The GAC reviewed loan impairment allowances for personal and wholesale lending. Significant judgements and estimates reviewed included a review of loss emergence periods across our wholesale loan portfolios, consideration of the effect of falling oil prices on potential wholesale loan impairments, notable individual cases of impairment in wholesale lending and the adequacy of collective impairment allowances on personal lending portfolios.

 

UK customer remediation   

The GAC considered the provisions for redress for mis-selling of payment protection insurance policies, provisions for mis-selling of interest rate hedging products, and liabilities in respect of breaches of the UK Consumer Credit Act.

 

Valuation of financial instruments   

The GAC reviewed developments in market practice regarding accounting for funding costs in the valuation of uncollateralised derivatives. In line with evolving market practice, in the fourth quarter of 2014 we adopted an FFVA to account for the impact of incorporating the cost of funding into the valuation of uncollateralised derivatives.

 

Bank of Communications Co., Limited (‘BoCom’) impairment testing   

During the year the GAC considered the regular impairment reviews of HSBC’s investment in BoCom and management’s conclusions that the investment is not impaired. When testing investments in associates for impairment, IFRS requires the carrying amount to be compared with the higher of fair value and value in use. The GAC reviewed a number of aspects of management’s work in this area including the sensitivity of the result of the impairment review to estimates and assumptions of projected future cash flows and the discount rate.

 

Goodwill impairment testing   

No impairment was identified as a result of the annual goodwill impairment test, and the review for indicators of impairment as at 31 December 2014 identified no indicators of impairment. The result for GPB Europe is sensitive to key assumptions and is subject to enhanced disclosure.

 

Recognition of deferred tax assets   

In considering the recoverability of the Group’s deferred tax assets, the GAC reviewed the recognition of deferred tax assets in the USA, Brazil and Mexico, and the associated projections of future taxable income.

 

Non-GAAP financial measures   

The GAC considered the change in the non-GAAP financial measures presented from ‘underlying performance’ to an ‘adjusted performance’ measure in the 2014 ARA.

 

 

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Group Risk Committee

Chairman’s Statement

 

The Group Risk Committee (‘GRC’) oversees and advises the Board on high level risk-related matters and internal control, other than internal financial controls, which are overseen by the Group Audit Committee. The GRC is responsible for ensuring that Group risk profile and underlying business activity is in line with risk appetite as approved by the Board.

 

The tone from the top of the Group, which is set by senior management, is critical to effective risk management. During the year the GRC continued to focus on steps taken to communicate and reinforce the Group’s commitment to ‘doing the right thing’. This focus is reflected in the advice the GRC provides to the Group Remuneration Committee in connection with executive pay.

 

The implications of an evolving legal and regulatory framework for financial institutions present an ongoing challenge. The 2014 PRA and EBA stress testing programmes were a particular area of focus for the GRC during the year. The nature and pace of legal and regulatory change in 2014 has also led to increased scrutiny by the GRC of the Group’s risk appetite profile and management actions to mitigate legal and regulatory risks and exposures.

 

Geopolitical risk has remained an ongoing theme for the GRC, and during the year, the GRC held a joint meeting with the Group Audit Committee to consider key risks in China and the Asia Pacific region. It is expected that geopolitical risk will also be a theme for the GRC throughout 2015.

 

Heidi Miller joined the GRC in September 2014 and brings with her significant global financial services experience. Heidi has held a range of senior financial services sector appointments, most recently as President of JPMorgan International. Further details are provided in Heidi’s biography on page 267.

 

Toward the end of 2014 a regulatory driven industry-wide review of IT infrastructure commenced which will continue into 2015.

 

Joachim Faber

Chairman, Group Risk Committee

23 February 2015

 

Role and membership

The GRC is responsible for:

 

  advising the Board on high-level risk-related matters and risk governance, including current and forward looking risk exposures, future risk strategy and management of risk within the Group;

 

  advising the Board on risk appetite and risk tolerance;

 

  reviewing the effectiveness of the Group’s risk management systems framework and internal control systems (other than internal financial control systems which is the responsibility of the Group Audit Committee);

 

  monitoring executive control and management of risk including top and emerging risks; and

 

  advising the Group Remuneration Committee on the alignment of remuneration with risk appetite.

The GRC is comprised of independent non-executive Directors as listed below.

        

Meetings

attended

        

Meetings

eligible

to attend

 

Members

         

Joachim Faber (Chairman)

       13           13   

John Coombe1

       5           5   

John Lipsky

       13           13   

Rachel Lomax

       13           13   

Heidi Miller2

       4           4   

Meetings held in 2014

            13   

 

1 Retired as a Director and member on 23 May 2014.
2 Appointed a member on 1 September 2014.

By invitation, John Trueman, a non-executive director of HSBC Bank plc, attended meetings of the GRC throughout 2014. Safra Catz, a non-executive Director of HSBC Holdings plc, attended two presentations given to the GRC on IT-related matters.

Governance of risk

All of HSBC’s activities involve the measurement, evaluation, acceptance and management of risk or combinations of risks. The Board, advised by the GRC, requires and encourages a strong risk governance culture which shapes the Group’s attitude to risk. The Board and the GRC oversee the maintenance and development of a strong risk management framework by continually monitoring the risk environment, top and emerging risks facing the Group and mitigating actions planned and taken.

The governance structure of the Board and its committees for the management of risk is set out in the table on page 24. The GRC has overall non-executive responsibility for oversight of risk across the Group. The Conduct & Values and the Financial System Vulnerabilities committees are responsible for the oversight of specific areas of risk which include the promotion and embedding of HSBC Group Values and HSBC Group principles and the oversight of matters relating to anti-money laundering, sanctions, terrorist financing and proliferation financing. The Conduct & Values and the Financial System Vulnerabilities committees regularly update the GRC on their activities.

Each major Group operating subsidiary has established a board committee with non-executive responsibility for oversight of risk-related matters and an executive committee with responsibility for risk-related matters. The GRC has set core terms of reference for subsidiary company non-executive risk and audit committees.

Further details of the structures in place for the management of risk across the Group are provided on pages 112 to 118.

How the GRC discharged its responsibilities

The GRC discussed top and emerging risks and the Group’s risk profile with management at each of its meetings. In monitoring top and emerging risks the GRC received reports and presentations from the Group Chief

 

 

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Risk Officer (an executive Director), the Global Head of Financial Crime Compliance and Group Money Laundering Reporting Officer, and the Global Head of Regulatory Compliance. During the year, other members of the senior management attended GRC meetings including the Group Chief Operating Officer, the Global Head of Risk Strategy and Chief of Staff, the Head of Group Performance and Reward and the Group Chief Data Officer.

The Group Chief Risk Officer provided regular reports and presentations to the GRC, including at each meeting a presentation of the ‘risk map’ which describes our risk profile by risk type in the global businesses and regions, the Group Risk Appetite Statement, and the top and emerging risks report which summarised the

mitigating actions for identified risks. The GRC requested reports and updates from management on risk-related issues identified for in-depth consideration and also received regular reports on matters discussed at Risk Management Meetings of the GMB.

Page 118 provides further information on the top and emerging risks for the Group.

Throughout the year, the GRC Chairman met with the Group Chief Risk Officer, the Group Head of Internal Audit, the Group Finance Director, the Chief Legal Officer and other senior executives as required.

In addition to addressing the matters noted above, the GRC focused on a number of key areas including those set out in the table below.

 

Principal activities and significant issues considered include:

 

Key area

 

  

Action taken

 

The Group Risk Appetite Statement and monitoring of the Group risk profile against the Risk Appetite Statement   

The GRC reviewed management proposals for revisions to the Group Risk Appetite Statement metrics for 2014. Following review, the Committee recommended a number of refinements to the Group Risk Appetite Statement to the Board including the cost efficiency, Common Equity Tier 1 Capital and sovereign exposure ratios.

 

The GRC regularly reviews the Group’s risk profile against the key performance metrics set out in the Risk Appetite Statement. The GRC reviewed management’s assessment of risk and provided scrutiny of management’s proposed mitigating actions.

 

PRA and EBA concurrent stress tests   

The GRC monitored the PRA and EBA stress testing exercises and reviewed the results of stress testing prior to submission to the respective regulators. It received reports over the course of the PRA and EBA stress testing exercises and met three times during the year solely to consider stress testing related matters. At these meetings the GRC reviewed the stress test scenarios as set by the PRA and EBA and the enhancements to these scenarios where appropriate. The GRC oversaw a review of the lessons learnt from this stress testing exercise.

 

Internal Audit assessed progress on the regulatory stress tests programmes and reported its conclusions and recommendations to the GRC.

 

Execution risk   

Execution risk is the risk relating to the delivery of the Group strategy and is a standing agenda item for the GRC. Monitoring of this risk and challenging management’s assessment of execution risk and corresponding mitigating actions remain a priority for the GRC.

 

In addition to the regular reports received and ‘deep-dive reviews’ conducted on specific issues identified, the GRC requested reports from Internal Audit on the themes identified during the course of its work.

 

Legal and regulatory risks   

The legal and regulatory environment continues to evolve in both complexity and the level of requirements placed on financial services sector firms.

 

The GRC received regular reports on legal and regulatory risks, reviewed management actions to mitigate these risks and considered the potential impact of future developments in this area on the Group. In 2015, these included reports concerning risks related to investigations of HSBC’s Swiss Private Bank by a number of tax administration, regulatory and law enforcement authorities. A particular area of focus for the GRC remains the uncertainty in respect of capital adequacy regulatory requirements; further time has been scheduled for the GRC to address this matter.

 

IT and data-related risks   

During the year, the GRC considered a number of IT and data-related risks including internet crime and fraud, data management and aggregation, and information security. The GRC reviewed management’s assessment of these risks and management actions to mitigate them.

 

IT and data-related risks are expected to remain an area of focus for the GRC during the course of 2015.

 

Geopolitical risk   

The GRC received regular reports on geopolitical risks including the crises in the Middle East and Ukraine and the continued tensions in respect of maritime sovereignty in the South China Sea. Management provided regular updates on the implementation of mitigating actions in response to these matters which included the augmentation of anti-money laundering, sanctions and financial crime compliance controls. The GRC also held a joint meeting with the Group Audit Committee which focused on issues faced in mainland China and the Asia-Pacific region.

 

Further information on the identification, management and mitigation of the risks set out above is provided on pages 114 to 117.

 

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Financial System Vulnerabilities Committee

Chairman’s Statement

 

The Financial System Vulnerabilities Committee (‘FSVC’) oversees the implementation by management of policies aimed at mitigating financial crime and system abuse risks which HSBC faces in the execution of its strategy. In doing so, it provides thought leadership, governance, oversight and policy guidance over the framework of controls and procedures which has been designed to address these risks to which HSBC, and the financial system more broadly, may be exposed. More formally, the Committee oversees our compliance with regulatory orders, including oversight of the Group’s relationship with the Monitor1, with whom the Committee regularly meets and engages to ensure alignment of our respective priorities and interests.

 

We recognise that in the past HSBC did not consistently identify, and so prevent, misuse and abuse of the financial system through its network. However, the adoption of the highest or most effective global compliance standards – allied with the highest standards of behaviour – forms part of our strategy to address the possibility of this happening again, and will address our obligations under the various regulatory orders entered into in 2012.

 

As you will read in this report, during 2014, the Committee has made considerable progress in the achievement of its objective, reviewing and adopting new global policies on anti-money laundering and sanctions compliance, agreeing and setting milestones regarding the enhancement of transaction monitoring and customer due diligence systems and processes and routinely engaging with the Monitor for this purpose. An equally important aspect of the FSVC’s role in 2014 has been to provide the Group with a forward-looking perspective on financial crime risk. As an example, the Committee undertook a deep dive review in 2014 to ascertain the actions being taken to mitigate the risks associated with the vast amount of data to which the firm is exposed in the delivery of products to its customers. The five subject matter experts appointed to the FSVC have provided invaluable guidance and advice in identifying risk areas where the Group could become exposed, working with us to mitigate those risks.

 

Building on this, the FSVC will continue to focus in 2015 on the controls and procedures which will underpin our high behavioural and compliance standards. A strong compliance culture is essential to the success of our strategy and this will remain a focus area for the FSVC during the year.

 

I would like to take this opportunity to thank Rona Fairhead for her leadership of the Committee from the period since its establishment in early 2013 and I am delighted to have inherited from her in May last year a Committee with a clear intent and purpose to address the challenges facing HSBC.

 

Lord Evans of Weardale

Chairman, Financial System Vulnerabilities Committee

23 February 2015

 

1   See page 27 for further details on the Monitor.

 

Role and membership

The FSVC has non-executive responsibility for:

 

  governance, oversight and policy guidance over the framework of controls and procedures designed to identify areas where HSBC and the financial system more broadly may become exposed to financial crime or system abuse;

 

  oversight of matters relating to anti-money laundering, sanctions, terrorist financing and proliferation financing, including the establishment, implementation, maintenance and review of adequate policies and procedures sufficient to ensure the continuing obligations to regulatory and law enforcement agencies are met and oversight of implementation of the actions necessary to build assurance in these areas;

 

  provision of advice as applicable on the implementation of the Global Standards programme; and

 

  provision of a forward-looking perspective on financial crime risk to the Board.

 

   

Meetings

attended

   

Meetings

eligible

to attend

 

Members

Lord Evans of Weardale (Chairman)1

  6      7   

Kathleen Casey2

  5      5   

Rona Fairhead3

  7      7   

Nick Fishwick4

  7      7   

Dave Hartnett4

  7      7   

Bill Hughes4

  7      7   

Sir Simon Robertson

  7      7   

Leonard Schrank4

  7      7   

Juan Zarate4,5

  7      7   

Meetings held in 2014

  7   

 

1 Appointed Chairman on 23 May 2014.
2 Appointed a non-executive Director and member on 1 March 2014.
3 Retired as Chairman on 23 May 2014.
4 Co-opted non-director member.
5 Also provides advisory services to the board of HSBC North America Holdings Inc.

Five co-opted non-director members have been appointed advisers to the Committee to support its work. Brief biographies are set out below:

Nick Fishwick, CMG: Former senior official in the Foreign and Commonwealth Office, specialising in security, intelligence and counter-terrorism; seconded from 2001 to 2004 to HM Customs and Excise as Head of Intelligence (Law Enforcement), focusing on international counter-narcotics, tax and excise fraud; awarded the CMG in 2009.

 

 

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Dave Hartnett, CB: Former Permanent Secretary for Tax at HM Revenue and Customs; focused on tax policy development, compliance and enforcement and international tax issues during his 36-year career in tax administration; former deputy chairman of the Organisation for Economic Co-operation and Development’s Forum on Tax Administration.

Bill Hughes, CBE QPM: Former head of the UK’s Serious Organised Crime Agency; international experience in the disruption, dismantling and criminal investigation of organised crime.

Leonard Schrank: Former chief executive officer of SWIFT, the industry-owned, global financial messaging system; oversaw SWIFT’s relationship with the US Treasury Department and other countries on counter-terrorism issues. Member of MIT Corporation.

The Honourable Juan Zarate: Senior Advisor at the Center for Strategic and International Studies; the Senior National Security Analyst for CBS News; a Visiting Lecturer of Law at the Harvard Law School; national security consultant; former Deputy Assistant to the President and Deputy National Security Advisor for Combating Terrorism responsible for developing and implementing the US Government’s counter-terrorism strategy and policies related to transnational security threats; former Assistant Secretary of the Treasury for Terrorist Financing and Financial Crime; and former federal prosecutor who served on terrorism prosecution teams.

How the FSVC discharged its responsibilities

The FSVC has agreed areas of focus where HSBC and the financial system more broadly may become exposed to financial crime or system abuse, with the GRC retaining responsibility for high-level risk related matters and risk governance. Particular areas of focus for FSVC included: cyber security; technology and data systems; transaction

monitoring systems for anti-money laundering; sanctions and other financial crime related risks; and customer due diligence and know your customer procedures. Regular reports and updates on these focus areas were provided to the FSVC by the adviser members and relevant executives.

The FSVC also maintained oversight of obligations under the US and UK agreements and updates on HSBC’s interactions with the Monitor.

The Chief Legal Officer, Group Chief Risk Officer, Global Head of Financial Crime Compliance, the Group Money Laundering Reporting Officer, Global Head of Regulatory Compliance and the Group Head of Internal Audit provided reports to the FSVC including on meetings held with, and reports submitted to, regulators on the Group’s compliance-related initiatives made both in connection with the resolution of the investigations by US and UK regulatory and law enforcement authorities in December 2012 and also more generally. In addition to the scheduled Committee meetings, the Chairman met regularly with the Group Chairman, the adviser members of the Committee and senior executives as required.

During the year, the FSVC received regular updates on the Compliance Plan, which documents the Group’s strategy to augment HSBC’s anti-money laundering and sanctions compliance programme, which covers the related policies, procedures and enhanced training. Regular reports are also submitted to the FSVC on Group-wide whistleblowing disclosures and anti-bribery and corruption matters.

In addition to its reports to the Board, the FSVC also regularly updates the Group Risk Committee on specified matters to raise areas for its consideration as appropriate.

During the year, the FSVC focused on a number of key areas, as set out in the table below.

 

Principal activities and significant issues considered include:

 

Key area

 

  

Action taken

 

Financial crime-related issues   

The FSVC reviewed and adopted a Group policy on anti-money laundering which is now being implemented across all of HSBC’s businesses. It received regular updates on the implementation of the IT strategy agreed as part of the work to manage and mitigate financial crime risks. A particular area of focus was on enhancements proposed by management in respect of the Group’s transaction monitoring systems.

 

Sanctions   

The FSVC reviewed and adopted a Group policy on sanctions compliance which is now being implemented, whilst the Group’s ongoing sanctions compliance programmes and management’s strategy to respond to the expansion of global sanctions were also routinely monitored by the Committee during the year.

 

Cyber security   

During 2014, the FSVC reviewed cyber-security risks and strategy in this area and proposed enhancements to the Group’s cyber security capabilities. The reviews included briefings on the Group’s ability to predict, respond and recover from cyber-attacks. Metrics and timelines were agreed with management to monitor progress in this area.

 

FATCA and tax transparency   

The FSVC received updates to tax transparency initiatives undertaken by HSBC and the Group-wide implementation of the requirements under the Foreign Account Tax Compliance Act.

 

 

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Group Remuneration Committee

The Group Remuneration Committee is responsible for approving remuneration policy. As part of its role, it considers the terms of fixed pay, annual incentive plans, share plans, other long-term incentive plans, benefits and the individual remuneration packages of executive Directors and other senior Group employees and in doing so takes into account the pay and conditions across the Group. No Directors are involved in deciding their own remuneration.

 

        

Meetings

attended

        

Meetings

eligible

to attend

 

Members1

         

Sir Simon Robertson (Chairman)

       11           11   

John Coombe 2

       6           6   

Renato Fassbind3

       7           7   

John Lipsky4

       5           5   

Sam Laidlaw

       10           11   

Jonathan Symonds5

       2           3   

Meetings held in 2014

            11   

 

1 All members are independent non-executive Directors.
2 Retired as a Director and member on 23 May 2014.
3 Resigned as a Director and member on 1 September 2014.
4 Appointed a member on 23 May 2014.
5 A member from 14 April 2014 until 1 September 2014.

The Directors’ Remuneration Report is set out on pages 300 to 327.

Nomination Committee

Chairman’s Statement

 

A key responsibility of the Nomination Committee (‘Nomco’) is to ensure there is an appropriate balance of skills, knowledge, experience, diversity and independence on the Board. Following Nomco’s recommendation, the Board appointed in 2014 four independent non-executive Directors, namely, Phillip Ameen, Kathleen Casey, Heidi Miller and Jonathan Symonds. They have brought different expertise and experience to the Board. HSBC now surpasses the target set under the Board’s own diversity policy, which states that 30% of the Board members should be female by 2020.

 

Another important responsibility of Nomco is to ensure that plans are in place for the selection, appointment and orderly succession of executive Directors and senior executives. Nomco met once last year to undertake with the Group Chief Executive an in-depth review of succession plans and concluded that they are sufficient and appropriate but need to be kept under annual review.

 

Nomco continues to monitor regulatory developments as they may require changes to the composition of the Board. Nomco has considered in detail the new requirements under the EU’s Capital Requirements Directive IV which came into effect on 1 July 2014 and which restrict the number of directorships that may be held by member of the Board. The ramifications of these new requirements for the current Board have been reviewed and the requirements are routinely kept under review.

 

Sir Simon Robertson

Chairman, Nomination Committee

23 February 2015

Role and membership

Nomco has non-executive responsibility for leading the process for Board appointments and for identifying and nominating, for approval by the Board, candidates for appointment to the Board. Nomco is responsible for succession planning of Directors to the Board. In the course of this, it also oversees senior management succession planning.

 

        

Meetings

attended

        

Meetings

eligible

to attend

 

Members1

         

Sir Simon Robertson (Chairman)

       4           4   

Laura Cha2

       2           2   

Rona Fairhead

       4           4   

James Hughes-Hallett3

       2           2   

Sam Laidlaw2

       2           2   

John Lipsky

       4           4   

Meetings held in 2014

            4   

 

1 All members are independent non-executive Directors.
2 Appointed a member on 23 May 2014.
3 Retired as a Director and member on 23 May 2014.
 

 

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How Nomco discharged its responsibilities

Nomco undertook the following key activities in the discharge of its responsibilities:

 

 

Principal activities and significant issues considered include:

 

Key area

 

  

Action taken

 

 

Appointments of new Directors

  

 

Following a rigorous selection process, Nomco recommended to the Board the appointment of four non-executive Directors during 2014: Phillip Ameen (with effect from 1 January 2015), Kathleen Casey, Heidi Miller and Jonathan Symonds; and an executive Director: Marc Moses, Group Chief Risk Officer.

 

An external search consultancy, MWM Consulting, was used in relation to the appointment of three of the four non-executive Directors (Kathleen Casey, Heidi Miller and Jonathan Symonds). MWM Consulting has no additional connection with HSBC other than as search consultant for certain senior executive hires. Phillip Ameen was identified by the Committee through his existing role as an independent Director of HSBC North America Holdings Inc. since 2012 (where he chairs the Audit Committee and serves on the Risk Committee). He also brings extensive financial and accounting experience gained from a long career at General Electric (ultimately as Vice President, Comptroller and Principal Accounting Officer of General Electric Corp.), as well as a depth of technical knowledge from his participation in the accounting standard setting world.

 

Forward planning   

Nomco adopts a forward-looking approach to potential candidates for appointment to the Board that takes into account the needs and development of the Group’s businesses and the expected retirement dates of current Directors.

 

Size, structure and composition of the Board and it committees   

Nomco monitors the size, structure and composition of the Board (including skills, knowledge, experience, diversity and independence).

 

Nomco considered the election or re-election of Directors at the 2014 Annual General Meeting. It has also recommended to the Board that all Directors should stand for election or re-election at the 2015 Annual General Meeting.

 

Regulatory developments   

Nomco monitors regulatory developments as they may affect Board composition. During 2014, Nomco considered the implications of the corporate governance requirements of the EU’s Capital Requirements Directive IV and the Equality and Human Rights Commission’s guidance on the equality law framework.

 

Diversity   

Nomco believes that one of its important duties is to ensure that there is a proper balance on the Board to reflect diversity and the geographical nature of its business. Appointments to the Board are made on merit and candidates are considered against objective criteria, having due regard to the benefits of diversity on the Board. The Board diversity policy is available at www.hsbc.com/investor-relations/governance/corporate-governance-codes.

 

Nomco regularly monitors the implementation of the Board’s diversity policy using the following measurable objectives: at least 25% of the Board should be female, with a target of 30% to be achieved by 2020; only external search consultants who are signatories to the Executive Search Firms Voluntary Code of Conduct should be engaged by Nomco; and at least 30% of candidates, proposed by search firms for consideration as non-executive Directors, should be women. We comply with these requirements and, as at the date of this report, 35.3% of the Board is female.

 

Director training and development   

Nomco reviews and monitors the training and continuous professional development of Directors and senior management.

 

Time commitment and independence of non-executive Directors   

Nomco assessed the independence of, and time required from, non-executive Directors. Nomco is satisfied that all non-executive Directors have the time to fulfil their fiduciary responsibilities to provide oversight of the business of the Group; and to serve on the relevant Committees of the Board. All Directors are asked to identify any other significant commitments they may have and confirm they have sufficient time to discharge what is expected of them as members of the Board.

 

 

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Report of the Directors: Corporate Governance (continued)

 

 

Conduct & Values Committee

Chairman’s Statement

 

The Conduct & Values Committee (‘CVC’) was established in January 2014 to provide Board oversight of the Group’s multiple efforts to raise standards of conduct and to embed the behavioural values the Group stands for. The delivery of fair outcomes for customers and upholding market integrity is a prime driver of a sustainable and profitable business. Whilst conduct risk is not a new concept, the Board recognises it is one receiving increasing global regulatory and industry focus and that it is therefore right to establish a committee whose objective is to oversee how conduct risk is being managed.

 

The need for greater emphasis on this area has become apparent in the last few years with the establishment of the Consumer Financial Protection Bureau in the US in 2011; the Financial Conduct Authority in the UK listing among its objectives ensuring appropriate protection of consumers and enhancing the integrity of the financial system; and the Hong Kong Monetary Authority introducing a charter on treating customers fairly. Additionally, fine levels have escalated, most significantly in the US, with a developing trend of out of court settlements. These facts reaffirm our belief that delivering higher standards of conduct is essential to restoring consumer confidence and rebuilding society’s trust in banking.

 

Since its establishment, the CVC has taken a systematic approach focussing on the global businesses and global functions, with a number of deep dives into its home and priority markets, with a particular focus to date on the UK. The business on the agenda for each meeting is closely mapped to the terms of reference and ensures that key responsibilities are adequately addressed at least once a year.

 

I have chaired the CVC since its establishment, with Laura Cha, chair of the former Corporate Sustainability Committee, Lord Evans of Weardale, Heidi Miller and Jonathan Symonds as members.

 

In 2015, the CVC will continue to focus on implementation of the Group’s conduct and market risk programme, with a particular interest in employee training and customer communication. It aims to take a forward looking approach to assessing conduct risk and anticipated further changes in public policy relating to conduct will be received with interest.

 

The Committee will additionally address its sustainability responsibilities, as inherited from the now-demised Corporate Sustainability Committee, so as to ensure that HSBC acts responsibly towards the communities within which it operates.

 

Rachel Lomax

Chairman, Conduct & Values Committee

23 February 2015

 

Role and membership

The CVC is responsible for:

 

  HSBC policies, procedures and standards to ensure that the Group conducts business responsibly and consistently adheres to HSBC Values. It aims to align its work to HSBC’s purpose of connecting customers to opportunities, enabling businesses to thrive and economies to prosper, and ultimately helping people to fulfil their hopes and realise their ambitions; and
  ensuring that in the conduct of its business, HSBC treats customers fairly and openly, does business with the right clients and in the right way, is a responsible employer, acts responsibly towards the communities in which HSBC operates and treats other stakeholders fairly.

The CVC is comprised of independent non-executive Directors as listed below.

 

        

Meetings

attended

        

Meetings

eligible

to attend

 

Members

         

Rachel Lomax (Chairman)1

       4           4   

Laura Cha2

       4           4   

Lord Evans of Weardale2

       4           4   

Heidi Miller3

       2           2   

Jonathan Symonds4

       4           4   

Meetings held in 2014

            4   

 

1 Appointed Chairman on 17 January 2014.
2 Appointed a member on 17 January 2014.
3 Appointed a member on 1 September 2014.
4 Appointed a member on 14 April 2014.

Governance

The CVC exercises non-executive responsibility for the oversight of the promotion and embedding of HSBC Values and our required global conduct outcomes. Additionally, the CVC will input as appropriate into the Group Remuneration Committee on the alignment of remuneration with conduct. It reports regularly to the Board on its activities.

How the CVC discharged its responsibilities

During the course of 2014 the CVC received regular reports and presentations from the Chief Executive, RBWM, the Chief Executive, CMB, the Global Head of Regulatory Compliance, the Group Head of Development, the Head of Group Corporate Sustainability and the Group Head of Internal Audit. During the year, other members of senior management attended CVC meetings including the Chief Executive, GB&M, the Global Head of Financial Crime Compliance, the Global Head of Communications, the Global Head of Anti-Bribery and Corruption and the Global Head of Marketing.

The Chief Executive, RBWM and the Chief Executive, Global Commercial Banking provide regular reports and presentations to the CVC, including an analysis of customer complaint trends at each meeting. The CVC also receives regular reports on whistleblowing cases, the outcomes of internal audits and the Group’s initiatives being undertaken to deliver against key values and culture initiatives.

In addition to the scheduled Committee meetings, the Chairman met regularly with the Group Chairman and senior executives as required.

 

 

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The Committee is additionally responsible for advising the Board, its committees and executive management on corporate sustainability policies across the Group including environmental, social and ethical issues. From this year, our progress on sustainability policies and performance is reported in the Strategic Report and on our website at hsbc.com/sustainability.

We will no longer publish a separate Sustainability Report as part of a progression towards an integrated approach to sustainability reporting. This change reflects best practice in reporting as well as the ongoing integration of sustainability matters into the strategy and management of HSBC.

During the year the CVC focused on a number of key areas, as set out in the table below.

 

Principal activities and significant issues considered include:

 

Key area

 

  

Action taken

 

Global approach to conduct   

The CVC endorsed a global approach to the management of conduct which defines and sets out required outcomes. It received regular reports from the Global Head of Regulatory Compliance on how conduct is being managed consistently across the Group to deliver the required outcomes. It also sets out the programmes and governance to deliver conduct improvements. In developing this approach, Management has given consideration to strategy, business models and decision making, culture and behaviours, interactions with customers, the impact of activities in financial markets and governance structures, oversight frameworks and management information. There is close alignment between this and the work being done to promote and embed HSBC Values.

 

Values   

The CVC oversees the promotion and embedding of HSBC Values. In 2013, the Group launched a project to better understand how HSBC Values drive everyday behaviours. This included interviews with leadership teams and functional specialists, focus groups with line managers and staff, and reviews of management information and local documentation.

 

The CVC received regular reports from management on this project and contributed to the subsequent action plan. It will continue to monitor the implementation of cultural change into 2015.

 

Customer experience   

Customer complaints. The CVC reviewed reports regarding customer experience, complaint trends and complaint handling. It considered improvements to the quality of complaint handling processes and root cause analysis.

 

Sales processes and incentive schemes. The CVC considered the review mechanism established by RBWM management, the aim of which is to ensure that the RBWM product range is appropriately positioned to fulfil customers’ needs. The CVC also reviewed the changes implemented to sales processes and sales incentive schemes in the RBWM and CMB businesses and the effectiveness of new quality assurance programmes. This will continue into 2015.

 

Whistleblowing   

The CVC has assumed responsibility for the governance of the Group’s whistleblowing policies and procedures, including the protection of whistleblowers. This responsibility does not extend to matters relating to financial reporting and associated auditing matters, which remain the responsibility of the Group Audit Committee. The CVC reviewed current whistleblowing processes and disclosures and received reports on an ongoing enhancement programme which takes account of recommendations made by the UK Parliamentary Commission on Banking Standards, regulatory guidance and emerging industry best practices.

 

Employee engagement   

The CVC monitored employee engagement across the Group and received the results of quarterly Snapshot engagement surveys which were conducted during 2014. It will continue to monitor these survey results in 2015, as well as the results of a Group People Survey planned to take place later in the year.

 

 

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Chairman’s Committee

Role and membership

The Chairman’s Committee has the power to act on behalf of the Board between scheduled Board meetings to facilitate ad hoc unforeseen business requiring urgent Board approval. The Committee meets with such frequency and at such times as it may determine, the quorum for meetings is dependent upon the nature of the business to be transacted, as set out in its terms of reference.

Philanthropic and Community Investment Oversight Committee

Role and membership

The Philanthropic and Community Investment Oversight Committee, established by resolution of the Board in December 2014, will focus on the Group’s philanthropic activity, being monetary donations made to charitable organisations and the contribution of staff time toward voluntary activities.

The Committee has non-executive responsibility for the oversight of HSBC’s philanthropic and community investment activities in support of the Group’s corporate sustainability objectives.

The Committee will meet for the first time in 2015 and will meet at least twice each year.

 

Members

Laura Cha1 (Chairman)

Lord Evans of Weardale1

Sir Malcolm Grant2,4

Ruth Kelly3,4

Stephen Moss3,4

 

1 Appointed on 5 December 2014.
2 Independent member.
3 Employee member.
4 Appointed on 19 February 2015.

Internal control

Procedures

The Directors are responsible for maintaining and reviewing the effectiveness of risk management and internal control systems and for determining the nature and extent of the significant risks it is willing to take in achieving its strategic objectives. To meet this requirement and to discharge its obligations under the FCA Handbook and PRA Handbook, procedures have been designed for safeguarding assets against unauthorised use or disposal; for maintaining proper accounting records; and for ensuring the reliability and usefulness of financial information used within the business or for publication. These procedures can only provide reasonable but not absolute assurance against material mis-statement, errors, losses or fraud.

These procedures are designed to provide effective internal control within HSBC and accord with the Financial Reporting Council’s guidance for directors issued in its revised form in 2005. HSBC’s procedures have been in place throughout the year and up to 23 February 2015, the date of approval of the Annual Report and Accounts 2014. This guidance was amended following consultations undertaken by the Financial Reporting Council in November 2013 and April 2014, resulting in revised guidance on risk management, internal control and related financial and business reporting. The revised guidance applies to companies with financial years beginning on or after 1 October 2014.

In the case of companies acquired during the year, the risk management and internal controls in place are being reviewed against HSBC’s benchmarks and integrated into HSBC’s processes.

In 2014 the GAC and GRC endorsed the adoption of the COSO 2013 framework for the monitoring of risk management and internal control systems to satisfy the requirements of Section 404 of the Sarbanes-Oxley Act of 2002, the UK Corporate Governance Code and the Hong Kong Corporate Governance Code. Full implementation of the COSO 2013 framework will be completed in 2015. HSBC continued to evaluate its internal control over financial reporting under the Financial Reporting Council’s Internal Control Revised Guidance for Directors and the original 1992 Framework for the year ended 31 December 2014.

HSBC’s key risk management and internal control procedures include the following:

 

  Group Standards. Functional, operating, financial reporting and certain management reporting standards are established by global function management committees, for application throughout HSBC. These are supplemented by operating standards set by functional and local management as required for the type of business and geographical location of each subsidiary.
 

 

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  Delegation of authority within limits set by the Board. Authority is delegated within limits set by the Board to each relevant Group Managing Director to manage the day to day affairs of the business or function for which he or she is accountable. Delegation of authority from the Board requires those individuals to maintain a clear and appropriate apportionment of significant responsibilities and to oversee the establishment and maintenance of systems of control that are appropriate to their business or function. Appointments to the most senior positions within HSBC requires the approval of the Board.

 

  Risk identification and monitoring. Systems and procedures are in place to identify, control and report on the major risks facing HSBC (see page 21) including credit, market, liquidity and funding, capital, financial management, model, reputational, pension, strategic, sustainability, operational (including accounting, tax, legal, regulatory compliance, financial crime compliance, fiduciary, security and fraud, systems operations, project and people risk) and insurance risk. Exposure to these risks is monitored by risk management committees, asset, liability and capital management committees and executive committees in subsidiaries and, for the Group, in Risk Management Meetings (‘RMM’) of the GMB which are chaired by the Group Chief Risk Officer. RMM meets regularly to discuss enterprise-wide risk management issues. Asset, liability and capital management issues are monitored by the Group ALCO, which also reports to the RMM. HSBC’s operational risk profile and the effective implementation of the Group’s operational risk management framework is monitored by the Global Operational Risk Committee (‘GORC’), which reports to the RMM. Model risks are monitored by the Model Oversight Committee which also reports to the RMM. The minutes of the GMB meetings and the RMM are provided to members of the GAC, the GRC and the Board.

 

  Changes in market conditions/practices. Processes are in place to identify new risks arising from changes in market conditions/practices or customer behaviours, which could expose HSBC to heightened risk of loss or reputational damage. During 2014, attention was focused on:

 

  economic outlook and government intervention;

 

  increased geopolitical risk;

 

  regulatory developments affecting our business model and Group profitability;

 

  regulatory investigations, fines, sanctions commitments and consent orders and requirements relating to conduct of business and financial crime negatively affecting our results and brand;

 

  dispute risk;

 

  heightened execution risk;

 

  people risk;

 

  third party risk management;
  internet crime and fraud;

 

  information security risk;

 

  data management; and

 

  model risk.

 

  Strategic plans. Periodic strategic plans are prepared for global businesses, global functions and certain geographical regions within the framework of the Group’s strategy. Annual Operating Plans, informed by detailed analysis of risk appetite describing the types and quantum of risk that we are prepared to take in executing our strategy, are prepared and adopted by all major HSBC operating companies and set out the key business initiatives and the likely financial effects of those initiatives.

 

  Disclosure Committee. The Disclosure Committee reviews material public disclosures made by HSBC Holdings for any material errors, misstatements or omissions. The membership of the Disclosure Committee, which is chaired by the Group Company Secretary, includes the heads of Global Finance, Legal, Risk (including Financial Crime Compliance and Regulatory Compliance), Communications, Investor Relations, and Internal Audit functions and representatives from the principal regions and global businesses. The integrity of disclosures is underpinned by structures and processes within the Global Finance and Global Risk functions that support expert and rigorous analytical review of financial reporting complemented by certified reviews by heads of global businesses, global functions and certain legal entities.

 

  Financial reporting. The Group financial reporting process for preparing the consolidated Annual Report and Accounts 2014 is controlled using documented accounting policies and reporting formats, supported by a chart of accounts with detailed instructions and guidance on reporting requirements, issued by Group Finance to all reporting entities within the Group in advance of each reporting period end. The submission of financial information from each reporting entity to Group Finance is subject to certification by the responsible financial officer, and analytical review procedures at reporting entity and Group levels.

 

  Responsibility for risk management. Management of global businesses and global functions are primarily accountable for measuring, monitoring, mitigating and managing their risks and controls. Processes are in place to ensure weaknesses are escalated to senior management and addressed, supported by our three lines of defence model.

 

  IT operations. Centralised functional control is exercised over all IT developments and operations. Common systems are employed for similar business processes wherever practicable.

 

  Functional management. Global functional management is responsible for setting policies, procedures and standards for the following risks: credit, market, liquidity and funding, capital, financial
 

 

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Report of the Directors: Corporate Governance (continued)

 

 

  management, model, reputational, pension, strategic, sustainability and operational risk (including accounting, tax, legal, financial crime compliance, regulatory compliance, fiduciary, information security, security and fraud, systems and people risk) and insurance risk. Authorities to enter into credit and market risk exposures are delegated with limits to line management of Group companies. The concurrence of the appropriate global function is required, however, to credit proposals with specified higher risk characteristics. Credit and market risks are measured and reported at subsidiary company level and aggregated for risk concentration analysis on a Group-wide basis.

 

  Internal Audit. The establishment and maintenance of appropriate systems of risk management and internal control is primarily the responsibility of business management. The Global Internal Audit function, which is centrally controlled, provides independent and objective assurance in respect of the adequacy of the design and operating effectiveness of the Group’s framework of risk management, control and governance processes across the Group, focusing on the areas of greatest risk to HSBC using a risk-based approach. The Group Head of Internal Audit reports to the Chairman of the GAC and administratively to the Group Chief Executive.

 

  Internal Audit recommendations. Executive management is responsible for ensuring that recommendations made by the Global Internal Audit function are implemented within an appropriate and agreed timetable. Confirmation to this effect must be provided to Global Internal Audit.

 

  Reputational risk. Policies to guide subsidiary companies and management at all levels in the conduct of business to safeguard the Group’s reputation are established by the Board and its committees, subsidiary company boards and their committees and senior management. Reputational risks can arise from a variety of causes including environmental, social and governance issues, as a consequence of operational risk events and as a result of employees acting in a manner inconsistent with HSBC Values. HSBC’s reputation depends upon the way in which it conducts its business and may be affected by the way in which clients, to which it provides financial services, conduct their business or use financial products and services.

Role of GAC and GRC

On behalf of the Board, the GAC has responsibility for oversight of risk management and internal controls over financial reporting and the GRC has responsibility for oversight of risk management and internal controls, other than over financial reporting.

During the year, the GRC and the GAC have kept under review the effectiveness of this system of internal control and have reported regularly to the Board. In carrying out their reviews, the GRC and the GAC receive regular business and operational risk assessments, regular

reports from the Group Chief Risk Officer and the Group Head of Internal Audit; reports on the annual reviews of the internal control framework of HSBC Holdings which cover all internal controls, both financial and non-financial; half yearly-confirmations to the GAC from audit and risk committees of principal subsidiary companies regarding whether their financial statements have been prepared in accordance with Group policies, present fairly the state of affairs of the relevant principal subsidiary, are prepared on a going concern basis; and confirm if there have been any material losses, contingencies or uncertainties caused by weaknesses in internal controls; internal audit reports; external audit reports; prudential reviews; and regulatory reports. The GRC monitors the status of top and emerging risks and considers whether the mitigating actions put in place are appropriate. In addition, when unexpected losses have arisen or when incidents have occurred which indicate gaps in the control framework or in adherence to Group policies, the GRC and the GAC review special reports, prepared at the instigation of management, which analyse the cause of the issue, the lessons learned and the actions proposed by management to address the issue.

Effectiveness of internal controls

The Directors, through the GRC and the GAC, have conducted an annual review of the effectiveness of our system of risk management and internal control covering all material controls, including financial, operational and compliance controls, risk management systems, the adequacy of resources, qualifications and experience of staff of the accounting and financial reporting function and the risk function, and their training programmes and budget. The review does not extend to joint ventures or associates. The annual review of the effectiveness of our system of risk management and internal control was conducted with reference to COSO principles functioning as evidenced by specified entity level controls. A report on the effectiveness of each entity level control and regular risk and control reporting was escalated to the GRC and GAC from certain key management committees.

The GRC and the GAC have received confirmation that executive management has taken or is taking the necessary actions to remedy any failings or weaknesses identified through the operation of our framework of controls.

Going concern

The financial statements are prepared on a going concern basis, as the Directors are satisfied that the Group and parent company have the resources to continue in business for the foreseeable future.

In making this assessment, the Directors have considered a wide range of information relating to present and future conditions, including future projections of profitability, cash flows and capital resources.

HSBC’s principal activities, business and operating models, strategic direction and top and emerging risks are described in the ‘Strategic Report’; a financial

 

 

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summary, including a review of the consolidated income statement and consolidated balance sheet, is provided in the ‘Financial Review’ section; HSBC’s objectives, policies and processes for managing credit, liquidity and market risk are described in the ‘Risk’ section; and HSBC’s approach to capital management and allocation is described in the ‘Capital’ section.

Employees

At 31 December 2014 we had a total workforce of 266,000 full-time and part-time employees compared with 263,000 at the end of 2013 and 270,000 at the end of 2012. Our main centres of employment are the UK with approximately 48,000 employees, India 32,000, Hong Kong 30,000, Brazil 21,000, mainland China 21,000, Mexico 17,000, the US 15,000 and France 9,000.

In the context of the current global financial services operating environment, a high performance and values-led work force is critical. We encourage open and honest communication in decision making. Employment issues and financial, economic, regulatory and competitive factors affecting HSBC’s performance are regularly shared with our employees.

Reward

Our approach to reward is meritocratic and market competitive, underpinned by an ethical and values based performance culture which aligns the interests of our employees, shareholders, regulators and customers.

Employee relations

We negotiate and consult with recognised unions as appropriate. The five highest concentrations of union membership are in Argentina, Brazil, mainland China, Malta and Mexico. It is our policy to maintain well-developed communications and consultation programmes with all employee representative bodies and there have been no material disruptions to our operations from labour disputes during the past five years.

Diversity and inclusion

HSBC is committed to building a values-driven high performance culture where all employees are valued, respected and where their opinions count. We remain committed to meritocracy, which requires a diverse and inclusive culture where employees believe that their views are heard, their concerns are attended to and they work in an environment where bias, discrimination and harassment on any matter, including gender, age, ethnicity, religion, sexuality and disability are not tolerated and where advancement is based on objective criteria. Our inclusive culture helps us respond to our diverse customer base, while developing and retaining a secure supply of skilled, committed employees. Our culture will be strengthened by employing the best people and optimising their ideas, abilities and differences.

Oversight of our diversity and inclusion agenda and related activities resides with executives on the Group Diversity Committee, complemented by the Group People Committee and local People/Diversity Committees.

Employee development

The development of employees in both developed and emerging markets is essential to the future strength of our business. We have implemented a systematic approach to identifying, developing and deploying talented employees to ensure an appropriate supply of high calibre individuals with the values, skills and experience for current and future senior management positions.

In 2014, we continued to build global consistency across our learning curricula and to improve the relevance and quality of learning programmes. We have endeavoured to achieve a standard of excellence focusing on leadership, values and technical capability.

Employment of disabled persons

We believe in providing equal opportunities for all employees. The employment of disabled persons is included in this commitment and the recruitment, training, career development and promotion of disabled persons is based on the aptitudes and abilities of the individual. Should employees become disabled during their employment with us, efforts are made to continue their employment and, if necessary, appropriate training and reasonable equipment and facilities are provided.

Health and safety

HSBC is committed to providing a safe and healthy environment for our employees, customers and visitors and pro-actively managing the health and safety risks associated with our business. Our objectives include compliance with health and safety laws in the countries in which we operate, identifying, removing, reducing or controlling material health and safety risks, reducing the likelihood of fires, dangerous occurrences and accidents to employees, customers and visitors.

The Corporate Real Estate department within HSBC has overall responsibility for health and safety and has set global health and safety policies and standards for use wherever in the world HSBC operates. Achieving these policies and standards is the responsibility of the country Chief Operating Officer.

In terms of physical and geopolitical risk, Global Security and Fraud Risk provide regular security risk assessments to assist management in judging the level of terrorist and violent criminal threat. Regional Security and Fraud Risk functions conduct biannual security reviews of all Group critical buildings to ensure measures to protect our staff, buildings, assets and information are appropriate to the level of threat.

HSBC remains committed to the effective management of health and safety and protecting employees, customers and visitors to HSBC.

 

 

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Employee health and safety

 

    2014     2013     2012  

Number of employee workplace fatalities

  2 1           

Accidents involving more than 3 days’ absence per 100,000 employees

  96      101      58   

All accident rate per 100,000 employees

  388 2    355      375   

 

1 Non-HSBC staff working on HSBC related activity.
2 Reflects higher reporting rate.

Remuneration policy

The quality and commitment of our employees is fundamental to our success and accordingly the Board aims to attract, retain and motivate the very best people. As trust and relationships are vital in our business our goal is to recruit those who are committed to making a long-term career with the organisation.

HSBC’s reward strategy supports this objective through balancing both short-term and sustainable performance. Our reward strategy aims to reward success, not failure, and be properly aligned with our risk framework and related outcomes. In order to ensure alignment between remuneration and our business strategy, individual remuneration is determined through assessment of performance delivered against both annual and long-term objectives summarised in performance scorecards as well as adherence to the HSBC Values of being ‘open, connected and dependable’ and acting with ‘courageous integrity’. Altogether, performance is judged, not only on what is achieved over the short and long term, but also on how it is achieved, as the latter contributes to the sustainability of the organisation.

The financial and non-financial measures incorporated in the annual and long-term scorecards are carefully considered to ensure alignment with the long-term strategy of the Group.

Further information on the Group’s approach to remuneration is given on page 300.

Employee share plans

Share options and discretionary awards of shares granted under HSBC share plans align the interests of employees with those of shareholders. The tables on the following pages set out the particulars of outstanding options, including those held by employees working

under employment contracts that are regarded as ‘continuous contracts’ for the purposes of the Hong Kong Employment Ordinance. The options were granted at nil consideration. No options have been granted to substantial shareholders, suppliers of goods or services, or in excess of the individual limit for each share plan. No options were cancelled by HSBC during the year.

A summary for each plan of the total number of the options which were granted, exercised or lapsed during 2014 is shown in the following tables. Further details required to be disclosed pursuant to Chapter 17 of the Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited are available on our website at www.hsbc.com/investor-relations/governance/ share-plans and on the website of The Stock Exchange of Hong Kong Limited at www.hkex.com.hk or can be obtained upon request from the Group Company Secretary, 8 Canada Square, London E14 5HQ. Particulars of options held by Directors of HSBC Holdings are set out on page 321.

Note 6 on the Financial Statements gives details on share-based payments, including discretionary awards of shares granted under HSBC share plans.

All-employee share plans

All-employee share option plans have operated within the Group and eligible employees have been granted options to acquire HSBC Holdings ordinary shares. Options under the plans are usually exercisable after three or five years. The exercise of options may be advanced to an earlier date in certain circumstances, for example on retirement, and may be extended in certain circumstances, for example on the death of a participant, the executors of the participant’s estate may exercise options up to six months beyond the normal exercise period. The middle market closing price for HSBC Holdings ordinary shares quoted on the London Stock Exchange, as derived from the Daily Official List on 22 September 2014, the day before options were granted in 2014, was £6.58. There will be no further grants under the HSBC Holdings Savings-Related Share Option Plan: International. A new international all-employee share purchase plan was launched in the third quarter of 2013. The all-employee share option plans will terminate on 27 May 2015 unless the Directors resolve to terminate the plans at an earlier date.

 

 

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HSBC Holdings All-employee Share Option Plans

 

          HSBC Holdings ordinary shares  
  Dates of awards      Exercise price      Exercisable      At      Granted      Exercised 1    Lapsed      At   
  from      to      from      to      from      to      1 Jan 2014      during year      during year      during year      31 Dec 2014   

 

Savings-Related Share Option Plan

  

 
 
30 Apr
2008
  
  
 
 
23 Sep
2014
  
  
   

 

(£)

3.3116

  

  

 

 

(£)

5.9397

  

  

   

 

1 Aug

2013

  

  

 
 
1 May
2020
  
  
  53,950,886      28,688,703      25,097,425      3,798,209      53,743,955   

 

Savings-Related Share Option Plan: International

  

 
 
30 Apr
2008
  
  
 
 
24 Apr
2012
  
  
   

 

(£)

3.3116

  

  

 

 

(£)

5.9397

  

  

   

 

1 Aug

2013

  

  

 
 
1 Feb
2018
  
  
  10,022,450           5,625,183      683,208      3,714,059   
 
 
30 Apr
2008
  
  
 
 
24 Apr
2012
  
  
   

 

(US$)

4.8876

  

  

 

 

(US$)

11.8824

  

  

   
 
1 Aug
2013
  
  
 
 
1 Feb
2018
  
  
  3,997,069           1,528,838      600,903      1,867,328   
 
 
30 Apr
2008
  
  
 
 
24 Apr
2012
  
  
   

 

()

3.6361

  

  

 

 

()

7.5571

  

  

   

 

1 Aug

2013

  

  

 
 
1 Feb
2018
  
  
  1,574,652           935,177      67,973      571,502   
 
 
30 Apr
2008
  
  
 
 
24 Apr
2012
  
  
   
 
(HK$)
37.8797
  
  
 

 

(HK$)

92.5881

  

  

   
 
1 Aug
2013
  
  
 
 
1 Feb
2018
  
  
  24,215,341           17,206,998      539,561      6,468,782   

 

1 The weighted average closing price of the shares immediately before the dates on which options were exercised was £6.36.

Discretionary Share Option Plans

There have been no grants of discretionary share options under employee share plans since 30 September 2005.

 

                HSBC Holdings ordinary shares  
Dates of awards     Exercise price (£)     Exercisable     At   Exercised   Lapsed   At  
  from      to      from      to          from      to          1 Jan 2014      during year      during year      31 Dec 2014   

 

HSBC Holdings Group Share Option Plan1,2

  

 

 

30 Apr

2004

  

  

 
 
20 Apr
2005
  
  
    7.2181      7.5379       
 
30 Apr
2007
  
  
 
 
20 Apr
2015
  
  
  55,025,868      1,434      48,650,452      6,373,982   

 

HSBC Share Plan1

 

 

30 Sep

2005

  

  

          7.9911             
 
30 Sep
2008
  
  
 
 
30 Sep
2015
  
  
  86,046                86,046   

 

1 The HSBC Holdings Group Share Option Plan expired on 26 May 2005 and the HSBC Share Plan expired on 27 May 2011. No options have been granted under the Plan since that date.
2 The weighted average closing price of the shares immediately before the dates on which options were exercised was £6.09.

 

Other disclosures

Further information about share capital, Directors’ interests, dividends and shareholders, and employee diversity is set out in the Appendix to this section on page 294.

Annual General Meeting

All Directors listed on pages 264 to 268 attended the Annual General Meeting in 2014, with the exception of Heidi Miller and Phillip Ameen who were appointed Directors on 1 September 2014 and 1 January 2015 respectively.

Our Annual General Meeting in 2015 will be held at the Queen Elizabeth II Conference Centre, Broad Sanctuary, Westminster, London SW1P 3EE on Friday 24 April 2015 at 11.00am.

An informal meeting of shareholders will be held at 1 Queen’s Road Central, Hong Kong on Monday 20 April 2015 at 4.30pm.

A live webcast of the Annual General Meeting will be available on www.hsbc.com. A recording of the proceedings will be available shortly after the conclusion of the Annual General Meeting until 22 May 2015 on www.hsbc.com.

On behalf of the Board

D J Flint

Group Chairman

HSBC Holdings plc

Registered number 617987

23 February 2015

 

 

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Appendix to Corporate Governance – Other disclosures

Share capital

Issued share capital

The nominal value of HSBC Holdings’ issued share capital paid up at 31 December 2014 was US$9,608,951,630 divided into 19,217,874,260 ordinary shares of US$0.50 each, 1,450,000 non-cumulative preference shares of US$0.01 each and 1 non-cumulative preference share of £0.01.

The percentage of the nominal value of HSBC Holdings’ total issued share capital paid up at 31 December 2014 represented by the ordinary shares of US$0.50 each, non-cumulative preference shares of US$0.01 each and the non-cumulative preference share of £0.01 was approximately 99.9998%, 0.0002%, and 0%, respectively.

Rights and obligations attaching to shares

The rights and obligations attaching to each class of shares in our share capital are set out in our Articles of Association subject to certain rights and obligations that attach to each class of preference share as determined by the Board prior to allotment of the relevant preference shares. Set out below is a summary of the rights and obligations attaching to each class of shares with respect to voting, dividends, capital and, in the case of the preference shares, redemption.

To be registered, a transfer of shares must be in relation to shares which are fully paid up and on which we have no lien and to one class of shares denominated in the same currency. The transfer must be in favour of a single transferee or no more than four joint transferees and it must be duly stamped (if required). The transfer must be delivered to our registered office or our Registrars accompanied by the certificate to which it relates or such other evidence that proves the title of the transferor.

If a shareholder or any person appearing to be interested in our shares has been sent a notice under section 793 of the Companies Act 2006 (which confers upon public companies the power to require information from any person whom we know or have reasonable cause to believe to be interested in the shares) and has failed in relation to any shares (the ‘default shares’) to supply the information requested within the period set out in the notice, then the member, unless the Board otherwise determines, is not entitled to be present at or to vote the default shares at any general meeting or to exercise any other right conferred by being a shareholder. If the default shares represent at least 0.25% in nominal value of the issued shares of that class, unless the Board otherwise determines, any dividend shall be withheld by the Company without interest, no election may be made for any scrip dividend alternative, and no transfer of any shares held by the member will be registered except in limited circumstances.

Ordinary shares

Subject to the Companies Act 2006 and the Articles of Association HSBC Holdings may, by ordinary resolution, declare dividends to be paid to the holders of ordinary shares, though no dividend shall exceed the amount recommended by the Board. The Board may pay interim dividends as appears to the Board to be justified by the profits available for distribution. All dividends shall be apportioned and paid proportionately to the percentage of the nominal amount paid up on the shares during any portion or portions of the period in respect of which the dividend is paid, but if any share is issued on terms providing that it shall rank for dividend as from a particular date, it shall rank for dividend accordingly. Subject to the Articles of Association, the Board may, with the prior authority of an ordinary resolution passed by the shareholders and subject to such terms and conditions as the Board may determine, offer to any holders of ordinary shares the right to elect to receive ordinary shares of the same or a different currency, credited as fully paid, instead of cash in any currency in respect of the whole (or some part, to be determined by the Board) of any dividend specified by the ordinary resolution. At the 2012 Annual General Meeting shareholders gave authority to the Directors to offer a scrip dividend alternative until the earlier of the conclusion of the Annual General Meeting in 2017 or 24 May 2017.

Further information on the policy adopted by the Board for paying interim dividends on the ordinary shares can be found on page 458.

Preference shares

There are three classes of preference shares in the share capital of HSBC Holdings, non-cumulative preference shares of US$0.01 each (the ‘dollar preference shares’), non-cumulative preference shares of £0.01 each (the ‘sterling preference shares’) and non-cumulative preference shares of 0.01 (the ‘euro preference shares’). The Dollar Preference Shares in issue are Series A dollar preference shares and the sterling preference share in issue is a Series A sterling preference share. There are no euro preference shares in issue.

Dollar Preference Shares

Holders of the dollar preference shares are only entitled to attend and vote at general meetings if any dividend payable on the relevant preference shares in respect of such period as the Board shall determine prior to allotment thereof is not paid in full or in such other circumstances, and upon and subject to such terms, as the Board may determine prior to allotment of the relevant preference shares. In the case of the dollar preference shares in issue at 23 February 2015 the relevant period determined by the Board is four consecutive dividend payment dates. Whenever holders of the dollar

 

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Report of the Directors: Corporate Governance (continued)

 

 

preference shares are entitled to vote on a resolution at a general meeting, on a show of hands every such holder who is present in person or by proxy shall have one vote and on a poll every such holder who is present in person or by proxy shall have one vote per preference share held by him or her or such number of votes per share as the Board shall determine prior to allotment of such share.

Subject to the Articles of Association, holders of the dollar preference shares have the right to a non-cumulative preferential dividend at such rate, on such dates and on such other terms and conditions as may be determined by the Board prior to allotment thereof in priority to the payment of any dividend to the holders of ordinary shares and any other class of shares of HSBC Holdings in issue (other than (i) the other preference shares in issue and any other shares expressed to rank pari passu therewith as regards income; and (ii) any shares which by their terms rank in priority to the relevant preference shares as regards income). A dividend of US$62 per annum is payable on each dollar preference share in issue at 23 February 2015. The dividend is paid at the rate of US$15.50 per quarter at the sole and absolute discretion of the Board.

The dollar preference shares carry no rights to participate in the profits or assets of HSBC Holdings other than as set out in the Articles of Association and subject to the Companies Act 2006, do not confer any right to participate in any offer or invitation by way of rights or otherwise to subscribe for additional shares in HSBC Holdings, do not confer any right of conversion and do not confer any right to participate in any issue of bonus shares or shares issued by way of capitalisation of reserves.

Subject to the relevant insolvency laws and the Articles of Association of HSBC Holdings, holders of the dollar preference shares have the right in a winding up of HSBC Holdings to receive out of the assets of HSBC Holdings available for distribution to its shareholders, in priority to any payment to the holders of the ordinary shares and any other class of shares of HSBC Holdings in issue (other than (i) the other relevant preference shares and any other shares expressed to rank pari passu there with as regards repayment of capital; and (ii) any shares which by their terms rank in priority to the relevant preference shares as regards repayment of capital), a sum equal to any unpaid dividend on the dollar preference shares which is payable as a dividend in accordance with or pursuant to the Articles of Association and the amount paid up or credited as paid up on the dollar preference shares together with such premium (if any) as may be determined by the Board prior to allotment thereof. In the case of the dollar preference shares in issue at 23 February 2015, the premium is US$999.99 per dollar preference share.

The dollar preference shares may be redeemed in accordance with the Articles of Association and the terms on which dollar preference shares were issued and allotted. In the case of the dollar preference shares in issue at 23 February 2015, HSBC Holdings may redeem such shares in whole at any time on or after 16 December 2010, subject to the prior consent of the PRA.

Sterling Preference Shares

The sterling preference shares carry the same rights and obligations under the Articles of Association as the dollar preference shares, save in respect of certain rights and obligations that attach to sterling preference shares to be determined by the Board prior to allotment of the relevant preference shares and the timing and payment of proceeds from the redemption of each class of share. The one sterling preference share in issue at 23 February 2015 carries the same rights and obligations as the dollar preference shares in issue at 23 February 2015 to the extent described in the section above save as follows:

 

1 the holder of the sterling preference share is not entitled to attend or vote at general meetings;

 

2 the sterling preference share may be redeemed in whole on any date as may be determined by the Board; and

 

3 the exceptions to the circumstances in which a dividend will not be declared or paid do not apply.

A dividend of £0.04 per annum is payable on the sterling preference share in issue at 23 February 2015. The dividend is paid at the rate of £0.01 per quarter at the sole and absolute discretion of the Board.

Euro Preference Shares

The euro preference shares carry the same rights and obligations under the Articles of Association as the dollar preference shares, save in respect of certain rights and obligations that attach to euro preference shares which are to be determined by the Board prior to allotment of the relevant preference shares and the timing and payment of proceeds from the redemption of each class of share.

 

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Report of the Directors: Corporate Governance (continued)

 

 

Share capital during 2014

The following events occurred during the year in relation to the ordinary share capital of HSBC Holdings:

Scrip dividends

 

   

HSBC Holdings

ordinary shares issued

   

Aggregate

nominal value

    Market value per share  
Issued in lieu of   on     number     US$     US$     £  

Fourth interim dividend for 2013

  30 April 2014            184,047,509            92,023,755      9.9254            5.9788   

First interim dividend for 2014

  10 July 2014      27,302,240      13,651,120      10.3980      6.1996   

Second interim dividend for 2014

  9 October 2014      34,787,645      17,393,823      10.6850      6.4478   

Third interim dividend for 2014

    10 December 2014      22,338,589      11,169,295            10.1178      6.2750   

All-Employee share plans

 

    Number    

Aggregate

    nominal value

          Exercise price  
          US$           from     to  

HSBC Holdings savings-related share option plans

HSBC ordinary shares issued in £

  30,722,608      15,361,304      £      3.3116      5.9397   

HSBC ordinary shares issued in HK$

  17,206,998      8,603,499      HK$            37.8797            92.5881   

HSBC ordinary shares issued in US$

  1,528,838      764,419      US$      4.8876      11.8824   

HSBC ordinary shares issued in

  935,177      467,589           3.6361      7.5571   

Options over HSBC ordinary shares lapsed

  5,689,854      2,844,927   

Options over HSBC ordinary shares granted in response to approximately 24,000 applications from HSBC employees in the UK on 23 September 2014

  28,688,703      14,344,352   

HSBC International Employee Share Purchase Plan

  6,470      3,235      £      5.9290      6.5770   

Plan d’Epargne

HSBC ordinary shares issued for the benefit of non-UK resident employees of HSBC France and its subsidiaries

  1,763,449      881,725           6.7073   

 

Discretionary share incentive plans

 

  

   

  HSBC Holdings

  ordinary shares

    Aggregate
    nominal value
    Exercise price     Options  
    issued     US$         from (£)     to (£)     lapsed  

Options exercised under:

The HSBC Holdings Group Share Option Plan

  1,434      717      7.2181            7.5379            48,650,452   

HSBC share plans

 

    HSBC Holdings
ordinary shares
    Aggregate nominal
value
        Market value per share      
    issued     US$     from (£)     to (£)  

Vesting of awards under the HSBC Share Plan and HSBC Share Plan 2011

  67,226,264      33,613,132      5.9180      6.6040   

Authorities to allot and to purchase shares

At the Annual General Meeting in 2014, shareholders renewed the general authority for the Directors to allot new shares up to 12,576,146,960 ordinary shares, 15,000,000 non-cumulative preference shares of £0.01 each, 15,000,000 non-cumulative preference shares of US$0.01 each and 15,000,000 non-cumulative preference shares of 0.01 each. Within this, the Directors have authority to allot up to a maximum of 943,211,022 ordinary shares wholly for cash to persons other than existing shareholders. Shareholders also renewed the authority for the Directors to make market purchases of up to 1,886,422,044 ordinary shares. The Directors have not exercised this authority.

In addition, shareholders gave authority for the Directors to grant rights to subscribe for, or to convert any security into no more than 4,500,000,000 ordinary shares in relation to any issue by HSBC Holdings or any member of the Group of contingent convertible securities that automatically convert into or are exchanged for ordinary shares in HSBC Holdings in prescribed circumstances. Further details about the issue of contingent convertible securities can be found in Note 35 on the Financial Statements.

Other than as described in the table above headed ‘Share capital during 2014’, the Directors did not allot any shares during 2014.

 

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Treasury shares

In accordance with the terms of a waiver granted by the Hong Kong Stock Exchange on 19 December 2005, HSBC Holdings will comply with the applicable law and regulation in the UK in relation to the holding of any shares in treasury and with the conditions of the waiver in connection with any shares it may hold in treasury. Pursuant to Chapter 6 of the UK Companies Act 2006 no shares are currently held in treasury.

Directors’ interests

Pursuant to the requirements of the UK Listing Rules and according to the register of Directors’ interests maintained by HSBC Holdings pursuant to section 352 of the Securities and Futures Ordinance of Hong Kong, the Directors of HSBC Holdings at 31 December 2014 had the following interests, all beneficial unless otherwise stated, in the shares and loan capital of HSBC Holdings and its associated corporations:

Directors’ interests – shares and loan capital

 

          At 31 December 2014  
 

 

 

At

      1 January

2014

  

  

  

 

 

      Beneficial

owner

  

  

 

 

 

Child

under 18

      or spouse

  

  

  

 
 
 
Jointly
      with another
person
  
  
  
            Trustee     

 

Total

      interests

  

1 

HSBC Holdings ordinary shares

Safra Catz3

       20,045                     20,045   

Lord Evans of Weardale

  1,495      5,519                     5,519   

Joachim Faber

  10,605      24,105                     24,105   

Rona Fairhead

  21,858           76,524           76,524   

Douglas Flint

  392,664      400,748                     400,748   

Stuart Gulliver

  2,730,477      2,434,303      176,885                2,611,188   

Sam Laidlaw

  35,123      35,352                1,416 2    36,768   

John Lipsky3

  15,525      15,820                     15,820   

Rachel Lomax

       15,500                     15,500   

Iain Mackay

  65,130      79,933                     79,933   

Heidi Miller3

       3,575                     3,575   

Marc Moses

  400,753      480,423                     480,423   

Sir Simon Robertson

  9,912      22,981                     22,981   

Jonathan Symonds

       15,940      4,613                20,553   
    RMBm     RMBm     RMBm     RMBm     RMBm     RMBm  

HSBC Bank 2.875% Notes 2015

Joachim Faber4

  5.1                          5.1   

 

1 Executive Directors’ other interests in HSBC Holdings ordinary shares arising from the HSBC Holdings savings-related share option plans, the HSBC Share Plan and the HSBC Share Plan 2011 are set out in the Scheme interests in the Directors’ Remuneration Report on page 320. At 31 December 2014, the aggregate interests under the Securities and Futures Ordinance of Hong Kong in HSBC Holdings ordinary shares, including interests arising through employee share plans were: Douglas Flint – 405,683; Stuart Gulliver – 5,175,003; Marc Moses – 1,775,461; and Iain Mackay – 1,086,284. Each Director’s total interests represents less than 0.03% of the shares in issue.
2 Non-beneficial.
3 Safra Catz has an interest in 4,009, John Lipsky has an interest in 3,164 and Heidi Miller has an interest in 715 listed American Depositary Shares (‘ADS’), which are categorised as equity derivatives under Part XV of the Securities and Futures Ordinance of Hong Kong. Each ADS represents five HSBC Holdings ordinary shares.
4 Non-beneficial interest in renminbi (‘RMB’) 1.2m 2.875% Notes 2015.

No Directors held any short position as defined in the Securities and Futures Ordinance of Hong Kong in the shares and loan capital of HSBC Holdings and its associated corporations. Save as stated above, none of the Directors had an interest in any shares or debentures of HSBC Holdings or any associated corporation at the beginning or at the end of the year, and none of the Directors or members of their immediate families were awarded or exercised any right to subscribe for any shares or debentures in any HSBC corporation during the year.

Since the end of the year, the aggregate interests of the following Director has increased by the number of HSBC Holdings ordinary shares shown against his name:

 

HSBC Holdings ordinary shares

Douglas Flint (beneficial owner)

                    25 1 

 

1 The acquisition of shares in the HSBC Holdings UK Share Incentive Plan through regular monthly contributions.

There have been no other changes in the share and loan capital interests of the Directors from 31 December 2014 to the date of this report. Any subsequent changes up to the last practicable date before the publication of the Notice of Annual General Meeting will be set out in the notes to that notice.

At 31 December 2014, non-executive Directors and senior management (being executive Directors and Group Managing Directors of HSBC Holdings) held, in aggregate, beneficial interests in 17,531,530 HSBC Holdings ordinary shares (0.09% of the issued ordinary shares).

 

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Report of the Directors: Corporate Governance (continued)

 

 

At 31 December 2014, executive Directors and senior management held, in aggregate, options to subscribe for 28,288 of HSBC Holdings ordinary shares under the HSBC Holdings savings-related share option plans and HSBC Holdings Group Share Option Plan. These options are exercisable between 2015 and 2020 at prices ranging from £4.4621 to £5.1887 per ordinary share.

Dividends and shareholders

Dividends for 2014

First, second and third interim dividends for 2014, each of US$0.10 per ordinary share, were paid on 10 July 2014, 9 October 2014 and 10 December 2014 respectively. Note 9 on the Financial Statements gives more information on the dividends declared in 2014. On 23 February 2015, the Directors declared a fourth interim dividend for 2014 of US$0.20 per ordinary share in lieu of a final dividend, which will be payable on 30 April 2015 in cash in US dollars, or in sterling or Hong Kong dollars at exchange rates to be determined on 20 April 2015, with a scrip dividend alternative. As the fourth interim dividend for 2014 was declared after 31 December 2014 it has not been included in the balance sheet of HSBC as a debt. The reserves available for distribution at 31 December 2014 were US$48,883m.

A quarterly dividend of US$15.50 per 6.20% non-cumulative US dollar preference share, Series A (‘Series A dollar preference share’), (equivalent to a dividend of US$0.3875 per Series A American Depositary Share, each of which represents one-fortieth of a Series A dollar preference share), was paid on 17 March, 16 June, 15 September and 15 December 2014.

Dividends for 2015

Quarterly dividends of US$15.50 per Series A dollar preference share (equivalent to a dividend of US$0.3875 per Series A American Depositary Share, each of which represents one-fortieth of a Series A dollar preference share) and £0.01 per Series A sterling preference share were declared on 9 February 2015 for payment on 16 March 2015.

Communication with shareholders

Communication with shareholders is given high priority. The Board has adopted a shareholder communication policy which is available on www.hsbc.com. Extensive information about our activities is provided to shareholders in the Annual Report and Accounts, the Strategic Report and the Interim Report which are available on www.hsbc.com. There is regular dialogue with institutional investors and enquiries from individuals on matters relating to their shareholdings and our business are welcomed and are dealt with in an informative and timely manner. All shareholders are encouraged to attend the Annual General Meeting or the informal meeting of shareholders held in Hong Kong to discuss our progress. Shareholders may send enquiries to the Board in writing to the Group Company Secretary, HSBC Holdings plc, 8 Canada Square, London E14 5HQ or by sending an email to shareholderquestions@hsbc.com.

Shareholders may require the Directors to call a general meeting, other than an annual general meeting as provided by the UK Companies Act 2006. Requests to call a general meeting may be made by members representing at least 5% of the paid-up capital of the Company as carries the right of voting at general meetings of HSBC Holdings (excluding any paid-up capital held as treasury shares). A request must state the general nature of the business to be dealt with at the meeting and may include the text of a resolution that may properly be moved and is intended to be moved at the meeting. A resolution may properly be moved at a meeting unless it would, if passed, be ineffective (whether by reason of inconsistency with any enactment or the Company’s constitution or otherwise); it is defamatory of any person; or it is frivolous or vexatious. A request may be in hard copy form or in electronic form and must be authenticated by the person or persons making it. A request may be made in writing to the postal address referred to in the paragraph above or by sending an email to shareholderquestions@hsbc.com. At any meeting convened on such request no business shall be transacted except that stated by the requisition or proposed by the Board.

Notifiable interests in share capital

At 31 December 2014, we had received the following disclosures (which have not been subsequently changed) of major holdings of voting rights pursuant to the requirements of Rule 5 of the FCA Disclosure Rules and Transparency Rules:

 

  Legal & General Group Plc gave notice on 10 July 2013 that on 9 July 2013 its holding of HSBC Holdings ordinary shares fell below 3.00% of the total voting rights at that date; and

 

  BlackRock, Inc. gave notice on 9 December 2009 that on 7 December 2009 it had the following: an indirect interest in HSBC Holdings ordinary shares of 1,142,439,457; qualifying financial instruments with 705,100 voting rights that may be acquired if the instruments are exercised or converted; and financial instruments with similar economic effect to qualifying financial instruments which refer to 234,880 voting rights, each representing 6.56%, 0.0041% and 0.0013%, respectively, of the total voting rights at that date.

At 31 December 2014, according to the register maintained by HSBC Holdings pursuant to section 336 of the Securities and Futures Ordinance of Hong Kong:

 

  JPMorgan Chase & Co. gave notice on 21 November 2014 that on 18 November 2014 it had the following interests in HSBC Holdings ordinary shares: a long position of 937,591,714 shares; a short position of 99,085,113 shares; and a lending pool of 527,117,024 shares, each representing 4.88%, 0.51% and 2.74%, respectively, of the ordinary shares in issue at that date; and

 

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Report of the Directors: Corporate Governance (continued)

 

 

  BlackRock, Inc. gave notice on 28 October 2014 that on 24 October 2014 it had the following interests in HSBC Holdings ordinary shares: a long position of 1,238,135,870 shares and a short position of 4,572,291 shares, each representing 6.45% and 0.02%, respectively, of the ordinary shares in issue at that date.

In compliance with the Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited at least 25% of the total issued share capital has been held by the public at all times during 2014 and up to the date of this report.

Dealings in HSBC Holdings listed securities

Except for dealings as intermediaries by HSBC Bank and The Hongkong and Shanghai Banking Corporation, which are members of a European Economic Area exchange, neither HSBC Holdings nor any of its subsidiaries have purchased, sold or redeemed any of its securities listed on The Stock Exchange of Hong Kong Limited during the year ended 31 December 2014.

 

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Directors’ Remuneration Report

 

 

 

    Directors’ Remuneration  
   

Report

 

  

Page

 

    

App1

 

 
 

Annual Statement from the Group Remuneration Committee Chairman

 

    

 

300

 

  

 

        
 

Our remuneration strategy and key decisions for 2014

 

    

 

300

 

  

 

        
 

Major decisions on Directors’ remuneration

 

    

 

302

 

  

 

        
 

Future regulatory change

 

    

 

302

 

  

 

        
 

Directors’ remuneration policy

 

    

 

303

 

  

 

        
 

Downward override policy

 

    

 

304

 

  

 

        
 

Differences in policy applied to employees generally

 

    

 

304

 

  

 

        
 

Material factors taken into account when setting pay policy

 

    

 

305

 

  

 

        
 

Adjustments, malus and clawback

 

     306            
 

Remuneration policy – non-executive Directors

 

    

 

306

 

  

 

        
 

Service contracts

 

    

 

306

 

  

 

        
 

Other directorships

 

    

 

307

 

  

 

        
 

Annual report on remuneration

 

    

 

307

 

  

 

        
 

Remuneration Committee

 

    

 

307

 

  

 

        
 

Group variable pay pool

 

    

 

309

 

  

 

        
 

Single figure of remuneration

 

    

 

311

 

  

 

        
 

Remuneration scenarios and outcomes

 

    

 

313

 

  

 

        
 

Awards under the GPSP

 

    

 

314

 

  

 

        
 

Determining executive Directors’ annual performance

 

    

 

315

 

  

 

        
 

Total pension entitlements

 

    

 

318

 

  

 

        
 

Payments to past Directors

 

    

 

318

 

  

 

        
 

Exit payments made in year

 

    

 

318

 

  

 

        
 

Scheme interests awarded during 2014

 

    

 

318

 

  

 

        
 

Summary of performance

 

    

 

319

 

  

 

        
 

CEO remuneration

 

    

 

319

 

  

 

        
 

Directors’ interests in shares

 

    

 

320

 

  

 

        
 

Shareholder context

 

    

 

322

 

  

 

        
 

Implementation of remuneration policy in 2015

 

    

 

322

 

  

 

        
 

Annual bonus scorecards

 

    

 

323

 

  

 

        
 

Additional disclosures

 

       

 

324

 

  

 

 

Employee compensation and benefits

 

             

 

324

 

  

 

 

Emoluments of senior management

 

             

 

324

 

  

 

 

Emoluments of five highest paid employees

 

             

 

325

 

  

 

 

Remuneration of eight highest paid senior executives

 

             

 

325

 

  

 

 

Pillar 3 remuneration disclosures

 

             

 

326

 

  

 

       

 

1 Appendix to Directors’ Remuneration Report.

Annual Statement from the Group Remuneration Committee Chairman

Dear Shareholder,

I am very pleased to present the Remuneration Report for 2014. In this report we provide details of the HSBC remuneration policy, what we paid our Directors in 2014 and why.

This is the first year in which our remuneration policy, which was approved at last year’s Annual General Meeting, has been implemented. I hope this report will give you an understanding of how the Group Remuneration Committee (the ‘Committee’) implemented the policy in 2014 and, more importantly, the link between the performance and pay of our executives and the long-term interests of our shareholders.

The report is divided into three sections: my letter to you as Chairman of the Committee, a summary of our remuneration policy, and an annual report on what we paid our Directors for the year ended 31 December 2014. Additional remuneration-related disclosures are provided in the appendix to this report.

Our remuneration strategy and key decisions for 2014

Our remuneration strategy is designed to reward competitively the achievement of long-term sustainable performance and attract and motivate the very best people who are committed to a long-term career with the Group in the long-term interests of our shareholders.

The Committee believes that it is important that what we pay our people is aligned to our business strategy. Performance should be judged not only on what is achieved over the short and long-term but also, importantly, on how it is achieved, as we believe the latter contributes to the long-term sustainability of the business.

In 2014, new regulatory requirements were introduced under the EU’s Capital Requirements Directive (‘CRD’) IV. The consequential changes to the remuneration rules of the Prudential Regulation Authority (‘PRA’) have influenced how we pay our senior executives and those of our employees identified by the PRA as having a material impact on the institution’s risk profile, being what are termed Material Risk Takers (‘MRTs’).

From 2014, CRD IV introduced a cap on variable pay requiring banks in the EU, including HSBC, to restrict variable pay awards of MRTs, if approved by shareholders, to 200% of fixed pay. This authority was sought and given by shareholders at last year’s Annual General Meeting.

The CRD IV requirements present challenges for HSBC in ensuring that the total compensation package for our employees in all of the markets in which we operate around the world remains competitive, in particular, relative to other banks not subject to these requirements.

 

 

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As a consequence, we introduced fixed pay allowances for our executive Directors and other MRTs to rebalance the fixed and variable components of their total compensation. The Committee believes that the introduction of fixed pay allowances as a component of remuneration was essential to ensure the total compensation package for our employees remains competitive. HSBC must continue to retain and attract talent in key non-EU markets where our international peers and their domestic competitors do not have to comply with the CRD IV pay cap. As required by CRD IV, fixed pay allowances are not linked to the achievement of any performance conditions and we comply with the current guidelines which have been issued by the regulators. Our executive Directors and senior executives receive this allowance in shares which are subject to a retention period in order to maintain a close alignment with the long-term interests of our shareholders.

In July 2014, the PRA introduced a new requirement for firms to ensure that clawback (i.e. a firm’s ability to recoup paid and/or vested awards) can be applied to variable pay awards granted on or after 1 January 2015 for a period of at least seven years from the date of award. This requirement is in addition to a firm’s ability

to apply malus (i.e. reduction or cancellation of unvested awards prior to the vesting of such awards) in certain circumstances.

To comply with the new PRA requirement, the Committee has established a clawback policy which will apply to all awards we grant to MRTs on or after 1 January 2015. More details of the circumstances in which ‘malus’ and ‘clawback’ can be applied is provided later in this report.

The Committee has also adopted a policy enabling it to exercise its discretion to reduce variable pay awards for executive Directors and other senior executives when it believes there has been insufficient yearly progress in developing an effective anti-money laundering and sanctions compliance programme.

In 2014, there were a number of legal and regulatory costs for legacy events, including penalties arising from the investigation of certain behaviour within the foreign exchange markets. These were fully reflected in the level of profits used by the Committee to determine the incentive pool, and resulted in a US$600m adjustment to the pool. Additionally, there were a number of actions taken, including discretion applied to reduce variable pay proposed for 2014 for Group employees by US$22m, including members of senior management. More details are provided later in this report.

 

Overall performance summary/business context

 

 

HSBC Holdings plc

 

•  In 2014, the Group maintained a strong balance sheet and robust capital position. Excluding the effect of currency translation, loans and advances grew by US$28bn and customer accounts increased by US$47bn, with a ratio of customer advances to customer accounts of 72%.

 

•  Profit before tax fell on a reported basis compared with 2013, primarily reflecting lower gains from disposals and reclassifications in 2014 and the effect of other significant items, which included provisions for fines, settlements and UK customer redress of US$3.7bn. On an adjusted basis, excluding the effect of significant items and currency translation, profit before tax was broadly unchanged from 2013.

 

•  Adjusted profit before tax was up in three out of five regions.

 

•  CMB reported a record profit in 2014.

 

•  Revenue on an adjusted basis was broadly unchanged from 2013. This reflected growth in CMB offset by a fall in revenue in GB&M, together with lower revenue in RBWM and GPB reflecting the remodelling of these businesses.

 

•  Net interest margin for the Group stabilised during 2014.

 

•  Loan impairment charges were lower, reflecting the changes to our portfolio since 2011.

 

•  The reported cost efficiency ratio increased from 59.6% in 2013 to 67.3% in 2014, and on an adjusted basis it increased to 61.1% in 2014 from 57.7%, principally reflecting higher operating expenses due to an increase in Regulatory Programmes and Compliance costs, inflationary pressures, continued investment in strategic initiatives, and a rise in the bank levy. These factors were partly offset by sustainable cost savings in the year of US$1.3bn.

 

•  The return on average ordinary shareholders’ equity was 7.3%, down from 9.2% in 2013, primarily reflecting lower gains from disposals and reclassifications, together with higher operating expenses, including provisions for fines, settlements and UK customer redress.

 

•  Dividends in respect of 2014 increased from US$0.49 per ordinary share in 2013 to US$0.50 per ordinary share.

 

•  Our capital position strengthened in 2014 with our CRD IV transitional CET1 ratio increasing to 10.9% from 10.8% in 2013.

 

RBWM

 

•  Lower reported profit before tax was principally driven by lower revenue from the continued run-off of our US CML portfolio and higher operating expenses in our Principal RBWM business.

 

 

CMB

 

•  CMB reported an increase in profit before tax reflecting higher revenue performance in our home markets of Hong Kong and the UK, together with lower LICs, mainly in Europe and Latin America.

 

GB&M

 

•  GB&M reported lower profit before tax, mainly reflecting an increase in significant items, notably settlements and provisions in connection with foreign exchange investigations, together with lower revenue in part reflecting an adjustment following the introduction of the FFVA and lower Foreign Exchange revenue.

 

 

GPB

 

•  Lower profit before tax on an adjusted basis, mainly reflected a managed reduction in client assets as we continued to reposition the business. Despite a reduction in client assets, we attracted positive net new money of US$14bn in areas that we have targeted for growth.

 

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Major decisions on Directors’ remuneration

The Group Chief Risk Officer, Marc Moses, was appointed an executive Director with effect from 1 January 2014, reflecting the criticality of the Risk function to HSBC, his leadership of that function and his personal contribution to the Group. His remuneration has therefore been brought into line with the executive Directors’ remuneration policy.

Following consultation with shareholders, the Group Chairman, Douglas Flint, became eligible under the policy to receive a one-time award under the Group Performance Share Plan (‘GPSP’). The Committee has subsequently decided that it will not grant a GPSP award to the Group Chairman for 2014. Instead, it has decided to review the base salary of the Group Chairman as part of any future policy change that is proposed to shareholders.

The Committee has concluded that there will be no increase to the base salary of executive Directors in 2015. In light of the feedback received from some of our shareholders, the Committee will review the level of cash pension allowances for executive Directors as part of any future policy change.

The Committee has exercised its discretion to reduce the executive Directors’ overall variable pay from that which would be justified simply from application of the scorecard weightings. This adjustment is justified in the context of the overall financial results and the legal, compliance and regulatory issues impacting the Group, particularly those related to historical events, including

but not limited to foreign exchange. Further details are set out in this report.

Future regulatory change

Looking ahead to 2015/2016, further significant regulatory changes to executive remuneration are expected from the recent PRA and Financial Conduct Authority consultation on ‘Strengthening the alignment of risk and reward: new remuneration rules’. In addition, the European Banking Authority is expected to issue for consultation remuneration guidelines which include criteria under which allowances can be treated as fixed remuneration.

The number and volume of regulatory changes that have been and are being proposed in connection with remuneration are, in the Committee’s view, excessive and are hindering our ability to communicate with any certainty to our current employees and potential employees the remuneration policies and structures that would apply to them. Regulatory uncertainty and complexity is contributing to a general misunderstanding about how our remuneration policies work and the impact of those policies on employee performance.

The Committee will consider the effect of these various changes as well as shareholder feedback on our policy. In light of these factors, it is possible that we will need to make changes to our remuneration policy in 2016.

Sir Simon Robertson

Chairman of the Group Remuneration Committee

23 February 2015

 

 

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Directors’ remuneration policy

The following section sets out a summary of HSBC’s remuneration policy for our executive and non-executive Directors approved at the Annual General Meeting on 23 May 2014. The full policy is available in last year’s Directors’ Remuneration Report in the Annual Report and Accounts 2013, a copy of which can be obtained by visiting the following website: http://www.hsbc.com/ investor-relations/financial-and-regulatory-reports.

The quality and long-term commitment of all of our employees is fundamental to our success. We therefore aim to attract, retain and motivate the very best people who are committed to maintaining a long-term

career with the Group, and who will perform their role in the long-term interests of shareholders.

The key elements of our remuneration policy, fixed pay, benefits and variable pay consisting of the annual incentive and GPSP are shown below. These elements support the achievement of our strategic objectives through balancing reward for both short-term and long-term sustainable performance. Our strategy is designed to reward only success, and to align employees’ remuneration with our risk framework and risk outcomes. For our most senior employees, the greater part of their reward is deferred and thereby subject to malus, that is, unvested awards can be reduced or cancelled if warranted by events. In addition, as outlined in the Chairman’s statement, the variable pay awards made from 1 January 2015 will be subject to clawback.

 

Remuneration policy – executive Directors

 

LOGO

 

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The following chart provides an overview of the release profile of target performance total compensation for the

Group Chief Executive Officer based on the above policy.

 

 

Release profile for target total compensation

 

LOGO

 

1 Shares arising from GPSP awards must be retained and cannot be sold for the duration of the participant’s employment. For leavers deemed to be good leavers, the retention period applicable to their vested shares will end upon cessation of employment. For leavers not deemed to be good leavers, their vested shares will be released in three equal instalments on or around each anniversary of the date of cessation of employment.

 

The Committee will apply the above policy for executive Directors in 2015. In the event that regulatory requirements require changes to be made to the terms of any fixed or variable remuneration outside this policy, the Committee will make the changes necessary to ensure regulatory compliance.

Downward override policy

Based on the recommendations received from the independent monitor, the Committee introduced a downward override policy in 2014, to set the circumstances in which it will make a downward adjustment to any variable pay determination for the executive Directors and other senior executives.

Under this policy, the criteria used to determine the downward adjustment will include:

 

  insufficient yearly progress in developing an effective AML and sanctions compliance programme; or

 

  non-compliance with the US DPA and other relevant orders.

The Committee will factor in the Financial System Vulnerabilities Committee’s recommendations in deciding the application and degree of any such downward override to reduce variable pay awards.

Differences in policy applied to employees generally

The mix of fixed and variable pay granted to an employee is commensurate with the individual’s role and experience and local market factors.

Fixed pay allowances are granted to MRTs or individuals identified as having a material impact on the institution’s risk profile based on the qualitative and quantitative criteria set out in the EU Regulatory Technical Standard 604/2014. The fixed pay allowance can also be granted to such other individuals where it is considered a rebalancing of the fixed and variable pay components of their remuneration would be appropriate.

The criteria used for determining fixed pay allowances include the role undertaken, skills, experience, technical expertise, market compensation for the role and other remuneration that the employee may receive in the year.

Group Managing Directors and Group General Managers will receive the fixed pay allowance in shares with the same release profile as the executive Directors. All other employees will receive the fixed pay allowance in cash when it is below a specified threshold. Where the fixed pay allowance is above the specified threshold, all of it will be received in shares that vest immediately. Any shares delivered (net of shares sold to cover any income

 

 

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tax and social security) as part of the fixed pay allowance would be subject to a retention period. 40% of the shares are released in March following the end of the relevant financial year in which the shares were granted. The remaining 60% are released in three equal annual tranches on or around each anniversary of the initial release.

Group Managing Directors participate in both the annual incentive and the GPSP. Group General Managers participate in the annual incentive and may receive other long-term awards. Other employees across the Group are eligible to participate in annual incentive arrangements.

 

 

Elements of remuneration

 

                 Executive
Directors
     Group
            Managing
Directors
    

Group

General
            Managers

                   Other
MRTs
    

Other

          Employees

 

Base salary

       ü         ü         ü         ü         ü   

Fixed pay allowance

       ü         ü         ü         ü         ü   

Annual incentive

       ü         ü         ü         ü         ü   

GPSP/long-term awards

       ü         ü         ü                   

Benefits and pension

       ü         ü         ü         ü         ü   

Material factors taken into account when setting pay policy

The Committee takes into account a variety of factors when determining the remuneration policy for Directors.

 

LOGO  

 

Funding

 

 

•  Annual incentive and GPSP awards are funded from a single annual variable pay pool.

 

•  Funding of the Group’s annual variable pay pool is determined in the context of Group profitability, capital strength, shareholder returns, the distribution of profits between capital, dividends and variable pay, risk appetite statement, market competitiveness, and overall affordability.

 

•  Details of the calculation of this year’s variable pay pool can be found on page 309.

 

 

 

Pay and employment conditions within the Group

 

 

•  HSBC considers pay across the Group when determining remuneration levels for its executive Directors. In considering individual awards, a comparison of the pay and employment conditions of our employees and senior executives is considered by the Committee.

 

•  The Committee invites the Head of Group Performance and Reward to present proposals for remuneration for the wider employee population and to consult on the extent to which the different elements of remuneration are provided to other employees.

 

•  Feedback from employee engagement surveys and HSBC Exchange meetings are taken into account in determining the Group’s remuneration policy.

 

         
LOGO  

 

Regulation

 

 

•  There is still a wide divergence in local regulations governing remuneration structures globally. This presents significant challenges to HSBC, which operates worldwide.

 

•  In order to deliver long-term sustainable performance, it is important to have market-competitive remuneration which is broadly equivalent across geographical boundaries in order to attract, motivate and retain talented and committed employees around the world.

 

•  We aim to ensure that our remuneration policy is aligned with regulatory practices and the interests of shareholders.

 

•  HSBC is fully compliant with the FSB, FCA, PRA and HKMA guidance and rules on remuneration which apply at the date of this report.

 

 

 

Comparator group

 

 

•  The Committee considers market data for executive Directors’ remuneration packages from a defined remuneration comparator group.

 

•  This group consists of ten global financial services companies, namely Australia and New Zealand Banking Group Limited (‘ANZ’), Banco Santander, Bank of America, Barclays, BNP Paribas, Citigroup, Deutsche Bank, JPMorgan Chase & Co, Standard Chartered and UBS. These companies were selected on the basis of their broadly similar business coverage, size and international scope, and are subject to annual review for continuing relevance. ANZ is an additional firm added to the group as part of the Committee’s 2014 review.

 

•  The Committee can also review other companies where relevant in determining the remuneration policy.

 

 

 

Shareholder views

 

 

•  The Chairman of the Committee, the Head of Group Performance and Reward and the Group Company Secretary meet with key institutional shareholders and other representative bodies. We consider these types of meetings important to gather views on our current and developing remuneration practices to ensure that our reward strategy continues to be aligned with the long-term interests of our shareholders.

 

 

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Adjustment, malus and clawback

In order to reward genuine performance, individual awards are made on the basis of a risk-adjusted view of both financial and non-financial performance. The Committee has exclusive discretion to apply the malus and clawback policies that it has adopted, enabling it to take the following actions, taking into consideration an

individual’s proximity to, and responsibility for, the event in question. Where practicable, an adjustment will be made to current year variable pay, before the application of malus, then clawback.

This policy is in line with the PRA regulatory requirements.

 

 

Type of

action

 

  

Type of variable pay  

award affected

 

   Circumstances where it may apply (including, but not limited to):

 

Adjustment

  

 

Current year variable pay

  

 

•  Detrimental conduct or conduct which brings the business into disrepute, such as in 2014 relating to the investigation of certain behaviour within the Foreign Exchange markets.

 

•  Involvement in Group-wide events resulting in significant operational losses, including events which have caused or have the potential to cause significant harm to HSBC.

 

•  Non-compliance with HSBC Values and other mandatory requirements.

 

•  For specified individuals, insufficient yearly progress in developing an effective AML and sanctions compliance programme or non-compliance with the DPA and other relevant orders.

 

 

Malus

  

 

Unvested deferred awards granted in prior years

  

 

•  Detrimental conduct or conduct which brings the business into disrepute.

 

•  Past performance being materially worse than originally reported.

 

•  Restatement, correction or amendment of any financial statements.

 

•  Improper or inadequate risk management.

 

 

Clawback1

  

 

Vested or paid awards

  

 

•  Participation in or responsibility for conduct which results in significant losses.

 

•  Failing to meet appropriate standards of fitness and propriety.

 

•  Reasonable evidence of misconduct or material error that would justify, or would have justified, summary termination of a contract of employment.

 

•  HSBC or a business unit suffers a material failure of risk management within the context of Group risk management standards, policies and procedures.

 

 

1 Clawback is only applicable to variable pay awards granted to MRTs on or after 1 January 2015. These include, but are not limited to, the awards made in relation to the 2014 performance year.

 

Remuneration policy – non-executive Directors

Non-executive Directors are not employees and receive a fee for their services as Directors. In addition, it is common practice for non-executive Directors to be reimbursed expenses incurred in performing their role and any related tax. They are not eligible to receive a base salary, fixed pay allowance, benefits, pension or any variable pay.

The fee levels payable reflect the time commitment and responsibilities required of a non-executive Director of HSBC Holdings. Fees are determined by reference to other UK companies and banks in the FTSE 30, and to the fees paid by other non-UK international banks.

The Board reviews each component of the fees periodically to assess whether, individually and in aggregate, they remain competitive and appropriate in light of changes in roles, responsibilities, and/or the time commitment required for the non-executive Directors and to ensure that individuals of the appropriate calibre are retained or can be appointed. The Board (excluding the non-executive Directors) may approve changes to the fees within the ranges prescribed in the remuneration policy. The Board may also introduce any new component

of fee for non-executive Directors subject to the principles, parameters and other requirements set out in the remuneration policy.

The Philanthropic and Community Investment Oversight Committee, a new non-executive Board committee, was established on 5 December 2014. In line with its authority under the remuneration policy, the Board approved the following fee levels for this committee: chairman – £25,000 per annum; member – £15,000 per annum.

No other change has been made or is proposed to the fees of non-executive Directors during the term of this policy. The fees payable to non-executive Directors are set out in last year’s Directors’ Remuneration Report in the Annual Report and Accounts 2013.

Service contracts

Executive Directors

Our policy is to employ executive Directors on service agreements with 12 months’ notice period. Consistent with the best interests of the Group, the Committee will seek to minimise termination payments. Directors may be eligible for a payment in relation to statutory rights.

 

 

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Service contracts

 

   

        Contract date

(rolling)

  Notice period
    (Director & HSBC)
 

Director

Douglas Flint

  14 February 2011      12 months   

Stuart Gulliver

  10 February 2011      12 months   

Iain Mackay

  4 February 2011      12 months   

Marc Moses

  27 November 2014      12 months   

Other than as set out under ‘Directors’ remuneration policy’ and ‘Policy on payments for loss of office’ in the Directors’ Remuneration Report in the Annual Report and Accounts 2013, there are no further obligations which could give rise to remuneration payments or payments for loss of office.

Non-executive Directors

Non-executive Directors are appointed for fixed terms not exceeding three years, which may be renewed subject to their re-election by shareholders at annual general meetings. Non-executive Directors do not have a service contract, but are bound by letters of appointment issued for and on behalf of HSBC Holdings plc. Other than as set out in ‘Remuneration policy – non-executive Directors’ in the Directors’ Remuneration Report in the Annual Report and Accounts 2013, there are no obligations in the non-executive Directors’ letters of appointment which could give rise to remuneration payments or payments for loss of office. Non-executive Directors’ current terms of appointment will expire as follows:

 

  in 2015, Joachim Faber, Rona Fairhead, John Lipsky, Rachel Lomax and Sir Simon Robertson;

 

  in 2017, Kathleen Casey, Safra Catz, Laura Cha, Lord Evans of Weardale, Sam Laidlaw and Jonathan Symonds; and

 

  in 2018, Heidi Miller and Phillip Ameen1.

 

1 Appointed with effect from 1 January 2015.

Other directorships

Executive Directors may accept appointments as non-executive directors of companies which are not part of HSBC if so authorised by either the Board or the Nomination Committee.

When considering a request to accept a non-executive appointment, the Board or the Nomination Committee will take into account, amongst other things, the expected time commitment associated with the proposed appointment. The time commitment for

Directors’ external appointments is also routinely reviewed to ensure that these external appointments will not compromise the Directors’ commitment to HSBC.

In accordance with the requirements of CRD IV, Directors who are approved by the PRA to take up certain roles on the Board are subject to the following limits on the number of directorships which they may hold:

 

  one executive directorship with two non-executive directorships; or

 

  four non-executive directorships.

With the consent of the PRA one additional non-executive directorship may be held.

Any remuneration receivable in respect of an external appointment of an executive Director is normally paid to the Group, unless otherwise approved by the Nomination Committee or the Board.

Annual report on remuneration

Remuneration Committee

Role

Within the authority delegated by the Board, the Committee is responsible for approving the Group’s remuneration policy. The Committee also determines the remuneration of executive Directors, senior employees, employees in positions of significant influence and employees whose activities have or could have a material impact on our risk profile and, in doing so, takes into account the pay and conditions across the Group. No executive Directors are involved in deciding their own remuneration.

Membership

The members of the Group Remuneration Committee during 2014 were Sir Simon Robertson (Chairman), Sam Laidlaw, John Lipsky (appointed 23 May 2014), Jonathan Symonds (appointed 14 April 2014 but stepped down from this Committee on 1 September 2014 to become Chairman of the Group Audit Committee), Renato Fassbind (resigned as a Director on 1 September 2014), and John Coombe (retired as a Director on 23 May 2014).

Activities

The Committee met 11 times during 2014. The following is a summary of the Committee’s key activities during 2014.

 

 

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Details of the Committee’s key activities

 

Month

 

Activities

 

 

Month

 

Activities

 

January

•  2013 performance year pay review matters

 

•  Design of new remuneration policy

 

•  New shareholding guidelines

 

•  Governance matters

July

•  Feedback from the 2014 Annual General Meeting

 

•  2014 performance year pay review matters

 

•  Update on notable events

 

•  Matters regarding Group-wide incentives

 

•  Employee share plan matters

 

•  Governance matters

February

•  2013 performance year pay review matters

 

•  2014 GPSP and Annual Scorecards for executive Directors

 

•  Design of new remuneration policy

 

September

•  2014 performance year pay review matters

 

•  Review of PRA/FCA consultation on alignment between risk and reward

 

•  Matters regarding Group-wide incentives framework

 

•  Employee share plan matters

 

•  New shareholding guidelines

 

•  Regulatory submissions and disclosures

 

•  Governance matters

October

•  Shareholder feedback on remuneration matters

 

•  Update on PRA/FCA consultation on alignment between risk and reward

March

•  Provision of response to the monitor’s report

 

•  2013 performance year pay review matters

 

•  Review of PRA consultation on clawback rules

 

•  Update on notable events

 

•  Matters regarding retirement benefit arrangements and incentive plans

 

•  Regulatory submissions and disclosures

November

•  Update on EBA’s report and opinion on fixed pay allowances

 

•  2014 Risk Appetite Statement review and Remuneration Code risk assessment

 

•  2014 proposed Group variable pay spend and methodology

 

•  Approval of clawback policy

 

•  Update on notable events

 

•  Regulatory submissions and disclosures

 

•  Independent review of HSBC Reward Strategy against the HKMA remuneration guidelines

April

•  New remuneration policy matters

 

•  Preparation for the 2014 Annual General Meeting

 

•  Matters regarding retirement benefit arrangements and incentive plans

 

•  Regulatory submissions and disclosures

December

•  Risk appetite framework and Financial Crime Compliance updates

 

•  Inputs from the Group Risk Committee, Financial System Vulnerabilities Committee, and Conduct & Values Committee

 

May

•  Matters regarding implementation of new remuneration policy

 

•  Preparation for the 2014 Annual General Meeting

 

•  2014 performance year pay review matters

 

•  Employee share plan matters

 

•  Governance matters

 

•  2014 performance year pay review matters

 

•  2015 GPSP and Annual Scorecards for executive Directors

 

•  Update on notable events

 

•  Regulatory submissions and disclosures

 

•  Employee share plan matters

 

•  Governance matters

 

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Advisers

In 2014, the Committee did not engage any external adviser, and will only seek specific legal and/or remuneration advice independently as and when it considers this to be necessary.

During the year, the Group Chief Executive provided regular briefings to the Committee. In addition, the Committee received advice from the Group Head of Human Resources and Corporate Sustainability, Ann Almeida, the Head of Group Performance and Reward, Alexander Lowen, the Group Chief Risk Officer, Marc Moses, and the Global Head of Financial Crime Compliance and Group Money Laundering Reporting

Officer, Robert Werner, as part of their executive role as employees of HSBC. The Committee also received advice and feedback from the Group Risk Committee, Financial System Vulnerabilities Committee and Conduct & Values Committee on risk and compliance-related matters relevant to remuneration, and the implementation of the downward override policy.

Group variable pay pool

Variable pay pool determination

The Committee considers many factors in determining the Group’s variable pay pool funding.

 

 

Variable pay pool determination

 

 

Performance and risk appetite statement

  

 

•  The variable pay pool takes into account the performance of the Group which is considered within the context of our risk appetite statement. This helps to ensure that the variable pay pool is shaped by risk considerations and any Group-wide notable events.

 

•  The risk appetite statement describes and measures the amount and types of risk that HSBC is prepared to take in executing its strategy. It shapes the integrated approach to business, risk and capital management and supports achievement of the Group’s objectives. The Group Chief Risk Officer regularly updates the Committee on the Group’s performance against the risk appetite statement.

 

•  The Committee uses these updates when considering remuneration to ensure that return, risk and remuneration are aligned.

 

 

Counter-cyclical funding methodology

  

 

•  We use a counter-cyclical funding methodology which is categorised by both a floor and a ceiling and the payout ratio reduces as performance increases to avoid pro-cyclicality risk.

 

•  The floor recognises that competitive protection is typically required irrespective of performance levels.

 

•  The ceiling recognises that at higher levels of performance it is possible to limit reward as it is not necessary to continue to increase the variable pay pool, thereby limiting the risk of inappropriate behaviour to drive financial performance.

 

 

Distribution of profits

  

 

•  In addition, our funding methodology considers the relationship between capital, dividends and variable pay to ensure that the distribution of post-tax profits between these three elements is considered appropriate (see next page for the 2014, 2013 and target split).

 

Commerciality and affordability   

•  Finally, the commercial requirement to remain competitive in the market and overall affordability are considered. Both the annual incentive and GPSP are funded from a single annual variable pay pool from which individual awards are considered. Funding of the Group’s annual variable pay pool is determined in the context of Group profitability, capital strength, and shareholder returns. This approach ensures that performance-related awards for individual global businesses, global functions, geographical regions and levels of staff are considered in a holistic fashion.

 

•  Market competiveness is one of the inputs in the determination of the variable pay pool. This allows us to address any gaps to market identified when comparing total reward with our global peers. This recognises the challenges which arise from being headquartered in the UK and hereby having to apply more stringent reward practices than those applied in markets outside the EU. Factors which influence our competitive market position in Asia, Latin America and the US in attracting and retaining talent are the discounts applied on their pay by employees arising from regulations covering a variable pay cap, higher and longer deferrals, malus and now clawback.

 

•  This year’s variable pay pool was established by reference to the Group’s reported profit before tax, which is adjusted to exclude movements in the fair value of own debt attributable to credit spread, the gains and losses from disposals, and debit valuation adjustment. Reported profit before tax includes the costs of fines, penalties and other items of redress.

 

•  Taking into account all of the above, the Committee decided that in light of performance, the competitive market environment , risk inputs, and other factors, the adjusted pre-tax pre-variable pay profit payout ratio for 2014 would be 16% (15% in 2013). The higher payout ratio reflects stronger performance in Asia and the Middle East, and an increased emphasis on risk and control functions.

 

 

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Variable pay pool outcome (US$m)

 

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    Group    

Global Banking

and Markets

 
            2014             2013             2014             2013  

Variable compensation incentive pool as a % of pre-tax profit (pre-variable pay)1

  16%      15%      15%      13%   

% of variable pay pool deferred2

  14%      18%      25%      30%   

 

1 The 2014 Group pre-tax pre-variable pay profit calculation as described on the previous page.
2 The percentage of variable pay deferred for 2014 MRT population is 50%.

Pro forma post-tax profits allocation

On a pro-forma basis, attributable post-tax profits (excluding the movements in the fair value of own debt and before pay distributions were allocated in the proportions shown in the chart below. The Group’s target policy is for the vast majority of post-tax profit to be allocated to capital and to shareholders.

Relative importance of spend on pay

The chart below provides a breakdown of total staff pay relative to the amount paid out in dividends.

 

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1 Dividends per ordinary share in respect of that year. For 2014, this includes the first, second and third interim dividends paid in 2014 of US$5.8bn (gross of scrip) and a fourth interim dividend of US$3.8bn.
2 Employee compensation and benefits in 2014 includes fixed pay, benefits and variable pay as outlined on page 303. Employee compensation and benefits in 2013 totalled US$19,196m which included an accounting gain arising from a change in the basis of delivering ill-health benefits in the UK of US$430m. Excluding this accounting gain, 2013 employee compensation and benefits totalled US$19,626m.
 

 

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1 Inclusive of dividends to holders of other equity instruments and net of scrip issuance based on an assumption of scrip take up for the fourth quarter of 2014 of 20%. Dividends per ordinary share declared in respect of 2014 were US$0.50, an increase of 2% compared with 2013.
2 Total variable pay pool net of tax and portion to be delivered by the award of HSBC shares.

 

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Single figure of remuneration

Executive Directors

 

    Douglas Flint     Stuart Gulliver     Iain Mackay     Marc Moses  
    2014     2013     2014     2013     2014     2013     2014     2013  
            £000             £000             £000             £000             £000             £000             £000             £000  

Fixed pay

Base salary

  1,500      1,500      1,250      1,250      700      700      700        

Fixed pay allowance

            1,700           950           950        

Pension

  750      750      625      625      350      350      350        
  2,250      2,250      3,575      1,875      2,000      1,050      2,000        

Variable pay

Annual incentive

            1,290      1,833      867      1,074      1,033        

GPSP

            2,112      3,667      1,131      2,148      1,131        
              3,402      5,500      1,998      3,222      2,164        

Total fixed and variable pay

  2,250      2,250      6,977      7,375      3,998      4,272      4,164        

Benefits

  136      48      589      591      43      33      6        

Non-taxable benefits

  105      102      53      67      28      53      33        

Notional return on deferred cash

  41      27                11      7      36        

Total single figure of remuneration

  2,532      2,427      7,619      8,033      4,080      4,365      4,239        

Notes to the single figure of remuneration

Marc Moses was appointed an executive Director with effect from 1 January 2014, so his 2013 figures have not been disclosed.

Base salary

  Salary paid in year for executive Directors. No fees were paid to executive Directors.

Fixed pay allowance

  Fixed pay allowance granted in immediately vested shares in the year for executive Directors.
  The shares are subject to a retention period. 20% released in the March immediately following the end of the financial year. 80% released after a period of five years from the date of the first release.
  Dividends will be paid on the vested shares held during the retention period.

Pension

  The amounts consist of an allowance of 50% of annual base salary in lieu of personal pension arrangements.
  No other benefits were received by the executive Directors from the Group pension plans.

Benefits

  All taxable benefits (gross value before payment of tax). Benefits include provision of medical insurance, accommodation and car, club membership, tax gross-up for accommodation and car benefit, and car allowance.
  Non-taxable benefits include the provision of life assurance and other insurance cover.
  The values of the significant benefits in the above table were as follows:

 

    Douglas Flint     Stuart Gulliver     Iain Mackay     Marc Moses  
    2014     2013     2014     2013     2014     2013     2014     2013  
            £000             £000             £000             £000             £000             £000             £000             £000  

Car benefit (UK and Hong Kong)

  70 1    2    88 1    79      2    2    2      

Hong Kong bank-owned accommodation3

            246      229                       

Tax expense on car benefit and Hong Kong bank-owned accommodation

  58 1    2    239 1    266      2    2    2      

Insurance benefit (non-taxable)

  80      78      2    54      2    2    2      

 

1 The UK car benefit provided for Douglas Flint and Stuart Gulliver in 2014 has not changed from 2013. The valuation of the car benefit has increased as they are no longer deemed pool cars for UK tax purposes, and include driver wages, fuel and all associated costs.
2 The car benefit and tax on car benefit for Douglas Flint in 2013, Marc Moses in 2014 and Iain Mackay is not included in the above table as it was not significant. The insurance benefit for Stuart Gulliver and Marc Moses in 2014 and Iain Mackay is not included in the above table as it was not significant.
3 Based on the current market rental value of the bank-owned property, as estimated by an external lease service provider, plus utility costs, rates, the taxable value of furniture and taking into account the business use of the property, the taxable value of the accommodation is considered to be 70% of the total of these amounts.

Annual incentive

 

  Annual incentive awarded (including deferred amounts) as a result of achievement of performance measures for the relevant financial year. 60% of the award is deferred. 50% of both the deferred and non-deferred component of the award is payable in cash and the remaining 50% in shares, subject to a six month retention period on vesting.
  The deferred element of the 2014 award pays out over a period of three years, subject to service and malus conditions: 33% vests on or around the first and second anniversary of grant and 34% on or around the third anniversary of grant. For the 2014 award the performance measures and the outcomes of the performance conditions can be found on pages 315-317. Outcomes for the 2013 award can be found in the Directors’ Remuneration Report in the Annual Report and Accounts 2013.

 

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  The deferred share awards also include a right to receive dividend equivalents. Dividend equivalents on deferred share awards are delivered in the form of additional shares, in the same time and in the same manner and in such proportion as the original deferred award that vests. The expected value of these dividend equivalents is included in the value of deferred share awards.

Illustration of annual incentives

 

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GPSP

  GPSP awarded as a result of achievement of sustainable long-term performance. Figures shown reflect the face value of awards granted in 2014 and 2013 respectively.
  Award levels are determined by considering performance against enduring performance measures set out in the long-term performance scorecard. There are no post-grant performance conditions.
  The award is subject to a five-year cliff vesting period during which the Committee has the authority to cancel all or part of the award. On vesting, the shares (net of tax) must be retained for the duration of the participant’s employment.
  For the 2014 award the outcomes of the performance conditions can be found in the section titled ‘Awards under the GPSP’ on page 314. Outcomes for the 2013 award can be found in the Directors’ Remuneration Report in the Annual Report and Accounts 2013.
  The GPSP awards also include a right to receive dividend equivalents for the period between the grant and the vesting date. Dividend equivalents on the GPSP awards will be delivered when the GPSP awards vest. There was no vesting of historical GPSP awards in 2014. The expected value of these dividend equivalents are included in the value of GPSP awards.

Illustration of GPSP

 

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Notional return on deferred cash

  The deferred cash award portion of the annual incentive also include a right to receive notional returns for the period between grant date and vesting date and determined by reference to the dividend yield on HSBC shares, determined annually.
  A payment of notional return is made annually in the same proportion as the vesting of the deferred awards on each vesting date. The amount is disclosed on a paid basis in the year in which the payment is made.

Remuneration scenarios and outcomes

The charts below show the value and composition of remuneration under three performance scenarios for each of the executive Directors based on the current policy in comparison to the actual 2014 variable pay outcomes.

 

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1 Fixed pay includes base salary, fixed pay allowance and pension allowance for the year, and excludes benefits.
2 Maximum award level as stated in our remuneration policy Includes deferred portion of award. Target has been defined as 50% of the maximum award. Minimum assumes no annual incentive award.
3 Maximum award level as stated in our remuneration policy. Target has been defined as 50% of the maximum award. The GPSP scorecard has not been designed with a numeric targeted or expected value of performance. Minimum assumes no GPSP award.
 

 

Variable pay outcomes

 

        Stuart Gulliver             Iain Mackay             Marc Moses  

Fixed pay

Value (£000)

  3,575      2,000      2,000   

Annual incentive

Maximum multiple of fixed pay

  0.67      0.67      0.67   

Performance outcome

  54.1%      65.0%      77.5%   

Multiple awarded

  0.36      0.43      0.52   

Value (£000)

  1,290      867      1,033   

GPSP

Maximum multiple of fixed pay

  1.33      1.33      1.33   

Performance outcome

  54.8%      54.8%      54.8%   

Multiple awarded

  0.73      0.73      0.73   

Pre-discretion value (£000)

  2,612      1,461      1,461   

Committee discretion (£000)

  (500   (330   (330

Post-discretion value (£000)

  2,112      1,131      1,131   

Total variable pay

Maximum multiple of fixed pay

  2.00      2.00      2.00   

Multiple awarded

  0.95      1.00      1.08   

Value (£000)

  3,402      1,998      2,164   

 

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Awards under the GPSP

Awards in respect of 2014 were assessed against the 2014 long-term scorecard published in the Annual Report and Accounts 2013 and reproduced below.

The performance assessment under the 2014 long-term scorecard took into account achievements under both financial and non-financial objectives, both of which

were set within the context of the risk appetite and strategic direction agreed by the Board.

Notwithstanding the detail or extent of performance delivery against the objectives, an individual’s eligibility for a GPSP award requires confirmation of adherence to HSBC Values which acts in effect as a gateway to GPSP participation, which was assessed to have been met for all executive Directors. A summary of the assessment and rationale for the conclusions is set out below.

 

 

Annual assessment – GPSP

 

            Weighting     Long-term
        target range
    Actual 2014
    performance
            Assessment                 Outcome  

Measure

Capital strength (%)1

  15%      >10      11.1      100%      15.0%   

Progressive dividend payout (%)2

  15%      40-60      72.5      100%      15.0%   

Return on equity (%)3

  15%      12-15      7.2      0%        

Cost efficiency ratio

– Jaws4

  7.5%      Positive jaws 1    (14.7   0%        

– Cost efficiency ratio (%)3

  7.5%      Mid-50s      67.8      0%        

Financial

  60%      30.0%   

Strategy execution

  20%      Judgement      n/a      67%      13.3%   

Risk and compliance

  15%      Judgement      n/a      50%      7.5%   

People

  5%      Judgement      n/a      80%      4.0%   

Non-financial

  40%      24.8%   

Total performance outcome

  100%      54.8%   

 

1 Capital strength is defined as common equity tier 1 capital (CRD IV end point basis).
2 Payout ratio reflects dividends in respect of the year.
3 Return on equity and cost efficiency ratio excludes from the return the impact of fair value movements on own debt designated at fair value resulting from changes in credit spreads.
4 Revenue growth (excluding the impact of fair value movements on own debt designated at fair value resulting from changes in credit spreads) less operating expense growth.

 

Financial (60% weighting – achieved 30%)

Capital strength (assessment: 100%): The Committee took particular note in 2014 of the Group’s position against prospective capital and liquidity standards given the publication of important fresh regulatory proposals on total loss-absorbing capacity (‘TLAC’), net stable funding and leverage. The Group’s ability and capacity to meet these standards will have important ramifications for its business model, the prospective returns available and, therefore, the Group’s dividend paying capacity.

The Committee also took note of the outcome of stress tests conducted by the EBA and the PRA, which provided independent evidence of the Group’s resilience to economic downturn and sectoral weaknesses in framing its judgements on capital strength and dividend policy. The Committee noted positively the outcome of these stress tests which placed the Group favourably amongst its peers in terms of its capacity to absorb and recover from adverse circumstances.

The strength of the capital position was therefore considered favourably, with additional note taken of the improvement in the year-end common equity tier 1 ratio and the increase in the estimated end point position under CRD IV.

Progressive dividend payout (assessment: 100%): The projected capacity to maintain a progressive dividend policy was also noted favourably, which was underpinned by the Group’s strong capital position, its distributable reserves, its cash position, and its planning

assumptions around future performances. The progressive development of the Group’s dividend was achieved notwithstanding economic weakness in parts of the external environment, demonstrating the benefits of the Group’s diversified business model.

Return on equity (assessment: 0%): The Group did not achieve previously set aspiration of 12-15%. While having made good progress towards reducing legacy positions and having de-risked the business where necessary, Group performance remains below its stated target. Business model changes consequent upon new regulatory requirements and enhanced risk controls to reduce the possibility of future customer redress and conduct issues were considered to be essential elements to take the Group to where it needed to be for sustainable financial performance. In the interim, the Committee noted the necessary structural changes which are likely to constrain the overall return of equity and mask the benefits coming from new business and from market share improvement in some areas. Additionally, the Group’s performance continues to be exposed in the near term to uncertainties from an evolving regulatory reform agenda (including the Group’s target capital ratios), contingent legal risks from notable legacy matters and continued significant customer redress costs. While acknowledging the commendable efforts being made to meet an ROE target of 12-15% against increased capital requirements both at a global and at a local level, it was decided not to make any award under this opportunity.

 

 

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Cost efficiency ratio (assessment: 0%): Based on the 2014 development of the Group’s operating expenses, it was judged that no reward should be made under the cost efficiency ratio element of the scorecard. It was noted that the strengthening of Regulatory and Financial Crime Compliance resources and capabilities was a material element in the level of higher costs. It was also recognised that this situation is not likely to diminish in the medium term.

Non-financial (40% weighting – achieved 24.8%)

Strategy execution (assessment: 67%): The Board reviewed progress achieved by management in 2014 to deliver the strategic priorities including organic growth, implementation of Global Standards and driving further efficiency gains through streamlining processes and procedures.

Against a backdrop of weaker than expected economic growth in a number of important markets, and with financial market activity and liquidity further constrained by the industry reshaping in response to regulatory changes, the Group was nevertheless able to demonstrate underlying growth in a number of its global businesses and maintain market position in key products. The Committee recognised that the Board had emphasised a cautious approach to risk appetite during 2014 in light of uncertain economic conditions.

Management demonstrated further progress towards the implementation of Global Standards, acknowledging that material further work is required to achieve full roll-out.

With regard to streamlining, the Group delivered over US$1bn of sustainable savings but these were outweighed by incremental costs in support of growth initiatives and to implement regulatory change, enhance risk controls and implement Global Standards. In light of this, management launched new initiatives to improve efficiency across global businesses and functions which will continue into 2015.

Risk and compliance (assessment: 50%): The Committee received input from the Group Risk Committee, the Conduct & Values Committee and the Financial System Vulnerability Committee on evidence of progress being made to minimise the long-term impact of regulatory and compliance issues on the Group’s reputation. The Committee was satisfied that based on feedback received it was clear that this remains a top priority within the organisation and progress was made in 2014. The Committee took particular notice of work on restructuring the Group Compliance function, investment in greater compliance capabilities, the establishment of enterprise-wide risk assessment programmes, the roll-out of enhanced training and continued strengthening of governance oversight. The Committee also noted the disappointing incidence of further fines and penalties received in 2014, albeit in relation to matters occurring in prior periods, and the consequential extension of work to prevent recurrence.

People (assessment: 80%): The Committee reviewed progress made in talent development, succession

planning, diversity and attrition in some areas. The Committee recognised continued progress, including the successful initiation of a mentoring programme between non-executive directors and senior executives below Board level.

This performance assessment resulted in an overall score of 54.8%.

Notwithstanding this, the Committee subsequently used their discretion to reduce the executive Directors’ GPSP awards by the following amounts:

GPSP adjustment

 

   

GPSP

        adjustment

   

Adjustment

    as a percentage

of variable pay

 
    £000     %  

Director

Stuart Gulliver

  500      13%   

Iain Mackay

  330      14%   

Marc Moses

  330      13%   

For Stuart Gulliver and Marc Moses, the adjustments were considered appropriate based on the weight of legal, compliance and regulatory issues affecting the Group, even those related to historical events, including but not limited to foreign exchange. For Iain Mackay, the adjustment is considered appropriate by the Committee in the context of overall year-on-year Group-wide profitability, incentive pool funding and market remuneration benchmarks.

In 2013, the Committee also used their discretion to reduce Stuart Gulliver’s overall variable pay by 18.5%.

Determining executive Directors’ annual performance

The annual incentive award made to executive Directors in respect of 2014 reflected the Committee’s assessment of the extent to which they had achieved personal and corporate objectives set within their performance scorecard as agreed by the Board at the beginning of the year. This measurement took into account performance against both the financial and non-financial measures which had been set to reflect the risk appetite and strategic priorities determined by the Board to be appropriate for 2014. In addition, in accordance with the downward override policy, the Committee also consulted the Financial System Vulnerabilities Committee and took into consideration the feedback received from this committee in relation to progress on enhancing AML and sanctions compliance as well as progress in meeting the Group obligations under the DPA and other relevant orders.

In order for any award of annual incentive to be made under the above performance scorecard, the Committee had to satisfy itself the executive Directors had personally met and shown leadership in promoting HSBC Values. This overriding test assessed behaviour around HSBC Values of being ‘open, connected and dependable’ and acting with ‘courageous integrity’, which was assessed to have been met for all executive Directors.

 

 

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Notwithstanding regulatory difficulties, overall the executive Directors performed well in the context of a challenging market environment.

 

A summary of each executive Director’s assessment against specific performance measures is provided in the following tables.

 

Stuart Gulliver

Annual assessment

 

  Weighting      Target 6        Performance              Assessment              Outcome   

Measure

Pre-tax profit (US$bn)1

  17.5%      21.6      18.6      86%      15.1%   

Return on equity (%)2

  10%      9.8      7.2      0%        

Cost efficiency ratio (%)

– Jaws3

  8.75%      5.6      (14.7   0%        

– Cost efficiency ratio (%)2

  8.75%      58.5      67.8      0%        

Dividends (%)4

  10%      57.1      72.5      100%      10.0%   

Capital strength (%)5

  5%      10.9      11.1      100%      5.0%   

Financial

  60%      30.1%   

Strategy execution

  20%          Judgement      n/a      70%      14.0%   

Risk and compliance

  20%      Judgement      n/a      50%      10.0%   

Non-financial

  40%      24.0%   

Promoting HSBC Values

  Over-riding test      Met   

Total

  100%      54.1%   

 

1 Group’s reported profit before tax adjusted to exclude movements in the fair value of own debt attributable to credit spread, the gains and losses from disposals, and debit valuation adjustment (2013 does not include debit valuation adjustment).
2 Return on equity and cost efficiency ratio excludes from the return the impact of fair value movements on own debt designated at fair value resulting from changes in credit spreads.
3 Revenue growth (excluding the impact of fair value movements on own debt designated at fair value resulting from changes in credit spreads) less operating expense growth.
4 Payout ratio reflects dividends in respect of the year.
5 Capital strength is defined as common equity tier 1 capital (CRD IV end point basis).
6 Based on prior year 2013.

 

Strategy execution (assessment: 70%): The Board reviewed progress achieved in 2014 to deliver the strategic priorities including organic growth, implementation of Global Standards, and driving further efficiency gains through streamlining processes and procedures.

The Committee noted favourably that underlying revenue reflected progress in execution against priority initiatives, including growing market share in selected trade corridors and maintaining market position in key products.

The Committee noted progress in the Global Standards programme throughout 2014 in moving from design to execution phase, the continuation of disposals and closures of non-core businesses and shareholdings (75 transactions since 2011). In addition, the global businesses are implementing operating procedures to assure the delivery of global AML and sanctions policies approved earlier in the year. The Committee noted continuing investment to strengthen financial crime compliance expertise and build strategic infrastructure for customer due diligence, transaction monitoring and sanctions screening. As a consequence, the Committee was advised the Group had been able to deliver on its 2014 milestones.

The Committee noted favourably that the Group had achieved sustainable savings in excess of US$1bn in the

year through business simplification and re-engineering. The Committee noted that costs during 2014 had increased by being affected by significant items and a rise in regulatory and financial crime compliance costs, inflationary pressures, continued investment in strategic initiatives, and a rise in the bank levy. The Committee was advised the Group had launched new initiatives to further improve efficiency across global businesses and key functions which will continue into 2015.

Risk and compliance (assessment: 50%): This measure increased in weighting to 20% from 15% in 2013 to underscore the Group’s commitment to these areas. The Committee reviewed the Group’s progress in increasing and enhancing Group Compliance headcount, the roll out of the ‘Driving a values-led high performance culture’ programme, the implementation of measures to address conduct risk (e.g., product range reviews and associated product exits, changes to retail banking incentive arrangements) and the continued strengthening of governance oversight. The outcome has been affected by the incidence, scale and reputational damage incurred from continuing customer redress and regulatory fines and penalties incurred in 2014.

This performance assessment resulted in an overall score of 54.1%.

 

 

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Iain Mackay

Annual assessment

 

    Weighting     Target         Performance             Assessment             Outcome  

Measure

Grow both business and dividends

  15%          Judgement      n/a      85%      13.0%   

Risk and compliance including Global Standards

  50%      Judgement      n/a      75%      37.5%   

Streamline processes and procedures

  25%      Judgement      n/a      45%      11.0%   

Strategic priorities

  90%      61.5%   

People

  10%      Judgement      n/a      35%      3.5%   

Promoting HSBC Values

  Over-riding test      Met   

Total

  100%      65.0%   

 

Grow both business and dividends (assessment: 85%): The Committee recognised the contribution of the Finance function in supporting the development, implementation and monitoring of business cases in support of organic growth and the substantial improvement in clarity in analysts and investors presentations which had attracted favourable comment from analysts and shareholders.

Risk and compliance including Global Standards (assessment: 75%): The Committee noted substantial progress in a number of areas. Risk and compliance metrics, and implementation of new cost and resource monitoring processes for Global Standards programmes were both fully met during the year.

Streamline processes and procedures (assessment: 45%): The Committee recognised the substantial

commitment to, and achievement of, the exacting stress testing programmes across the Group. It was further noted that costs were higher than target, while the target for sustainable saves had not been met fully. Similarly, while progress was being made in re-engineering the global Finance function, a number of initiatives were still in progress.

People (assessment: 35%): The progress made in performance management and reward differentiation for the global Finance function and further work to be done in increasing employee diversity and cost restructuring were noted.

This performance assessment resulted in an overall score of 65%.

 

 

Marc Moses

Annual assessment

 

    Weighting     Target         Performance             Assessment             Outcome  

Measure

Grow both business and dividends

  20%          Judgement      n/a      90%      18.0%   

Risk and compliance including Global Standards

  50%      Judgement      n/a      75%      37.5%   

Streamline processes and procedures

  20%      Judgement      n/a      70%      14.0%   

Strategic priorities

  90%      69.5%   

People

  10%      Judgement      n/a      80%      8.0%   

Promoting HSBC Values

  Over-riding test      Met   

Total

  100%      77.5%   

 

Grow both business and dividends (assessment: 90%): The Committee recognised the use of risk appetite statements to enable a sustainable business, and the provision of resources to support business growth (e.g., risk analytics and enhancements to risk processes to enable improvements in quality of credit portfolio).

Risk and compliance including Global Standards (assessment: 75%): The Committee noted the progress towards implementing Global Standards, compliance with regulatory requirements, and de-risking the organisation. This was evidenced by the roll-out of the AML and sanctions compliance plan, the development of the operational risk transformation roadmap and the successful execution of the PRA and EBA stress tests.

Streamline processes and procedures (assessment: 70%): The Committee recognised these objectives have been largely met, supported by the management of business performance, delivery of key streamlining initiatives, and re-engineering of Financial Crime Compliance systems. Work towards the Global Risk data strategy programme to support PRA data requirements, which included enhancements to the Risk data infrastructure, was further noted.

People (assessment: 80%): The execution of the pay and performance plans, as well as the learning and development plans which were part of a comprehensive people strategy for the Global Risk function were noted.

This performance assessment resulted in an overall score of 77.5%.

 

 

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Non-executive Directors

Fees and benefits

 

    Fees     Benefits7     Total  
    2014     2013     2014     2013     2014     2013  
                £000                 £000                 £000                 £000                 £000                 £000  

Kathleen Casey1

  129           12           141        

Safra Catz

  95      95      4      14      99      109   

Laura Cha2

  197      195      22      47      219      242   

Lord Evans of Weardale

  167      50      14           181      50   

Joachim Faber

  145      137      10      21      155      158   

Rona Fairhead3

  494      202      19      6      513      208   

Sam Laidlaw

  140      125                140      125   

John Lipsky

  168      150      27      25      195      175   

Rachel Lomax

  205      155      21      8      226      163   

Heidi Miller4

  52                     52        

Sir Simon Robertson

  260      240      6      1      266      241   

Jonathan Symonds5

  365             3               368          

Total6

  2,417      1,349        138        122        2,555        1,471   

Total (US$000)

  3,979      2,221      229      201      4,208      2,422   

 

1 Appointed on 1 March 2014.
2 Includes fees of £57,000 in 2014 (£75,000 for 2013) as Director, Deputy Chairman and member of the nomination committee of The Hongkong and Shanghai Banking Corporation Limited.
3 Includes a fee of £334,000 in 2014 as non-executive Chairman of HSBC North America Holdings Inc (appointed on 1 January 2014).
4 Appointed on 1 September 2014.
5 Appointed on 14 April 2014 as non-executive Director of HSBC Holdings plc and non-executive chairman of HSBC Bank plc, for which he received a fee of £247,000.
6 Excludes fees and benefits for Marvin Cheung, John Coombe, Renato Fassbind and James Hughes-Hallett who were not Directors at 31 December 2014. Marvin Cheung resigned on 1 August 2014. His fees for 2014 were £113,000 (£197,000 for 2013) (including fees of £40,000 as Director, Chairman of the risk committee and member of the audit committee of Hang Seng Bank Limited). His benefits for 2014 were £18,000 (£45,000 for 2013). John Coombe retired on 23 May 2014. His fees and benefits for 2014 were £85,000 and £5,000 respectively (£205,000 and £14,000 respectively in 2013). Renato Fassbind resigned on 1 September 2014. His fees and benefits for 2014 were £109,000 and £10,000 respectively (£145,000 and £23,000 respectively in 2013). James Hughes-Hallett retired on 23 May 2014. His fees and benefits for 2014 were £50,000 and £1,000 respectively (£145,000 and £1,000 respectively in 2013).
7 Benefits include travel-related expenses relating to the attendance at Board and other meetings at HSBC Holdings registered office. Amounts disclosed are estimated and have been grossed up using a tax rate of 45%, where relevant.

 

Total pension entitlements

No employees who served as executive Directors during the year have a right to amounts under any HSBC final salary pension schemes or are entitled to additional benefits in the event of early retirement. There is no retirement age set for Directors, but the normal retirement age for employees is 65.

Payments to past Directors

This report does not include details of payments made to past Directors below the de minimis limit set by the company of £50,000.

 

Exit payments made in year

No payments for loss of office were made in 2014 to any person serving as a Director in the year or any previous years.

Scheme interests awarded during 2014

The table below sets out the scheme interests awarded to Directors in 2014 (for performance in 2013) as disclosed in the 2013 Directors’ Remuneration Report. No non-executive Directors received scheme interests during the financial year.

 

 

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Scheme awards in 2014

 

Type of interest awarded

Basis on which

award made

 
 
Dates of
award
  
  
 

 

 

Face value

awarded1

£000

  

  

  

 

 

 

 

Percentage

receivable

for minimum

performance

  

  

  

2 

 
 
 
Number of
shares
awarded
  
  
  
 

 

 

Share price

on date

of grant

  

  

1 

 
 
 
End of
performance
period
  
  
  

Stuart Gulliver

Deferred cash Annual incentive 2013   10 Mar 2014      550      0%      n/a      n/a      31 Dec 2013   

Stuart Gulliver

Restricted shares Annual incentive 2013   10 Mar 2014      550      0%      88,766      £6.196      31 Dec 2013   

Stuart Gulliver

Restricted shares GPSP 2013   10 Mar 2014      3,667      0%      591,779      £6.196      31 Dec 2013   

Iain Mackay

Deferred cash Annual incentive 2013   10 Mar 2014      322      0%      n/a      n/a      31 Dec 2013   

Iain Mackay

Restricted shares Annual incentive 2013   10 Mar 2014      322      0%      51,997      £6.196      31 Dec 2013   

Iain Mackay

Restricted shares GPSP 2013   10 Mar 2014      2,147      0%      346,647      £6.196      31 Dec 2013   

Marc Moses

Deferred cash Annual incentive 2013   10 Mar 2014      322      0%      n/a      n/a      31 Dec 2013   

Marc Moses

Restricted shares Annual incentive 2013   10 Mar 2014      322      0%      51,992      £6.196      31 Dec 2013   

Marc Moses

Restricted shares GPSP 2013   10 Mar 2014      2,147      0%      346,613      £6.196      31 Dec 2013   

GPSP awards made based on performance up to the financial year-end preceding the grant date with no further performance conditions after grant. Vesting occurs five years after grant date and is normally subject to the Director remaining an employee on the vesting date. Any shares (net of tax) which the director becomes entitled to on the vesting date are subject to a retention requirement.

The above table does not include details of shares issued as part of the Fixed Pay Allowances, as those shares vest immediately and are not subject to any service or performance conditions.

 

1 Share price used is the closing mid-market price on the last working day preceding the date of grant.
2 Awards determined based on performance achieved during the period to 31 December 2013. The overall award level could have been 0% of the maximum opportunity if minimum performance was achieved for the period to 31 December 2013. After grant, awards are subject to service condition and malus provisions.

 

Summary of performance

HSBC TSR and FTSE100 Index

The graph shows the TSR performance against the FTSE 100 Index for the six-year period ended 31 December 2014. The FTSE 100 Index has been chosen as this is a recognised broad equity market index of which HSBC Holdings is a member.

LOGO

Source: Datastream

 

 

CEO remuneration

Historical CEO remuneration

The table below summarises the CEO’s single figure remuneration over the past six years together with the outcomes of the respective annual incentive and long-term incentive awards.

 

     

Single

figure of
    remuneration

 

Annual 
incentive 

maximum2

 

Annual 

incentive 

paid2

 

Long-term 

incentive 

maximum4

 

Long-term 

incentive 

paid4

 
      (£000)     (% of fixed pay)3     (% of maximum)      (% of fixed pay)3     (% of maximum)   

2014                

Stuart Gulliver

  7,619      67%       54.1%       133%       44.3%    

2013

Stuart Gulliver

  8,033      300%       49.0%       600%       49.0%    

2012

Stuart Gulliver

  7,532      300%       52.0%       600%       40.0%    

2011

Stuart Gulliver

  8,047      300%       57.5%       600%       50.0%    

20101

Michael Geoghegan

  7,932      400%       81.6%       700%       19.1%    

20091

Michael Geoghegan

  7,580      400%       93.5%       700%       25.4%    

 

1 The GPSP was introduced in 2011. Prior to this, values shown relate to awards of Performance Shares under the HSBC Share Plan. Under this plan Performance Share awards vest three years after grant subject to performance conditions of total shareholder return, economic profit and earnings per share, and an over-riding ‘sustained improvement’ judgement by the committee.
2 The 2012 annual incentive figure for Stuart Gulliver used for this table includes 60% of the annual incentive disclosed in the 2012 Directors’ Remuneration Report which was deferred for five years. The vesting of these awards is subject to service condition and satisfactory completion of the DPA. The DPA condition ends on or around the fifth anniversary of the award date unless the DPA is extended or otherwise continues beyond that date, in which case the awards will vest on or around the date on which the DPA expires and otherwise ceases to operate.
3 For 2014, fixed pay includes base salary, fixed pay allowance and pension allowance for the year, and excludes benefits. For 2013 and earlier, fixed pay includes base salary only.
4 Long-term incentive awards are shown in the year where the performance period is deemed to be substantially completed. For performance share awards this is at the end of the third financial year following the date of grant (Performance Share awards shown in 2010 therefore relate to awards granted in 2008). For GPSP awards this is at the end of the financial year preceding the date of grant (GPSP awards shown in 2011 to 2014 therefore relate to awards granted in 2012 to 2015).

 

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Comparison of Group CEO and all-employee pay

The following table compares the changes in Group CEO pay to changes in employee pay between 2013 and 2014:

Percentage change in remuneration

 

 
 
Base
            salary
  
  
          Benefits 3   

 

Annual

        incentive

  

4 

Group CEO1

  0.0%      (0.3% )     (29.6%

Employee group2

  4.4%      5.7%       (5.3%

 

1 Group CEO received an FPA of £1.7 million with effect from 1 January 2014 based on the new remuneration policy approved by shareholders. Further details on the FPA are provided in the remuneration policy section for executive Directors.
2 Employee group consists of all employees globally, based on costs included in wages and salaries disclosed in financial reports (excluding FPA) and staff numbers (full-time equivalents averaged over the financial year).
3 Employee group consists of UK employees only (full-time equivalents averaged over the financial year) as it was deemed the most appropriate comparison for the Group CEO given varying local requirements.
4 Employee group consists of all employees globally, based on annual incentive pool less GPSP as disclosed in financial reports and staff numbers (full-time equivalents at the financial year-end).

 

Directors’ interests in shares

Guidelines

To ensure appropriate alignment with our shareholders, we have shareholding guidelines expressed as a number of shares for executive Directors, non-executive Directors, and Group Managing Directors. The Committee considers that share ownership by senior executives and non-executive Directors helps align their interests with those of shareholders. The numbers of shares they are required to hold are set out in the table below.

Individuals are given five years from 2014 or (if later) their appointment as executive Director, non-executive Director, or Group Managing Director to build up the recommended levels of shareholding.

 

HSBC operates an anti-hedging policy for all employees. As part of this all employees are required to certify each year that they have not entered into any personal hedging strategies in relation to their holdings of HSBC shares.

The Committee monitors compliance with the share ownership guidelines annually. The Committee has full discretion in determining any penalties in cases of non-compliance, which could include a reduction of future awards of GPSP and/or an increase in the proportion of the annual variable pay that is deferred into shares.

The shareholdings of all persons who were Directors in 2014 (including the shareholdings of their connected persons) at 31 December 2014 or at the time of their retirement are set out below.

 

Share options

 

          Exercisable           At 1 Jan           Exercised           At 31 Dec  
  Date of award     Exercise price   From1   until   2014   in year   2014  

Douglas Flint

  24 Apr 2012      4.4621          1 Aug 2015      1 Feb 2016      2,016           2,016   

Douglas Flint

  23 Sep 2014      5.1887      1 Nov 2019      1 May 2020                2,919   

Iain Mackay

  23 Sep 2014      5.1887      1 Nov 2017      1 May 2018                3,469   

 

1 May be advanced to an earlier date in certain circumstances, e.g. retirement.

 

The HSBC Holdings savings-related share option plans are all-employee share plans under which eligible employees may be granted options to acquire HSBC Holdings ordinary shares. Employees may make contributions of up to £500 (or equivalent) each month over a period of three or five years which may be used on or around the third or fifth anniversary of the commencement of the relevant savings contract, at the employee’s election, to exercise the options. The plans help align the interests of employees with the creation of shareholder value. The options were awarded for nil consideration and are exercisable at a 20% discount to the average market value of the ordinary shares on the

five business days immediately preceding the invitation date. There are no performance criteria conditional upon which the outstanding options are exercisable and there have been no variations to the terms and conditions since the awards were made. The market value per ordinary share at 31 December 2014 was £6.09. The highest and lowest market values per ordinary share during the year were £6.81 and £5.89. Market value is the mid-market price derived from the London Stock Exchange Daily Official List on the relevant date. Under the Securities and Futures Ordinance of Hong Kong, the options are categorised as unlisted physically settled equity derivatives.

 

 

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Shares

 

          At 31 December 2014 or date of retirement  
                Scheme interests  
                      Shares awarded
subject to deferral
 
 
 

 

 

Shareholding
requirement

(number of

shares)

  
  

  

1 

 

 

 
 

            Total share

interests

(number of
shares)

  

  

  
  

 
 
Share
    options
  
2 
 
 

 

without
    performance

conditions

  
  

3 

 
 
 
with
    performance
conditions
  
  
  

Executive Directors

Douglas Flint

  400,000      400,748      4,935             

Stuart Gulliver

  750,000      2,611,188           2,476,808      87,007   

Iain Mackay

  450,000      79,933      3,469      942,732      60,150   

Marc Moses

  450,000      480,423           1,216,599      58,439   

Group Managing Directors4

  250,000      n/a      n/a      n/a      n/a   

Non-executive Directors5

Safra Catz

  15,000      20,045      n/a      n/a      n/a   

John Coombe6

  15,000      23,845      n/a      n/a      n/a   

Lord Evans of Weardale

  15,000      5,519      n/a      n/a      n/a   

Joachim Faber

  15,000      24,105      n/a      n/a      n/a   

Rona Fairhead

  15,000      76,524      n/a      n/a      n/a   

Sam Laidlaw

  15,000      36,768      n/a      n/a      n/a   

John Lipsky

  15,000      15,820      n/a      n/a      n/a   

Rachel Lomax

  15,000      15,500      n/a      n/a      n/a   

Heidi Miller7

  15,000      3,575      n/a      n/a      n/a   

Sir Simon Robertson

  15,000      22,981      n/a      n/a      n/a   

Jonathan Symonds8

  15,000      20,553      n/a      n/a      n/a   

 

1 The current shareholding requirement does not count unvested share based incentives.
2 All share options are unexercised.
3 Includes GPSP awards which are made following an assessment of performance over the relevant period ending on 31 December immediately before the grant date but are subject to a five-year vesting period.
4 All of the Group Managing Directors are expected to meet their minimum shareholding requirement by 2019 or within five years of the date of their appointment, whichever is later.
5 Those who were non-executive Directors in 2014 but are not in the list above did not hold any shares as at 31 December 2014, or at the date of their retirement, directly or through any connected persons.
6 John Coombe retired as a Director on 23 May 2014.
7 Appointed on 1 September 2014.
8 Appointed on 14 April 2014.

 

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Shareholder context

The table below shows the outcome of the remuneration-related votes at the Annual General Meeting of HSBC Holdings plc held on 23 May 2014.

 

     Number of
votes cast
     For      Against      Withheld  

Advisory vote on 2013 Remuneration Report

     9,744,121,154        

 

8,180,579,271

(83.95%)

  

  

    

 

1,563,541,883

(16.05%)

  

  

     205,528,859   

Binding vote on the Remuneration Policy

     9,781,954,191        

 

7,762,051,505

(79.35%)

  

  

    

 

2,019,902,686

(20.65%)

  

  

     167,509,544   

Implementation of remuneration policy in 2015

The table below summarises how each element of pay will be implemented in 2015.

 

Purpose and link

to strategy

 

   Operation and planned changes to policy
Fixed pay   
Base salary   

Base salary levels will remain unchanged from their 2014 levels as follows:

 

Douglas Flint: £1,500,000

Stuart Gulliver: £1,250,000

Iain Mackay: £700,000

Marc Moses: £700,000

Fixed pay allowance1   

Fixed pay allowances will remain unchanged from their 2014 levels as follows:

 

Douglas Flint: Nil

Stuart Gulliver: £1,700,000

Iain Mackay: £950,000

Marc Moses: £950,000

Pension   

Pension Allowance to apply in 2015 as a percentage of base salary will remain unchanged as follows:

 

Douglas Flint: 50%

Stuart Gulliver: 50%

Iain Mackay: 50%

Marc Moses: 50%

 

Benefits   
Benefits   

No changes are proposed to the benefits package for 2015.

 

Variable pay1   
Annual incentive    No changes are proposed to the annual incentive.
GPSP   

No changes are proposed to the GPSP.

 

 

1 This approach applies to all executive Directors with the exception of the Group Chairman, Douglas Flint, who is not eligible for a fixed pay allowance or variable pay awards.

 

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Annual bonus scorecards

The measures and weightings of the performance measures to apply to the 2015 annual incentive for Stuart Gulliver, Iain Mackay and Marc Moses are given below. Douglas Flint is not included as he is not eligible for an annual incentive award.

The Committee is of the opinion that the performance targets for the annual incentive are commercially sensitive and that it would be detrimental to the interests of the company to disclose them before the start of the financial year. Subject to commercial sensitivity, the targets will be disclosed after the end of the relevant financial year in that year’s remuneration report.

 

 

2015 annual incentive scorecards

 

Stuart Gulliver     Iain Mackay     Marc Moses  

Measures

  Weighting   

Functional measures linked to

  Weighting   

Functional measures linked to

  Weighting   

Profit before tax1

  15%   

Grow both business and dividends

  15%   

Grow both business and dividends

  20%   

Return on equity

  15%   

Global Standards including risk and compliance

  50%   

Global Standards including risk and compliance

  50%   

Jaws2

  15%   

Streamline processes and procedures

  25%   

Streamline processes and procedures

  20%   

Grow dividends3

  15%               

Financial

  60%   

Strategic priorities

  90%   

Strategic priorities

  90%   

Strategy execution

  15%   

People

  10%   

People

  10%   

Global Standards including risk and compliance

  25%               

Non-financial

  40%   

People

  10%   

People

  10%   

Promoting HSBC Values

 
 
Over-riding
test
  
  

Promoting HSBC Values

 
 
Over-riding
test
  
  

Promoting HSBC Values

 
 
Over-riding
test
  
  

Total

  100%   

Total

  100%   

Total

  100%   

2015 Group GPSP scorecard

 

Measure   Long-term target range      Weighting  

Return on equity2

  >10%   20%   

Jaws2

  Positive adjusted jaws   20%   

Grow dividends3

  Progressive   20%   

Financial

      60%   

Strategy execution

  Judgement   15%   

Global standards including risk and compliance

  Judgement   25%   

Non-financial

      40%   

Total

      100%   

 

1 Profit before tax, as defined for the Group variable pay pool.
2 Revenue growth less operating expense, on an adjusted basis.
3 Dividend per ordinary share (USD) in respect of the year, measured year on year; consistent with the growth of the overall profitability of the Group, predicated on the continued ability to meet with regulatory capital requirements.

 

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Appendix to Directors’ Remuneration Report

Additional disclosures

This appendix provides disclosures required under the Hong Kong Ordinances, Hong Kong Listing Rules, Project Merlin agreement, Financial Conduct Authority’s Prudential Sourcebook for Banks and the US Securities and Exchange Commission Form 20-F disclosures.

Employee compensation and benefits

Emoluments of Directors

Set out below are details of emoluments paid to executive Directors for the year ended 31 December 2014.

 

    Douglas Flint     Stuart Gulliver     Iain Mackay     Marc Moses  
    £000     £000     £000     £000  

Basic salaries, allowances and benefits in kind

  2,491      4,217      2,071      2,039   

Pension contributions

                   

Performance-related pay paid or receivable

       3,402      1,998      2,164   

Inducements to join paid or receivable

                   

Compensation for loss of office

                   

Total

  2,491      7,619      4,069      4,203   

Total (US$000)

  4,101      12,545      6,700      6,922   

Total 2013 (US$000)

  3,752      12,558      6,813        

The aggregate amount of Directors emoluments (including both executive Directors and non-executive Directors) for the year ended 2014 was US$34,475,463. No payments were made in respect of pensions and loss of office. Marc Moses was appointed an executive Director with effect from 1 January 2014, therefore his 2013 figures have not been disclosed.

Emoluments of senior management

Set out below are details of emoluments paid to senior management (being executive Directors and Group Managing Directors of HSBC Holdings) for the year ended 31 December 2014 or for the period of appointment as a Director or Group Managing Director.

Emoluments of senior management

   

Senior

management

£000

 

Basic salaries, allowances and benefits in kind

  32,237   

Pension contributions

  433   

Performance-related pay paid or receivable

  23,749   

Inducements to join paid or receivable

    

Compensation for loss of office

    

Total

  56,419   

Total (US$000)

  92,893   

 

The aggregate emoluments of senior management for the year ended 31 December 2014 was US$92,892,912. The emoluments of senior management were within the following bands:

   

   

Number of
senior

management

 

£0 – £1,000,000

  1   

£1,000,001 – £2,000,000

  1   

£2,000,001 – £3,000,000

  7   

£3,000,001 – £4,000,000

  3   

£4,000,001 – £5,000,000

  3   

£6,000,001 – £7,000,000

  1   

£7,000,001 – £8,000,000

  1   

The aggregate amount set aside or accrued to provide pension, retirement or similar benefits for executive Directors and senior management for the year ended 31 December 2014 was US$713,715.

 

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Emoluments of five highest paid employees

Set out below are details of remuneration paid to the five individuals whose emoluments were the highest in HSBC (including two executive Directors and two Group Managing Directors of HSBC Holdings), for the year ended 31 December 2014.

Emoluments of the five highest paid employees

 

   

5 highest paid

employees

£000

 

Basic salaries, allowances and benefits in kind

  14,945   

Pension contributions

  128   

Performance-related pay paid or receivable

  11,690   

Inducements to join paid or receivable

    

Compensation for loss of office

    

Total

  26,763   

Total (US$000)

  44,066   

 

The emoluments of the five highest paid employees were within the following bands:

 

  

   

Number of

5 highest paid

employees

 

£4,000,001 – £4,100,000

  1   

£4,200,001 – £4,300,000

  1   

£4,700,001 – £4,800,000

  1   

£6,000,001 – £6,100,000

  1   

£7,600,001 – £7,700,000

  1   

Remuneration of eight highest paid senior executives

Set out below are details of the remuneration of the eight highest paid senior executives (including members of the GMB, but not Directors of HSBC Holdings):

 

    Employee  
    1     2     3     4     5     6     7     8  
            £000             £000             £000             £000             £000             £000             £000             £000  

Fixed

Cash based

  650      606      650      668      741      650      765      561   

Shares-based

  3,016      1,549      904      726      617      710      376      434   

Total fixed

  3,666      2,155      1,554      1,394      1,358      1,360      1,141      995   

Annual incentive1

Cash

  421      345      283      265      224      223      224      199   

Non-deferred shares2

  421      345      283      265      224      223      224      199   

Deferred cash3

  631      517      424      398      336      334      336      299   

Deferred shares3

  631      517      424      398      336      334      336      299   

Total annual incentive

  2,104      1,724      1,414      1,326      1,120      1,114      1,120      996   

GPSP

Deferred shares

  234      191      157      147      125      124      124      111   

Total variable pay

  2,338      1,915      1,571      1,473      1,245      1,238      1,244      1,107   

Total remuneration

  6,004      4,070      3,125      2,867      2,603      2,598      2,385      2,102   

Total remuneration (US$000)

  9,887      6,701      5,144      4,720      4,287      4,276      3,928      3,461   

 

1 Annual incentive in respect of performance year 2014.
2 Awards vested, subject to a six-month retention period.
3 Awards vest over a three-year period, 33% vests on or around the first and second anniversary of grant and 34% on or around third anniversary of grant.

 

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Directors’ Remuneration Report (continued)

 

 

Pillar 3 remuneration disclosures

The following tables show the remuneration awards made by HSBC to its Identified Staff and MRTs for 2014. Individuals have been identified as MRTs based on the qualitative and quantitative criteria set out in the Regulatory Technical Standard EU 604/2014 that came into force in June 2014. This replaces the criteria that were previously used to identify Code Staff for the purposes of the PRA’s and the FCA’s Remuneration Code.

The scope of the qualitative and quantitative criteria specified in Regulatory Technical Standard EU 604/2014 to identify MRTs is much broader than the criteria used to identify Code Staff in previous years. Accordingly, the number of individuals identified as MRTs for 2014 is significantly larger than the number of individuals that were identified as Code Staff in previous years. The figures for 2013 in the tables below relate to the number of individuals that were identified as Code Staff for 2013.

These disclosures reflect the requirements of the FCA’s Prudential Sourcebook for Banks.

Aggregate remuneration expenditure

 

         Global business aligned                        
        

Retail

Banking

and Wealth

Management

US$m

        

      Commercial

Banking

US$m

        

Global

    Banking and

Markets

US$m

        

Global

Private

      Banking

US$m

        

      Non-global

business

aligned

US$m

        

Total

US$m

 

Aggregate remuneration expenditure
(2014 MRTs/2013 Code Staff)
1

                             

2014

       94.3           61.7           741.3           70.2           374.4                 1,341.9   

2013

       39.7           14.6           309.0           44.9           171.2           579.4   

 

1 Includes salary and incentives awarded in respect of performance in the years 2013 and 2014 (including deferred component) and any pension or benefits outside of policy.

Remuneration – fixed and variable amounts – Group-wide

 

         2014          2013  
      

 

 

Senior

manage-

ment

  

  

1 

      

 

 

 

MRTs

(non-senior

manage-

ment)

  

  

  

  

       Total          

 

 

Senior

manage-

ment

  

  

1 

      

 

 
 

Code Staff

(non-senior

manage-
ment)

  

  

 
  

       Total   

Number of 2014 MRTs/2013 Code Staff

       98           1,080           1,178           66           264           330   
         US$m          US$m              US$m          US$m          US$m              US$m  

Fixed

                             

Cash-based

       64.1           517.0           581.1           52.6           101.1           153.7   

Shares-based

       51.8           88.7           140.5                                 

Total fixed

       115.9           605.7           721.6           52.6           101.1           153.7   

Variable2

                             

Cash

       18.5           138.9           157.4           19.0           60.1           79.1   

Non-deferred shares3

       18.5           132.0           150.5           18.9           56.5           75.4   

Deferred cash

       24.9           119.5           144.4           26.6           79.3           105.9   

Deferred shares

       41.5           126.4           167.9           72.4           92.8           165.2   

Total variable pay4

       103.4           516.8           620.2           136.9           288.7           425.6   

 

1 Definition of senior management for 2014 includes members of the Group Management Board, Group General Managers and non-executive Directors. For 2013, this includes members of the Group Management Board and Group General Managers only.
2 Variable pay awarded in respect of performance in the years 2013 and 2014.
3 Vested shares, subject to a six-month retention period.
4 In accordance with shareholder approval received on 23 May 2014, for each MRT the variable component of remuneration for any one year is limited to 200% of fixed component of total remuneration of the MRT.

Remuneration – fixed and variable amounts – UK based

 

         2014          2013  
        

Senior
manage-

ment

        

MRTs

(non-senior

manage-
ment)

         Total         

Senior

manage-

ment

        

Code Staff

(non-senior

manage-

ment)

         Total  

Number of 2014 MRTs/2013 Code Staff

       64           446           510           35           157           192   
         US$m          US$m              US$m          US$m          US$m              US$m  

Total fixed

       73.1           244.5           317.6           30.4           53.7           84.1   

Total variable pay1

       60.7           205.2           265.9           86.0           120.3           206.3   

 

1 Variable pay awarded in respect of performance in the years 2013 and 2014.

 

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Directors’ Remuneration Report (continued)

 

 

Deferred remuneration1

 

    2014             2013          
   

Senior

    manage-

ment
US$m

   

MRTs

    (non-senior

manage-

ment)

US$m

   

Total

      US$m

   

Senior

    manage-

ment
US$m

   

Code Staff

    (non-senior

manage-

ment)

US$m

    Total
      US$m
 

Deferred remuneration at 31 December

Outstanding, unvested

  270.2      691.8      962.0      213.4      331.7      545.1   

Awarded during the year

  112.6      353.8      466.4      87.0      159.6      246.6   

Paid out2

  33.9      210.3      244.2      110.7      269.9      380.6   

Reduced through malus3

                 0.4           0.4   

 

1   This table provides details of actions taken during the performance years 2013 and 2014. For details of variable pay awards granted for the performance years 2013 and 2014, please refer to both the Remuneration tables above.

2   All valued as at 31 December of the relevant year, except for 2013 vested shares which are valued using share price as at day of vesting.

3   This table only discloses instances of malus for 2014 MRTs/2013 Code Staff. Malus has been applied in the year for other individuals who have left the Group. Where practicable, an adjustment will be made to current year variable pay, before the application of malus (see page 306 for further information).

       

      

       

 

Sign-on and severance payments

 

    2014             2013          
   

Senior

    manage-

ment

   

MRTs

  (non-senior

manage-

ment)

          Total    

Senior

    manage-

ment

   

Code Staff

  (non-senior

manage-

ment)

          Total  

Sign-on payments

Made during year (US$m)

  1.9      2.6      4.5           3.7      3.7   

Number of beneficiaries

  1      5      6           3      3   

Severance payments

Made during year (US$m)

       4.1      4.1      1.1      1.6      2.7   

Number of beneficiaries

       13      13      3      5      8   

Highest such award to single person (US$m)

       0.5      0.5      0.6      0.6   

 

MRT remuneration by band1

 

    Number of 2014 MRTs     Number of 2013 Code Staff  
   

Senior

    manage-

ment

   

MRTs

  (non-senior

manage-

ment)

          Total    

Senior

    manage-

ment

   

Code Staff

  (non-senior

manage-

ment)

          Total  

0 – 1,000,000

  29      829      858      11      139      150   

1,000,001 – 1,500,000

  20      150      170      19      44      63   

1,500,001 – 2,000,000

  10      54      64      9      33      42   

2,000,001 – 2,500,000

  13      23      36      6      19      25   

2,500,001 – 3,000,000

  10      12      22      7      16      23   

3,000,001 – 3,500,000

  6      7      13      4      10      14   

3,500,001 – 4,000,000

  3      3      6      2      1      3   

4,000,001 – 4,500,000

  2      1      3      3      1      4   

4,500,001 – 5,000,000

  2      1      3      3           3   

5,000,001 – 6,000,000

  1           1           1      1   

6,000,001 – 7,000,000

                             

7,000,001 – 8,000,000

  1           1      1           1   

8,000,001 – 9,000,000

  1           1      1           1   

 

1 Table prepared in euros in accordance with Article 450 of the Capital Requirements Regulation, using the rates published by the European Commission for financial programming and budget for December of the reported year as published on their website.

 

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Report of Independent Registered Public Accounting Firm to the Board of Directors and Shareholders of HSBC Holdings plc only

We have audited the accompanying consolidated financial statements of HSBC Holdings plc and its subsidiary undertakings (together “HSBC”) on pages 335 to 457 which comprise the consolidated balance sheets as of 31 December 2014 and 2013, and the related consolidated income statements, consolidated statements of comprehensive income, consolidated statements of cash flows and consolidated statements of changes in equity, for each of the years in the three-year period ended 31 December 2014, including the disclosures marked ‘audited’ within the ‘Report of the Directors: Risk’ section on pages 111 to 237 and the ‘Report of the Directors: Capital’ section on page 238 to 262. We have also audited HSBC’s internal control over financial reporting as of 31 December 2014, based on the Financial Reporting Council’s Internal Control Revised Guidance for Directors, and the criteria established in Internal Control – Integrated Framework (1992) issued by the Committee of Sponsoring Organisations of the Treadway Commission (‘COSO’). HSBC’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying ‘Management’s Assessment of Internal Controls’. Our responsibility is to express an opinion on these consolidated financial statements and an opinion on HSBC’s internal control over financial reporting based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the consolidated financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorisations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorised acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of HSBC as of 31 December 2014 and 2013, and the results of its operations and its cash flows for each of the years in the three-year period ended 31 December 2014, in conformity with International Financial Reporting Standards (‘IFRSs’) as adopted by the European Union (‘EU’) and IFRSs as issued by the International Accounting Standards Board (‘IASB’). Also, in our opinion, HSBC maintained, in all material respects, effective internal control over financial reporting as of 31 December 2014, based on the Financial Reporting Council’s Internal Control Revised Guidance for Directors, and the criteria established in Internal Control – Integrated Framework (1992) issued by COSO.

KPMG Audit Plc

London, England

23 February 2015

 

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Financial Statements

 

 

 

  Financial Statements  

  

 

Consolidated income statement

    

 

335

 

  

 

 

Consolidated statement of comprehensive income

    

 

336

 

  

 

 

Consolidated balance sheet

    

 

337

 

  

 

 

Consolidated statement of cash flows

    

 

338

 

  

 

 

Consolidated statement of changes in equity

    

 

339

 

  

 

 

HSBC Holdings balance sheet

    

 

341

 

  

 

 

HSBC Holdings statement of cash flows

    

 

342

 

  

 

 

HSBC Holdings statement of changes in equity

    

 

343

 

  

 

  Notes on the Financial

  Statements

 
 

  1

 

Basis of preparation

    

 

345

 

  

 

 

  2

 

Net income/(expense) from financial instruments designated at fair value

    

 

354

 

  

 

 

  3

 

Net insurance premium income

    

 

354

 

  

 

 

  4

 

Net insurance claims and benefits paid and movement in liabilities to policyholders

    

 

355

 

  

 

 

  5

 

Operating profit

    

 

356

 

  

 

 

  6

 

Employee compensation and benefits

    

 

356

 

  

 

 

  7

 

Auditors’ remuneration

    

 

364

 

  

 

 

  8

 

Tax

    

 

365

 

  

 

 

  9

 

Dividends

    

 

370

 

  

 

 

10

 

Earnings per share

    

 

371

 

  

 

 

11

 

Segmental analysis

    

 

371

 

  

 

 

12

 

Trading assets

    

 

377

 

  

 

 

13

 

Fair values of financial instruments carried at fair value

    

 

378

 

  

 

 

14

 

Fair values of financial instruments not carried at fair value

    

 

390

 

  

 

 

15

 

Financial assets designated at fair value

    

 

392

 

  

 

 

16

 

Derivatives

    

 

394

 

  

 

     
 

17

 

Non-trading reverse repurchase and repurchase agreements

    

 

398

 

  

 

 

18

 

Financial investments

    

 

399

 

  

 

 

19

 

Assets charged as security for liabilities, assets transferred and collateral accepted as security for assets

    

 

401

 

  

 

 

20

 

Interests in associates and joint ventures

    

 

403

 

  

 

 

21

 

Goodwill and intangible assets

    

 

407

 

  

 

 

22

 

Investments in subsidiaries

    

 

413

 

  

 

  

 

23

 

Prepayments, accrued income and other assets

    

 

416

 

  

 

 

24

 

Trading liabilities

    

 

417

 

  

 

 

25

 

Financial liabilities designated at fair value

    

 

417

 

  

 

 

26

 

Debt securities in issue

    

 

418

 

  

 

 

27

 

Accruals, deferred income and other liabilities

    

 

418

 

  

 

 

28

 

Liabilities under insurance contracts

    

 

419

 

  

 

 

29

 

Provisions

    

 

420

 

  

 

 

30

 

Subordinated liabilities

    

 

423

 

  

 

 

31

 

Maturity analysis of assets, liabilities and off-balance sheet commitments

    

 

426

 

  

 

 

32

 

Offsetting of financial assets and financial liabilities

    

 

434

 

  

 

 

33

 

Foreign exchange exposures

    

 

435

 

  

 

 

34

 

Non-controlling interests

    

 

436

 

  

 

 

35

 

Called up share capital and other equity instruments

    

 

437

 

  

 

 

36

 

Notes on the statement of cash flows

    

 

439

 

  

 

 

37

 

Contingent liabilities, contractual commitments and guarantees

    

 

441

 

  

 

 

38

 

Lease commitments

    

 

442

 

  

 

 

39

 

Structured entities

    

 

443

 

  

 

 

40

 

Legal proceedings and regulatory matters

    

 

446

 

  

 

 

41

 

Related party transactions

    

 

455

 

  

 

 

42

 

Events after the balance sheet date

    

 

457

 

  

 

 

43

 

Non-statutory accounts

    

 

457

 

  

 

                
 

 

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Table of Contents

Financial Statements (continued)

 

 

Consolidated income statement

for the year ended 31 December 2014

 

        2014     2013     2012    
    Notes  

            US$m

 

                US$m                 US$m    

Interest income

  50,955      51,192      56,702   

Interest expense

  (16,250   (15,653   (19,030

Net interest income

  34,705      35,539      37,672   

Fee income

  19,545      19,973      20,149   

Fee expense

  (3,588   (3,539   (3,719

Net fee income

  15,957      16,434      16,430   
     

Trading income excluding net interest income

  4,853      6,643      4,408   

Net interest income on trading activities

  1,907      2,047      2,683   

Net trading income

  6,760      8,690      7,091   
     

Changes in fair value of long-term debt issued and related derivatives

  508      (1,228   (4,327

Net income from other financial instruments designated at fair value

  1,965      1,996      2,101   

Net income/(expense) from financial instruments designated at fair value

2   2,473      768      (2,226

Gains less losses from financial investments

  1,335      2,012      1,189   

Dividend income

  311      322      221   

Net insurance premium income

3   11,921      11,940      13,044   

Gains on disposal of US branch network, US cards business and Ping An Insurance (Group) Company of China, Ltd

            7,024   

Other operating income

  1,131      2,632      2,100   

Total operating income

  74,593      78,337      82,545   

Net insurance claims and benefits paid and movement in liabilities to policyholders

4   (13,345   (13,692   (14,215

Net operating income before loan impairment charges and other credit risk provisions

  61,248      64,645      68,330   

Loan impairment charges and other credit risk provisions

5   (3,851   (5,849   (8,311

Net operating income

  57,397      58,796      60,019   

Employee compensation and benefits

6   (20,366   (19,196   (20,491

General and administrative expenses

  (18,565   (17,065   (19,983

Depreciation and impairment of property, plant and equipment

  (1,382   (1,364   (1,484

Amortisation and impairment of intangible assets

21   (936   (931   (969

Total operating expenses

  (41,249   (38,556   (42,927

Operating profit

5   16,148      20,240      17,092   

Share of profit in associates and joint ventures

20   2,532      2,325      3,557   

Profit before tax

  18,680      22,565      20,649   

Tax expense

8   (3,975   (4,765   (5,315

Profit for the year

  14,705      17,800      15,334   

Profit attributable to shareholders of the parent company

  13,688      16,204      14,027   

Profit attributable to non-controlling interests

  1,017      1,596      1,307   
        US$     US$     US$    

Basic earnings per ordinary share

10   0.69      0.84      0.74   

Diluted earnings per ordinary share

10   0.69      0.84      0.74   

The accompanying notes on pages 345 to 457 form an integral part of these financial statements1.

For footnote, see page 344.

 

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Table of Contents

Financial Statements (continued)

 

 

Consolidated statement of comprehensive income

for the year ended 31 December 2014

 

    2014     2013     2012    
                US$m                 US$m                 US$m    

Profit for the year

  14,705      17,800      15,334   

Other comprehensive income/(expense)

Items that will be reclassified subsequently to profit or loss when specific conditions are met:

Available-for-sale investments2

  2,972      (1,718   5,070   

– fair value gains/(losses)

  4,794      (1,787   6,396   

– fair value gains reclassified to the income statement

  (1,672   (1,277   (1,872

– amounts reclassified to the income statement in respect of impairment losses

  374      286      1,002   

– income taxes

  (524   1,060      (456

Cash flow hedges

  188      (128   109   

– fair value gains

  1,512      776      552   

– fair value gains reclassified to the income statement

  (1,244   (894   (423

– income taxes

  (80   (10   (20

Share of other comprehensive income/(expense) of associates and joint ventures

  80      (71   533   

– share for the year

  78      (35   311   

– reclassified to income statement on disposal

  2      (36   222   

Exchange differences

  (8,903   (1,372   1,017   

– foreign exchange gains reclassified to income statement on disposal of a foreign operation

  (21   (290   (1,128

– other exchange differences

  (8,917   (1,154   2,145   

– Income tax attributable to exchange differences

  35      72        

Items that will not be reclassified subsequently to profit or loss:

Remeasurement of defined benefit asset/liability

  1,985      (458   (195

– before income taxes

  2,419      (601   (391

– income taxes

  (434   143      196   

Other comprehensive income for the year, net of tax

  (3,678   (3,747   6,534   

Total comprehensive income for the year

  11,027      14,053      21,868   

Attributable to:

– shareholders of the parent company

  9,245      12,644      20,455   

– non-controlling interests

  1,782      1,409      1,413   

Total comprehensive income for the year

  11,027      14,053      21,868   

The accompanying notes on pages 345 to 457 form an integral part of these financial statements1.

For footnote, see page 344.

 

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Table of Contents

Financial Statements (continued)

 

 

Consolidated balance sheet

at 31 December 2014

 

        2014     2013  
    Notes               US$m                 US$m  

Assets

Cash and balances at central banks

  129,957      166,599   

Items in the course of collection from other banks

  4,927      6,021   

Hong Kong Government certificates of indebtedness

  27,674      25,220   

Trading assets

12   304,193      303,192   

Financial assets designated at fair value

15   29,037      38,430   

Derivatives

16   345,008      282,265   

Loans and advances to banks3

  112,149      120,046   

Loans and advances to customers3

  974,660      992,089   

Reverse repurchase agreements – non-trading

17   161,713      179,690   

Financial investments

18   415,467      425,925   

Prepayments, accrued income and other assets

23   75,176      76,842   

Current tax assets

  1,309      985   

Interests in associates and joint ventures

20   18,181      16,640   

Goodwill and intangible assets

21   27,577      29,918   

Deferred tax assets

8   7,111      7,456   

Total assets at 31 December

  2,634,139      2,671,318   

Liabilities and equity

Liabilities

Hong Kong currency notes in circulation

  27,674      25,220   

Deposits by banks3

  77,426      86,507   

Customer accounts3

  1,350,642      1,361,297   

Repurchase agreements – non-trading

17   107,432      164,220   

Items in the course of transmission to other banks

  5,990      6,910   

Trading liabilities

24   190,572      207,025   

Financial liabilities designated at fair value

25   76,153      89,084   

Derivatives

16   340,669      274,284   

Debt securities in issue

26   95,947      104,080   

Accruals, deferred income and other liabilities

27   53,396      52,341   

Current tax liabilities

  1,213      607   

Liabilities under insurance contracts

28   73,861      74,181   

Provisions

29   4,998      5,217   

Deferred tax liabilities

8   1,524      910   

Subordinated liabilities

30   26,664      28,976   

Total liabilities at 31 December

  2,434,161      2,480,859   

Equity

Called up share capital

35   9,609      9,415   

Share premium account

  11,918      11,135   

Other equity instruments

  11,532      5,851   

Other reserves

  20,244      26,742   

Retained earnings

  137,144      128,728   

Total shareholders’ equity

  190,447      181,871   

Non-controlling interests

34   9,531      8,588   

Total equity at 31 December

  199,978      190,459   

Total liabilities and equity at 31 December

  2,634,139      2,671,318   

The accompanying notes on pages 345 to 457 form an integral part of these financial statements1.

For footnote, see page 344.

 

LOGO

D J Flint, Group Chairman

 

HSBC HOLDINGS PLC

337


Table of Contents

Financial Statements (continued)

 

 

Consolidated statement of cash flows

for the year ended 31 December 2014

 

        2014     2013     2012  
    Notes               US$m                 US$m                 US$m  

Cash flows from operating activities

Profit before tax

  18,680      22,565      20,649   

Adjustments for:

– net gain from investing activities

  (1,928   (1,458   (2,094

– share of profits in associates and joint ventures

  (2,532   (2,325   (3,557

– (gain)/loss on disposal of associates, joint ventures, subsidiaries and businesses

  9      (1,173   (7,024

– other non-cash items included in profit before tax

36   11,262      11,995      19,778   

– change in operating assets

36   25,877      (148,899   (116,521

– change in operating liabilities

36   (93,814   164,757      89,070   

– elimination of exchange differences4

  24,571      4,479      (3,626

– dividends received from associates

  757      694      489   

– contributions paid to defined benefit plans

  (681   (962   (733

– tax paid

  (3,573   (4,696   (5,587

Net cash generated from/(used in) operating activities

  (21,372   44,977      (9,156

Cash flows from investing activities

Purchase of financial investments

  (384,199   (363,979   (342,974

Proceeds from the sale and maturity of financial investments

  382,837      342,539      329,926   

Purchase of property, plant and equipment

  (1,477   (1,952   (1,318

Proceeds from the sale of property, plant and equipment

  88      441      241   

Net cash inflow/(outflow) from disposal of customer and loan portfolios

  (1,035   6,518        

Net purchase of intangible assets

  (903   (834   (1,008

Net cash inflow from disposal of US branch network and US cards business

            20,905   

Proceeds from disposal of Ping An

       7,413      1,954   

Net cash inflow/(outflow) from disposal of other subsidiaries, businesses, associates and joint ventures

  (242   3,295      (269

Net cash outflow from acquisition of or increase in stake of associates

  (30   (26   (1,804

Net cash generated from/(used in) investing activities

  (4,961   (6,585   5,653   

Cash flows from financing activities

Issue of ordinary share capital

  267      297      594   

Net sales/(purchases) of own shares for market-making and investment purposes

  (96   (32   (25

Issue of other equity instruments

  5,681             

Redemption of preference shares

  (234          

Subordinated loan capital issued

  3,500      1,989      37   

Subordinated loan capital repaid

  (3,163   (1,662   (1,754

Net cash inflow/(outflow) from change in stake in subsidiaries

            (14

Dividends paid to shareholders of the parent company

  (6,611   (6,414   (5,925

Dividends paid to non-controlling interests

  (639   (586   (572

Dividends paid to holders of other equity instruments

  (573   (573   (573

Net cash used in financing activities

  (1,868   (6,981   (8,232

Net increase/(decrease) in cash and cash equivalents

  (28,201   31,411      (11,735

Cash and cash equivalents at 1 January

  346,281      315,308      325,449   

Exchange differences in respect of cash and cash equivalents

  (16,779   (438   1,594   

Cash and cash equivalents at 31 December

36   301,301      346,281      315,308   

The accompanying notes on pages 345 to 457 form an integral part of these financial statements1.

For footnote, see page 344.

 

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Table of Contents

Financial Statements (continued)

 

 

Consolidated statement of changes in equity

For the year ended 31 December 2014

 

                            Other reserves                      
 
 
 
Called up
share
capital
  
  
  
 

 

Share

premium

  

  

 
 
 

 

Other
equity
instru-

ments

  
  
  

11 

 

 

Retained

earnings

  

5,6 

 
 
 
 
Available-
for-sale
fair value
reserve
  
  
  
  
 
 
 
Cash flow
hedging
reserve
  
  
  
 
 
 
Foreign
exchange
reserve
  
  
  
 

 

Merger

reserve

  

5,7 

 
 
 
 
Total
share-
holders’
equity
  
  
  
  
 
 

 

Non-
controlling

interests

  
  

  

 
 
Total
equity
  
  
    US$m     US$m         US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m    

At 1 January 2014

  9,415      11,135      5,851      128,728      97      (121   (542   27,308      181,871      8,588      190,459   

Profit for the year

                 13,688                          13,688      1,017      14,705   

Other comprehensive income (net of tax)

                 2,066      2,025      189      (8,723        (4,443   765      (3,678

– available-for-sale investments

                      2,025                     2,025      947      2,972   

– cash flow hedges

                           189                189      (1   188   

– remeasurement of defined benefit asset/liability

                 1,986                          1,986      (1   1,985   

– share of other comprehensive income of associates and joint ventures

                 80                          80           80   

– exchange differences

                                (8,723        (8,723   (180   (8,903

 

                                                      
                                                                                                                          

Total comprehensive income for the year

                 15,754      2,025      189      (8,723        9,245      1,782      11,027   

Shares issued under employee remuneration and share plans

  60      917           (710                       267           267   

Shares issued in lieu of dividends and amounts arising thereon

  134      (134        2,709                          2,709           2,709   

Capital securities issued

            5,681                               5,681           5,681   

Dividends to shareholders8

                 (9,893                       (9,893   (712   (10,605

Cost of share-based payment arrangements

                 732                          732           732   

Other movements

                 (176   21      (10             (165   (127   (292

At 31 December 2014

  9,609      11,918      11,532      137,144      2,143      58      (9,265   27,308      190,447      9,531      199,978   

At 1 January 2013

  9,238      10,084      5,851      120,347      1,649      13      752      27,308      175,242      7,887      183,129   

Profit for the year

                 16,204                          16,204      1,596      17,800   

Other comprehensive income (net of tax)

                 (561   (1,577   (128   (1,294        (3,560   (187   (3,747

– available-for-sale investments

                      (1,577                  (1,577   (141   (1,718

– cash flow hedges

                           (128             (128        (128

– remeasurement of defined benefit asset/liability

                 (490                       (490   32      (458

– share of other comprehensive income of associates and joint ventures

                 (71                       (71        (71

– exchange differences

                                (1,294        (1,294   (78   (1,372

 

                                                      
                                                                                                                          

Total comprehensive income for the year

                 15,643      (1,577   (128   (1,294        12,644      1,409      14,053   

Shares issued under employee remuneration and share plans

  60      1,168           (931                       297           297   

Shares issued in lieu of dividends and amounts arising thereon

  117      (117        2,523                          2,523           2,523   

Dividends to shareholders8

                 (9,510                       (9,510   (718   (10,228

Cost of share-based payment arrangements

                 630                          630           630   

Other movements

                 26      25      (6             45      10      55   

At 31 December 2013

  9,415      11,135      5,851      128,728      97      (121   (542   27,308      181,871      8,588      190,459   

 

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Table of Contents

Financial Statements (continued)

 

 

                            Other reserves                      
 
 
 
Called up
share
capital
  
  
  
 

 

Share

premium

  

  

 
 
 
 
Other
equity
instru-
ments
  
  
  
  
 

 

Retained

earnings

  

5,6 

 
 
 
 
Available-
for-sale
fair value
reserve
  
  
  
  
 

 

 

Cash flow

hedging

reserve

  

  

  

 
 
 
Foreign
exchange
reserve
  
  
  
 

 

Merger

reserve

  

5,7 

 
 
 
 
Total
share-
holders’
equity
  
  
  
  
 
 

 

Non-
controlling

interests

  
  

  

 
 
Total
equity
  
  
    US$m     US$m         US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m    

At 1 January 2012

  8,934      8,457      5,851      111,868      (3,361   (95   (237   27,308      158,725      7,368      166,093   

Profit for the year

                 14,027                          14,027      1,307      15,334   

Other comprehensive income (net of tax)

                 321      5,010      108      989           6,428      106      6,534   

– available-for-sale investments

                      5,010                     5,010      60      5,070   

– cash flow hedges

                           108                108      1      109   

– remeasurement of defined benefit asset/liability

                 (212                       (212   17      (195

– share of other comprehensive income of associates and joint ventures

                 533                          533           533   

– exchange differences

                                989           989      28      1,017   

 

                                                      
                                                                                                                          

Total comprehensive income for the year

                 14,348      5,010      108      989           20,455      1,413      21,868   

Shares issued under employee remuneration and share plans

  119      1,812           (1,337                       594           594   

Shares issued in lieu of dividends and amounts arising thereon

  185      (185        2,429                          2,429           2,429   

Dividends to shareholders8

                 (8,042                       (8,042   (707   (8,749

Cost of share-based payment arrangements

                 988                          988           988   

Other movements

                 93                          93      (187   (94

At 31 December 2012

  9,238      10,084      5,851      120,347      1,649      13      752      27,308      175,242      7,887      183,129   

The accompanying notes on pages 345 to 457 form an integral part of these financial statements1.

For footnote, see page 344.

 

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Table of Contents

Financial Statements (continued)

 

 

HSBC Holdings balance sheet

at 31 December 2014

 

        2014     2013  
    Notes               US$m                 US$m  

Assets

Cash at bank and in hand:

– balances with HSBC undertakings

  249      407   

Derivatives

16   2,771      2,789   

Loans and advances to HSBC undertakings

  43,910      53,344   

Financial investments in HSBC undertakings

  4,073      1,210   

Prepayments, accrued income and other assets

  125      133   

Current tax assets

  472      245   

Investments in subsidiaries

22   96,264      92,695   

Deferred tax assets

8        13   

Total assets at 31 December

  147,864      150,836   

Liabilities and equity

Liabilities

Amounts owed to HSBC undertakings

  2,892      11,685   

Financial liabilities designated at fair value

25   18,679      21,027   

Derivatives

16   1,169      704   

Debt securities in issue

26   1,009      2,791   

Accruals, deferred income and other liabilities

  1,398      1,327   

Current tax liabilities

       48   

Deferred tax liabilities

8   17        

Subordinated liabilities

30   17,255      14,167   

Total liabilities

  42,419      51,749   

Equity

Called up share capital

35   9,609      9,415   

Share premium account

  11,918      11,135   

Other equity instruments

  11,476      5,828   

Other reserves

  37,456      37,303   

Retained earnings

  34,986      35,406   

Total equity

  105,445      99,087   

Total liabilities and equity at 31 December

  147,864      150,836   

The accompanying notes on pages 345 to 457 form an integral part of these financial statements1.

For footnote, see page 344.

 

LOGO

D J Flint, Group Chairman

 

HSBC HOLDINGS PLC

341


Table of Contents

Financial Statements (continued)

 

 

HSBC Holdings statement of cash flows

for the year ended 31 December 2014

 

        2014     2013  
    Notes               US$m                 US$m  

Cash flows from operating activities

Profit before tax

  6,228      17,725   

Adjustments for:

– non-cash items included in profit before tax

36   52      74   

– change in operating assets

36   1,854      (10,795

– change in operating liabilities

36   (9,914   (1,061

– tax received

  133      156   

Net cash generated from/(used in) operating activities

  (1,647   6,099   

Cash flows from investing activities

Net cash outflow from acquisition of or increase in stake of subsidiaries

  (1,603   (665

Repayment of capital from subsidiaries

  3,505        

Net cash used in investing activities

  1,902      (665

Cash flows from financing activities

Issue of ordinary share capital

  924      1,192   

Issue of other equity instruments

  5,635        

Sales of own shares to meet share awards and share option awards

       44   

Subordinated loan capital issued

  3,500      1,989   

Subordinated loan capital repaid

  (1,654   (1,618

Debt securities repaid

  (1,634     

Dividends paid on ordinary shares

  (6,611   (6,414

Dividends paid to holders of other equity instruments

  (573   (573

Net cash generated from/(used in) financing activities

  (413   (5,380

Net increase in cash and cash equivalents

  (158   54   

Cash and cash equivalents at 1 January

  407      353   

Cash and cash equivalents at 31 December

36   249      407   

The accompanying notes on pages 345 to 457 form an integral part of these financial statements1.

For footnote, see page 344.

 

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Table of Contents

Financial Statements (continued)

 

 

HSBC Holdings statement of changes in equity

for the year ended 31 December 2014

 

                            Other reserves          
 
 
 
Called up
share
capital
  
  
  
 

 

Share

premium

  

  

 
 
 

 

Other
equity
instru-

ments

  
  
  

11 

 

 

Retained

earnings

  

9 

 
 
 
 
Available-
for-sale
fair value
reserve
  
  
  
  
 
 
 
Other
paid-in
capital
  
  
10 
 
 

 

Merger
and other

reserves

  
  

7 

 
 
 
 
Total
share-
holders’
equity
  
  
  
  
    US$m     US$m         US$m     US$m     US$m     US$m     US$m     US$m    

At 1 January 2014

  9,415      11,135      5,828      35,406      124      2,052      35,127      99,087   

Profit for the year

                 6,527                     6,527   

Other comprehensive income (net of tax)

                      116                116   

– available-for-sale investments

                      152                152   

– income tax

                      (36             (36

 

                                         
                                                                                           

Total comprehensive income for the year

                 6,527      116                6,643   

Shares issued under employee share plans

  60      917           (53                  924   

Shares issued in lieu of dividends and amounts arising thereon

  134      (134        2,709                     2,709   

Capital securities issued

            5,648                          5,648   

Dividends to shareholders8

                 (9,893                  (9,893

Tax credit on distributions

                 104                     104   

Own shares adjustment

                 103                     103   

Exercise and lapse of share options

                 (37        37             

Cost of share-based payment arrangements

                 74                     74   

Income taxes on share-based payments

                 (2                  (2

Equity investments granted to employees of subsidiaries under employee share plans

                 48                     48   

At 31 December 2014

  9,609      11,918      11,476      34,986      240      2,089      35,127      105,445   

At 1 January 2013

  9,238      10,084      5,828      24,707      114      1,929      35,127      87,027   

Profit for the year

                 17,882                     17,882   

Other comprehensive income (net of tax)

                      10                10   

– available-for-sale investments

                      2                2   

– income tax

                      8                8   

 

                                         
                                                                                           

Total comprehensive income for the year

                 17,882      10                17,892   

Shares issued under employee share plans

  60      1,168           (36                  1,192   

Shares issued in lieu of dividends and amounts arising thereon

  117      (117        2,523                     2,523   

Dividends to shareholders8

                 (9,510                  (9,510

Tax credit on distributions

                 42                     42   

Own shares adjustment

                 222                     222   

Exercise and lapse of share options

                 (123        123             

Cost of share-based payment arrangements

                 49                     49   

Income taxes on share-based payments

                                       

Equity investments granted to employees of subsidiaries under employee share plans

                 (350                  (350

At 31 December 2013

  9,415      11,135      5,828      35,406      124      2,052      35,127      99,087   

Dividends per ordinary share at 31 December 2014 were US$0.49 (2013: US$0.48; 2012: US$0.41).

The accompanying notes on pages 345 to 457 form an integral part of these financial statements1.

For footnote, see page 344.

 

HSBC HOLDINGS PLC

343


Table of Contents

Financial Statements (continued)

 

 

Footnotes to the Financial Statements

 

  1 The audited sections of ‘Risk’ on pages 111 to 237 and the audited sections of ‘Capital’ on pages 238 to 262 are also an integral part of these financial statements.
  2 Available-for-sale investments include nil in respect of the investment in Ping An classified as ‘Assets held for sale’ (2013: nil; 2012: US$: 737m).
  3 From 1 January 2014, non-trading reverse repos and repos are presented as separate lines in the balance sheet. Previously, non-trading reverse repos were included within ‘Loans and advances to banks’ and ‘Loans and advances to customers’ and non-trading repos were included within ‘Deposits by banks’ and ‘Customer accounts’. Comparative data have been re-presented accordingly. Non-trading reverse repos and repos have been presented as separate lines in the balance sheet to align disclosure with market practice and provide more meaninful information in relation to loans and advances. The extent to which reverse repos and repos represent loans to/from customers and banks is set out in Note 17 on the Financial Statements.
  4 Adjustment to bring changes between opening and closing balance sheet amounts to average rates. This is not done on a line-by-line basis, as details cannot be determined without unreasonable expense.
  5 Cumulative goodwill amounting to US$5,138m has been charged against reserves in respect of acquisitions of subsidiaries prior to 1 January 1998, including US$3,469m charged against the merger reserve arising on the acquisition of HSBC Bank plc. The balance of US$1,669m has been charged against retained earnings.
  6 Retained earnings include 85,337,430 (US$641m) of own shares held within HSBC’s Insurance business, retirement funds for the benefit of policyholders or beneficiaries within employee trusts for the settlement of shares expected to be delivered under employee share schemes or bonus plans, and the market-making activities in Global Markets (2013: 85,997,271 (US$915m); 2012: 86,394,826 (US$874m)).
  7 Statutory share premium relief under Section 131 of the Companies Act 1985 (the ‘Act’) was taken in respect of the acquisition of HSBC Bank plc in 1992, HSBC France in 2000 and HSBC Finance Corporation in 2003 and the shares issued were recorded at their nominal value only. In HSBC’s consolidated financial statements the fair value differences of US$8,290m in respect of HSBC France and US$12,768m in respect of HSBC Finance Corporation were recognised in the merger reserve. The merger reserve created on the acquisition of HSBC Finance Corporation subsequently became attached to HSBC Overseas Holdings (UK) Limited (‘HOHU’), following a number of intra-group reorganisations. During 2009, pursuant to Section 131 of the Companies Act 1985, statutory share premium relief was taken in respect of the rights issue and US$15,796m was recognised in the merger reserve. The merger reserve includes the deduction of US$614m in respect of costs relating to the rights issue, of which US$149m was subsequently transferred to the income statement. Of this US$149m, US$121m was a loss arising from accounting for the agreement with the underwriters as a contingent forward contract. The merger reserve excludes the loss of US$344m on a forward foreign exchange contract associated with hedging the proceeds of the rights issue.
  8 Including distributions paid on preference shares and capital securities classified as equity under IFRSs.
  9 Retained earnings include 179,419 (US$3m) (2013: 330,030 (US$5m)) of own shares held to fund employee share plans.
10 Other paid-in capital arises from the exercise and lapse of share options granted to employees of HSBC Holdings subsidiaries.
11 During September 2014, HSBC Holdings issued US$2,250m, US$1,500m and €1,500m of Perpetual Subordinated Contingent Convertible Capital Securities, on which there were US$13m of external issuance costs and US$33m of intra-group issuance costs which are classified as equity under IFRSs.

 

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Notes on the Financial Statements

 

1 Basis of preparation and significant accounting policies

 

 

  (a) Compliance with International Financial Reporting Standards

International Financial Reporting Standards (‘IFRSs’) comprise accounting standards issued or adopted by the International Accounting Standards Board (‘IASB’) and interpretations issued or adopted by the IFRS Interpretations Committee (‘IFRS IC’).

The consolidated financial statements of HSBC and the separate financial statements of HSBC Holdings have been prepared in accordance with IFRSs as issued by the IASB and as endorsed by the EU. EU-endorsed IFRSs could differ from IFRSs as issued by the IASB if, at any point in time, new or amended IFRSs were not to be endorsed by the EU.

At 31 December 2014, there were no unendorsed standards effective for the year ended 31 December 2014 affecting these consolidated and separate financial statements, and there was no difference between IFRSs endorsed by the EU and IFRSs issued by the IASB in terms of their application to HSBC. Accordingly, HSBC’s financial statements for the year ended 31 December 2014 are prepared in accordance with IFRSs as issued by the IASB.

Standards adopted during the year ended 31 December 2014

There were no new standards applied during the year ended 31 December 2014.

On 1 January 2014, HSBC applied ‘Offsetting Financial Assets and Financial Liabilities (Amendments to IAS 32)’, which clarified the requirements for offsetting financial instruments and addressed inconsistencies in current practice when applying the offsetting criteria in IAS 32 ‘Financial Instruments: Presentation’. The amendments were applied retrospectively and did not have a material effect on HSBC’s financial statements.

During 2014, HSBC adopted a number of interpretations and amendments to standards which had an insignificant effect on the consolidated financial statements of HSBC and the separate financial statements of HSBC Holdings.

 

  (b) Differences between IFRSs and Hong Kong Financial Reporting Standards

There are no significant differences between IFRSs and Hong Kong Financial Reporting Standards in terms of their application to HSBC and consequently there would be no significant differences had the financial statements been prepared in accordance with Hong Kong Financial Reporting Standards. The Notes on the Financial Statements, taken together with the Report of the Directors, include the aggregate of all disclosures necessary to satisfy IFRSs and Hong Kong reporting requirements.

 

  (c) Future accounting developments

In addition to the projects to complete financial instrument accounting, discussed below, the IASB is working on projects on insurance and lease accounting which could represent significant changes to accounting requirements in the future.

Standards and amendments issued by the IASB and endorsed by the EU but effective after 31 December 2014

During 2014, the EU endorsed the amendments issued by IASB through the Annual Improvements to IFRSs 2010-2012 Cycle and the 2011-2013 Cycle, and a narrow-scope amendment to IAS 19 ‘Employee Benefits’. HSBC has not early applied any of the amendments effective after 31 December 2014 and it expects they will have an immaterial effect, when applied, on the consolidated financial statements of HSBC and the separate financial statements of HSBC Holdings.

Standards and amendments issued by the IASB but not endorsed by the EU

In May 2014, the IASB issued IFRS 15 ‘Revenue from Contracts with Customers’. The standard is effective for annual periods beginning on or after 1 January 2017 with early application permitted. IFRS 15 provides a principles-based approach for revenue recognition, and introduces the concept of recognising revenue for obligations as they are satisfied. The standard should be applied retrospectively, with certain practical expedients available. HSBC is currently assessing the impact of this standard but it is not practicable to quantify the effect as at the date of the publication of these financial statements.

In July 2014, the IASB issued IFRS 9 ‘Financial Instruments’, which is the comprehensive standard to replace IAS 39 ‘Financial Instruments: Recognition and Measurement’, and includes requirements for classification and measurement of financial assets and liabilities, impairment of financial assets and hedge accounting.

Classification and measurement

The classification and measurement of financial assets will depend on the entity’s business model for their management and their contractual cash flow characteristics and result in financial assets being measured at amortised cost, fair value through other comprehensive income (‘FVOCI’) or fair value through profit or loss. In many instances, the classification and measurement outcomes will be similar to IAS 39, although differences will arise, for

 

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example, since IFRS 9 does not apply embedded derivative accounting to financial assets, and equity securities will be measured at fair value through profit or loss or, in limited circumstances, at fair value through other comprehensive income. The combined effect of the application of the business model and the contractual cash flow characteristics tests may result in some differences in the population of financial assets measured at amortised cost or fair value compared with IAS 39. The classification of financial liabilities is essentially unchanged, except that, for certain liabilities measured at fair value, gains or losses relating to changes in the entity’s own credit risk are to be included in other comprehensive income.

Impairment

The impairment requirements apply to financial assets measured at amortised cost and FVOCI, and lease receivables and certain loan commitments and financial guarantee contracts. At initial recognition, allowance (or provision in the case of commitments and guarantees) is required for expected credit losses (‘ECL’) resulting from default events that are possible within the next 12 months (‘12 month ECL’). In the event of a significant increase in credit risk, allowance (or provision) is required for ECL resulting from all possible default events over the expected life of the financial instrument (‘lifetime ECL’).

The assessment of whether credit risk has increased significantly since initial recognition is performed for each reporting period by considering the change in the risk of default occurring over the remaining life of the financial instrument, rather than by considering an increase in ECL.

The assessment of credit risk, and the estimation of ECL, are required to be unbiased and probability-weighted, and should incorporate all available information which is relevant to the assessment, including information about past events, current conditions and reasonable and supportable forecasts of future events and economic conditions at the reporting date. In addition, the estimation of ECL should take into account the time value of money. As a result, the recognition and measurement of impairment is intended to be more forward-looking than under IAS 39 and the resulting impairment charge will tend to be more volatile. It will also tend to result in an increase in the total level of impairment allowances, since all financial assets will be assessed for at least 12-month ECL and the population of financial assets to which lifetime ECL applies is likely to be larger than the population for which there is objective evidence of impairment in accordance with IAS 39.

Hedge accounting

The general hedge accounting requirements aim to simplify hedge accounting, creating a stronger link with risk management strategy and permitting hedge accounting to be applied to a greater variety of hedging instruments and risks. The standard does not explicitly address macro hedge accounting strategies, which are being considered in a separate project. To remove the risk of any conflict between existing macro hedge accounting practice and the new general hedge accounting requirements, IFRS 9 includes an accounting policy choice to remain with IAS 39 hedge accounting.

Transition

The classification and measurement and impairment requirements are applied retrospectively by adjusting the opening balance sheet at the date of initial application, with no requirement to restate comparative periods. Hedge accounting is generally applied prospectively from that date.

The mandatory application date for the standard as a whole is 1 January 2018, but it is possible to apply the revised presentation for certain liabilities measured at fair value from an earlier date. HSBC intends to revise the presentation of fair value gains and losses relating to the entity’s own credit risk on certain liabilities as soon as permitted by EU law. If this presentation was applied at 31 December 2014, the effect would be to increase profit before tax with the opposite effect on other comprehensive income based on the change in fair value attributable to changes in HSBC’s credit risk for the year, with no effect on net assets. Further information on change in fair value attributable to changes in credit risk, including HSBC’s credit risk, is disclosed in Note 25.

HSBC is assessing the impact that the rest of IFRS 9 will have on the financial statements through a Group-wide project which has been in place since 2012, but due to the complexity of the classification and measurement, impairment, and hedge accounting requirements and their inter-relationships, it is not possible at this stage to quantify the potential effect.

 

  (d) Changes to the presentation of the Financial Statements and Notes on the Financial Statements

In order to make the financial statements and notes thereon easier to understand, HSBC has changed the location and the wording used to describe certain accounting policies within the notes, removed certain immaterial disclosures and changed the order of certain sections. In applying materiality to financial statement disclosures, we consider both the amount and nature of each item. The main changes to the presentation of the financial statements and notes thereon in 2014 are as follows:

 

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    Consolidated balance sheet and Consolidated statement of changes in equity: rationalised certain line items disclosure to focus on material information.
    Credit risk: changed the order and presentation of certain disclosures to remove duplication and focus on material information.
    In 2013, the financial statements included Note 2 ‘Summary of significant accounting policies’. In 2014, the accounting policies have been placed, whenever possible, within the relevant Notes on the Financial Statements, and the changes in wording are intended to more clearly set out the accounting policies. These changes in the wording do not represent changes in accounting policies.
    Critical accounting policies: replaced ‘Critical accounting policies’ with ‘Critical accounting estimates and judgements’ and placed them within the relevant notes alongside the significant accounting policy to which they relate. The new approach meets the reporting requirements of IAS 1 ‘Presentation of Financial Statements’ and of the US Securities and Exchange Commission.
    Note 6 ‘Employee compensation and benefits’: rationalised to remove duplication and focus on material information.
    Note 38 ‘Lease commitments’: rationalised to focus on material information.
    In 2013, the financial statements included Note 13 Analysis of financial assets and liabilities by measurement basis and Note 23 ‘Property, Plant and equipment’. In 2014, separate notes for these areas have been removed and relevant information incorporated into other notes.
    In 2013, the financial statements included Note 20 ‘Transfers of financial assets’ and Note 36 Assets charged as security for liabilities and collateral accepted as security for assets. In 2014, the relevant information for these areas has been included in a single Note 19 ‘Assets charged as security for liabilities, assets transferred and collateral accepted as security for assets’.

From 1 January 2014, HSBC has chosen to present non-trading reverse repos and repos separately on the face of the balance sheet. These items are classified for accounting purposes as loans and receivables or financial liabilities measured at amortised cost. Previously, they were presented on an aggregate basis together with other loans or deposits measured at amortised cost under the following headings in the consolidated balance sheet: ‘Loans and advances to banks’, ‘Loans and advances to customers’, ‘Deposits by banks’ and ‘Customer accounts’. The separate presentation aligns disclosure of reverse repos and repos with market practice and provides more meaningful information in relation to loans and advances. Further explanation is provided in Note 17.

From 1 January 2014, the geographical region ‘Asia’ replaced the geographical regions previously reported as ‘Hong Kong’ and ‘Rest of Asia-Pacific’. This better aligns with internal information used to manage the business. Comparative data have been re-presented. Further explanation is provided in Note 11.

 

  (e) Presentation of information

Disclosures under IFRS 4 ‘Insurance Contracts’ and IFRS 7 ‘Financial Instruments: Disclosures’ concerning the nature and extent of risks relating to insurance contracts and financial instruments have been included in the audited sections of the ‘Report of the Directors: Risk’ on pages 111 to 237.

Capital disclosures under IAS 1 ‘Presentation of Financial Statements’ have been included in the audited sections of ‘Report of the Directors: Capital’ on pages 238 to 262.

Disclosures relating to HSBC’s securitisation activities and structured products have been included in the audited section of ‘Report of the Directors: Risk’ on pages 111 to 237.

In accordance with HSBC’s policy to provide disclosures that help investors and other stakeholders understand the Group’s performance, financial position and changes thereto, the information provided in the Notes on the Financial Statements and the Report of the Directors goes beyond the minimum levels required by accounting standards, statutory and regulatory requirements and listing rules. In particular, HSBC provides additional disclosures having regard to the recommendations of the Enhanced Disclosures Task Force (‘EDTF’) report ‘Enhancing the Risk Disclosures of Banks’ issued in October 2012. The report aims to help financial institutions identify areas that investors had highlighted needed better and more transparent information about banks’ risks, and how these risks relate to performance measurement and reporting. In addition, HSBC follows the British Bankers’ Association Code for Financial Reporting Disclosure (‘the BBA Code’). The BBA Code aims to increase the quality and comparability of UK banks’ disclosures and sets out five disclosure principles together with supporting guidance. In line with the principles of the BBA Code, HSBC assesses good practice recommendations issued from time to time by relevant regulators and standard setters and will assess the applicability and relevance of such guidance, enhancing disclosures where appropriate.

In publishing the parent company financial statements together with the Group financial statements, HSBC Holdings has taken advantage of the exemption in section 408(3) of the Companies Act 2006 not to present its individual income statement and related notes.

 

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HSBC’s consolidated financial statements are presented in US dollars because the US dollar and currencies linked to it form the major currency bloc in which HSBC transacts and funds its business. The US dollar is also HSBC Holdings’ functional currency because the US dollar and currencies linked to it are the most significant currencies relevant to the underlying transactions, events and conditions of its subsidiaries, as well as representing a significant proportion of its funds generated from financing activities.

 

  (f) Critical accounting estimates and judgements

The preparation of financial information requires the use of estimates and judgements about future conditions. In view of the inherent uncertainties and the high level of subjectivity involved in the recognition or measurement of items listed below, it is possible that the outcomes in the next financial year could differ from those on which management’s estimates are based, resulting in materially different conclusions from those reached by management for the purposes of the 2014 Financial Statements. Management’s selection of HSBC’s accounting policies which contain critical estimates and judgements is listed below; it reflects the materiality of the items to which the policies are applied and the high degree of judgement and estimation uncertainty involved:

 

    Impairment of loans and advances: Note 1(k);

 

    Deferred tax assets: Note 8;

 

    Valuation of financial instruments: Note 13;

 

    Impairment of interests in associates: Note 20;

 

    Goodwill impairment: Note 21;

 

    Provisions: Note 29.

 

  (g) Going concern

The financial statements are prepared on a going concern basis, as the Directors are satisfied that the Group and parent company have the resources to continue in business for the foreseeable future. In making this assessment, the Directors have considered a wide range of information relating to present and future conditions, including future projections of profitability, cash flows and capital resources.

 

  (h) Consolidation and related disclosures

HSBC controls and consequently consolidates an entity when it is exposed, or has rights, to variable returns from its involvement with the entity and has the ability to affect those returns through its power over the entity. Control is initially assessed based on consideration of all facts and circumstances, and is subsequently reassessed when there are significant changes to the initial setup.

Where an entity is governed by voting rights, HSBC would consolidate when it holds, directly or indirectly, the necessary voting rights to pass resolutions by the governing body. In all other cases, the assessment of control is more complex and requires judgement of other factors, including having exposure to variability of returns, power over the relevant activities or holding the power as agent or principal.

Business combinations are accounted for using the acquisition method. The cost of an acquisition is measured at the fair value of the consideration, including contingent consideration, given at the date of exchange. Acquisition-related costs are recognised as an expense in the income statement in the period in which they are incurred. The acquired identifiable assets, liabilities and contingent liabilities are generally measured at their fair values at the date of acquisition. Goodwill is measured as the excess of the aggregate of the consideration transferred, the amount of non-controlling interest and the fair value of HSBC’s previously held equity interest, if any, over the net of the amounts of the identifiable assets acquired and the liabilities assumed. The amount of non-controlling interest is measured either at fair value or at the non-controlling interest’s proportionate share of the acquiree’s identifiable net assets. For acquisitions achieved in stages, the previously held equity interest is remeasured at the acquisition-date fair value with the resulting gain or loss recognised in the income statement.

All intra-HSBC transactions are eliminated on consolidation.

The consolidated financial statements of HSBC also include the attributable share of the results and reserves of joint ventures and associates, based on either financial statements made up to 31 December or pro-rated amounts adjusted for any material transactions or events occurred between the date of financial statements available and 31 December.

 

  (i) Foreign currencies

Transactions in foreign currencies are recorded in the functional currency at the rate of exchange prevailing on the date of the transaction. Monetary assets and liabilities denominated in foreign currencies are translated into the functional currency at the rate of exchange at the balance sheet date. Any resulting exchange differences are included in the income statement. Non-monetary assets and liabilities that are measured at historical cost in a foreign

 

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currency are translated into the functional currency using the rate of exchange at the date of the initial transaction. Non-monetary assets and liabilities measured at fair value in a foreign currency are translated into the functional currency using the rate of exchange at the date the fair value was determined. Any foreign exchange component of a gain or loss on a non-monetary item is recognised either in other comprehensive income or in the income statement depending where the gain or loss on the underlying non-monetary item is recognised.

In the consolidated financial statements, the assets and liabilities of branches, subsidiaries, joint ventures and associates whose functional currency is not US dollars, are translated into the Group’s presentation currency at the rate of exchange at the balance sheet date, while their results are translated into US dollars at the average rates of exchange for the reporting period. Exchange differences arising from the retranslation of opening foreign currency net assets, and the retranslation of the results for the reporting period from the average rate to the exchange rate at the period end, are recognised in other comprehensive income. Exchange differences on a monetary item that is part of a net investment in a foreign operation are recognised in the income statement of the separate financial statements and in other comprehensive income in consolidated financial statements. On disposal of a foreign operation, exchange differences previously recognised in other comprehensive income are reclassified to the income statement as a reclassification adjustment.

 

  (j) Loans and advances to banks and customers

These include loans and advances originated by HSBC, not classified as held for trading or designated at fair value. They are recognised when cash is advanced to a borrower and are derecognised when either the borrower repays its obligations, or the loans are sold, or substantially all the risks and rewards of ownership are transferred. 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 allowance.

Loans and advances are reclassified to ‘Assets held for sale’ when they meet the criteria presented in Note 23; however, their measurement continues to be in accordance with this policy.

HSBC may commit to underwrite loans on fixed contractual terms for specified periods of time. Where the loan arising from the lending commitment is expected to be held for trading, the commitment to lend is recorded as a derivative. On drawdown, the loan is classified as held for trading. Where HSBC intends to hold the loan, a provision on the loan commitment is only recorded where it is probable that HSBC will incur a loss. On inception of the loan, the loan to be held is recorded at its fair value and subsequently measured at amortised cost. For certain transactions, such as leveraged finance and syndicated lending activities, the cash advanced may not be the best evidence of the fair value of the loan. For these loans, where the initial fair value is lower than the cash amount advanced, the difference is charged to the income statement in other operating income. The write-down will be recovered over the life of the loan, through the recognition of interest income, unless the loan becomes impaired.

 

  (k) Impairment of loans and advances and available-for-sale financial assets

Critical accounting estimates and judgements

 

 

Impairment of loans and advances

 

Loan impairment allowances represent management’s best estimate of losses incurred in the loan portfolios at the balance sheet date. Management is required to exercise judgement in making assumptions and estimates when calculating loan impairment allowances on both individually and collectively assessed loans and advances.

 

The largest concentration of collectively assessed loan impairment allowances are in North America, where they were US$2.4bn, representing 38% (2013: US$3.8bn; 47%) of the Group’s total collectively assessed loan impairment allowances and 19% (2013:25%) of the Group’s total impairment allowances. Of the North American collective impairment allowances approximately 71% (2013: 79%) related to the US CML portfolio.

 

Collective impairment allowances are subject to estimation uncertainty, in part because it is not practicable to identify losses on an individual loan basis due to the large number of individually insignificant loans in the portfolio. The estimation methods include the use of statistical analyses of historical information, supplemented with significant management judgement, to assess whether current economic and credit conditions are such that the actual level of incurred losses is likely to be greater or less than historical experience.

 

Where changes in economic, regulatory or behavioural conditions result in the most recent trends in portfolio risk factors being not fully reflected in the statistical models, risk factors are taken into account by adjusting the impairment allowances derived solely from historical loss experience.

 

Risk factors include loan portfolio growth, product mix, unemployment rates, bankruptcy trends, geographical concentrations, loan product features, economic conditions such as national and local trends in housing markets, the level of interest rates, portfolio seasoning, account management policies and practices, changes in laws and regulations, and other influences on customer payment patterns. Different factors are applied in different regions and countries to reflect local economic conditions, laws and regulations. The methodology and the assumptions used in calculating impairment losses are reviewed regularly in the light of differences between loss estimates and actual loss experience. For example, roll rates, loss rates and the expected timing of future recoveries are regularly benchmarked against actual outcomes to ensure they remain appropriate.

 

 

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For individually assessed loans, judgement is required in determining whether there is objective evidence that a loss event has occurred and, if so, the measurement of the impairment allowance. In determining whether there is objective evidence that a loss event has occurred, judgement is exercised in evaluating all relevant information on indicators of impairment, including the consideration of whether payments are contractually past-due and the consideration of other factors indicating deterioration in the financial condition and outlook of borrowers affecting their ability to pay. A higher level of judgement is required for loans to borrowers showing signs of financial difficulty in market sectors experiencing economic stress, particularly where the likelihood of repayment is affected by the prospects for refinancing or the sale of a specified asset. For those loans where objective evidence of impairment exists, management determine the size of the allowance required based on a range of factors such as the realisable value of security, the likely dividend available on liquidation or bankruptcy, the viability of the customer’s business model and the capacity to trade successfully out of financial difficulties and generate sufficient cash flow to service debt obligations.

 

HSBC might provide loan forbearance to borrowers experiencing financial difficulties by agreeing to modify the contractual payment terms of loans in order to improve the management of customer relationships, maximise collection opportunities or avoid default or repossession. Where forbearance activities are significant, higher levels of judgement and estimation uncertainty are involved in determining their effects on loan impairment allowances. Judgements are involved in differentiating the credit risk characteristics of forbearance cases, including those which return to performing status following renegotiation. Where collectively assessed loan portfolios include significant levels of loan forbearance, portfolios are segmented to reflect their specific credit risk characteristics, and estimates are made of the incurred losses inherent within each forbearance portfolio segment. Forbearance activities take place in both retail and wholesale loan portfolios, but our largest concentration is in the US, in HSBC Finance’s CML portfolio.

 

The exercise of judgement requires the use of assumptions which are highly subjective and very sensitive to the risk factors, in particular to changes in economic and credit conditions across a large number of geographical areas. Many of the factors have a high degree of interdependency and there is no single factor to which our loan impairment allowances as a whole are sensitive, though they are particularly sensitive to general economic and credit conditions in North America. For example, a 10% increase in impairment allowances on collectively assessed loans and advances in North America would have increased loan impairment allowances by US$0.2bn at 31 December 2014 (2013: US$0.4bn).

 

Impairment of loans and advances

Losses for impaired loans are recognised when there is objective evidence that impairment of a loan or portfolio of loans has occurred. Impairment allowances that are calculated on individual loans or on groups of loans assessed collectively, are recorded as charges to the income statement and are recorded against the carrying amount of impaired loans on the balance sheet. Losses which may arise from future events are not recognised.

Individually assessed loans and advances

The factors considered in determining whether a loan is individually significant for the purposes of assessing impairment include the size of the loan, the number of loans in the portfolio, and the importance of the individual loan relationship, and how this is managed. Loans that meet these criteria will be individually assessed for impairment, except when volumes of defaults and losses are sufficient to justify treatment under a collective assessment methodology (see below).

Loans considered as individually significant are typically to corporate and commercial customers, are for larger amounts and are managed on an individual basis. For these loans, HSBC considers on a case-by-case basis at each balance sheet date whether there is any objective evidence that a loan is impaired. The criteria used to make this assessment include:

 

  known cash flow difficulties experienced by the borrower;
  contractual payments of either principal or interest being past due for more than 90 days;
  the probability that the borrower will enter bankruptcy or other financial realisation;
  a concession granted to the borrower for economic or legal reasons relating to the borrower’s financial difficulty that results in forgiveness or postponement of principal, interest or fees, where the concession is not insignificant; and
  there has been deterioration in the financial condition or outlook of the borrower such that its ability to repay is considered doubtful.

For loans where objective evidence of impairment exists, impairment losses are determined considering the following factors:

 

  HSBC’s aggregate exposure to the customer;
  the viability of the customer’s business model and their capacity to trade successfully out of financial difficulties and generate sufficient cash flow to service 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 costs of obtaining and selling collateral as part of foreclosure;
  the ability of the borrower to obtain, and make payments in, the currency of the loan if not denominated in local currency; and
  when available, the secondary market price of the debt.

 

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The determination of the realisable value of security is based on the market value at the time the impairment assessment is performed. The value is not adjusted for expected future changes in market prices, though adjustments are made to reflect local conditions such as forced sale discounts.

Impairment losses are calculated by discounting the expected future cash flows of a loan, which includes expected future receipts of contractual interest, at the loan’s original effective interest rate and comparing the resultant present value with the loan’s current carrying amount. The impairment allowances on individually significant accounts are reviewed at least quarterly and more regularly when circumstances require.

Collectively assessed loans and advances

Impairment is assessed collectively to cover losses which have been incurred but have not yet been identified on loans subject to individual assessment or for homogeneous groups of loans that are not considered individually significant. Retail lending portfolios are generally assessed for impairment collectively as the portfolios are generally large homogeneous loan pools.

Incurred but not yet identified impairment

Individually assessed loans for which no evidence of impairment has been specifically identified on an individual basis are grouped together according to their credit risk characteristics for a collective impairment assessment. These credit risk characteristics may include country of origination, type of business involved, type of products offered, security obtained or other relevant factors. This assessment captures impairment losses that HSBC has incurred as a result of events occurring before the balance sheet date, which HSBC is not able to identify on an individual loan basis, and that can be reliably estimated. When information becomes available which identifies losses on individual loans within the group, those loans are removed from the group and assessed individually.

The collective impairment allowance is determined after taking into account:

 

  historical loss experience in portfolios of similar credit risk characteristics (for example, by industry sector, loan grade or product);
  the estimated period between impairment occurring and the loss being identified and evidenced by the establishment of an appropriate allowance against the individual loan; and
  management’s judgement as to whether current economic and credit conditions are such that the actual level of inherent losses at the balance sheet date is likely to be greater or less than that suggested by historical experience.

The period between a loss occurring and its identification is estimated by management for each identified portfolio based on economic and market conditions, customer behaviour, portfolio management information, credit management techniques and collection and recovery experiences in the market. As it is assessed empirically on a periodic basis, the estimated period may vary over time as these factors change.

Homogeneous groups of loans and advances

Statistical methods are used to determine collective impairment losses for homogeneous groups of loans not considered individually significant. Losses in these groups of loans are recorded individually when individual loans are removed from the group and written off. The methods that are used to calculate collective allowances are:

 

  When appropriate empirical information is available, HSBC utilises roll-rate methodology, which employs statistical analyses of historical data and experience of delinquency and default to reliably estimate the amount of the loans that will eventually be written off as a result of the events occurring before the balance sheet date but which HSBC is not able to identify individually. Individual loans are grouped using ranges of past due days; statistical analysis is then used to estimate the likelihood that loans in each range will progress through the various stages of delinquency and become irrecoverable. Additionally, individual loans are segmented based on their credit characteristics as described above. In applying this methodology, adjustments are made to estimate the periods of time between a loss event occurring and its discovery, for example through a missed payment, (known as the emergence period) and the period of time between discovery and write-off (known as the outcome period). Current economic conditions are also evaluated when calculating the appropriate level of allowance required to cover inherent loss. In certain highly developed markets, sophisticated models also take into account behavioural and account management trends as revealed in, for example, bankruptcy and rescheduling statistics.

 

  When the portfolio size is small or when information is insufficient or not reliable enough to adopt a roll-rate methodology, HSBC adopts a basic formulaic approach based on historical loss rate experience, or a discounted cash flow model. Where a basic formulaic approach is undertaken, the period between a loss event occurring and its identification is explicitly estimated by local management, and is typically between six and twelve months.

The inherent loss within each portfolio is assessed on the basis of statistical models using historical data observations, which are updated periodically to reflect recent portfolio and economic trends. When the most recent trends arising from changes in economic, regulatory or behavioural conditions are not fully reflected in the statistical models, they are taken into account by adjusting the impairment allowances derived from the statistical models to reflect these changes as at the balance sheet date.

 

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Notes on the Financial Statements (continued)

 

 

Write-off of loans and advances

Loans (and the related impairment allowance accounts) are normally written off, either partially or in full, when there is no realistic prospect of recovery. Where loans are secured, this is generally after receipt of any proceeds from the realisation of security. In circumstances where the net realisable value of any collateral has been determined and there is no reasonable expectation of further recovery, write-off may be earlier.

Reversals of impairment

If the amount of an impairment loss decreases in a subsequent period, and the decrease can be related objectively to an event occurring after the impairment was recognised, the excess is written back by reducing the loan impairment allowance account accordingly. The write-back is recognised in the income statement.

Assets acquired in exchange for loans

Non-financial assets acquired in exchange for loans as part of an orderly realisation are recorded as ‘Assets held for sale’ and reported in ‘Other assets’ if those assets are classified as held for sale. The asset acquired is recorded at the lower of its fair value less costs to sell and the carrying amount of the loan (net of impairment allowance) at the date of exchange. No depreciation is charged in respect of assets held for sale. Impairments and reversal of previous impairments are recognised in the income statement in ‘Other operating income’, together with any realised gains or losses on disposal.

Renegotiated loans

Loans subject to collective impairment assessment whose terms have been renegotiated are no longer considered past due, but are treated as up to date loans for measurement purposes once a minimum number of payments required have been received. They are segregated from other parts of the loan portfolio for the purposes of collective impairment assessment, to reflect their risk profile. Loans subject to individual impairment assessment, whose terms have been renegotiated, are subject to ongoing review to determine whether they remain impaired. The carrying amounts of loans that have been classified as renegotiated retain this classification until maturity or derecognition.

A loan that is renegotiated is derecognised if the existing agreement is cancelled and a new agreement made on substantially different terms or if the terms of an existing agreement are modified such that the renegotiated loan is substantially a different financial instrument. Any new agreements arising due to derecognition events will continue to be disclosed as renegotiated loans and are assessed for impairment as above.

Impairment of available-for-sale financial assets

Available-for-sale financial assets are assessed at each balance sheet date for objective evidence of impairment. If such evidence exists as a result of one or more events that occurred after the initial recognition of the financial asset (a ‘loss event’) and that loss event has an impact which can be reliably measured on the estimated future cash flows of the financial asset an impairment loss is recognised.

If the available-for-sale financial asset is impaired, the difference between its acquisition cost (net of any principal repayments and amortisation) and its current fair value, less any previous impairment loss recognised in the income statement, is recognised in the income statement.

Impairment losses are recognised in the income statement within ‘Loan impairment charges and other credit risk provisions’ for debt instruments and within ‘Gains less losses from financial investments’ for equities. The impairment methodologies for available-for-sale financial assets are set out in more detail below:

 

  Available-for-sale debt securities. In assessing objective evidence of impairment at the reporting date, HSBC considers all available evidence, including observable data or information about events specifically relating to the securities which may result in a shortfall in the recovery of future cash flows. Financial difficulties of the issuer, as well as other factors such as information about the issuers’ liquidity, business and financial risk exposures, levels of and trends in default for similar financial assets, national and local economic trends and conditions, and the fair value of collateral and guarantees may be considered individually, or in combination, to determine if there is objective evidence of impairment.

In addition, the performance of underlying collateral and the extent and depth of market price declines is relevant when assessing objective evidence of impairment of available-for-sale ABSs. The primary indicators of potential impairment are considered to be adverse fair value movements and the disappearance of an active market for a security, while changes in credit ratings are of secondary importance.

 

  Available-for-sale equity securities. Objective evidence of impairment may include specific information about the issuer as detailed above, but may also include information about significant changes in technology, markets, economics or the law that provides evidence that the cost of the equity securities may not be recovered.

 

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Notes on the Financial Statements (continued)

 

 

    A significant or prolonged decline in the fair value of the equity below its cost is also objective evidence of impairment. In assessing whether it is significant, the decline in fair value is evaluated against the original cost of the asset at initial recognition. In assessing whether it is prolonged, the decline is evaluated against the continuous period in which the fair value of the asset has been below its original cost at initial recognition.

Once an impairment loss has been recognised, the subsequent accounting treatment for changes in the fair value of that asset differs depending on the type of asset:

 

  for an available-for-sale debt security, a subsequent decline in the fair value of the instrument is recognised in the income statement when there is further objective evidence of impairment as a result of further decreases in the estimated future cash flows of the financial asset. Where there is no further objective evidence of impairment, the decline in the fair value of the financial asset is recognised in other comprehensive income. If the fair value of a debt security increases in a subsequent period, and the increase can be objectively related to an event occurring after the impairment loss was recognised in the income statement, or the instrument is no longer impaired, the impairment loss is reversed through the income statement;

 

  for an available-for-sale equity security, all subsequent increases in the fair value of the instrument are treated as a revaluation and are recognised in other comprehensive income. Impairment losses recognised on the equity security are not reversed through the income statement. Subsequent decreases in the fair value of the available-for-sale equity security are recognised in the income statement to the extent that further cumulative impairment losses have been incurred.

 

  (l) Funding fair value adjustment

In line with evolving market practice HSBC revised its estimation methodology for valuing the uncollateralised derivative portfolios by introducing a funding fair value adjustment (‘FFVA’). The FFVA adjustment reflects the estimated present value of the future market funding cost or benefit associated with funding uncollateralised derivative exposure at rates other than the Overnight Index Swap (‘OIS’) rate, which is the benchmark rate used for valuing collateralised derivatives. The impact of FFVA adoption in 2014 was a US$263m reduction in net trading income, reflecting the incorporation of a funding spread over Libor. Further details have been provided in Note 13 to the Financial Statements.

 

  (m) Operating income

Interest income and expense

Interest income and expense for all financial instruments except for those classified as held for trading or designated at fair value (except for debt securities issued by HSBC and derivatives managed in conjunction with those debt securities) are recognised in ‘Interest income’ and ‘Interest expense’ in the income statement using the effective interest method. The effective interest rate is the rate that exactly discounts estimated future cash receipts or payments through the expected life of the financial instrument or, where appropriate, a shorter period, to the net carrying amount of the financial asset or financial liability.

Interest on impaired financial assets is recognised using the rate of interest used to discount the future cash flows for the purpose of measuring the impairment loss.

Non-interest income and expense

Fee income is earned from a diverse range of services provided by HSBC to its customers. Fee income is accounted for as follows:

 

  income earned on the execution of a significant act is recognised as revenue when the act is completed (for example, fees arising from negotiating or participating in the negotiation of a transaction for a third party, such as an arrangement for the acquisition of shares or other securities);

 

  income earned from the provision of services is recognised as revenue as the services are provided (for example, asset management, portfolio and other management advisory and service fees); and

 

  income which forms an integral part of the effective interest rate of a financial instrument is recognised as an adjustment to the effective interest rate (for example, certain loan commitment fees) and recorded in ‘Interest income’.

Net trading income comprises all gains and losses from changes in the fair value of financial assets and financial liabilities held for trading, together with the related interest income, expense and dividends.

Dividend income is recognised when the right to receive payment is established. This is the ex-dividend date for listed equity securities, and usually the date when shareholders have approved the dividend for unlisted equity securities.

The accounting policies for net income/(expense) from financial instruments designated at fair value and for net insurance premium income are disclosed in Note 2 and Note 3.

 

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Notes on the Financial Statements (continued)

 

 

2 Net income/(expense) from financial instruments designated at fair value

 

Accounting policy

 

 

Net income/(expense) from financial instruments designated at fair value includes:

 

•  all gains and losses from changes in the fair value of financial assets and liabilities designated at fair value through profit or loss, including liabilities under investment contracts;

 

•  all gains and losses from changes in the fair value of derivatives that are managed in conjunction with financial assets and liabilities designated at fair value through profit or loss; and

 

•  interest income, interest expense and dividend income in respect of financial assets and liabilities designated at fair value through profit or loss; and derivatives managed in conjunction with the above, except for interest arising from debt securities issued by HSBC and derivatives managed in conjunction with those debt securities, which is recognised in ‘Interest expense’.

 

Net income/(expense) from financial instruments designated at fair value

 

         2014
        US$m
         2013
        US$m
         2012
        US$m
 

Net income/(expense) arising on:

              

– financial assets held to meet liabilities under insurance and investment contracts

       2,300           3,170           2,980   

– other financial assets designated at fair value

       131           118           83   

– derivatives managed in conjunction with other financial assets designated at fair value

       (19        (26        35   
       2,412           3,262           3,098   

– liabilities to customers under investment contracts

       (435        (1,237        (996

– HSBC’s long-term debt issued and related derivatives

       508           (1,228        (4,327

– changes in own credit spread on long-term debt

       417           (1,246        (5,215

– derivatives managed in conjunction with HSBC’s issued debt securities

       333           (3,743        431   

– other changes in fair value

       (242        3,761           457   

– other financial liabilities designated at fair value

       (23        (39        (23

– derivatives managed in conjunction with other financial liabilities designated at fair value

       11           10           22   
       61           (2,494        (5,324

Year ended 31 December

       2,473           768           (2,226

HSBC Holdings

 

Net income/(expense) arising on HSBC Holdings long-term debt issued and related derivatives

 

  

  

         2014
        US$m
         2013
        US$m
         2012
        US$m
 

Net income/(expense) arising on:

              

– changes in own credit spread on long-term debt

       339           (695        (2,260

– derivatives managed in conjunction with HSBC Holdings issued debt securities

       126           (1,558        456   

– other changes in fair value

       (27        1,213           (474

Year ended 31 December

       438           (1,040        (2,278

 

3 Net insurance premium income

 

Accounting policy

 

 

Premiums for life insurance contracts are accounted for when receivable, except in unit-linked insurance contracts where premiums are accounted for when liabilities are established.

 

Reinsurance premiums are accounted for in the same accounting period as the premiums for the direct insurance contracts to which they relate.

 

Net insurance premium income

 

      

 

 

Non-linked

insurance

US$m

  

1 

  

      

 
 

Linked life

insurance
US$m

  

  
  

      

 

 

 

Investment

contracts

with DPF

US$m

  

  

2 

  

      
 
Total
US$m
  
  

Gross insurance premium income

       7,705           2,195           2,470           12,370   

Reinsurers’ share of gross insurance premium income

       (441        (8                  (449

Year ended 31 December 2014

       7,264           2,187           2,470                 11,921   

 

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Notes on the Financial Statements (continued)

 

 

 

 

 

Non-linked

insurance

US$m

  

1 

  

 

 
 

Linked life

insurance
US$m

  

  
  

 

 

 

 

Investment

contracts

with DPF

US$m

  

  

2 

  

 
 
Total
US$m
  
  

Gross insurance premium income

  7,002      3,012      2,384      12,398   

Reinsurers’ share of gross insurance premium income

  (450   (8        (458

Year ended 31 December 2013

  6,552      3,004      2,384      11,940   

Gross insurance premium income

  7,578      3,325      2,699      13,602   

Reinsurers’ share of gross insurance premium income

  (550   (8        (558

Year ended 31 December 2012

  7,028      3,317      2,699            13,044   

 

  1 Includes non-life insurance.
  2 Discretionary participation features.

 

4 Net insurance claims and benefits paid and movement in liabilities to policyholders

 

Accounting policy

 

 

Gross insurance claims for life insurance contracts reflect the total cost of claims arising during the year, including claim handling costs and any policyholder bonuses allocated in anticipation of a bonus declaration.

 

Maturity claims are recognised when due for payment. Surrenders are recognised when paid or at an earlier date on which, following notification, the policy ceases to be included within the calculation of the related insurance liabilities. Death claims are recognised when notified.

 

Reinsurance recoveries are accounted for in the same period as the related claim.

 

Net insurance claims and benefits paid and movement in liabilities to policyholders

 

       

 

 

Non-linked

insurance

US$m

  

1 

  

      

 
 

Linked life

insurance
US$m

  

  
  

      

 

 

 

Investment

contracts

with DPF

US$m

  

  

2 

  

      
 
Total
US$m
  
  

Gross claims and benefits paid and movement in liabilities

        7,770           2,765           3,188           13,723   

– claims, benefits and surrenders paid

        3,575           1,499           2,215           7,289   

– movement in liabilities

        4,195           1,266           973           6,434   

Reinsurers’ share of claims and benefits paid and movement in liabilities

        (411        33                     (378

– claims, benefits and surrenders paid

        (176        (88                  (264

– movement in liabilities

        (235        121                     (114

 

                    
                                              

Year ended 31 December 2014

  7,359      2,798      3,188      13,345   

Gross claims and benefits paid and movement in liabilities

  6,892      3,379      3,677      13,948   

– claims, benefits and surrenders paid

  3,014      1,976      2,308      7,298   

– movement in liabilities

  3,878      1,403      1,369      6,650   

Reinsurers’ share of claims and benefits paid and movement in liabilities

  (367   111           (256

– claims, benefits and surrenders paid

  (164   (426        (590

– movement in liabilities

  (203   537           334   

 

                    
                                              

Year ended 31 December 2013

  6,525      3,490      3,677      13,692   

Gross claims and benefits paid and movement in liabilities

  6,900      3,984      3,645      14,529   

– claims, benefits and surrenders paid

  1,905      1,810      2,525      6,240   

– movement in liabilities

  4,995      2,174      1,120      8,289   

Reinsurers’ share of claims and benefits paid and movement in liabilities

  (537   223           (314

– claims, benefits and surrenders paid

  (217   (681        (898

– movement in liabilities

  (320   904           584   

 

                    
                                              

Year ended 31 December 2012

  6,363      4,207      3,645          14,215   

 

  1 Includes non-life insurance.
  2 Discretionary participation features.

 

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Notes on the Financial Statements (continued)

 

 

5 Operating profit

 

Operating profit is stated after the following items of income, expense, gains and losses, and loan impairment charges and other credit risk provisions:

 

    2014
US$m
    2013
US$m
    2012
US$m
 

Income

Interest recognised on impaired financial assets

            1,137                1,261                1,261   

Fees earned on financial assets or liabilities not held for trading nor designated at fair value, other than fees included in effective interest rate calculations on these types of assets and liabilities

  9,438      9,799      10,042   

Fees earned on trust and other fiduciary activities where HSBC holds or invests assets on behalf of its customers

  3,253      3,176      2,897   

Income from listed investments

  6,726      5,432      5,850   

Income from unlisted investments

  5,874      6,860      7,677   

Expense

Interest on financial instruments, excluding interest on financial liabilities held for trading or designated at fair value

  (15,322   (14,610   (17,625

Fees payable on financial assets or liabilities not held for trading nor designated at fair value, other than fees included in effective interest rate calculations on these types of assets and liabilities

  (1,427   (1,396   (1,501

Fees payable relating to trust and other fiduciary activities where HSBC holds or invests assets on behalf of its customers

  (185   (171   (170

Payments under lease and sublease agreements

  (1,548   (1,425   (1,166

– minimum lease payments

  (1,199   (1,098   (1,149

– contingent rents and sublease payments

  (349   (327   (17

UK bank levy

  (1,066   (916   (472

Gains/(losses)

Impairment of available-for-sale equity securities

  (373   (175   (420

Gains/(losses) recognised on assets held for sale

  220      (729   485   

Gains on disposal of HSBC Bank (Panama) S.A.

       1,107        

(Losses)/gains arising from dilution of interest in Industrial Bank and other associates and joint ventures

  (32   1,051        

Loan impairment charges and other credit risk provisions

  (3,851   (5,849   (8,311

– net impairment charge on loans and advances

  (4,055   (6,048   (8,160

– release/(impairment) of available-for-sale debt securities

  319      211      (99

– impairment in respect of other credit risk provisions

  (115   (12   (52

 

6 Employee compensation and benefits

 

 

   

2014

US$m

   

2013

US$m

   

2012

US$m

 

Wages and salaries

  17,477      16,879      17,780   

Social security costs

  1,666      1,594      1,633   

Post-employment benefits

  1,223      723      1,078   

Year ended 31 December

             20,366                 19,196               20,491   

Average number of persons employed by HSBC during the year

 

    2014     2013     2012  

Europe

  74,024      75,334      77,204   

Asia

  116,492      114,216      116,779   

Middle East and North Africa

  8,616      9,181      8,645   

North America

  21,983      22,568      27,396   

Latin America

  43,652      47,496      54,162   

Year ended 31 December

           264,767               268,795             284,186   

 

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Table of Contents

Notes on the Financial Statements (continued)

 

 

Reconciliation of total incentive awards granted to incentive awards in employee compensation and benefits

 

         2014
            US$m
         2013
            US$m
         2012
            US$m
 

Total incentive awards approved and granted for the current year1

       3,660           3,920           3,689   

Less: deferred bonuses awarded for the current year, expected to be recognised in future periods

       (359        (436        (355

Total incentives awarded and recognised in the current year

       3,301           3,484           3,334   

Current year charges for deferred bonuses from previous years

       425           427           671   

Other

       (114        (164        (28

Total incentive awards for the current year included in employee compensation and benefits

       3,612           3,747           3,977   

 

1   This represents the amount of the Group variable pay pool that has been approved and granted. The total amount of Group variable pay pool approved by the Group Remuneration Committee is disclosed in the Directors’ Remuneration Report on page 310.

 

Income statement charge: deferred bonuses

 

       

  

        

    Current year

bonus pool
US$m

        

Prior year

    bonus pools
US$m

         Total
        US$m
 

2014

              

Charge recognised in 2014

       245           425           670   

– deferred share awards

       147           373           520   

– deferred cash awards

       98           52           150   

Charge expected to be recognised in 2015 or later

       359           381           740   

– deferred share awards

       250           334           584   

– deferred cash awards

       109           47           156   

2013

              

Charge recognised in 2013

       269           427           696   

– deferred share awards

       188           354           542   

– deferred cash awards

       81           73           154   

Charge expected to be recognised in 2014 or later

       436           306           742   

– deferred share awards

       356           259           615   

– deferred cash awards

       80           47           127   

2012

              

Charge recognised in 2012

       277           671           948   

– deferred share awards

       224           613           837   

– deferred cash awards

       53           58           111   

Charge expected to be recognised in 2013 or later

       355           376           731   

– deferred share awards

       315           335           650   

– deferred cash awards

       40           41           81   

Share-based payments

Accounting policy

 

 

HSBC enters into both equity-settled and cash-settled share-based payment arrangements with its employees as compensation for services provided by employees. The cost of equity-settled share-based payment arrangements with employees is measured by reference to the fair value of equity instruments on the date they are granted and recognised as an expense on a straight-line basis over the vesting period, with a corresponding credit to ‘Retained earnings’.

 

For cash-settled share-based payment arrangements, the services acquired and liability incurred are measured at the fair value of the liability and recognised as the employees render service. Until settlement, the fair value of the liability is re-measured, with changes in fair value recognised in the income statement.

 

Fair value is determined by using appropriate valuation models. Vesting conditions include service conditions and performance conditions; any other features of the arrangement are non-vesting conditions. Market performance conditions and non-vesting conditions are taken into account when estimating the fair value of the award at the date of grant. Vesting conditions, other than market performance conditions, are not taken into account in the initial estimate of the fair value at the grant date. They are taken into account by adjusting the number of equity instruments included in the measurement of the transaction.

 

A cancellation that occurs during the vesting period is treated as an acceleration of vesting, and recognised immediately for the amount that would otherwise have been recognised for services over the vesting period.

 

Where HSBC Holdings enters into share-based payment arrangements involving employees of subsidiaries for which the subsidiaries are re-charged, the difference between the cost of the share-based payment arrangement and the fair value of the equity instruments expected to be issued to satisfy those arrangements is recognised as an adjustment to ‘Investment in subsidiaries’ over the vesting period.

 

 

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Notes on the Financial Statements (continued)

 

 

‘Wages and salaries’ include the effect of share-based payments arrangements, of which US$732m are equity settled (2013: US$630m; 2012: US$988m), as follows:

 

         2014          2013          2012  
                   US$m                  US$m                    US$m  

Restricted share awards

       738           599           912   

Savings-related and other share award option plans

       36           63           96   

Year ended 31 December

       774           662           1,008   

HSBC share awards

 

Award    Policy    Purpose
Restricted share awards (including Annual incentive awards delivered in shares) and GPSP   

•  An assessment of performance over the relevant period ending on 31 December is used to determine the amount of the award to be granted.

 

•  Deferred awards generally require employees to remain in employment over the vesting period and are not subject to performance conditions after the grant date.

 

•  Deferred Annual incentive awards generally vest over a period of three years and GPSP awards vest after five years.

 

•  Vested shares may be subject to a retention requirement (restriction) post-vesting. GPSP awards are retained until cessation of employment.

 

•  Awards granted from 2010 onwards are subject to malus provision prior to vesting.

 

  

•  To drive and reward performance consistent with strategy and align to shareholder interests.

 

•  Deferral provides an incentive for a longer-term commitment and the ability to apply malus.

Movement on HSBC share awards

 

         2014          2013  
        

          Number

(000s)

                   Number
(000s)
 

Restricted share awards outstanding at 1 January

       116,932           165,589   

Additions during the year

       82,871           59,261   

Released in the year

       (78,224        (99,820

Forfeited in the year

       (5,096        (8,098

Restricted share awards outstanding at 31 December

       116,483           116,932   

Weighted average fair value of awards granted (US$)

       10.18           10.95   

HSBC share option plans

 

Main plans    Policy    Purpose
Savings-related share option plans   

•  Two plans: the UK plan and the International Plan. The last grant of options under the International Plan was in 2012.

 

•  From 2014, eligible employees save up to £500 per month (or for International options granted prior to 2013, the equivalent of £250 in US dollars, Hong Kong dollars or Euros), with the option to use the savings to acquire shares.

 

•  Exercisable within six months following either the third or fifth anniversaries of the commencement of a three-year or five-year contract, respectively, (or for International options granted prior to 2013, three months following the first anniversary of the commencement of a one-year savings contract).

 

•  The exercise price is set at a 20% (2013: 20%) discount to the market value immediately preceding the date of invitation (except for the one-year options granted under the US sub-plan prior to 2013 where a 15% discount was applied).

  

•  To align the interests of all employees with the creation of shareholder value.

HSBC Holdings Group share option plan   

•  Plan ceased in May 2005.

 

•  Exercisable between third and tenth anniversaries of the date of grant.

  

•  Long-term incentive plan between 2000 and 2005 during which certain HSBC employees were awarded share options.

 

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Notes on the Financial Statements (continued)

 

 

Calculation of fair values

The fair values of share options are calculated using a Black-Scholes model. The fair value of a share award is based on the share price at the date of the grant.

Movement on HSBC share option plans

 

         Savings-related share option plans          HSBC Holdings Group share option
plan
 
      
 
Number
(000s)
  
  
      

 

          WAEP

£

1 

  

      
 
Number
(000s)
  
  
      

 

          WAEP

£

1 

  

Outstanding at 1 January 2014

       93,760           4.04           55,026           7.23   

Granted during the year2

       28,689           5.19                       

Exercised during the year3

       (50,393        3.48           (1        7.22   

Expired during the year

       (5,690        4.81           (48,651        7.22   

Outstanding at 31 December 2014

       66,366           4.89           6,374           7.29   

Weighted average remaining contractual life (years)

       2.66                0.30        

Outstanding at 1 January 2013

               112,752           4.04                   87,173           6.94   

Granted during the year2

       8,679           5.47                       

Exercised during the year3

       (17,968        4.56           (17,595        6.21   

Expired during the year

       (9,703        4.47           (14,552        4.21   

Outstanding at 31 December 2013

       93,760           4.04           55,026           7.23   

Weighted average remaining contractual life (years)

       1.80                0.45        

 

  1 Weighted average exercise price.
  2 The weighted average fair value of options granted during the year was US$1.90 (2013: US$2.98).
  3 The weighted average share price at the date the options were exercised was US$9.91 (2013: US$10.86) and US$9.49 (2013: US$10.93) for the savings-related share option plans and HSBC Holdings Group share option plan, respectively.

Post-employment benefit plans

Accounting policy

 

HSBC operates a number of pension and other post-employment benefit plans throughout the world. These plans include both defined benefit and defined contribution plans and various other post-employment benefits such as post-employment healthcare.

 

Payments to defined contribution plans and state-managed retirement benefit plans, where HSBC’s obligations under the plans are equivalent to a defined contribution plan, are charged as an expense as the employees render service.

 

The defined benefit pension costs and the present value of defined benefit obligations are calculated at the reporting date by the schemes’ actuaries using the Projected Unit Credit Method. The net charge to the income statement mainly comprises the service cost and the net interest on the net defined benefit asset or liability and is presented in operating expenses.

 

The past service cost, which is charged immediately to the income statement, is the change in the present value of the defined benefit obligation for employee service in prior periods resulting from a plan amendment (the introduction or withdrawal of, or changes to, a defined benefit plan) or curtailment (a significant reduction by the entity in the number of employees covered by a plan). A settlement is a transaction that eliminates all further legal and constructive obligations for part or all of the benefits provided under a defined benefit plan, other than a payment of benefits to, or on behalf of, employees that is set out in the terms of the plan and included in the actuarial assumptions.

 

Re-measurements of the net defined benefit asset or liability, which comprise actuarial gains and losses, return on plan assets (excluding interest) and the effect of the asset ceiling (if any, excluding interest), are recognised immediately in other comprehensive income.

 

Actuarial gains and losses comprise experience adjustments (the effects of differences between the previous actuarial assumptions and what has actually occurred), as well as the effects of changes in actuarial assumptions.

 

The net defined benefit asset or liability represents the present value of defined benefit obligations reduced by the fair value of plan assets. Any net defined benefit surplus is limited to the present value of available refunds and reductions in future contributions to the plan.

 

The cost of obligations arising from other post-employment defined benefit plans, such as defined benefit health-care plans, are accounted for on the same basis as defined benefit pension plans.

 

 

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Notes on the Financial Statements (continued)

 

 

Income statement charge

 

    2014     2013     2012  
              US$m               US$m               US$m  

Defined benefit pension plans

  469      54      427   

Defined contribution pension plans

  687      597      599   

Pension plans

  1,156      651      1,026   

Defined benefit and contribution healthcare plans

  67      72      52   

Year ended 31 December

  1,223      723      1,078   

Net assets/(liabilities) recognised on the balance sheet in respect of defined benefit plans

 

   

Fair value of

plan assets

   

Present value of

defined benefit

obligations

   

Effect of

limit on plan

surpluses

    Total  
    US$m     US$m     US$m               US$m  

Defined benefit pension plans

  44,824      (42,062   (17   2,745   

Defined benefit healthcare plans

  179      (1,104        (925

At 31 December 2014

  45,003      (43,166   (17   1,820   

Total employee benefit liabilities (within ‘Accruals, deferred income and other liabilities’)

  (3,208

Total employee benefit assets (within ‘Prepayments, accrued income and other assets’)

  5,028   

Defined benefit pension plans

  40,622      (40,467   (30   125   

Defined benefit healthcare plans

  190      (1,106        (916

At 31 December 2013

  40,812      41,573      (30   (791

Total employee benefit liabilities (within ‘Accruals, deferred income and other liabilities’)

  (2,931

Total employee benefit assets (within ‘Prepayments, accrued income and other assets’)

  2,140   

Cumulative actuarial gains/(losses) recognised in other comprehensive income

 

    2014     2013     2012  
              US$m               US$m               US$m  

At 1 January

  (4,445   (3,844   (3,453

HSBC Bank (UK) Pension Scheme

  2,764      (1,524   208   

Other plans

  (274   796      (440

Healthcare plans

  (88   143      (154

Change in the effect of limit on plan surpluses

  17      (16   (5

Total actuarial gains/(losses) recognised in other comprehensive income

  2,419      (601   (391

At 31 December

  (2,026   (4,445   (3,844

 

HSBC pension plans

 

    2014     2013     2012  
    %     %     %  

Percentage of HSBC employees:

– enrolled in defined contribution plans

  66      64      62   

– enrolled in defined benefit plans

  22      23      23   

– covered by HSBC pension plans

  88      87      85   

The Group operates a number of pension plans throughout the world. Some are defined benefit plans, of which the largest is the HSBC Bank (UK) Pension Scheme (‘the principal plan’). The Pension Risk section on page 200 and the Appendix to Risk on page 236 contain details about the characteristics and risks and amount, timing and uncertainty of future cash flows and policies and practices associated with the principal plan.

 

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Notes on the Financial Statements (continued)

 

 

Defined benefit pension plans

Net asset/(liability) under defined benefit pension plans

 

    Fair value of plan assets    

Present value of

defined benefit
obligations

    Effect of the asset
ceiling
   

Net defined benefit

asset/(liability)

 
   

HSBC

Bank (UK)

Pension

Scheme

   

Other

plans

   

HSBC

Bank (UK)

Pension

Scheme

   

Other

plans

   

HSBC

Bank (UK)

Pension

Scheme

   

Other

plans

   

HSBC

Bank (UK)

Pension

Scheme

   

Other

plans

 
    US$m           US$m     US$m           US$m     US$m           US$m     US$m           US$m  

At 1 January 2014

  31,665      8,957      (29,629   (10,838        (30   2,036      (1,911

Current service cost

            (228   (257             (228   (257

Past service cost and gains/(losses) from settlements

       (5   (26   11                (26   6   

Service cost

       (5   (254   (246             (254   (251

Net interest income/(cost) on the net defined benefit asset/(liability)

  1,386      370      (1,291   (425        (4   95      (59

Re-measurement effects recognised in other comprehensive income

  4,864      845      (2,100   (1,034        17      2,764      (172

– return on plan assets (excluding interest income)

  4,864      845                            4,864      845   

– actuarial losses

            (2,317     (987             (2,317   (987

– other changes

            217        (47        17      217      (30

Exchange differences

  (2,112   (316   1,838      357                (274   41   

Contributions by HSBC

  397      278                          397      278   

– normal

  265      239                          265      239   

– special

  132      39                          132      39   

Contributions by employees

  38      17      (38   (17                    

Benefits paid

  (954   (543   954      598                     55   

Administrative costs and taxes paid by plan

  (40   (23   40      23                       

At 31 December 2014

  35,244      9,580      (30,480   (11,582        (17   4,764      (2,019

Present value of defined benefit obligation relating to:

– actives

  (9,782   (5,605

– deferreds

  (8,799   (2,498

– pensioners

  (11,899   (3,479

 

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Notes on the Financial Statements (continued)

 

 

Net asset/(liability) under defined benefit pension plans (continued)

 

    Fair value of plan assets    

Present value of

defined benefit
obligations

   

Effect of the asset

ceiling

   

Net defined benefit

asset/(liability)

 
   

HSBC

Bank (UK)

Pension

Scheme

   

Other

plans

   

HSBC

Bank (UK)

Pension

Scheme

   

Other

plans

   

HSBC

Bank (UK)

Pension

Scheme

   

Other

plans

   

HSBC

Bank (UK)

Pension

Scheme

   

Other

plans

 
    US$m           US$m     US$m           US$m     US$m           US$m     US$m           US$m  

At 1 January 2013

  29,092      9,015      (26,475   (11,581        (19   2,617      (2,585

Current service cost

            (259   (249             (259   (249

Past service cost and gains/(losses) from settlements1

       (3   438      (41             438      (44

Service cost

       (3   179      (290             179      (293

Net interest income/(cost) on the net defined benefit asset/(liability)

  1,260      156      (1,127   (229             133      (73

Re-measurement effects recognised in other comprehensive income

  817      21      (2,341   775           (16   (1,524   780   

– return on plan assets (excluding interest income)

  817      21                            817      21   

– actuarial gains/(losses)

            (2,453     829                (2,453   829   

– other changes

            112        (54        (16   112      (70

Exchange differences

  766      (59   (740   23           5      26      (31

Contributions by HSBC

  605      336                          605      336   

– normal

  399      274                          399      274   

– special

  206      62                          206      62   

Contributions by employees

  38      17      (38   (17                    

Benefits paid

  (876   (513   876      452                     (61

Administrative costs and taxes paid by plan

  (37   (13   37      13                       

Disposals

                 16                     16   

At 31 December 2013

  31,665      8,957      (29,629   (10,838        (30   2,036      (1,911

Present value of defined benefit obligation
relating to:

– actives

  (8,896   (5,465

– deferreds

  (8,358   (2,144

– pensioners

  (12,375   (3,229

 

  1 HSBC announced to employees in the UK that the future service accrual for active members of the Defined Benefit Section (‘DBS’) of the principal plan would cease with effect from 30 June 2015 and that all active members of the DBS will become member of the Defined Contribution Section from 1 July 2015. This resulted in a reduction in the defined benefit obligation of the Scheme and a corresponding gain of US$430m in 2013, recorded in ‘Past service cost and (gains)/losses on settlements’ in the table above.

HSBC expects to make US$530m of contributions to defined benefit pension plans during 2015. Benefits expected to be paid from the plans to retirees over each of the next five years, and in aggregate for the five years thereafter, are as follows:

Benefits expected to be paid from plans

 

    2015     2016     2017     2018     2019     2020-2024  
              US$m               US$m               US$m               US$m               US$m               US$m  

HSBC Bank (UK) Pension Scheme1

  970      999      1,029      1,060      1,091      5,968   

Other plans1

  566      576      595      605      643      3,366   

 

  1 The duration of the defined benefit obligation is 19.8 years for the HSBC Bank (UK) Pension Scheme under the disclosure assumptions adopted (2013: 19.5 years) and 14.2 years for all other plans combined (2013: 13.7 years).

 

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Notes on the Financial Statements (continued)

 

 

Fair value of plan assets by asset classes

 

    31 December 2014     31 December 2013  
  Value     

 

 

 

Quoted

market price

in active

market

  

  

  

  

 

 

 

 

No quoted

market price

in active

market

  

  

  

  

 

 

Thereof

HSBC

  

1 

  Value     

 

 

 

Quoted

market price

in active

market

  

  

  

  

 

 

 

 

No quoted

market price

in active

market

  

  

  

  

 

 

Thereof

HSBC

  

1 

            US$m     US$m     US$m             US$m             US$m     US$m     US$m             US$m  

HSBC Bank (UK) Pension Scheme

Fair value of plan assets

  35,244      31,355      3,889      930      31,665      26,520      5,145      2,827   

– equities

  5,502      4,557      945           4,655      3,667      988        

– bonds

  22,965      22,965                17,708      17,708             

– derivatives

  1,369      52      1,317      930      2,827           2,827      2,827   

– other

  5,408      3,781      1,627           6,475      5,145      1,330        

Other plans

Fair value of plan assets

  9,580      6,390      3,190      (13   8,957      7,731      1,226      574   

– equities

  2,534      1,778      756      11      2,854      2,789      65      14   

– bonds

  6,376      4,109      2,267      7      4,892      4,409      483      9   

– derivatives

  (100   (8   (92   (107   399           399      399   

– other

  770      511      259      76      812      533      279      152   

 

  1 The fair value of plan assets includes derivatives entered into with HSBC Bank plc as detailed in Note 41.

Post-employment defined benefit plans’ principal actuarial financial assumptions

HSBC determines the discount rates to be applied to its obligations in consultation with the plans’ local actuaries, on the basis of current average yields of high quality (AA-rated or equivalent) debt instruments, with maturities consistent with those of the defined benefit obligations.

Key actuarial assumptions for the principal plan

 

            Discount
rate
   

        Inflation

rate

   

Rate of

        increase for

pensions

   

Rate of

    pay increase

   

Interest

        credit rate

 
    %     %     %     %     %  

UK

At 31 December 2014

  3.70      3.20      3.00      3.70      n/a   

At 31 December 2013

  4.45      3.60      3.30      4.10      n/a   

At 31 December 2012

  4.50      3.10      2.90      3.60      n/a   

Mortality tables and average life expectancy at age 65 for the principal plan

 

   

Mortality

table

   

Life expectancy at age 65 for

a male member currently:

   

Life expectancy at age 65 for

a female member currently:

 
          Aged 65             Aged 45     Aged 65             Aged 45  

UK

At 31 December 2014

  SAPS S1 1    23.6      25.2      25.0      26.9   

At 31 December 2013

  SAPS S1 1    23.6      25.2      24.9      26.8   

 

  1 Self-administered Pension Scheme (‘SAPS’) with Continuous Mortality Investigation 2014 improvements (2013: 2013 improvements) and a 1.25% long-term allowance improvement. Light table with 1.01 rating for male pensioners and 1.02 rating for female pensioners.

Actuarial assumption sensitivities

The effect of changes in key assumptions on the principal plan

 

    HSBC Bank (UK) Pension Scheme  
    2014     2013  
                US$m                 US$m  

Discount rate

Change in pension obligation at year-end from a 25bps increase

  (1,420   (1,352

Change in pension obligation at year-end from a 25bps decrease

  1,523      1,450   

Change in 2015 pension cost from a 25bps increase

  (75   (83

Change in 2015 pension cost from a 25bps decrease

  73      79   

Rate of inflation

Change in pension obligation at year-end from a 25bps increase

  1,026      994   

Change in pension obligation at year-end from a 25bps decrease

  (1,184   (1,137

Change in 2015 pension cost from a 25bps increase

  44      53   

Change in 2015 pension cost from a 25bps decrease

  (48   (68

Rate of increase for pensions in payment and deferred pensions

Change in pension obligation at year-end from a 25bps increase

  1,188      1,301   

Change in pension obligation at year-end from a 25bps decrease

  (1,127   (1,225

Change in 2015 pension cost from a 25bps increase

  50      66   

Change in 2015 pension cost from a 25bps decrease

  (45   (64

 

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Notes on the Financial Statements (continued)

 

 

    HSBC Bank (UK) Pension Scheme  
    2014     2013  
    US$m               US$m  

Rate of pay increase

Change in pension obligation at year-end from a 25bps increase

  237      212   

Change in pension obligation at year-end from a 25bps decrease

  (232   (205

Change in 2015 pension cost from a 25bps increase

  12      15   

Change in 2015 pension cost from a 25bps decrease

  (11   (15

Mortality

Change in pension obligation from each additional year of longevity assumed

  768      712   

HSBC Holdings

Employee compensation and benefit expense in respect of HSBC Holdings’ employees in 2014 amounted to US$681m (2013: US$542m). The average number of persons employed by HSBC Holdings during 2014 was 2,070 (2013: 1,525).

Employees of HSBC Holdings who are members of defined benefit pension plans are principally members of either the HSBC Bank (UK) Pension Scheme or the HSBC International Staff Retirement Benefits Scheme. HSBC Holdings pays contributions to such plans for its own employees in accordance with the schedules of contributions determined by the Trustees of the plan and recognises these contributions as an expense as they fall due.

Directors’ emoluments

The aggregate emoluments of the Directors of HSBC Holdings, computed in accordance with the Companies Act 2006 and the Large and Medium-sized Companies and Groups (Accounts and Reports) Regulations 2008 were:

 

    2014     2013     2012  
    US$000     US$000     US$000  

Fees

  4,567      4,027      5,435   

Salaries and other emoluments

  17,812      9,488      10,316   

Annual incentives

  4,426      7,357      13,983   

Year ended 31 December

              26,805                  20,872                  29,734   

Vesting of long-term incentive awards

            5,733   

In addition, there were payments under retirement benefit agreements with former Directors of US$1,269,160 (2013: US$1,198,744). The provision at 31 December 2014 in respect of unfunded pension obligations to former Directors amounted to US$19,419,524 (2013: US$19,729,103).

During the year, aggregate contributions to pension schemes in respect of Directors were nil (2013: nil).

The salary and other emoluments figure includes fixed pay allowances. Discretionary annual incentives for Directors are based on a combination of individual and corporate performance and are determined by the Group Remuneration Committee. Details of Directors’ remuneration, share options and awards under the HSBC Share Plan and HSBC Share Plan 2011 are included in the ‘Directors’ Remuneration Report’ on page 300 to 327.

 

7 Auditors’ remuneration

 

 

    2014     2013     2012  
    US$m     US$m     US$m  

Audit fees payable to KPMG1

  40.6      43.4      47.2   

Audit fees payable to non-KPMG entities

  1.2      1.1      1.4   

Year ended 31 December

                  41.8                      44.5                      48.6   

 

  1 Fees payable to KPMG for HSBC Holdings’ statutory audit and audit of HSBC’s subsidiaries, pursuant to legislation and includes fees payable for the current year. Excluded from the 2014 audit fees payable to KPMG is a net release of accruals of US$2.5 million relating to prior years and fees related to the transition of the audit to PwC of US$1.3 million.

The following fees were payable by HSBC to the Group’s principal auditor, KPMG Audit Plc and its associates (together ‘KPMG’):

 

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Notes on the Financial Statements (continued)

 

 

Fees payable by HSBC to KPMG

 

         2014          2013          2012  
         US$m          US$m          US$m  

Fees for HSBC Holdings’ statutory audit1

       13.4           12.9           13.2   

– relating to current year

       13.4           12.6           12.8   

– relating to prior year

                 0.3           0.4   

Fees for other services provided to HSBC

       62.5           67.5           67.3   

Audit of HSBC’s subsidiaries2

       27.2           30.5           34.0   

Audit-related assurance services3

       22.6           27.4           23.6   

Taxation-related services:

                    

– taxation compliance services

       1.5           1.3           2.1   

– taxation advisory services

       0.8           1.3           1.3   

Other assurance services

       0.7           0.5           1.1   

Other non-audit services4

       9.7           6.5           5.2   

 

              
                                  

Year ended 31 December

                  75.9                      80.4                      80.5   

 

  1 Fees payable to KPMG for the statutory audit of the consolidated financial statements of HSBC and the separate financial statements of HSBC Holdings. They include amounts payable for services relating to the consolidation returns of HSBC Holdings’ subsidiaries which are clearly identifiable as being in support of the Group audit opinion. Excluded from the 2014 fees is US$0.3m related to prior year and fees related to the transition of the audit to PwC of US$1.3m.
  2 Fees payable for the statutory audit of the financial statements of HSBC’s subsidiaries. Excluded from the 2014 fees is a net release of accruals of US$2.8m relating to prior years.
  3 Including services for assurance and other services that relate to statutory and regulatory filings, including comfort letters and interim reviews.
  4 Including valuation and actuarial services, translation services, ad-hoc accounting advice, review of financial models, advice on IT security and business continuity, corporate finance transactions and performing agreed-upon IT testing procedures.

No fees were payable by HSBC to KPMG for the following types of services: internal audit services, services related to litigation, recruitment and remuneration.

Fees payable by HSBC’s associated pension schemes to KPMG

 

    2014     2013     2012  
    US$000     US$000     US$000  

Audit of HSBC’s associated pension schemes

  322      379      256   

Audit related assurance services

  5      5        

Year ended 31 December

                     327                             384                             256   

No fees were payable by HSBC’s associated pension schemes to KPMG for the following types of services: audit related assurance services, internal audit services, other assurance services, services related to corporate finance transactions, valuation and actuarial services, litigation, recruitment and remuneration, and information technology.

In addition to the above, KPMG estimate they have been paid fees of US$3.6m (2013: US$5.3m; 2012: US$3.3m) by parties other than HSBC but where HSBC is connected with the contracting party and may therefore be involved in appointing KPMG. These fees arise from services such as auditing mutual funds managed by HSBC and reviewing the financial position of corporate concerns which borrow from HSBC.

Fees payable to KPMG for non-audit services for HSBC Holdings are not disclosed separately because such fees are disclosed on a consolidated basis for the HSBC Group.

 

8 Tax

 

Accounting policy

 

 

Income tax comprises current tax and deferred tax. Income tax is recognised in the income statement except to the extent that it relates to items recognised in other comprehensive income or directly in equity, in which case it is recognised in the same statement in which the related item appears.

 

Current tax is the tax expected to be payable on the taxable profit for the year, calculated using tax rates enacted or substantively enacted by the balance sheet date, and any adjustment to tax payable in respect of previous years. HSBC provides for potential current tax liabilities that may arise on the basis of the amounts expected to be paid to the tax authorities. Current tax assets and liabilities are offset when HSBC intends to settle on a net basis and the legal right to offset exists.

 

Deferred tax is recognised on temporary differences between the carrying amounts of assets and liabilities in the balance sheet and the amounts attributed to such assets and liabilities for tax purposes. Deferred tax liabilities are generally recognised for all taxable temporary differences and deferred tax assets are recognised to the extent that it is probable that future taxable profits will be available against which deductible temporary differences can be utilised.

 

Deferred tax is calculated using the tax rates expected to apply in the periods in which the assets will be realised or the liabilities settled, based on tax rates and laws enacted, or substantively enacted, by the balance sheet date. Deferred tax assets and liabilities are offset when they arise in the same tax reporting group and relate to income taxes levied by the same taxation authority, and when HSBC has a legal right to offset.

 

 

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Notes on the Financial Statements (continued)

 

 

 

Deferred tax relating to actuarial gains and losses on post-employment benefits is recognised in other comprehensive income. Deferred tax relating to share-based payment transactions is recognised directly in equity to the extent that the amount of the estimated future tax deduction exceeds the amount of the related cumulative remuneration expense. Deferred tax relating to fair value re-measurements of available-for-sale investments and cash flow hedging instruments is charged or credited directly to other comprehensive income and is subsequently recognised in the income statement when the deferred fair value gain or loss is recognised in the income statement.

 

Critical accounting estimates and judgements

 

 

Deferred tax assets

 

The recognition of a deferred tax asset relies on an assessment of the probability and sufficiency of future taxable profits, future reversals of existing taxable temporary differences and ongoing tax planning strategies. In absence of a history of taxable profits, the most significant judgements relate to expected future profitability and to the applicability of tax planning strategies, including corporate reorganisations.

 

Our US operations have a history of tax losses, but profitability is expected to improve. Tax planning strategies support the recognition of deferred tax assets in the US, with retention of capital in the US operations being a significant factor in recognising the deferred tax assets. Given the recent occurrence of tax losses, the recognition of deferred tax assets in Brazil takes into consideration both the reliance placed on management’s projection of income and on the use of strategies, such as corporate reorganisations and other initiatives, to improve the profitability of our Brazilian banking operations from a tax perspective.

 

Tax expense

 

         2014          2013          2012  
         US$m          US$m          US$m  

Current tax

              

UK corporation tax

       69           (8        250   

– for this year

       54           103           60   

– adjustments in respect of prior years

       15           (111        190   

Overseas tax1

                     3,881                         3,949                     5,560   

– for this year

       4,423           3,947           5,421   

– adjustments in respect of prior years

       (542        2           139   

 

              
                                  
    3,950      3,941      5,810   

Deferred tax

  25      824      (495

– origination and reversal of temporary differences

  (477   739      (269

– effect of changes in tax rates

  83      93      66   

– adjustments in respect of prior years

  419      (8   (292

 

              
                                  

Year ended 31 December

  3,975      4,765      5,315   

 

  1 Overseas tax included Hong Kong profits tax of US$1,135m (2013: US$1,133m; 2012: US$1,049m). The Hong Kong tax rate applying to the profits of subsidiaries assessable in Hong Kong was 16.5% (2013: 16.5%; 2012: 16.5%). Other overseas subsidiaries and overseas branches provided for taxation at the appropriate rates in the countries in which they operate.

Tax reconciliation

The tax charged to the income statement differs from the tax charge that would apply if all profits had been taxed at the UK corporation tax rate as follows:

 

    2014     2013     2012  
    US$m     %     US$m     %     US$m     %  

Profit before tax

  18,680      22,565      20,649   

Tax expense

Tax at 21.5% (2013: 23.25%; 2012: 24.5%)

  4,016      21.5      5,246      23.25      5,057      24.5   

Effect of differently taxed overseas profits

  33      0.2      (177   (0.8   (57   (0.3

Adjustments in respect of prior period liabilities

  (108   (0.6   (117   (0.5   37      0.2   

Deferred tax temporary differences not recognised/ (previously not recognised)

  (154   (0.8   332      1.5      374      1.8   

Effect of profits in associates and joint ventures

  (547   (2.9   (543   (2.4   (872   (4.3

Tax effect of disposal of Ping An

            (111   (0.5   (204   (1.0

Tax effect of reclassification of Industrial Bank

            (317   (1.4          

Non-taxable income and gains

  (668   (3.5   (871   (3.9   (542   (2.6

Permanent disallowables

  969      5.1      647      2.9      1,092      5.3   

Change in tax rates

  22      0.1      93      0.4      78      0.4   

Local taxes and overseas withholding taxes

  434      2.3      551      2.4      581      2.8   

Other items

  (22   (0.1   32      0.1      (229   (1.1

Year ended 31 December

          3,975                21.3              4,765                21.1              5,315                25.7   

 

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Notes on the Financial Statements (continued)

 

 

The effective tax rate for the year was 21.3% compared with 21.1% for 2013. The effective tax rate for the year reflected the recurring benefits from tax exempt income from government bonds and equities held by a number of Group entities and recognition of the Group’s share of post-tax profits of associates and joint ventures within our pre-tax income, together with a current tax credit for prior periods offset in part by non-tax-deductible settlements and provision in connection with foreign exchange investigations. The effective tax rate in 2013 was lower because of benefits from non-taxable gains offset in part by a write-down of deferred tax assets.

The main rate of corporation tax in the UK reduced from 23% to 21% on 1 April 2014 and will be further reduced to 20% on 1 April 2015. The reduction in the corporate tax rate to 20% was enacted through the 2013 Finance Act on 17 July 2013. It is not expected that the future rate reduction will have a significant effect on the Group.

The Group’s legal entities are subject to routine review and audit by tax authorities in the territories in which the Group operates. Where the ultimate tax treatment is uncertain, the Group provides for potential tax liabilities that may arise on the basis of the amounts expected to be paid to the tax authorities. The amounts ultimately paid may differ materially from the amounts provided depending on the ultimate resolution of such matters.

Deferred taxation

The table overleaf shows the gross deferred tax assets and liabilities recognised in the balance sheet and the related amounts recognised in the income statement, other comprehensive income and directly in equity.

The amounts presented in the balance sheet are different from the amounts disclosed in the table overleaf as they are presented after offsetting asset and liability balances where HSBC has the legal right to set-off and intends to settle on a net basis. The net deferred tax assets totalled US$5.6bn at 31 December 2014 (2013: US$6.5bn). The main items to note are:

US

The net deferred tax asset relating to HSBC’s operations in the US was US$4.1bn (2013: US$4.4bn). The deferred tax assets included in this total reflected the carry forward of tax losses and tax credits of US$0.9bn (2013: US$0.7bn), deductible temporary differences in respect of loan impairment allowances of US$0.8bn (2013: US$1.2bn) and other temporary differences of US$2.4bn (2013: US$2.5bn).

Deductions for loan impairments for US tax purposes generally occur when the impaired loan is charged off, or if earlier, when the impaired loan is sold. The tax deduction is often in the period subsequent to that in which the impairment is recognised for accounting purposes. As a result, the amount of the associated deferred tax asset should generally move in line with the impairment allowance balance.

On the evidence available, including historical levels of profitability, management projections of future income and HSBC Holdings’ commitment to continue to retain sufficient capital in North America to recover the deferred tax asset, it is expected that there will be sufficient taxable income generated by the business to realise these assets.

Management projections of profits from the US operations currently indicate that tax losses and tax credits will be fully recovered by 2017. The current level of the deferred tax asset in respect of loan impairment allowances and other deductible temporary differences is projected to reduce over the next four years.

As there has been a recent history of losses in HSBC’s US operations, management’s analysis of the recognition of these deferred tax assets significantly discounts any future expected profits from the US operations and relies on capital support from HSBC Holdings, including tax planning strategies in relation to such support. The principal strategy involves generating future taxable profits through the retention of capital in the US in excess of normal regulatory requirements in order to reduce deductible funding expenses or otherwise deploy such capital to increase levels of taxable income. As financial performance in our US operations improves it is expected that projected future profits from US operations will be relied on in the evaluation of the recognition of the deferred tax asset in future periods as the sustainability of the improving financial performance is demonstrated.

Brazil

The net deferred tax asset relating to HSBC’s operations in Brazil was US$1.3bn (2013: US$1.0bn). The deferred tax assets included in this total reflected the carry forward of tax losses of US$0.3bn (2013: US$0.1bn), deductible temporary differences in respect of loan impairment allowances of US$0.7bn (2013: US$0.7bn) and other temporary differences of US$0.3bn (2013: US$0.2bn).

Deductions for loan impairments for Brazilian tax purposes generally occur when the impaired loan is charged off, often in the period subsequent to that in which the impairment is recognised for accounting purposes. As a result, the amount of the associated deferred tax asset should generally move in line with the impairment allowance balance.

Management projections of profits from the Brazilian banking operations currently indicate that the tax losses and other temporary differences will be substantially recovered within the next five to eight years. Loan impairment deductions are recognised for tax purposes typically within two to three years of the accounting recognition.

 

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Notes on the Financial Statements (continued)

 

 

Mexico

The net deferred tax asset relating to HSBC’s operations in Mexico was US$0.5bn (2013: US$0.5bn). The deferred tax assets included in this total related primarily to deductible temporary differences in respect of accounting provisions for impaired loans.

Management’s analysis of the recognition of these deferred tax assets relies on the primary strategy of selling certain loan portfolios, the losses on which are deductible for tax in Mexico when sold. Any such deductions for tax would lead to the reversal of the carried forward loan impairment provision recognised for deferred tax purposes. The deferred tax balances are carried forward to future years without expiry.

In September 2013, the Mexican Government proposed a number of tax reforms that were approved by the Chamber of Senate in October 2013 and published in the Official Gazette in December 2013. The tax reforms included a new basis of tax deduction for loan impairment charges that will allow banks to recognise tax deductions as and when loans are written off the balance sheet. The reforms also brought in transitional rules to allow banks to continue to claim any unclaimed deductions as at 31 December 2013. On 4 July 2014, the Mexican Government issued rule I.3.22.5 of the Miscellaneous Tax Resolution that clarified the treatment of the transitional rules, but had no impact on the deferred tax assets held in our operations in Mexico.

On the evidence available, including historical and projected levels of loan portfolio growth, loan impairment rates and profitability, it is expected that the business will realise these assets over the next five years.

There were no material carried forward tax losses or tax credits recognised within the Group’s deferred tax assets in Mexico.

UK

The net deferred tax liability relating to HSBC’s operations in the UK was US$0.4bn (2013: asset of US$0.4bn). The deferred tax liabilities included in this total related primarily to retirement benefits.

There were no material carried forward tax losses or tax credits recognised within the Group’s deferred tax assets in the UK.

Unrecognised deferred tax

The amount of temporary differences, unused tax losses and tax credits for which no deferred tax asset is recognised in the balance sheet was US$22.6bn (2013: US$22.0bn). These amounts included unused state losses arising in our US operations of US$14.1bn (2013: US$17.3bn).

Of the total amounts unrecognised, US$4.2bn (2013: US$5.0bn) had no expiry date, US$0.9bn (2013: US$1.0bn) was scheduled to expire within 10 years and the remaining will expire after 10 years.

Deferred tax is not recognised in respect of the Group’s investments in subsidiaries and branches where remittance or other realisation is not probable, and for those associates and interests in joint ventures where it has been determined that no additional tax will arise. No amount is disclosed for the unrecognised deferred tax or the 2014 and 2013 temporary differences associated with such investments as it is impracticable to determine the amount of income taxes that would be payable when any temporary differences reverse. Deferred tax of US$132m (2013: US$20m) has, however, been provided in respect of distributable reserves of associates that, on distribution, would attract withholding tax.

 

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Notes of Financial Statements (continued)

 

 

Movement of deferred tax assets and liabilities

 

 

 

Retirement

benefits

  

  

 

 

 

Loan

impairment

provisions

  

  

  

 

 

 

Unused tax

losses and

tax credits

  

  

  

 

 

 

 

 

 

Accelerated

capital

allowances

and assets

leased to

customers

  

  

  

  

  

  

 

 

 

Available-

for-sale

investments

  

  

  

 

 

 

Cash

flow

    hedges

  

  

  

 

 

 

Share-

based

payments

  

  

  

 

 

Fee

  income

  

  

 

 

 

 

Derivatives,

FVOD

and other

investments

  

1 

  

  

 

 

 

Insurance

technical

provisions

  

  

  

 

 

Expense

provisions

  

  

  Other      Total   
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m             US$m             US$m  

Assets

  274      2,837      978      549           211      253           1,383           1,398      461      8,344   

Liabilities

                 (144   (298   (24        (59   (213   (840        (220   (1,798

At 1 January 2014

  274      2,837      978      405      (298   187      253      (59   1,170      (840   1,398      241      6,546   

Acquisitions and disposals

                                                                

Income statement

  (57   (408   396      (17   (2   (3   (3   2      361      (76   (86   (132   (25

Other comprehensive income

  (438                  (203   (87             (12             48      (692

Equity

                                (20                            (20

Foreign exchange and other adjustments

  10      (165   (42   (26   11      1      (21   1      12      55      (68   10      (222

At 31 December 2014

  (211   2,264      1,332      362      (492   98      209      (56   1,531      (861   1,244      167      5,587   

Assets

       2,264      1,332      362           98      209           1,764           1,244      167      7,440   

Liabilities

  (211                  (492             (56   (233   (861             (1,853

Assets

  469      3,912      617      473           285      305           1,530           1,457      (22   9,026   

Liabilities

                 (226   (1,203   (44        (105   (162   (815        (10   (2,565

At 1 January 2013

  469      3,912      617      247      (1,203   241      305      (105   1,368      (815   1,457      (32   6,461   

Acquisitions and disposals

            (9        (3   1                               (26   (37

Income statement

  (419   (985   399      123      (53   (91   (49   42      (165   (72   47      399      (824

Other comprehensive income

  169                     1,026      38                (12                  1,221   

Equity

                                (2                            (2

Foreign exchange and other adjustments

  55      (90   (29   35      (65   (2   (1   4      (21   47      (106   (100   (273

At 31 December 2013

  274      2,837      978      405      (298   187      253      (59   1,170      (840   1,398      241      6,546   

Assets

  274      2,837      978      549           211      253           1,383           1,398      461      8,344   

Liabilities

                 (144   (298   (24        (59   (213   (840        (220   (1,798

 

  1    Fair value of own debt.

 

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Notes on the Financial Statements (continued)

 

 

HSBC Holdings

Movement of deferred tax assets

 

   

Accelerated

capital

allowances

   

Available-

for-sale

investments

   

Other

Investments

   

Share-

based

    payments

   

Other short-

term timing

differences

    Total  
    US$m     US$m     US$m     US$m     US$m               US$m  

At 1 January 2014

  2      (23   19      11      4      13   

Income statement

            3      2      1      6   

Other comprehensive income

       (36                  (36

At 31 December 2014

  2      (59   22      13      5      (17

At 1 January 2013

  2      (31   31      12           14   

Income statement

            (12   (1   4      (9

Other comprehensive income

       8                     8   

At 31 December 2013

  2      (23   19      11      4      13   

The amount of unused tax losses for which no deferred tax asset is recognised in the balance sheet was US$3,760m (2013: US$3,405m) of which US$10m (2013: US$9m) relate to capital losses. On the evidence available, including historical levels of profitability and management projections of future income, it is expected that there will be not sufficient taxable income generated by the business to recover the tax losses carried forward by HSBC Holdings. The losses have no expiry date.

 

9 Dividends

 

Dividends to shareholders of the parent company

 

    2014     2013     2012  
   

Per

share

US$

    Total
US$m
   

Settled

in scrip
US$m

   

Per

share
US$

    Total
US$m
   

Settled

in scrip
US$m

    Per
share
US$
    Total
US$m
   

Settled

in scrip
US$m

 

Dividends paid on ordinary shares

In respect of previous year:

– fourth interim dividend

  0.19      3,582      1,827      0.18      3,339      540      0.14      2,535      259   

In respect of current year:

– first interim dividend

  0.10      1,906      284      0.10      1,861      167      0.09      1,633      748   

– second interim dividend

  0.10      1,914      372      0.10      1,864      952      0.09      1,646      783   

– third interim dividend

  0.10      1,918      226      0.10      1,873      864      0.09      1,655      639   

Total

        0.49          9,320          2,709            0.48          8,937          2,523            0.41          7,469          2,429   

Total dividends on preference shares classified as equity (paid quarterly)

  62.00      90      62.00      90      62.00      90   

Total coupons on capital securities classified as equity

 

          2014     2013     2012  
    First     Per security     Total     Per security     Total     Per security     Total  
    call date     US$             US$m     US$             US$m     US$             US$m  

Perpetual subordinated capital securities1

– US$2,200m

  Apr 2013      2.032      179      2.032      179      2.032      179   

– US$3,800m

  Dec 2015      2.000      304      2.000      304      2.000      304   

Total

  483      483      483   

 

  1 Coupons are paid quarterly on the perpetual subordinated capital securities.

The Directors declared after the end of the year a fourth interim dividend in respect of the financial year ended 31 December 2014 of US$0.20 per ordinary share, a distribution of approximately US$3,844m. The fourth interim dividend will be payable on 30 April 2015 to holders of record on 6 March 2015 on the Principal Register in the UK, the Hong Kong or the Bermuda Overseas Branch registers. No liability is recorded in the financial statements in respect of the fourth interim dividend for 2014.

On 15 January 2015, HSBC paid a coupon on the perpetual subordinated capital securities of US$0.508 per security, a distribution of US$45m. No liability was recorded in the balance sheet at 31 December 2014 in respect of this coupon payment.

In September 2014, HSBC issued three contingent convertible securities as set out on page 438 which are classified as equity under IFRSs. Coupons are paid semi-annually on the contingent convertible securities and none fell due in 2014. On 20 January 2015, HSBC paid a coupon on one of the contingent convertible securities of US$28.125 per security, a distribution of US$28m. No liability was recorded in the balance sheet at 31 December 2014 in respect of this coupon payment.

 

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Notes on the Financial Statements (continued)

 

 

The reserves available for distribution at 31 December 2014 were US$48,883m.

 

10 Earnings per share

 

‘Basic earnings per ordinary share’ is calculated by dividing the profit attributable to ordinary shareholders of the parent company by the weighted average number of ordinary shares outstanding, excluding own shares held. ‘Diluted earnings per ordinary share’ is calculated by dividing the basic earnings, which require no adjustment for the effects of dilutive potential ordinary shares, by the weighted average number of ordinary shares outstanding, excluding own shares held, plus the weighted average number of ordinary shares that would be issued on conversion of dilutive potential ordinary shares.

Profit attributable to the ordinary shareholders of the parent company

 

         2014          2013          2012  
         US$m          US$m          US$m  

Profit attributable to shareholders of the parent company

       13,688           16,204           14,027   

Dividend payable on preference shares classified as equity

       (90        (90        (90

Coupon payable on capital securities classified as equity

       (483        (483        (483

Year ended 31 December

                   13,115                       15,631                       13,454   

Basic and diluted earnings per share

 

         2014          2013          2012  
        

Profit

      US$m

        

Number

of shares

(millions)

        

Per

      share

US$

        

Profit

      US$m

        

Number

of shares

(millions)

         Per
      share
US$
        

Profit

      US$m

        

Number

of shares

(millions)

         Per
      share
US$
 

Basic1

       13,115           18,960           0.69           15,631           18,530           0.84           13,454           18,125           0.74   

Effect of dilutive potential ordinary shares

                 96                               124                               146             

Diluted1

       13,115           19,056           0.69           15,631           18,654           0.84           13,454           18,271           0.74   

 

  1 Weighted average number of ordinary shares outstanding (basic) or assuming dilution (diluted).

The weighted average number of dilutive potential ordinary shares excluded 6m employee share options that were anti-dilutive (2013: 60m; 2012: 103m).

 

11 Segmental analysis

 

Accounting policy

 

 

HSBC has a matrix management structure. HSBC’s chief operating decision-maker is the Group Management Board (‘GMB’) which operates as a general management committee under the direct authority of the Board. The GMB regularly reviews operating activity on a number of bases, including by geographical region and by global business. HSBC considers that geographical operating segments represent the most appropriate information for the users of the financial statements to best evaluate the nature and financial effects of the business activities in which HSBC engages, and the economic environments in which it operates. This reflects the importance of geographical factors on business strategy and performance, the allocation of capital resources, and the role of geographical regional management in executing strategy. As a result, HSBC’s operating segments are considered to be geographical regions.

 

Geographical information is classified by the location of the principal operations of the subsidiary or, for The Hongkong and Shanghai Banking Corporation, HSBC Bank, HSBC Bank Middle East and HSBC Bank USA, by the location of the branch responsible for reporting the results or providing funding.

 

Measurement of segmental assets, liabilities, income and expenses is in accordance with the Group’s accounting policies. Segmental income and expenses include transfers between segments and these transfers are conducted at arm’s length. Shared costs are included in segments on the basis of the actual recharges made. The expense of the UK bank levy is included in the Europe geographical region as HSBC regards the levy as a cost of carrying on business and being headquartered in the UK.

 

Products and services

HSBC provides a comprehensive range of banking and related financial services to its customers in its five geographical regions. The products and services offered to customers are organised by global business.

 

    Retail Banking and Wealth Management (‘RBWM’) offers a broad range of products and services to meet the personal banking and wealth management needs of individual customers. Typically, customer offerings include personal banking products (current and savings accounts, mortgages and personal loans, credit cards, debit cards and local and international payment services) and wealth management services (insurance and investment products, global asset management services and financial planning services).

 

    Commercial Banking (‘CMB’) offers a broad range of products and services to serve the needs of our commercial customers, including small and medium-sized enterprises, mid-market enterprises and corporates. These include credit and lending, international trade and receivables finance, treasury management and liquidity solutions (payments and cash management and commercial cards), commercial insurance and investments. CMB also offers its customers access to products and services offered by other global businesses, for example Global Banking & Markets (‘GB&M’), which include foreign exchange products, raising capital on debt and equity markets and advisory services.

 

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Notes on the Financial Statements (continued)

 

 

    GB&M provides tailored financial solutions to major government, corporate and institutional clients and private investors worldwide. The client-focused business lines deliver a full range of banking capabilities including financing, advisory and transaction services, a markets business that provides services in credit, rates, foreign exchange, equities, money markets and securities services, and principal investment activities.

 

    Global Private Banking (‘GPB’) provides a range of services to high net worth individuals and families with complex and international needs within the Group’s priority markets.

Change in operating segments

HSBC’s operating segments are Europe, Asia, Middle East and North Africa (‘MENA’), North America and Latin America. Previously, HSBC’s operating segments were reported as Europe, Hong Kong, Rest of Asia-Pacific, Middle East and North Africa, North America and Latin America. Hong Kong and Rest of Asia-Pacific are no longer regarded as separate reportable operating segments, having considered the geographical financial information presented to the chief operating decision maker. From 1 January 2014, they have been replaced by a new operating segment, ‘Asia’, which better aligns with internal management information used for evaluation when making business decisions and resource allocations. The chief operating decision-maker continues to be the GMB and the basis for measuring segmental results has not changed. Comparative financial information has been re-presented accordingly.

There has been no change in the underlying business operations comprising the Asia segment. Reported net operating income in Asia for the year to 31 December 2014 was US$23,677m (31 December 2013: US$24,432m; 31 December 2012: US$25,332m). This was US$713m lower (31 December 2013: US$749m lower; 31 December 2012: US$674m lower) than would be calculated by adding net operating income reported for Hong Kong and Rest of Asia-Pacific on an individual basis. The reduction in net operating income is offset by an equal decrease in operating expenses. The difference relates to shared service recharges and business activity undertaken between the two regions which form revenue or expense on an individual basis, but are eliminated as ‘intra-segment’ activity when reported as Asia. There is no difference between profit before tax reported for Asia and that which would be calculated by adding the profit before tax of Hong Kong and Rest of Asia-Pacific on an individual basis.

Profit/(loss) for the year

 

    Europe     Asia     MENA    

North

America

   

Latin

America

   

Intra-

HSBC items

    Total  
    US$m     US$m     US$m     US$m     US$m     US$m     US$m  

2014

Net interest income

  10,611      12,273      1,519      5,015      5,310      (23   34,705   

Net fee income

  6,042      5,910      650      1,940      1,415           15,957   

Net trading income

  2,534      2,622      314      411      856      23      6,760   

Other income

  2,384      2,872      65      786      691      (2,972   3,826   

Net operating income1

  21,571      23,677      2,548      8,152      8,272      (2,972   61,248   

Loan impairment (charges)/recoveries and other credit risk provisions

  (764   (647   6      (322   (2,124        (3,851

Net operating income

          20,807              23,030                2,554                7,830                6,148      (2,972         57,397   
             

Employee compensation and benefits

  (8,191   (5,862   (676   (3,072   (2,565        (20,366

General and administrative expenses

  (11,076   (3,959   (500   (3,108   (2,894   2,972      (18,565

Depreciation and impairment of property, plant and equipment

  (543   (389   (28   (180   (242        (1,382

Amortisation and impairment of intangible assets

  (407   (217   (12   (69   (231        (936

Total operating expenses

  (20,217   (10,427   (1,216   (6,429   (5,932   2,972      (41,249

Operating profit

  590      12,603      1,338      1,401      216           16,148   

Share of profit in associates and joint ventures

  6      2,022      488      16                2,532   

Profit before tax

  596      14,625      1,826      1,417      216           18,680   

Tax expense

  (853   (2,542   (339   (195   (46        (3,975

Profit/(loss) for the year

  (257   12,083      1,487      1,222      170           14,705   

 

HSBC HOLDINGS PLC

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Table of Contents

Notes on the Financial Statements (continued)

 

 

Profit/(loss) for the year (continued)

 

    Europe     Asia     MENA    

North

America

   

Latin

America

   

Intra-

HSBC items

    Total  
    US$m     US$m     US$m     US$m     US$m     US$m     US$m  

2013

Net interest income

  10,693      11,432      1,486      5,742      6,186           35,539   

Net fee income

  6,032      5,936      622      2,143      1,701           16,434   

Net trading income

  4,423      2,026      357      948      936           8,690   

Other income/(expense)

  (181   5,038      38      (30   1,745      (2,628   3,982   

Net operating income1

          20,967              24,432                2,503                8,803              10,568      (2,628         64,645   

Loan impairment (charges)/recoveries and other credit risk provisions

  (1,530   (498   42      (1,197   (2,666        (5,849

Net operating income

  19,437      23,934      2,545      7,606      7,902      (2,628   58,796   
             

Employee compensation and benefits

  (7,175   (5,666   (634   (3,098   (2,623        (19,196

General and administrative expenses

  (9,479   (3,660   (607   (3,051   (2,896   2,628      (17,065

Depreciation and impairment of property, plant and equipment

  (559   (392   (35   (176   (202        (1,364

Amortisation and impairment of intangible assets

  (400   (218   (13   (91   (209        (931

Total operating expenses

  (17,613   (9,936   (1,289   (6,416   (5,930   2,628      (38,556

Operating profit

  1,824      13,998      1,256      1,190      1,972           20,240   

Share of profit in associates and joint ventures

  1      1,855      438      31                2,325   

Profit before tax

  1,825      15,853      1,694      1,221      1,972           22,565   

Tax expense

  (1,279   (2,170   (328   (313   (675        (4,765

Profit for the year

  546      13,683      1,366      908      1,297           17,800   

2012

Net interest income

  10,394      10,707      1,470      8,117      6,984           37,672   

Net fee income

  6,169      5,418      595      2,513      1,735           16,430   

Net trading income

  2,707      2,516      390      507      971           7,091   

Gains on disposal of US branch network, US cards business and Ping An

       3,012           4,012                7,024   

Other income/(expense)

  (1,662   3,679      (25   (456   1,261      (2,684   113   

Net operating income1

  17,608      25,332      2,430      14,693      10,951      (2,684   68,330   

Loan impairment charges and other credit risk provisions

  (1,921   (510   (286   (3,457   (2,137        (8,311

Net operating income

  15,687      24,822      2,144      11,236      8,814      (2,684   60,019   
             

Employee compensation and benefits

  (8,070   (5,712   (652   (3,243   (2,814        (20,491

General and administrative expenses

  (10,059   (3,619   (459   (5,413   (3,117   2,684      (19,983

Depreciation and impairment of property, plant and equipment

  (597   (427   (44   (195   (221        (1,484

Amortisation and impairment of intangible assets

  (369   (222   (11   (89   (278        (969

Total operating expenses

  (19,095   (9,980   (1,166   (8,940   (6,430   2,684      (42,927

Operating profit/(loss)

  (3,408   14,842      978      2,296      2,384           17,092   

Share of profit/(loss) in associates and joint ventures

  (6   3,188      372      3                3,557   

Profit/(loss) before tax

  (3,414   18,030      1,350      2,299      2,384           20,649   

Tax expense

  (173   (2,711   (254   (1,313   (864        (5,315

Profit/(loss) for the year

  (3,587   15,319      1,096      986      1,520           15,334   

 

  1 Net operating income before loan impairment charges and other credit risk provisions, also referred to as revenue.

 

HSBC HOLDINGS PLC

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Table of Contents

Notes on the Financial Statements (continued)

 

 

Other information about the profit/(loss) for the year

 

    Europe     Asia     MENA    

North

America

   

Latin

America

   

Intra-

HSBC items

    Total  
    US$m     US$m     US$m     US$m     US$m     US$m     US$m  

2014

Net operating income1

  21,571      23,677      2,548      8,152      8,272      (2,972   61,248   

– external

          20,450              22,071                2,524                7,937                8,266                 61,248   

– inter-segment

  1,121      1,606      24      215      6      (2,972     

Profit for the year includes the following significant non-cash items:

Depreciation, amortisation and impairment

  950      606      40      182      473           2,251   

Loan impairment losses gross of recoveries and other credit risk provisions

  1,066      800      37      437      2,466           4,806   

Impairment of financial investments

  (256   286           14      10           54   

Changes in fair value of long-term debt and related derivatives

  614      (4   (3   (99             508   

Restructuring costs

  117      7      2      28      57           211   

2013

Net operating income1

  20,967      24,432      2,503      8,803      10,568      (2,628   64,645   

– external

  20,108      22,853      2,497      8,569      10,618           64,645   

– inter-segment

  859      1,579      6      234      (50   (2,628     

Profit for the year includes the following significant non-cash items:

Depreciation, amortisation and impairment

  957      610      48      303      412           2,330   

Loan impairment losses gross of recoveries and other credit risk provisions

  2,165      665      45      1,321      2,949           7,145   

Impairment of financial investments

  (61   4           15      6           (36

Changes in fair value of long-term debt and related derivatives

  (936   (1   (3   (288             (1,228

Restructuring costs

  211      79      3      100      42           435   

2012

Net operating income1

  17,608      25,332      2,430      14,693      10,951      (2,684   68,330   

– external

  16,405      23,893      2,455      14,566      11,011           68,330   

– inter-segment

  1,203      1,439      (25   127      (60   (2,684     

Profit for the year includes the following significant non-cash items:

Depreciation, amortisation and impairment

  966      649      55      363      499           2,532   

Loan impairment losses gross of recoveries and other credit risk provisions

  2,329      691      361      3,587      2,489           9,457   

Impairment of financial investments

  420      62      1      32      4           519   

Changes in fair value of long-term debt and related derivatives

  (3,091   (4   (13   (1,219             (4,327

Restructuring costs

  292      128      27      219      94           760   

 

  1 Net operating income before loan impairment charges and other credit risk provisions, also referred to as revenue.

 

HSBC HOLDINGS PLC

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Table of Contents

Notes on the Financial Statements (continued)

 

 

Balance sheet information

 

    Europe     Asia     MENA    

North

America

   

Latin

America

   

Intra-

HSBC items

    Total  
    US$m     US$m     US$m     US$m     US$m     US$m     US$m  

At 31 December 2014

Loans and advances to customers

  409,733      362,955      29,063      129,787      43,122           974,660   

Interests in associates and joint ventures

  175      14,958      2,955      83      10           18,181   

Total assets

    1,290,926           878,723             62,417           436,859           115,354      (150,140     2,634,139   

Customer accounts

  545,959      577,491      39,720      138,884      48,588           1,350,642   

Total liabilities

  1,223,371      807,998      52,569      398,356      102,007      (150,140   2,434,161   

Capital expenditure incurred1

  1,168      637      25      208      348           2,386   

At 31 December 2013

Loans and advances to customers

  456,110      336,897      27,211      127,953      43,918           992,089   

Interests in associates and joint ventures

  169      13,822      2,575      74                16,640   

Total assets

  1,392,959      831,791      60,810      432,035      113,999      (160,276   2,671,318   

Customer accounts

  581,933      548,483      38,683      140,809      51,389           1,361,297   

Total liabilities

  1,326,537      770,938      50,706      393,635      99,319      (160,276   2,480,859   

Capital expenditure incurred1

  907      1,236      32      265      385           2,825   

At 31 December 2012

Loans and advances to customers

  436,141      310,665      28,086      134,475      53,605           962,972   

Interests in associates and joint ventures

  178      15,309      2,262      85                17,834   

Total assets

  1,389,240      804,709      62,605      490,247      131,277      (185,540   2,692,538   

Customer accounts

  535,215      529,754      39,583      141,700      65,144           1,311,396   

Total liabilities

  1,327,487      749,561      53,498      450,480      113,923      (185,540   2,509,409   

Capital expenditure incurred1

  925      544      102      248      458           2,277   

 

  1 Expenditure incurred on property, plant and equipment and other intangible assets. Excludes assets acquired as part of business combinations and goodwill.

Other financial information

Net operating income by global business

 

  RBWM      CMB      GB&M      GPB      Other 1   
 
Intra-
HSBC items
  
  
  Total   
    US$m     US$m     US$m     US$m     US$m     US$m     US$m  

2014

Net operating income2

  24,594      16,303      17,778      2,377      6,365      (6,169   61,248   

– external

          22,692              16,879              20,055                1,980      (358              61,248   

– internal

  1,902      (576   (2,277   397      6,723      (6,169     

2013

Net operating income2

  26,740      16,365      19,176      2,439                5,651      (5,726   64,645   

– external

  25,038      17,241      20,767      1,955      (356        64,645   

– internal

  1,702      (876   (1,591   484      6,007      (5,726     

2012

Net operating income2

  33,861      16,551      18,273      3,172      2,332      (5,859   68,330   

– external

  31,980      17,295      20,410      2,413      (3,768        68,330   

– internal

  1,881      (744   (2,137   759      6,100      (5,859     

 

  1 The main items reported in the ‘Other’ category are certain property activities, unallocated investment activities, centrally held investment companies, movements in fair value of own debt and HSBC’s holding company and financing operations. The ‘Other’ category also includes gains and losses on the disposal of certain significant subsidiaries or business units.
  2 Net operating income before loan impairment charges and other credit risk provisions, also referred to as revenue.

 

HSBC HOLDINGS PLC

375


Table of Contents

Notes on the Financial Statements (continued)

 

 

Information by country

 

    2014     2013     2012  
 
 

 

External net
operating

income

  
  

1,2 

 

 

 

Non-

        current

assets

  

  

3 

 

 

 

External net

operating

income

  

  

1,2 

 
 

 

Non-
        current

assets

  
  

3 

 

 

 

External net

operating

income

  

  

1,2 

 
 

 

Non-
        current

assets

  
  

3 

    US$m     US$m     US$m     US$m     US$m     US$m  

UK

  14,392      8,671      13,347      17,481      9,149      18,391   

Hong Kong

  12,656      12,376      12,031      12,170      11,307      11,657   

USA

  5,736      5,685      6,121      4,189      11,779      6,718   

France

  2,538      10,301      3,111      11,565      2,881      11,074   

Brazil

  4,817      1,403      5,364      1,715      6,395      2,017   

Other countries

  21,109      28,273      24,671      27,879      26,819      30,078   

Year ended/at 31 December

  61,248      66,709      64,645      74,999      68,330      79,935   

 

  1 External net operating income is attributed to countries on the basis of the location of the branch responsible for reporting the results or advancing the funds.
  2 Net operating income before loan impairment charges and other credit risk provisions, also referred to as revenue.
  3 Non-current assets consist of property, plant and equipment, goodwill, other intangible assets, interests in associates and joint ventures and certain other assets expected to be recovered more than 12 months after the reporting period.

Financial information presented on our previous geographical operating segments

 

    Europe    

Hong

Kong

   

Rest of

Asia-

Pacific

    MENA    

North

America

   

Latin

America

   

Intra-

HSBC

items

    Total  
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m  

Net operating income1

2014

Net operating income

  21,571      13,844      10,546      2,548      8,152      8,272      (3,685   61,248   

– external

  20,450      12,656      9,415      2,524      7,937      8,266           61,248   

– inter-segment

  1,121      1,188      1,131      24      215      6      (3,685     

2013

Net operating income

  20,967      13,203      11,978      2,503      8,803      10,568      (3,377   64,645   

– external

  20,108      12,031      10,822      2,497      8,569      10,618           64,645   

– inter-segment

  859      1,172      1,156      6      234      (50   (3,377     

2012

Net operating income

  17,608      12,422      13,584      2,430      14,693      10,951      (3,358   68,330   

– external

  16,405      11,307      12,586      2,455      14,566      11,011           68,330   

– inter-segment

  1,203      1,115      998      (25   127      (60   (3,358     

Profit/(loss) before tax

Year to:

31 December 2014

  596      8,142      6,483      1,826      1,417      216           18,680   

31 December 2013

  1,825      8,089      7,764      1,694      1,221      1,972           22,565   

31 December 2012

  (3,414   7,582      10,448      1,350      2,299      2,384           20,649   

Balance sheet information

At 31 December 2014

Total assets

  1,290,926         587,534         359,757           62,417         436,859         115,354        (218,708   2,634,139   

Total liabilities

  1,223,371      556,388      320,178      52,569      398,356      102,007      (218,708   2,434,161   

At 31 December 2013

Total assets

  1,392,959      555,413      335,937      60,810      432,035      113,999      (219,835   2,671,318   

Total liabilities

  1,326,537      523,579      306,918      50,706      393,635      99,319      (219,835   2,480,859   

At 31 December 2012

Total assets

  1,389,240      518,334      342,269      62,605      490,247      131,277      (241,434   2,692,538   

Total liabilities

  1,327,487      496,640      308,815      53,498      450,480      113,923      (241,343   2,509,409   

 

  1 Net operating income before loan impairment charges and other credit risk provisions.

 

HSBC HOLDINGS PLC

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Table of Contents

Notes on the Financial Statements (continued)

 

 

12 Trading assets

 

Accounting policy

 

 

Financial assets are classified as held for trading if they have been acquired principally for the purpose of selling in the near term, or form part of a portfolio of identified financial instruments that are managed together and for which there is evidence of a recent pattern of short-term profit-taking. They are recognised on trade date, when HSBC enters into contractual arrangements with counterparties, and are normally derecognised when sold. They are initially measured at fair value, with transaction costs taken to the income statement. Subsequent changes in their fair values are recognised in the income statement in ‘Net trading income’. For trading assets, the interest is shown in ‘Net trading income’.

 

Trading assets

 

         2014          2013  
         US$m          US$m  

Trading assets:

         

– not subject to repledge or resale by counterparties

               247,586                   201,492   

– which may be repledged or resold by counterparties

       56,607           101,700   

At 31 December

       304,193           303,192   

Treasury and other eligible bills

       16,170           21,584   

Debt securities

       141,532           141,644   

Equity securities

       75,249           63,891   

Trading securities at fair value

       232,951           227,119   

Loans and advances to banks1

       27,581           27,885   

Loans and advances to customers1

       43,661           48,188   

At 31 December

       304,193           303,192   

 

  1 Loans and advances to banks and customers include reverse repos, settlement accounts, stock borrowing and other amounts.

Trading securities valued at fair value1

 

         2014          2013  
         US$m          US$m  

US Treasury and US Government agencies2

       25,880           23,450   

UK Government

       9,280           11,591   

Hong Kong Government

       6,946           5,909   

Other government

       78,774           86,714   

Asset-backed securities3

       3,494           2,736   

Corporate debt and other securities

       33,328           32,828   

Equity securities

       75,249           63,891   

At 31 December

               232,951                   227,119   

 

  1 Included within these figures are debt securities issued by banks and other financial institutions of US$22,399m (2013: US$22,989m), of which US$2,949m (2013: US$3,973m) are guaranteed by various governments.
  2 Includes securities that are supported by an explicit guarantee issued by the US Government.
  3 Excludes asset-backed securities included under US Treasury and US Government agencies.

Trading securities listed on a recognised exchange and unlisted

 

        

Treasury

and other

eligible bills

        

Debt

securities

         Equity
securities
         Total  
         US$m          US$m          US$m          US$m  

Fair value

                   

Listed1

       1,311           98,028           74,542           173,881   

Unlisted2

       14,859           43,504           707           59,070   

At 31 December 2014

       16,170                   141,532                     75,249                   232,951   

Fair value

                   

Listed1

       194           85,821           62,724           148,739   

Unlisted2

       21,390           55,823           1,167           78,380   

At 31 December 2013

       21,584           141,644           63,891           227,119   

 

  1 Included within listed investments are US$5,956m (2013: US$3,836m) of securities listed in Hong Kong.
  2 Unlisted treasury and other eligible bills primarily comprise treasury bills not listed on an exchange but for which there is a liquid market.

 

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Notes on the Financial Statements (continued)

 

 

13 Fair values of financial instruments carried at fair value

 

Accounting policy

 

 

All financial instruments are recognised initially at fair value. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The fair value of a financial instrument on initial recognition is generally its transaction price (that is, the fair value of the consideration given or received). However, sometimes the fair value will be based on other observable current market transactions in the same instrument, without modification or repackaging, or on a valuation technique whose variables include only data from observable markets, such as interest rate yield curves, option volatilities and currency rates. When such evidence exists, HSBC recognises a trading gain or loss at inception (‘day 1 gain or loss’), being the difference between the transaction price and the fair value. When significant unobservable parameters are used, the entire day 1 gain or loss is deferred and is recognised in the income statement over the life of the transaction until the transaction matures, is closed out, the valuation inputs become observable or HSBC enters into an offsetting transaction.

 

The fair value of financial instruments is generally measured on an individual basis. However, in cases where HSBC manages a group of financial assets and liabilities according to its net market or credit risk exposure, HSBC measures the fair value of the group of financial instruments on a net basis but presents the underlying financial assets and liabilities separately in the financial statements, unless they satisfy the IFRS offsetting criteria as described in Note 32.

 

Critical accounting estimates and judgements

 

 

Valuation of financial instruments

 

The best evidence of fair value is a quoted price in an actively traded principal market. The fair values of financial instruments that are quoted in active markets are based on bid prices for assets held and offer prices for liabilities issued. Where a financial instrument has a quoted price in an active market, the fair value of the total holding of the financial instrument is calculated as the product of the number of units and quoted price. The judgement as to whether a market is active may include, but is not restricted to, the consideration of factors such as the magnitude and frequency of trading activity, the availability of prices and the size of bid/offer spreads. The bid/offer spread represents the difference in prices at which a market participant would be willing to buy compared with the price at which they would be willing to sell. Valuation techniques may incorporate assumptions about factors that other market participants would use in their valuations, including:

 

•   the likelihood and expected timing of future cash flows on the instrument. Judgement may be required to assess the counterparty’s ability to service the instrument in accordance with its contractual terms. Future cash flows may be sensitive to changes in market rates;

 

•   selecting an appropriate discount rate for the instrument. Judgement is required to assess what a market participant would regard as the appropriate spread of the rate for an instrument over the appropriate risk-free rate;

 

•   judgement to determine what model to use to calculate fair value in areas where the choice of valuation model is particularly subjective, for example, when valuing complex derivative products.

 

A range of valuation techniques is employed, dependent on the instrument type and available market data. Most valuation techniques are based upon discounted cash flow analyses, in which expected future cash flows are calculated and discounted to present value using a discounting curve. Prior to considering credit risk, the expected future cash flows may be known, as would be the case for the fixed leg of an interest rate swap, or may be uncertain and require projection, as would be the case for the floating leg of an interest rate swap. ‘Projection’ utilises market forward curves, if available. In option models, the probability of different potential future outcomes must be considered. In addition, the value of some products is dependent on more than one market factor, and in these cases it will typically be necessary to consider how movements in one market factor may affect the other market factors. The model inputs necessary to perform such calculations include interest rate yield curves, exchange rates, volatilities, correlations, prepayment and default rates. For interest rate derivatives with collateralised counterparties and in significant currencies, HSBC uses a discounting curve that reflects the overnight interest rate (‘OIS’).

 

The majority of valuation techniques employ only observable market data. However, certain financial instruments are valued on the basis of valuation techniques that feature one or more significant market inputs that are unobservable, and for them the measurement of fair value is more judgemental. An instrument in its entirety is classified as valued using significant unobservable inputs if, in the opinion of management, a significant proportion of the instrument’s inception profit or greater than 5% of the instrument’s valuation is driven by unobservable inputs. ‘Unobservable’ in this context means that there is little or no current market data available from which to determine the price at which an arm’s length transaction would be likely to occur. It generally does not mean that there is no data available at all upon which to base a determination of fair value (consensus pricing data may, for example, be used).

 

Control framework

Fair values are subject to a control framework designed to ensure that they are either determined or validated by a function independent of the risk-taker.

For all financial instruments where fair values are determined by reference to externally quoted prices or observable pricing inputs to models, independent price determination or validation is utilised. In inactive markets HSBC will source alternative market information to validate the financial instrument’s fair value, with greater weight given to information that is considered to be more relevant and reliable. The factors that are considered in this regard are, inter alia:

 

    the extent to which prices may be expected to represent genuine traded or tradeable prices;

 

    the degree of similarity between financial instruments;

 

    the degree of consistency between different sources;

 

    the process followed by the pricing provider to derive the data;

 

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Notes on the Financial Statements (continued)

 

 

    the elapsed time between the date to which the market data relates and the balance sheet date; and

 

    the manner in which the data was sourced.

For fair values determined using valuation models, the control framework may include, as applicable, development or validation by independent support functions of (i) the logic within valuation models; (ii) the inputs to those models; (iii) any adjustments required outside the valuation models; and (iv) where possible, model outputs. Valuation models are subject to a process of due diligence and calibration before becoming operational and are calibrated against external market data on an ongoing basis.

Changes in fair value are generally subject to a profit and loss analysis process. This process disaggregates changes in fair value into three high level categories; (i) portfolio changes, such as new transactions or maturing transactions, (ii) market movements, such as changes in foreign exchange rates or equity prices, and (iii) other, such as changes in fair value adjustments (see further below).

The majority of financial instruments measured at fair value are in GB&M. GB&M’s fair value governance structure is illustrated below as an example:

 

LOGO

Financial liabilities measured at fair value

In certain circumstances, HSBC records its own debt in issue at fair value, based on quoted prices in an active market for the specific instrument concerned, where available. An example of this is where own debt in issue is hedged with interest rate derivatives. When quoted market prices are unavailable, the own debt in issue is valued using valuation techniques, the inputs for which are either based upon quoted prices in an inactive market for the instrument, or are estimated by comparison with quoted prices in an active market for similar instruments. In both cases, the fair value includes the effect of applying the credit spread which is appropriate to HSBC’s liabilities. The change in fair value of issued debt securities attributable to the Group’s own credit spread is computed as follows: for each security at each reporting date, an externally verifiable price is obtained or a price is derived using credit spreads for similar securities for the same issuer. Then, using discounted cash flow, each security is valued using a Libor-based discount curve. The difference in the valuations is attributable to the Group’s own credit spread. This methodology is applied consistently across all securities.

Structured notes issued and certain other hybrid instrument liabilities are included within trading liabilities and are measured at fair value. The credit spread applied to these instruments is derived from the spreads at which HSBC issues structured notes.

Gains and losses arising from changes in the credit spread of liabilities issued by HSBC reverse over the contractual life of the debt, provided that the debt is not repaid at a premium or a discount.

 

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Notes on the Financial Statements (continued)

 

 

Fair value hierarchy

Fair values of financial assets and liabilities are determined according to the following hierarchy:

 

    Level 1 – valuation technique using quoted market price: financial instruments with quoted prices for identical instruments in active markets that HSBC can access at the measurement date.

 

    Level 2 – valuation technique using observable inputs: financial instruments with quoted prices for similar instruments in active markets or quoted prices for identical or similar instruments in inactive markets and financial instruments valued using models where all significant inputs are observable.

 

    Level 3 – valuation technique with significant unobservable inputs: financial instruments valued using valuation techniques where one or more significant inputs are unobservable.

The following table sets out the financial instruments by fair value hierarchy.

Financial instruments carried at fair value and bases of valuation

 

          Valuation techniques        
   

Quoted

market

price

Level 1

   

Using

observable

inputs

Level 2

   

With significant

unobservable

inputs

Level 3

    Total  
    US$m     US$m     US$m     US$m  

Recurring fair value measurements at 31 December 2014

Assets

Trading assets

  180,446      117,279      6,468      304,193   

Financial assets designated at fair value

  23,697      4,614      726      29,037   

Derivatives

  4,366      337,718      2,924      345,008   

Financial investments: available for sale

              241,464                  131,264      4,988                  377,716   

Liabilities

Trading liabilities

  62,385      122,048      6,139      190,572   

Financial liabilities designated at fair value

  3,792      72,361           76,153   

Derivatives

  4,649      334,113      1,907      340,669   

Recurring fair value measurements at 31 December 2013

Assets

Trading assets

  182,721      115,124      5,347      303,192   

Financial assets designated at fair value

  30,173      7,649      608      38,430   

Derivatives

  2,539      277,224      2,502      282,265   

Financial investments: available for sale

  262,836      130,760      7,245      400,841   

Liabilities

Trading liabilities

  88,935      110,576      7,514      207,025   

Financial liabilities designated at fair value

  10,482      78,602           89,084   

Derivatives

  4,508      267,441      2,335      274,284   

The increase in Level 2 derivative balances reflects the overall increase in derivative balances and is discussed in Note 16. There were no other significant movements during 2014.

Transfers between Level 1 and Level 2 fair values

 

    Assets     Liabilities  
    Available
for sale
    Held for
trading
   

Designated

at fair value

through

profit or loss

    Derivatives     Held for
trading
   

Designated

at fair value

through

profit or loss

    Derivatives  
    US$m     US$m     US$m     US$m     US$m     US$m     US$m  

At 31 December 2014

Transfers from Level 1 to Level 2

  2,702      18,149                22,964             

Transfers from Level 2 to Level 1

                                  

Transfers between levels of the fair value hierarchy are deemed to occur at the end of each semi-annual reporting period. Transfers from Level 1 to Level 2 mainly reflect the reclassification of settlement balances and cash collateral following reassessment of the application of levelling criteria to these balances.

 

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Fair value adjustments

Fair value adjustments are adopted when HSBC considers that there are additional factors that would be considered by a market participant which are not incorporated within the valuation model. HSBC classifies fair value adjustments as either ‘risk-related’ or ‘model-related’. The majority of these adjustments relate to GB&M.

Movements in the level of fair value adjustments do not necessarily result in the recognition of profits or losses within the income statement. For example, as models are enhanced, fair value adjustments may no longer be required. Similarly, fair value adjustments will decrease when the related positions are unwound, but this may not result in profit or loss.

Global Banking and Markets fair value adjustments

 

    2014     2013  
    US$m     US$m  

Type of adjustment

Risk-related

  1,958      1,565   

– bid-offer

  539      561   

– uncertainty

  357      343   

– credit valuation adjustment

  871      1,274   

– debit valuation adjustment

  (270   (616

– funding fair value adjustment

  460        

– other

  1      3   

Model-related

  57      202   

– model limitation

  52      199   

– other

  5      3   

Inception profit (Day 1 P&L reserves) (Note 16)

  114      167   

At 31 December

                2,129                  1,934   

The largest change in recurring fair value adjustments was a decline of US$403m in respect of the credit valuation adjustment, as a result of both reduced derivative counterparty exposures and general narrowing of credit default swap (‘CDS’) spreads. Narrowing HSBC credit default swap spreads similarly contributed to a reduction in the debit valuation adjustment (‘DVA’) of US$346m.

Funding fair value adjustment (‘FFVA’) reflects the potential future cost or benefit of funding the uncollateralised derivative portfolio at rates other than overnight (‘OIS’) rates. The impact of FFVA adoption in 2014 was a US$263m reduction in net trading income, reflecting the incorporation of a funding spread over Libor. FFVA is measured from an OIS base, and the total FFVA balance of US$460m also reflects the difference between OIS and Libor which had been previously reflected in the fair value of the uncollateralised derivative portfolio.

Risk-related adjustments

Bid-offer

IFRS 13 requires use of the price within the bid-offer spread that is most representative of fair value. Valuation models will typically generate mid-market values. The bid-offer adjustment reflects the extent to which bid-offer costs would be incurred if substantially all residual net portfolio market risks were closed using available hedging instruments or by disposing of or unwinding the position.

Uncertainty

Certain model inputs may be less readily determinable from market data, and/or the choice of model itself may be more subjective. In these circumstances, there exists a range of possible values that the financial instrument or market parameter may assume and an adjustment may be necessary to reflect the likelihood that in estimating the fair value of the financial instrument, market participants would adopt more conservative values for uncertain parameters and/or model assumptions than those used in the valuation model.

Credit valuation adjustment

The CVA is an adjustment to the valuation of OTC derivative contracts to reflect within fair value the possibility that the counterparty may default and that HSBC may not receive the full market value of the transactions (see below).

Debit valuation adjustment

The DVA is an adjustment to the valuation of OTC derivative contracts to reflect within fair value the possibility that HSBC may default, and that HSBC may not pay full market value of the transactions (see below).

 

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Funding fair value adjustment

The funding fair value adjustment is calculated by applying future market funding spreads to the expected future funding exposure of any uncollateralised component of the OTC derivative portfolio. This includes the uncollateralised component of collateralised derivatives in addition to derivatives that are fully uncollateralised. The expected future funding exposure is calculated by a simulation methodology, where available. The expected future funding exposure is adjusted for events that may terminate the exposure such as the default of HSBC or the counterparty. The funding fair value adjustment and debit valuation adjustment are calculated independently.

Model-related adjustments

Model limitation

Models used for portfolio valuation purposes may be based upon a simplifying set of assumptions that do not capture all material market characteristics. Additionally, markets evolve, and models that were adequate in the past may require development to capture all material market characteristics in current market conditions. In these circumstances, model limitation adjustments are adopted. As model development progresses, model limitations are addressed within the valuation models and a model limitation adjustment is no longer needed.

Inception profit (Day 1 P&L reserves)

Inception profit adjustments are adopted when the fair value estimated by a valuation model is based on one or more significant unobservable inputs. The accounting for inception profit adjustments is discussed on page 378. An analysis of the movement in the deferred Day 1 P&L reserve is provided on page 395.

Credit valuation adjustment/debit valuation adjustment methodology

HSBC calculates a separate CVA and DVA for each HSBC legal entity, and within each entity for each counterparty to which the entity has exposure. HSBC calculates the CVA by applying the probability of default (‘PD’) of the counterparty, conditional on the non-default of HSBC, to HSBC’s expected positive exposure to the counterparty and multiplying the result by the loss expected in the event of default. Conversely, HSBC calculates the DVA by applying the PD of HSBC, conditional on the non-default of the counterparty, to the expected positive exposure of the counterparty to HSBC and multiplying the result by the loss expected in the event of default. Both calculations are performed over the life of the potential exposure.

For most products HSBC uses a simulation methodology to calculate the expected positive exposure to a counterparty. This incorporates a range of potential exposures across the portfolio of transactions with the counterparty over the life of the portfolio. The simulation methodology includes credit mitigants such as counterparty netting agreements and collateral agreements with the counterparty. A standard loss given default (‘LGD’) assumption of 60% is generally adopted for developed market exposures, and 75% for emerging market exposures. Alternative LGD assumptions may be adopted when both the nature of the exposure and the available data support this.

For certain types of exotic derivatives where the products are not currently supported by the simulation, or for derivative exposures in smaller trading locations where the simulation tool is not yet available, HSBC adopts alternative methodologies. These may involve mapping to the results for similar products from the simulation tool or, where the mapping approach is not appropriate, using a simplified methodology which generally follows the same principles as the simulation methodology. The calculation is applied at a trade level, with more limited recognition of credit mitigants such as netting or collateral agreements than is used in the simulation methodology.

The methodologies do not, in general, account for ‘wrong-way risk’. Wrong-way risk arises when the underlying value of the derivative prior to any CVA is positively correlated to the probability of default by the counterparty. When there is significant wrong-way risk, a trade-specific approach is applied to reflect the wrong-way risk within the valuation.

With the exception of certain central clearing parties, we include all third-party counterparties in the CVA and DVA calculations and do not net these adjustments across Group entities. We review and refine the CVA and DVA methodologies on an ongoing basis.

Valuation of uncollateralised derivatives

Historically, HSBC has valued uncollateralised derivatives by discounting expected future cash flows at a benchmark interest rate, typically Libor or its equivalent. In line with evolving industry practice, HSBC changed this approach in the second half of 2014. HSBC now views the OIS curve as the base discounting curve for all derivatives, both collateralised and uncollateralised, and has adopted an FFVA to reflect the funding of uncollateralised derivative exposure at rates other than OIS. The impact of adopting the funding fair value adjustment was a reduction in trading revenues of US$263m. This is an area in which a full industry consensus has not yet emerged. HSBC will continue to monitor industry evolution and refine the calculation methodology as necessary.

 

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Notes on the Financial Statements (continued)

 

 

Fair value valuation bases

Financial instruments measured at fair value using a valuation technique with significant unobservable inputs – Level 3

 

    Assets     Liabilities  
 

 

Available

for sale

  

  

 
 
 Held for
trading
  
  
 

 

     At fair

value

  

1 

 
 
     Deriv-
atives
  
  
          Total     
 
 Held for
trading
  
  
 

 

     At fair

value

  

1 

 
 
     Deriv-
atives
  
  
          Total   
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m  

Private equity including strategic investments

  3,120      164      432           3,716      47                47   

Asset-backed securities

  1,462      616                2,078                       

Loans held for securitisation

       39                39                       

Structured notes

       2                2      6,092                6,092   

Derivatives with monolines

                 239      239                1      1   

Other derivatives

                 2,685      2,685                1,906      1,906   

Other portfolios

  406      5,647      294           6,347                       

At 31 December 2014

  4,988      6,468      726      2,924      15,106      6,139           1,907      8,046   

Private equity including strategic investments

  3,729      103      420           4,252                       

Asset-backed securities

  1,677      643                2,320                       

Loans held for securitisation

       83                83                       

Structured notes

       14                14      7,514                7,514   

Derivatives with monolines

                 320      320                       

Other derivatives

                 2,182      2,182                2,335      2,335   

Other portfolios

  1,839      4,504      188           6,531                       

At 31 December 2013

  7,245      5,347      608      2,502      15,702      7,514           2,335      9,849   

 

  1 Designated at fair value through profit or loss.

Level 3 instruments are present in both ongoing and legacy businesses. Loans held for securitisation, derivatives with monolines, certain ‘other derivatives’ and predominantly all Level 3 asset-backed securities are legacy. HSBC has the capability to hold these positions.

Private equity including strategic investments

HSBC’s private equity and strategic investments are generally classified as available for sale and are not traded in active markets. In the absence of an active market, an investment’s fair value is estimated on the basis of an analysis of the investee’s financial position and results, risk profile, prospects and other factors, as well as by reference to market valuations for similar entities quoted in an active market, or the price at which similar companies have changed ownership.

Asset-backed securities

While quoted market prices are generally used to determine the fair value of these securities, valuation models are used to substantiate the reliability of the limited market data available and to identify whether any adjustments to quoted market prices are required. For ABSs including residential MBSs, the valuation uses an industry standard model and the assumptions relating to prepayment speeds, default rates and loss severity based on collateral type, and performance, as appropriate. The valuations output is benchmarked for consistency against observable data for securities of a similar nature.

Loans, including leveraged finance and loans held for securitisation

Loans held at fair value are valued from broker quotes and/or market data consensus providers when available. In the absence of an observable market, the fair value is determined using alternative valuation techniques. These techniques include discounted cash flow models, which incorporate assumptions regarding an appropriate credit spread for the loan, derived from other market instruments issued by the same or comparable entities.

Structured notes

The fair value of structured notes valued using a valuation technique with significant unobservable inputs is derived from the fair value of the underlying debt security, and the fair value of the embedded derivative is determined as described in the paragraph below on derivatives.

Level 3 structured notes principally comprise equity-linked notes which are issued by HSBC and provide the counterparty with a return that is linked to the performance of certain equity securities, and other portfolios. The notes are classified as Level 3 due to the unobservability of parameters such as long-dated equity volatilities and correlations between equity prices, between equity prices and interest rates and between interest rates and foreign exchange rates.

 

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Notes on the Financial Statements (continued)

 

 

Derivatives

OTC (i.e. non-exchange traded) derivatives are valued using valuation models. Valuation models calculate the present value of expected future cash flows, based upon ‘no-arbitrage’ principles. For many vanilla derivative products, such as interest rate swaps and European options, the modelling approaches used are standard across the industry. For more complex derivative products, there may be some differences in market practice. Inputs to valuation models are determined from observable market data wherever possible, including prices available from exchanges, dealers, brokers or providers of consensus pricing. Certain inputs may not be observable in the market directly, but can be determined from observable prices via model calibration procedures or estimated from historical data or other sources. Examples of inputs that may be unobservable include volatility surfaces, in whole or in part, for less commonly traded option products, and correlations between market factors such as foreign exchange rates, interest rates and equity prices.

Derivative products valued using valuation techniques with significant unobservable inputs included certain types of correlation products, such as foreign exchange basket options, equity basket options, foreign exchange interest rate hybrid transactions and long-dated option transactions. Examples of the latter are equity options, interest rate and foreign exchange options and certain credit derivatives. Credit derivatives include certain tranched CDS transactions.

Reconciliation of fair value measurements in Level 3 of the fair value hierarchy

The following table provides a reconciliation of the movement between opening and closing balances of Level 3 financial instruments, measured at fair value using a valuation technique with significant unobservable inputs:

Movement in Level 3 financial instruments

 

    Assets     Liabilities  
   

        Available

for sale

            Held for
trading
   

Designated

at fair value

through

profit or loss

      Derivatives             Held for
trading
   

Designated

at fair value

through

profit or loss

    Derivatives  
    US$m     US$m     US$m     US$m     US$m     US$m     US$m  

At 1 January 2014

  7,245      5,347      608      2,502      7,514           2,335   

Total gains/(losses) recognised in profit or loss

  174      194      56      959      (25        (5

– trading income excluding net interest income

       194           959      (25        (5

– net income/(expense) from other financial instruments designated at fair value

            56                       

– gains less losses from financial investments

  198               

– loan impairment charges and other credit risk provisions

  (24                                    

Total gains/(losses) recognised in other comprehensive income1

  126      (178   (16   (126   (123        54   

– available-for-sale investments: fair value gains/(losses)

  208                                 

– cash flow hedges: fair value gains/(losses)

                 (9             34   

– exchange differences

  (82   (178   (16   (117   (123        20   

Purchases

  1,505      705      273           (31          

New issuances

                      2,067             

Sales

  (1,237   (481   (149                    

Settlements

  (1,255   (49   (78   27      (1,655        (69

Transfers out

  (3,027   (112        (544   (1,918        (527

Transfers in

  1,457      1,042      32      106      310           119   

At 31 December 2014

  4,988      6,468      726      2,924      6,139           1,907   

 

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Notes on the Financial Statements (continued)

 

 

    Assets     Liabilities  
            Available
for sale
            Held for
trading
   

Designated

at fair value

through

profit or loss

      Derivatives             Held for
trading
   

Designated

at fair value

through

profit or loss

    Derivatives  
    US$m     US$m     US$m     US$m     US$m     US$m     US$m  

Unrealised gains/(losses) recognised in profit or loss relating to assets and liabilities held at 31 December 2014

  (24   1      46      946      (122        134   

– trading income excluding net interest income

       1           946      (122        134   

– net income/(expense) from other financial instruments designated at fair value

            46                       

– loan impairment charges and other credit risk provisions

  (24                              

At 1 January 2013

  8,511      4,378      413      3,059      7,470           3,005   

Total gains/(losses) recognised in profit or loss

  (52   343      36      (205   (747        393   

– trading income/(expense) excluding net interest income

       343           (205   (747        393   

– net income from other financial instruments designated at fair value

            36                       

– gains less losses from financial investments

  (66                              

– loan impairment charges and other credit risk provisions

  14                                 

Total gains/(losses) recognised in other comprehensive income1

  487      20           (7   9           57   

– available-for-sale investments: fair value gains

  568                                 

– cash flow hedges: fair value losses

                 (11               

– exchange differences

  (81   20           4      9           57   

Purchases

  1,838      1,293      56           (482          

New issuances

                      3,161             

Sales

  (766   (1,821   (4        (14          

Settlements

  (756   (473   (27   (311   (1,150        (1,004

Transfers out

  (3,121   (385   (68   (171   (1,051        (160

Transfers in

  1,104      1,992      202      137      318           44   

At 31 December 2013

  7,245      5,347      608      2,502      7,514           2,335   

Unrealised gains/(losses) recognised in profit or loss relating to assets and liabilities held at 31 December 2013

  (166   362      41      (297   (401        72   

– trading income excluding net interest income

       362           (297   (401        72   

– net income from other financial instruments designated at fair value

            41                       

– loan impairment charges and other credit risk provisions

  (166                              

 

  1 Included in ‘Available-for-sale investments: fair value gains/(losses)’ and ‘Exchange differences’ in the consolidated statement of comprehensive income.

Purchases and sales of Level 3 available-for-sale assets predominantly reflect ABS activity, particularly in the securities investment conduits. Transfers out of Level 3 available-for-sale securities reflect increased confidence in the pricing of certain emerging markets corporate debt, in addition to improved price discovery of some ABSs. Transfers into Level 3 largely relate to other ABSs where price discovery has deteriorated. New issuances of trading liabilities reflect structured note issuances, mainly equity-linked notes. Transfers out of Level 3 trading liabilities principally relate to equity linked notes as certain model inputs became observable. Transfers into Level 3 trading assets primarily relate to loans in the process of syndication.

 

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Effect of changes in significant unobservable assumptions to reasonably possible alternatives

The following table shows the sensitivity of Level 3 fair values to reasonably possible alternative assumptions:

Sensitivity of fair values to reasonably possible alternative assumptions

 

   

Reflected in

profit or loss

   

Reflected in

other comprehensive income

 
   

  Favourable

changes

    Unfavourable
changes
   

  Favourable

changes

   

Unfavourable

changes

 
    US$m     US$m     US$m     US$m  

Derivatives, trading assets and trading liabilities1

  296      (276          

Financial assets and liabilities designated at fair value

  37      (47          

Financial investments: available for sale

  51      (67   270      (350

At 31 December 2014

  384      (390   270      (350

Derivatives, trading assets and trading liabilities1

  350      (285          

Financial assets and liabilities designated at fair value

  32      (51          

Financial investments: available for sale

            434      (673

At 31 December 2013

  382      (336   434      (673

 

  1 Derivatives, trading assets and trading liabilities are presented as one category to reflect the manner in which these financial instruments are risk-managed.

The reduction in the effect of both favourable and unfavourable changes in significant unobservable inputs in relation to derivatives, trading assets and trading liabilities predominantly reflects greater certainty in some emerging market foreign exchange volatility, as markets have developed. The reduction in the effect of both favourable and unfavourable changes in significant unobservable inputs in relation to available-for-sale assets during the period primarily reflects a decrease in the Level 3 balances.

Sensitivity of fair values to reasonably possible alternative assumptions by Level 3 instrument type

 

    Reflected in profit or loss    

Reflected in other

comprehensive income

 
   

  Favourable

changes

    Unfavourable
changes
   

  Favourable

changes

   

Unfavourable

changes

 
    US$m     US$m     US$m     US$m  

Private equity including strategic investments

  77      (110   172      (255

Asset-backed securities

  49      (22   60      (55

Loans held for securitisation

  1      (1          

Structured notes

  14      (9          

Derivatives with monolines

  11      (11          

Other derivatives

  129      (155          

Other portfolios

  103      (82   38      (40

At 31 December 2014

  384      (390   270      (350

Private equity including strategic investments

  31      (61   226      (436

Asset-backed securities

  60      (27   113      (99

Loans held for securitisation

  3      (3          

Structured notes

  16      (9          

Derivatives with monolines

  25      (16          

Other derivatives

  212      (164          

Other portfolios

  35      (56   95      (138

At 31 December 2013

  382      (336   434      (673

Favourable and unfavourable changes are determined on the basis of sensitivity analysis. The sensitivity analysis aims to measure a range of fair values consistent with the application of a 95% confidence interval. Methodologies take account of the nature of the valuation technique employed, as well as the availability and reliability of observable proxy and historical data. When the available data is not amenable to statistical analysis, the quantification of uncertainty is judgemental, but remains guided by the 95% confidence interval.

When the fair value of a financial instrument is affected by more than one unobservable assumption, the above table reflects the most favourable or the most unfavourable change from varying the assumptions individually.

Key unobservable inputs to Level 3 financial instruments

The table below lists key unobservable inputs to Level 3 financial instruments, and provides the range of those inputs as at 31 December 2014. The core range of inputs is the estimated range within which 90% of the inputs fall. A further description of the categories of key unobservable inputs is given below.

 

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Notes of Financial Statements (continued)

 

 

Quantitative information about significant unobservable inputs in Level 3 valuations

 

    Fair value         Key unobservable                        
          Assets     Liabilities     Valuation technique   inputs   Full range of inputs     Core range of inputs  
    US$m     US$m             Lower     Higher     Lower     Higher  

Private equity including strategic investments

  3,716      47    See notes on page 388 See notes on page 388   n/a      n/a      n/a      n/a   

Asset-backed securities

  2,078        

– CLO/CDO1

  1,122         Model – Discounted cash flow Prepayment rate   1%      6%      1%      6%   
    Market proxy Bid quotes   0      100      54      85   

Other ABSs

  956        

Loans held for securitisation

  39        

Structured notes

  2      6,092   

– equity-linked notes

       4,744    Model – Option model Equity volatility   0.2%      65%      18%      38%   
    Model – Option model Equity correlation   27%      92%      44%      79%   

– fund-linked notes

       562    Model – Option model Fund volatility   6%      8%      6%      8%   

– FX-linked notes

  2      477    Model – Option model FX volatility   2%      70%      4%      16%   

– other

       309   

Derivatives with monolines

  239      1    Model – Discounted cash flow Credit spread   3%      5%      4%      4%   

Other derivatives

  2,685      1,906   

Interest rate derivatives:

           

– securitisation swaps

  449      1,023    Model – Discounted cash flow Prepayment rate   0%      50%      6%      18%   

– long-dated swaptions

  1,044      152    Model – Option model IR volatility   2%      59%      16%      36%   

– other

  755      151   

 

                                      

FX derivatives:

           

– FX options

  89      95    Model – Option model FX volatility   0.1%      70%      4%      14%   

– other

  7      7   

 

                                      

Equity derivatives:

           

– long-dated single stock options

  192      256    Model – Option model Equity volatility   9%      65%      16%      40%   

– other

  34      162   

 

                                      

Credit derivatives:

           

– other

  115      60   

Other portfolios

  6,347        

– structured certificates

  4,420         Model – Discounted cash flow Credit volatility   0.8%      3%      0.8%      3%   

– EM corporate debt

  372         Market proxy Credit spread   1%      4%      1%      3%   
    Market proxy Bid quotes   58      131      106      130   

– other2

  1,555        

 

                                      
                                                    

At 31 December 2014

  15,106      8,046   

 

  1 Collateralised loan obligation/collateralised debt obligation.
  2 Includes a range of smaller asset holdings.

 

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Notes on the Financial Statements (continued)

 

 

Private equity including strategic investments

HSBC’s private equity and strategic investments are generally classified as available for sale and are not traded in active markets. In the absence of an active market, an investment’s fair value is estimated on the basis of an analysis of the investee’s financial position and results, risk profile, prospects and other factors, as well as by reference to market valuations for similar entities quoted in an active market, or the price at which similar companies have changed ownership. Given the bespoke nature of the analysis in respect of each holding, it is not practical to quote a range of key unobservable inputs.

Prepayment rates

Prepayment rates are a measure of the anticipated future speed at which a loan portfolio will be repaid in advance of the due date. Prepayment rates are an important input into modelled values of ABSs. A modelled price may be used where insufficient observable market prices exist to enable a market price to be determined directly. Prepayment rates are also an important input into the valuation of derivatives linked to securitisations. For example, so-called securitisation swaps have a notional value that is linked to the size of the outstanding loan portfolio in a securitisation, which may fall as prepayments occur. Prepayment rates vary according to the nature of the loan portfolio, and expectations of future market conditions. For example, current prepayment rates in US residential MBSs would generally be expected to rise as the US economy improves. Prepayment rates may be estimated using a variety of evidence, such as prepayment rates implied from proxy observable security prices, current or historical prepayment rates and macro-economic modelling.

Market proxy

Market proxy pricing may be used for an instrument for which specific market pricing is not available, but evidence is available in respect of instruments that have some characteristics in common. In some cases it might be possible to identify a specific proxy, but more generally evidence across a wider range of instruments will be used to understand the factors that influence current market pricing and the manner of that influence. For example, in the collateralised loan obligation market it may be possible to establish that A-rated securities exhibit prices in a range, and to isolate key factors that influence position within the range. Applying this to a specific A-rated security within HSBC’s portfolio allows assignment of a price.

The range of prices used as inputs into a market proxy pricing methodology may therefore be wide. This range is not indicative of the uncertainty associated with the price derived for an individual security.

Volatility

Volatility is a measure of the anticipated future variability of a market price. Volatility tends to increase in stressed market conditions, and decrease in calmer market conditions. Volatility is an important input in the pricing of options. In general, the higher the volatility, the more expensive the option will be. This reflects both the higher probability of an increased return from the option and the potentially higher costs that HSBC may incur in hedging the risks associated with the option. If option prices become more expensive, this will increase the value of HSBC’s long option positions (i.e. the positions in which HSBC has purchased options), while HSBC’s short option positions (i.e. the positions in which HSBC has sold options) will suffer losses.

Volatility varies by underlying reference market price, and by strike and maturity of the option. Volatility also varies over time. As a result, it is difficult to make general statements regarding volatility levels. For example, while it is generally the case that foreign exchange volatilities are lower than equity volatilities, there may be examples in particular currency pairs or for particular equities where this is not the case.

Certain volatilities, typically those of a longer-dated nature, are unobservable. The unobservable volatility is then estimated from observable data. For example, longer-dated volatilities may be extrapolated from shorter-dated volatilities. The range of unobservable volatilities quoted in the table on page 387 reflects the wide variation in volatility inputs by reference market price. For example, foreign exchange volatilities for a pegged currency may be very low, whereas for non-managed currencies the foreign exchange volatility may be higher. As a further example, volatilities for deep-in-the-money or deep-out-of-the-money equity options may be significantly higher than at-the-money options. The core range is significantly narrower than the full range because these examples with extreme volatilities occur relatively rarely within the HSBC portfolio. For any single unobservable volatility, the uncertainty in the volatility determination is significantly less than the range quoted above.

Correlation

Correlation is a measure of the inter-relationship between two market prices and is expressed as a number between minus one and one. A positive correlation implies that the two market prices tend to move in the same direction, with a correlation of one implying that they always move in the same direction. A negative correlation implies that the two market prices tend to move in opposite directions, with a correlation of minus one implying that the two market prices always move in opposite directions. Correlation is used to value more complex instruments where the payout is dependent upon more than one market price. For example, an equity basket option has a payout that is dependent upon the performance of a basket of single stocks, and the correlation between the price movements of those stocks will be an

 

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Notes on the Financial Statements (continued)

 

 

input to the valuation. This is referred to as equity-equity correlation. There is a wide range of instruments for which correlation is an input, and consequently a wide range of both same-asset correlations (e.g. equity-equity correlation) and cross-asset correlations (e.g. foreign exchange rate-interest rate correlation) used. In general, the range of same-asset correlations will be narrower than the range of cross-asset correlations.

Correlation may be unobservable. Unobservable correlations may be estimated based upon a range of evidence, including consensus pricing services, HSBC trade prices, proxy correlations and examination of historical price relationships.

The range of unobservable correlations quoted in the table reflects the wide variation in correlation inputs by market price pair. For any single unobservable correlation, the uncertainty in the correlation determination is likely to be less than the range quoted above.

Credit spread

Credit spread is the premium over a benchmark interest rate required by the market to accept lower credit quality. In a discounted cash flow model, the credit spread increases the discount factors applied to future cash flows, thereby reducing the value of an asset. Credit spreads may be implied from market prices. Credit spreads may not be observable in more illiquid markets.

Inter-relationships between key unobservable inputs

Key unobservable inputs to Level 3 financial instruments may not be independent of each other. As described above, market variables may be correlated. This correlation typically reflects the manner in which different markets tend to react to macroeconomic or other events. For example, improving economic conditions may lead to a ‘risk on’ market, in which prices of risky assets such as equities and high yield bonds rise, while ‘safe haven’ assets such as gold and US Treasuries decline. Furthermore, the effect of changing market variables upon the HSBC portfolio will depend on HSBC’s net risk position in respect of each variable. For example, increasing high-yield bond prices will benefit long high-yield bond positions, but the value of any credit derivative protection held against these bonds will fall.

HSBC Holdings

The following table provides an analysis of the basis for valuing financial assets and financial liabilities measured at fair value in the financial statements:

Basis of valuing HSBC Holdings’ financial assets and liabilities measured at fair value

 

    2014     2013  
    US$m     US$m  

Valuation technique using observable inputs: Level 2

Assets at 31 December

Derivatives

  2,771      2,789   

Available for sale

  4,073      1,210   

Liabilities at 31 December

Designated at fair value

              18,679                  21,027   

Derivatives

  1,169      704   

 

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Notes on the Financial Statements (continued)

 

 

14 Fair values of financial instruments not carried at fair value

 

Fair values of financial instruments not carried at fair value and bases of valuation

 

          Fair value  
                Valuation techniques        
   

      Carrying

amount

   

        Quoted

market

price

Level 1

   

Using

observable

inputs

Level 2

   

With

significant

unobservable

inputs

Level 3

    Total  
    US$m     US$m     US$m     US$m               US$m  

Assets and liabilities not held for sale at 31 December 2014

Assets

Loans and advances to banks1

  112,149           109,087      3,046      112,133   

Loans and advances to customers1

  974,660           13,598      959,239      972,837   

Reverse repurchase agreements – non-trading1

  161,713           160,600      1,123      161,723   

Financial investments: debt securities

  37,751      1,418      37,671      74      39,163   

Liabilities

Deposits by banks1

  77,426           77,300      98      77,398   

Customer accounts1

  1,350,642           1,336,865      13,730      1,350,595   

Repurchase agreements – non-trading1

  107,432           107,432           107,432   

Debt securities in issue

  95,947      146      94,325      1,932      96,403   

Subordinated liabilities

  26,664           28,806      1,248      30,054   

Assets and liabilities not held for sale at 31 December 2013

Assets

Loans and advances to banks1

  120,046           111,297      8,727      120,024   

Loans and advances to customers1

  992,089           10,762      971,520      982,282   

Reverse repurchase agreements – non-trading1

  179,690           178,516      1,166      179,682   

Financial investments: debt securities

  25,084      1,432      23,960      25      25,417   

Liabilities

Deposits by banks1

  86,507           86,440      51      86,491   

Customer accounts1

  1,361,297           1,346,343      14,576      1,360,919   

Repurchase agreements – non-trading1

  164,220           164,173      47      164,220   

Debt securities in issue

  104,080      166      101,551      2,941      104,658   

Subordinated liabilities

  28,976           29,704      1,309      31,013   

 

  1 From 1 January 2014, non-trading reverse repos and repos are presented as separate lines in the balance sheet. Previously, non-trading reverse repos were included within ‘Loans and advances to banks’ and ‘Loans and advances to customers’ and non-trading repos were included within ‘Deposits by banks’ and ‘Customer accounts’. Comparative data have been re-presented accordingly. Non-trading reverse repos and repos have been presented as separate lines in the balance sheet to align disclosure with market practice and provide more meaningful information in relation to loans and advances.

Fair values are determined according to the hierarchy set out in Note 13.

Other financial instruments not carried at fair value are typically short-term in nature and reprice to current market rates frequently. Accordingly, their carrying amount is a reasonable approximation of fair value. This includes cash and balances at central banks, items in the course of collection/transmission from/to other banks, Hong Kong Government certificates of indebtedness and Hong Kong currency notes in circulation, all of which are measured at amortised cost.

Carrying amount and fair value of loans and advances to customers by industry sector

 

    Carrying amount at 31 December  
        Not impaired             Impaired     Total  
    US$m     US$m               US$m  

2014

Loans and advances to customers

  954,710      19,950      974,660   

– personal

  377,154      11,800      388,954   

– corporate and commercial

  527,168      8,016      535,184   

– financial

  50,388      134      50,522   

2013

Loans and advances to customers

  967,181      24,908      992,089   

– personal

  390,018      14,108      404,126   

– corporate and commercial

  527,483      10,439      537,922   

– financial

  49,680      361      50,041   

Loans and advances to customers are classified as not impaired or impaired in accordance with the criteria described on page 137.

 

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    Fair value at 31 December  
        Not impaired             Impaired     Total  
    US$m     US$m               US$m  

2014

Loans and advances to customers

  954,347      18,490      972,837   

– personal

  375,615      10,721      386,336   

– corporate and commercial

  528,361      7,642      536,003   

– financial

  50,371      127      50,498   

2013

Loans and advances to customers

  957,695      24,587      982,282   

– personal

  379,353      13,774      393,127   

– corporate and commercial

  529,029      10,340      539,369   

– financial

  49,313      473      49,786   

Analysis of loans and advances to customers by geographical segment

 

    2014     2013  
    Carrying amount                 Fair value     Carrying amount                 Fair value  
    US$m     US$m     US$m     US$m  

Loans and advances to customers

Europe

  409,733      413,373      456,110      453,331   

Asia

  362,955      361,412      336,897      335,132   

Middle East and North Africa

  29,063      28,658      27,211      26,891   

North America

  129,787      126,232      127,953      122,823   

Latin America

  43,122      43,162      43,918      44,105   

At 31 December

  974,660      972,837      992,089      982,282   

Valuation

The fair value measurement is HSBC’s estimate of the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. It does not reflect the economic benefits and costs that HSBC expects to flow from the instruments’ cash flows over their expected future lives. Other reporting entities may use different valuation methodologies and assumptions in determining fair values for which no observable market prices are available.

Fair values of the following assets and liabilities are estimated for the purpose of disclosure as described below:

Loans and advances to banks and customers

The fair value of loans and advances is based on observable market transactions, where available. In the absence of observable market transactions, fair value is estimated using valuation models that incorporate a range of input assumptions. These assumptions may include value estimates from third-party brokers which reflect over-the-counter trading activity, forward looking discounted cash flow models using assumptions which HSBC believes are consistent with those which would be used by market participants in valuing such loans, and trading inputs from other market participants which include observed primary and secondary trades.

Loans are grouped, as far as possible, into homogeneous groups and stratified by loans with similar characteristics to improve the accuracy of estimated valuation outputs. The stratification of a loan book considers all material factors including vintage, origination period, estimates of future interest rates, prepayment speeds, delinquency rates, loan-to-value ratios, the quality of collateral, default probability, and internal credit risk ratings.

The fair value of a loan reflects both loan impairments at the balance sheet date and estimates of market participants’ expectations of credit losses over the life of the loans, and the fair value effect of repricing between origination and the balance sheet date.

The fair value of loans and advances to customers in North America is lower than the carrying amount, primarily in the US, reflecting the market conditions at the balance sheet date. This is due to the challenging economic conditions during the past number of years, including house price depreciation, rising unemployment, changes in consumer behaviour, changes in discount rates and the lack of financing options available to support the purchase of loans and advances. The relative fair values have increased during 2014 largely due to improved conditions in the housing industry driven by increased property values and, to a lesser extent, lower required market yields and increased investor demand for these types of loans and advances.

The fair value of loans and advances to customers in Europe has improved relative to the carrying amount, primarily in the UK mortgage market where increased competition and central bank policies to stimulate lending have reduced interest rates and increased fair values accordingly.

 

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Notes on the Financial Statements (continued)

 

 

Financial investments

The fair values of listed financial investments are determined using bid market prices. The fair values of unlisted financial investments are determined using valuation techniques that take into consideration the prices and future earnings streams of equivalent quoted securities.

Deposits by banks and customer accounts

Fair values are estimated using discounted cash flows, applying current rates offered for deposits of similar remaining maturities. The fair value of a deposit repayable on demand is approximated by its carrying value.

Debt securities in issue and subordinated liabilities

Fair values are determined using quoted market prices at the balance sheet date where available, or by reference to quoted market prices for similar instruments.

Repurchase and reverse repurchase agreements – non-trading

Fair values are estimated by using discounted cash flows, applying current rates. Fair values approximate carrying amounts as their balances are generally short dated.

HSBC Holdings

The methods used by HSBC Holdings to determine fair values of financial instruments for the purpose of measurement and disclosure are described above.

Fair values of HSBC Holdings’ financial instruments not carried at fair value on the balance sheet

 

         2014          2013  
       Carrying amount                       Fair value 1         Carrying amount                       Fair value 1 
         US$m          US$m          US$m          US$m  

Assets at 31 December

                   

Loans and advances to HSBC undertakings

       43,910           45,091           53,344           55,332   

Liabilities at 31 December

                   

Amounts owed to HSBC undertakings

       2,892           2,906           11,685           11,868   

Debt securities in issue

       1,009           1,357           2,791           3,124   

Subordinated liabilities

       17,255           20,501           14,167           16,633   

 

  1 Fair values were determined using valuation techniques with observable inputs (Level 2).

 

15 Financial assets designated at fair value

 

Accounting policy

 

 

Financial instruments, other than those held for trading, are classified in this category if they meet one or more of the criteria set out below, and are so designated irrevocably at inception. HSBC may designate financial instruments at fair value when the designation:

 

•   eliminates or significantly reduces measurement or recognition inconsistencies that would otherwise arise from measuring financial instruments, or recognising gains and losses on different bases from related positions. Under this criterion, the main class of financial assets designated by HSBC are financial assets under unit-linked insurance and unit-linked investment contracts. Liabilities to customers under linked contracts are determined based on the fair value of the assets held in the linked funds. If no fair value designation was made for the related assets, the assets would be classified as available for sale, with changes in fair value recorded in other comprehensive income. The related financial assets and liabilities are managed and reported to management on a fair value basis. Designation at fair value of the financial assets and related liabilities allows the changes in fair values to be recorded in the income statement and presented in the same line;

 

•   applies to groups of financial instruments that are managed, and their performance evaluated, on a fair value basis in accordance with a documented risk management or investment strategy, and where information about the groups of financial instruments is reported to management on that basis. For example, certain financial assets are held to meet liabilities under non-linked insurance contracts. HSBC has documented risk management and investment strategies designed to manage and monitor market risk of those assets on net basis, after considering non-linked liabilities. Fair value measurement is also consistent with the regulatory reporting requirements under the appropriate regulations for those insurance operations;

 

•   relates to financial instruments containing one or more non-closely related embedded derivatives.

 

Designated financial assets are recognised at fair value when HSBC enters into contracts with counterparties, which is generally on trade date, and are normally derecognised when sold. Subsequent changes in fair values are recognised in the income statement in ‘Net income from financial instruments designated at fair value’.

 

 

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Notes on the Financial Statements (continued)

 

 

    2014     2013  
    US$m     US$m  

Financial assets designated at fair value:

– not subject to repledge or resale by counterparties

  28,357      38,062   

– which may be repledged or resold by counterparties

  680      368   

At 31 December

  29,037      38,430   

Treasury and other eligible bills

  56      50   

Debt securities

  8,891      12,589   

Equity securities

  20,006      25,711   

Securities designated at fair value

  28,953      38,350   

Loans and advances to banks and customers

  84      80   

At 31 December

            29,037                38,430   

Securities designated at fair value1

 

    2014     2013  
    US$m     US$m  

Fair value

US Treasury and US Government agencies2

  8      34   

UK Government

  140      534   

Hong Kong Government

  40      113   

Other government

  4,088      4,097   

Asset-backed securities3

  18      140   

Corporate debt and other securities

  4,653      7,721   

Equities

  20,006      25,711   

At 31 December

            28,953                38,350   

 

  1 Included within these figures are debt securities issued by banks and other financial institutions of US$1,388m (2013: US$4,419m), of which US$24m (2013: US$92m) are guaranteed by various governments.
  2 Include securities that are supported by an explicit guarantee issued by the US Government.
  3 Exclude ABSs included under US Treasury and US Government agencies.

Securities listed on a recognised exchange and unlisted

 

   

Treasury

and other

eligible bills

   

Debt

     securities

    Equity
     securities
    Total  
    US$m     US$m     US$m                 US$m  

Fair value

Listed1

  5      2,731      13,837      16,573   

Unlisted

  51      6,160      6,169      12,380   

At 31 December 2014

  56      8,891      20,006      28,953   

Fair value

Listed1

       2,773      18,235      21,008   

Unlisted

  50      9,816      7,476      17,342   

At 31 December 2013

  50      12,589      25,711      38,350   

 

  1 Included within listed investments are US$1,361m of investments listed on a recognised exchange in Hong Kong (2013: US$1,148m).

 

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Notes on the Financial Statements (continued)

 

 

16 Derivatives

 

Accounting policy

 

 

Derivatives

 

Derivatives are financial instruments that derive their value from the price of underlying items such as equities, bonds, interest rates, foreign exchange, credit spreads, commodities and equity or other indices.

 

Derivatives are recognised initially, and are subsequently measured, at fair value. Fair values of derivatives are obtained either from quoted market prices or by using valuation techniques.

 

Embedded derivatives are bifurcated from the host contract when their economic characteristics and risks are not clearly and closely related to those of the host non-derivative contract, their contractual terms would otherwise meet the definition of a stand-alone derivative and the combined contract is not held for trading or designated at fair value. The bifurcated embedded derivatives are measured at fair value with changes therein recognised in the income statement.

 

Derivatives are classified as assets when their fair value is positive, or as liabilities when their fair value is negative.

 

Derivative assets and liabilities arising from different transactions are only offset for accounting purposes if the offsetting criteria presented in Note 32 are met.

 

Gains and losses from changes in the fair value of derivatives, including the contractual interest, that do not qualify for hedge accounting are reported in ‘Net trading income’. Gains and losses for derivatives managed in conjunction with financial instruments designated at fair value are reported in ‘Net income from financial instruments designated at fair value’ together with the gains and losses on the economically hedged items. Where the derivatives are managed with debt securities issued by HSBC that are designated at fair value, the contractual interest is shown in ‘Interest expense’ together with the interest payable on the issued debt.

 

Hedge accounting

 

When derivatives are designated as hedges, HSBC classifies them as either: (i) hedges of the change in fair value of recognised assets or liabilities or firm commitments (‘fair value hedges’); (ii) hedges of the variability in highly probable future cash flows attributable to a recognised asset or liability, or a forecast transaction (‘cash flow hedges’); or (iii) a hedge of a net investment in a foreign operation (‘net investment hedges’).

 

At the inception of a hedging relationship, HSBC documents the relationship between the hedging instruments and the hedged items, its risk management objective and its strategy for undertaking the hedge. HSBC requires a documented assessment, both at hedge inception and on an ongoing basis, of whether or not the hedging instruments are highly effective in offsetting the changes attributable to the hedged risks in the fair values or cash flows of the hedged items.

 

Fair value hedge

 

Changes in the fair value of derivatives that are designated and qualify as fair value hedging instruments are recorded in the income statement, along with changes in the fair value of the hedged assets, liabilities or group that contain the hedged risk. If a hedging relationship no longer meets the criteria for hedge accounting, the hedge accounting is discontinued; the cumulative adjustment to the carrying amount of the hedged item is amortised to the income statement on a recalculated effective interest rate over the residual period to maturity, unless the hedged item has been derecognised, in which case it is recognised in the income statement immediately.

 

Cash flow hedge

 

The effective portion of changes in the fair value of derivatives that are designated and qualify as cash flow hedges is recognised in other comprehensive income; the ineffective portion of the change in fair value is recognised immediately in the income statement.

 

The accumulated gains and losses recognised in other comprehensive income are reclassified to the income statement in the periods in which the hedged item affects profit or loss. In hedges of forecasted transactions that result in recognition of a non-financial asset or liability, previous gains and losses recognised in other comprehensive income are included in the initial measurement of the asset or liability.

 

When a hedging relationship is discontinued, any cumulative gain or loss recognised in other comprehensive income remains in equity until the forecast transaction is recognised in the income statement. When a forecast transaction is no longer expected to occur, the cumulative gain or loss previously recognised in other comprehensive income is immediately reclassified to the income statement.

 

Net investment hedge

 

Hedges of net investments in foreign operations are accounted for in a similar way to cash flow hedges. A gain or loss on the effective portion of the hedging instrument is recognised in other comprehensive income; the residual change in fair value is recognised immediately in the income statement. Gains and losses previously recognised in other comprehensive income are reclassified to the income statement on the disposal, or part disposal, of the foreign operation.

 

Hedge effectiveness testing

 

To qualify for hedge accounting, HSBC requires that at the inception of the hedge and throughout its life each hedge must be expected to be highly effective, both prospectively and retrospectively, on an ongoing basis.

 

The documentation of each hedging relationship sets out how the effectiveness of the hedge is assessed and the method adopted by an entity to assess hedge effectiveness will depend on its risk management strategy. For prospective effectiveness, the hedging instrument must be expected to be highly effective in offsetting changes in fair value or cash flows attributable to the hedged risk during the period for which the hedge is designated, with the effectiveness range being defined as 80% to 125%. Hedge ineffectiveness is recognised in the income statement in ‘Net trading income’.

 

Derivatives that do not qualify for hedge accounting

 

Non-qualifying hedges are derivatives entered into as economic hedges of assets and liabilities for which hedge accounting was not applied.

 

 

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Notes on the Financial Statements (continued)

 

 

Fair values of derivatives by product contract type held by HSBC

 

    Assets     Liabilities  
    Trading     Hedging     Total     Trading     Hedging     Total  
    US$m     US$m     US$m     US$m     US$m     US$m  

Foreign exchange

  95,584      1,728      97,312      95,187      572      95,759   

Interest rate

  471,379      1,864      473,243      463,456      4,696      468,152   

Equities

  11,694           11,694      13,654           13,654   

Credit

  9,340           9,340      10,061           10,061   

Commodity and other

  3,884           3,884      3,508           3,508   

Gross total fair values

      591,881              3,592          595,473          585,866              5,268          591,134   

Offset

  (250,465   (250,465

At 31 December 2014

  345,008      340,669   

Foreign exchange

  78,652      2,262      80,914      75,350      448      75,798   

Interest rate

  456,282      2,294      458,576      448,434      4,097      452,531   

Equities

  18,389           18,389      22,573           22,573   

Credit

  9,092           9,092      8,926           8,926   

Commodity and other

  2,624           2,624      1,786           1,786   

Gross total fair values

  565,039      4,556      569,595      557,069      4,545      561,614   

Offset

  (287,330   (287,330

At 31 December 2013

  282,265      274,284   

Derivative assets increased during 2014, driven by yield curve movements and increased market volatility in foreign exchange. The decline in equity derivative assets and liabilities reflects the inclusion of variation margin on cash-settled exchange-traded equity derivatives within gross fair value rather than ‘offsetting’. This change has no impact upon total derivatives assets.

Fair values of derivatives by product contract type held by HSBC Holdings with subsidiaries

 

    Assets     Liabilities  
    Trading     Hedging     Total     Trading     Hedging     Total  
    US$m     US$m     US$m     US$m     US$m     US$m  

Foreign exchange

  680           680      1,066      103      1,169   

Interest rate

  1,607      484      2,091                  

At 31 December 2014

  2,287      484      2,771      1,066      103      1,169   

Foreign exchange

  1,774      45      1,819      471           471   

Interest rate

  955      15      970      233           233   

At 31 December 2013

          2,729                   60              2,789                 704                      –                 704   

Use of derivatives

HSBC transacts derivatives for three primary purposes: to create risk management solutions for clients, to manage the portfolio risks arising from client business and to manage and hedge HSBC’s own risks.

HSBC’s derivative activities give rise to significant open positions in portfolios of derivatives. These positions are managed constantly to ensure that they remain within acceptable risk levels. When entering into derivative transactions, HSBC employs the same credit risk management framework to assess and approve potential credit exposures that it uses for traditional lending.

Trading derivatives

Most of HSBC’s derivative transactions relate to sales and trading activities. Sales activities include the structuring and marketing of derivative products to customers to enable them to take, transfer, modify or reduce current or expected risks. Trading activities include market-making and risk management. Market-making entails quoting bid and offer prices to other market participants for the purpose of generating revenues based on spread and volume. Risk management activity is undertaken to manage the risk arising from client transactions, with the principal purpose of retaining client margin.

Other derivatives classified as held for trading include non-qualifying hedging derivatives, ineffective hedging derivatives and the components of hedging derivatives that are excluded from assessing hedge effectiveness.

Substantially all of HSBC Holdings’ derivatives entered into with HSBC undertakings are managed in conjunction with financial liabilities designated at fair value.

 

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Notes on the Financial Statements (continued)

 

 

The notional contract amounts of derivatives held for trading purposes indicate the nominal value of transactions outstanding at the balance sheet date; they do not represent amounts at risk.

Notional contract amounts of derivatives held for trading purposes by product type

 

    HSBC     HSBC Holdings  
    2014     2013     2014     2013  
    US$m     US$m     US$m     US$m  

Foreign exchange

  5,548,075      5,264,978      15,595      17,280   

Interest rate

  22,047,278      27,056,367      8,650      10,304   

Equities

  568,932      589,903             

Credit

  550,197      678,256             

Commodity and other

  77,565      77,842             

At 31 December

      28,792,047          33,667,346                 24,245                 27,584   

The decline in interest rate derivatives notionals during the year reflects participation in industry-wide ‘portfolio compression’ exercises.

Credit derivatives

HSBC trades credit derivatives through its principal dealing operations and acts as a principal counterparty to a broad range of users, structuring transactions to produce risk management products for its customers, or making markets in certain products. Risk is typically controlled through entering into offsetting credit derivative contracts with other counterparties.

HSBC manages the credit risk arising on buying and selling credit derivative protection by including the related credit exposures within its overall credit limit structure for the relevant counterparty. Trading of credit derivatives is restricted to a small number of offices within the major centres which have the control infrastructure and market skills to manage effectively the credit risk inherent in the products.

Credit derivatives are also deployed to a limited extent for the risk management of the Group’s loan portfolios. The notional contract amount of credit derivatives of US$550bn (2013: US$678bn) consisted of protection bought of US$272bn (2013: US$339bn) and protection sold of US$278bn (2013: US$339bn). The credit derivative business operates within the market risk management framework described on page 222.

Derivatives valued using models with unobservable inputs

The difference between the fair value at initial recognition (the transaction price) and the value that would have been derived had valuation techniques used for subsequent measurement been applied at initial recognition, less subsequent releases, is as follows:

Unamortised balance of derivatives valued using models with significant unobservable inputs

 

    2014     2013  
    US$m     US$m  

Unamortised balance at 1 January

  167      181   

Deferral on new transactions

  177      206   

Recognised in the income statement during the period:

  (234   (221

– amortisation

  (114   (105

– subsequent to unobservable inputs becoming observable

  (13   (39

– maturity, termination or offsetting derivative

  (107   (77

– risk hedged

         

Exchange differences

  4      1   

Unamortised balance at 31 December1

                114                  167   

 

  1 This amount is yet to be recognised in the consolidated income statement.

Hedge accounting derivatives

HSBC uses derivatives (principally interest rate swaps) for hedging purposes in the management of its own asset and liability portfolios and structural positions. This enables HSBC to optimise the overall cost to the Group of accessing debt capital markets, and to mitigate the market risk which would otherwise arise from structural imbalances in the maturity and other profiles of its assets and liabilities.

The notional contract amounts of derivatives held for hedge accounting purposes indicate the nominal value of transactions outstanding at the balance sheet date; they do not represent amounts at risk.

 

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Notes on the Financial Statements (continued)

 

 

Notional contract amounts of derivatives held for hedge accounting purposes by product type

 

    HSBC     HSBC Holdings  
    2014     2013     2014     2013  
   

  Cash flow

hedge

   

  Fair value

hedge

      Cash flow
hedge
   

  Fair value

hedge

      Fair value
hedge
      Fair value
hedge
 
    US$m     US$m     US$m     US$m     US$m     US$m  

Foreign exchange

  25,340           25,799      226      1,120      1,120   

Interest rate

  190,902      90,338      201,197      90,354      5,477      1,977   

At 31 December

  216,242      90,338      226,996      90,580      6,597      3,097   

Fair value hedges

HSBC’s fair value hedges principally consist of interest rate swaps that are used to protect against changes in the fair value of fixed-rate long-term financial instruments due to movements in market interest rates.

Fair value of derivatives designated as fair value hedges

 

    2014     2013  
    Assets     Liabilities     Assets     Liabilities  
    US$m     US$m     US$m     US$m  

HSBC

Foreign exchange

            5        

Interest rate

  387      4,012      1,163      2,889   

At 31 December

  387      4,012      1,168      2,889   

HSBC Holdings

Foreign exchange

       103      45        

Interest rate

  484           15        

At 31 December

                  484                      103                        60                          –   

Gains or losses arising from fair value hedges

 

    2014     2013     2012  
    US$m     US$m     US$m  

HSBC

Gains/(losses):

– on hedging instruments

  (2,542   1,997      (898

– on the hedged items attributable to the hedged risk

  2,561      (1,932   871   

Year ended 31 December

  19      65      (27

HSBC Holdings

Gains/(losses):

– on hedging instruments

  423                        14        

– on the hedged items attributable to the hedged risk

  (422   (21     

Year ended 31 December

                      1      (7                       –   

The gains and losses on ineffective portions of fair value hedges are recognised immediately in ‘Net trading income’.

Cash flow hedges

HSBC’s cash flow hedges consist principally of interest rate swaps, futures and cross-currency swaps that are used to protect against exposures to variability in future interest cash flows on non-trading assets and liabilities which bear interest at variable rates or which are expected to be re-funded or reinvested in the future. The amounts and timing of future cash flows, representing both principal and interest flows, are projected for each portfolio of financial assets and liabilities on the basis of their contractual terms and other relevant factors, including estimates of prepayments and defaults. The aggregate principal balances and interest cash flows across all portfolios over time form the basis for identifying gains and losses on the effective portions of derivatives designated as cash flow hedges of forecast transactions.

Fair value of derivatives designated as cash flow hedges

 

    2014     2013  
    Assets     Liabilities     Assets     Liabilities  
    US$m     US$m     US$m     US$m  

Foreign exchange

  1,673      572      2,257      439   

Interest rate

  1,477                      684      1,131      1,208   

At 31 December

                3,150      1,256                    3,388                   1,647   

 

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Notes on the Financial Statements (continued)

 

 

Forecast principal balances on which interest cash flows are expected to arise

 

        

            3 months

or less

        

More than 3

    months but less

than 1 year

        

    5 years or less

but more than

1 year

        

            More than

5 years

 
         US$m          US$m          US$m          US$m  

Net cash inflows/(outflows) exposure

                   

Assets

       131,694           122,728           79,529           959   

Liabilities

       (60,814        (46,582        (36,371        (8,169

At 31 December 2014

       70,880           76,146           43,158           (7,210

Net cash inflows/(outflows) exposure

                   

Assets

       135,857           124,670           89,405           2,156   

Liabilities

       (60,402        (46,990        (38,406        (10,221

At 31 December 2013

       75,455           77,680           50,999           (8,065

This table reflects the interest rate repricing profile of the underlying hedged items.

The gains and losses on ineffective portions of derivatives designated as cash flow hedges are recognised immediately in ‘Net trading income’. During the year to 31 December 2014 a gain of US$34m (2013: gain of US$22m; 2012: gain of US$35m) was recognised due to hedge ineffectiveness.

Hedges of net investments in foreign operations

The Group applies hedge accounting in respect of certain consolidated net investments. Hedging is undertaken using forward foreign exchange contracts or by financing with currency borrowings.

At 31 December 2014, the fair values of outstanding financial instruments designated as hedges of net investments in foreign operations were assets of US$55m (2013: US$4m), liabilities of US$1m (2013: US$23m) and notional contract values of US$3,525m (2013: US$2,840m).

Ineffectiveness recognised in ‘Net trading income’ in the year ended 31 December 2014 was nil (2013 and 2012: nil).

 

17 Non-trading reverse repurchase and repurchase agreements

 

Accounting policy

 

 

When securities are sold subject to a commitment to repurchase them at a predetermined price (‘repos’), they remain on the balance sheet and a liability is recorded in respect of the consideration received. Securities purchased under commitments to resell (‘reverse repos’) are not recognised on the balance sheet and an asset is recorded in respect of the initial consideration paid.

 

Non trading repos and reverse repos are measured at amortised cost. The difference between the sale and repurchase price or between the purchase and resale price is treated as interest and recognised in net interest income over the life of the agreement.

 

Non-trading repos and reverse repos are presented as separate lines in the balance sheet. This separate presentation was adopted with effect from 1 January 2014 and comparatives are re-presented accordingly. Previously, non-trading reverse repos were included within ‘Loans and advances to banks’ and ‘Loans and advances to customers’ and non-trading repos were included within ‘Deposits by banks’ and ‘Customer accounts’.

 

The extent to which non-trading reverse repos and repos represent amounts with customers and banks is set out below.

 

         2014          2013  
         US$m          US$m  

Assets

         

Banks

       95,403           91,475   

Customers

       66,310           88,215   

At 31 December

       161,713           179,690   

Liabilities

         

Banks

       27,876           42,705   

Customers

       79,556           121,515   

At 31 December

                    107,432                        164,220   

 

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Notes on the Financial Statements (continued)

 

 

18 Financial investments

 

Accounting policy

 

 

Treasury bills, debt securities and equity securities intended to be held on a continuing basis, other than those designated at fair value, are classified as available for sale or held to maturity. They are recognised on trade date when HSBC enters into contractual arrangements to purchase those instruments, and are normally derecognised when either the securities are sold or redeemed.

 

(i)  Available-for-sale financial assets are initially measured at fair value plus direct and incremental transaction costs. They are subsequently remeasured at fair value, and changes therein are recognised in other comprehensive income until they are either sold or become impaired. When available-for-sale financial assets are sold, cumulative gains or losses previously recognised in other comprehensive income are recognised in the income statement as ‘Gains less losses from financial investments’.

 

Interest income is recognised over a debt security’s expected life. Premiums and/or discounts arising on the purchase of dated debt securities are included in the interest recognised. Dividends from equity assets are recognised in the income statement when the right to receive payment is established.

 

(ii) Held-to-maturity investments are non-derivative financial assets with fixed or determinable payments and fixed maturities that HSBC positively intends and is able to hold to maturity. Held-to-maturity investments are initially recorded at fair value plus any directly attributable transaction costs, and are subsequently measured at amortised cost, less any impairment losses.

 

The accounting policy relating to impairments of available-for-sale securities is presented in Note 1(k).

 

Available-for-sale financial assets are reclassified to held to maturity if there is a change in intention or ability to hold those assets to maturity due to a change in the way those assets are managed. The fair value on reclassification becomes the new amortised cost and the assets are subsequently carried at amortised cost rather than fair value.

 

Financial investments

 

         2014          2013  
         US$m          US$m  

Financial investments:

         

– not subject to repledge or resale by counterparties

       380,419           394,207   

– which may be repledged or resold by counterparties

       35,048           31,718   

At 31 December

                415,467                    425,925   

Carrying amount and fair value of financial investments

 

         2014          2013  
        

Carrying

amount

         Fair value          Carrying
amount
         Fair value  
         US$m          US$m          US$m          US$m  

Treasury and other eligible bills

       81,517           81,517           78,111           78,111   

– available for sale

       81,517           81,517           78,111           78,111   

Debt securities1

       323,256           324,668           338,674           339,007   

– available for sale

       285,505           285,505           313,590           313,590   

– held to maturity

       37,751           39,163           25,084           25,417   

Equity securities

       10,694           10,694           9,140           9,140   

– available for sale

       10,694           10,694           9,140           9,140   

 

                   
                                             

At 31 December

          415,467              416,879              425,925            426,258   

 

  1 During the year US$11,043m of available-for-sale debt securities were reclassified to held-to-maturity debt securities.

 

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Notes on the Financial Statements (continued)

 

 

Financial investments at amortised cost and fair value

 

   

Amortised

cost1

   

Fair

value2

 
    US$m     US$m  

US Treasury

  33,931      34,745   

US Government agencies3

  18,326      18,516   

US Government sponsored entities3

  9,339      9,761   

UK Government

  28,680      29,758   

Hong Kong Government

  43,573      43,574   

Other government

  159,846      163,401   

Asset-backed securities4

  20,911      19,177   

Corporate debt and other securities

  84,387      87,252   

Equities

  7,421      10,694   

At 31 December 2014

  406,414      416,878   

US Treasury

  50,369      50,421   

US Government agencies3

  19,211      18,771   

US Government sponsored entities3

  5,263      5,445   

UK Government

  23,565      23,580   

Hong Kong Government

  49,570      49,579   

Other government

  153,619      156,208   

Asset-backed securities4

  25,961      24,115   

Corporate debt and other securities

  87,469      88,999   

Equities

  8,081      9,140   

At 31 December 2013

  423,108      426,258   

US Treasury

  60,657      61,925   

US Government agencies3

  22,579      23,500   

US Government sponsored entities3

  5,262      5,907   

UK Government

  17,018      17,940   

Hong Kong Government

  42,687      42,711   

Other government

  146,507      149,179   

Asset-backed securities4

  29,960      26,418   

Corporate debt and other securities

  86,099      89,777   

Equities

  4,284      5,789   

At 31 December 2012

          415,053              423,146   

 

  1 Represents the amortised cost or cost basis of the financial investment.
  2 Included within these figures are debt securities issued by banks and other financial institutions of US$53,877m (2013: US$55,303m; 2012: US$59,908m), of which US$8,812m (2013: US$8,946m; 2012: US$6,916m) are guaranteed by various governments. The fair value of the debt securities issued by banks and other financial institutions was US$54,375m (2013: US$55,467m; 2012: US$60,616m).
  3 Include securities that are supported by an explicit guarantee issued by the US Government.
  4 Excludes ABSs included under US Government agencies and sponsored entities.

Financial investments listed on a recognised exchange and unlisted

 

   

Treasury and

other eligible

bills available

for sale

   

Debt

      securities

available

for sale

   

Debt

      securities

held to

maturity

   

Equity

      securities

available

for sale

    Total  
    US$m     US$m     US$m     US$m                   US$m  

Carrying amount

Listed1

  4,101      168,879      6,037      5,928      184,945   

Unlisted2

  77,416      116,626      31,714      4,766      230,522   

At 31 December 2014

  81,517      285,505      37,751      10,694      415,467   

Carrying amount

Listed1

  1,404      134,473      6,176      3,950      146,003   

Unlisted2

  76,707      179,117      18,908      5,190      279,922   

At 31 December 2013

  78,111      313,590      25,084      9,140      425,925   

 

  1 The fair value of listed held-to-maturity debt securities as at 31 December 2014 was US$6,459m (2013: US$6,281m). Included within listed investments were US$3,752m (2013: US$2,832m) of investments listed on a recognised exchange in Hong Kong.
  2 Unlisted treasury and other eligible bills available for sale primarily comprise treasury bills not listed on an exchange but for which there is a liquid market.

 

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Notes on the Financial Statements (continued)

 

 

Maturities of investments in debt securities at their carrying amount

 

      1 year or less    

5 years or less

but over 1 year

   

10 years or less

but over 5 years

      Over 10 years     Total  
    US$m     US$m     US$m     US$m                     US$m  

Available for sale

  68,344      134,815      44,938      37,408      285,505   

Held to maturity

  1,396      9,622      7,087      19,646      37,751   

At 31 December 2014

  69,740      144,437      52,025      57,054      323,256   

Available for sale

  78,222      146,200      44,556      44,612      313,590   

Held to maturity

  2,993      8,380      6,442      7,269      25,084   

At 31 December 2013

  81,215      154,580      50,998      51,881      338,674   

Contractual maturities and weighted average yields of investment debt securities

 

    Within one year    

After one year but

within five years

   

After five years but

within ten years

    After ten years  
    Amount     Yield     Amount     Yield     Amount     Yield     Amount     Yield  
    US$m     %     US$m     %     US$m     %     US$m     %  

Available for sale

US Treasury

  4,136      0.8      20,273      1.0      3,961      2.5      1,490      4.1   

US Government agencies

            9      4.2      44      3.9      9,704      2.6   

US Government-sponsored agencies

            1,939      3.2      1,393      3.3      1,138      3.3   

UK Government

  281      2.2      12,389      1.0      12,541      1.7             

Hong Kong Government

  350      0.4      953      1.0                       

Other governments

  46,946      2.2      65,497      2.7      12,806      2.9      2,864      2.4   

Asset-backed securities

  688      1.3      1,172      1.4      4,003      1.4      15,036      1.1   

Corporate debt and other securities

  16,392      2.3      30,687      2.1      7,048      2.7      6,459      3.3   

Total amortised cost at 31 December 2014

    68,793      132,919        41,796        36,691   

Total carrying value

  68,344      134,815      44,938      37,408   

Held to maturity

US Treasury

            75      4.8      44      4.8      115      4.2   

US Government agencies

            1      7.6      50      2.6      8,506      2.4   

US Government-sponsored agencies

            92      1.4      406      2.9      4,370      3.1   

Hong Kong Government

  1      0.5      37      1.3      20      1.8      2      1.2   

Other governments

  95      4.1      278      4.8      202      5.2      722      4.9   

Asset-backed securities

                                11      6.4   

Corporate debt and other securities

  1,300      3.5      9,139      3.6      6,365      4.0      5,920      4.1   

Total amortised cost at 31 December 2014

  1,396      9,622      7,087      19,646   

Total carrying value

  1,396      9,622      7,087      19,646   

The maturity distributions of ABSs are presented in the above table on the basis of contractual maturity dates. The weighted average yield for each range of maturities is calculated by dividing the annualised interest income for the year ended 31 December 2014 by the book amount of available-for-sale debt securities at that date. The yields do not include the effect of related derivatives.

 

19 Assets charged as security for liabilities, assets transferred and collateral accepted as security for assets

 

Financial assets pledged to secure liabilities

 

    2014     2013  
    US$m     US$m  

Treasury bills and other eligible securities

  5,170      6,387   

Loans and advances to banks

  17,294      17,733   

Loans and advances to customers

  77,960      87,894   

Debt securities

  138,991      190,095   

Equity shares

  11,373      8,816   

Other

  6,079      1,035   

Assets pledged at 31 December

          256,867              311,960   

The table above shows assets where a charge has been granted to secure liabilities on a legal and contractual basis. The amount of such assets may be greater than the book value of assets utilised as collateral for funding purposes or to cover liabilities. This is the case for securitisations and covered bonds where the amount of liabilities issued, plus any mandatory over-collateralisation, is less than the book value of financial assets available for funding or collateral purposes in the relevant pool of assets. This is also the case where financial assets are placed with a custodian or settlement agent which has a floating charge over all the financial assets placed to secure any liabilities under settlement accounts.

 

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Notes on the Financial Statements (continued)

 

 

These transactions are conducted under terms that are usual and customary to collateralised transactions including, where relevant, standard securities lending and repurchase agreements.

Assets transferred

Accounting policy

 

 

Derecognition of financial assets

 

Financial assets are derecognised when the contractual rights to receive cash flows from the assets has expired; or when HSBC has transferred its contractual right to receive the cash flows of the financial assets, and either:

 

•   substantially all the risks and rewards of ownership have been transferred; or

 

•   HSBC has neither retained nor transferred substantially all the risks and rewards, but has not retained control.

 

HSBC enters into transactions in the normal course of business by which it transfers financial assets to third parties. Depending on the circumstances, these transfers may either result in these financial assets being derecognised or continuing to be recognised.

The financial assets shown above include amounts transferred to third parties that do not qualify for derecognition, notably debt securities held by counterparties as collateral under repurchase agreements and equity securities lent under securities lending agreements. As the substance of these transactions is secured borrowings, the asset collateral continues to be recognised in full and the related liability reflecting the Group’s obligation to repurchase the transferred assets for a fixed price at a future date is recognised on the balance sheet. As a result of these transactions, the Group is unable to use, sell or pledge the transferred assets for the duration of the transaction. The Group remains exposed to interest rate risk and credit risk on these pledged instruments. The counterparty’s recourse is not limited to the transferred assets.

Transferred financial assets not qualifying for full derecognition and associated financial liabilities

 

        

Carrying

amount of

assets before

transfer

        

Carrying

amount of

      transferred

assets

        

Carrying

amount of

      associated

liabilities

        

Fair

value of

      transferred

assets

        

Fair

value of

      associated

liabilities

        

Net

          position

 
         US$m          US$m          US$m          US$m          US$m          US$m  

At 31 December 2014

                             

Repurchase agreements

            78,541           79,141                  

Securities lending agreements

            13,177           10,643                  

Other sales (recourse to transferred asset only)

            3,775           4,049           4,007           4,018           (11

Securitisations recognised to the extent of continuing involvement

       17,427           11           5           11           5           6   

At 31 December 2013

                             

Repurchase agreements

            125,508           126,175                  

Securities lending agreements

            9,175           8,884                  

Other sales (recourse to transferred asset only)

            6,707           7,019           6,827           6,707           120   

Securitisations recognised to the extent of continuing involvement

       17,427           16           8           16           8           8   

Collateral accepted as security for assets

The fair value of assets accepted as collateral in relation to reverse repo and securities borrowing that HSBC is permitted to sell or repledge in the absence of default is US$269,019m (2013: US$259,617m). The fair value of any such collateral that has been sold or repledged was US$163,342m (2013: US$186,013m). HSBC is obliged to return equivalent securities.

These transactions are conducted under terms that are usual and customary to standard securities borrowing and reverse repurchase agreements.

 

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Notes on the Financial Statements (continued)

 

 

20 Interests in associates and joint ventures

 

Accounting policy

 

 

Investments in which HSBC, together with one or more parties, has joint control of an arrangement set up to undertake an economic activity are classified as joint ventures. HSBC classifies investments in entities over which it has significant influence, and that are neither subsidiaries (Note 22) nor joint ventures, as associates.

 

Investments in associates and interests in joint ventures are recognised using the equity method. Under this method, such investments are initially stated at cost, including attributable goodwill, and are adjusted thereafter for the post-acquisition change in HSBC’s share of net assets. Goodwill arises on the acquisition of interests in joint ventures and associates when the cost of investment exceeds HSBC’s share of the net fair value of the associate’s or joint venture’s identifiable assets and liabilities.

 

An investment in an associate is tested for impairment when there is an indication that the investment may be impaired. Goodwill on acquisitions of interests in joint ventures and associates is not tested separately for impairment.

 

Profits on transactions between HSBC and its associates and joint ventures are eliminated to the extent of HSBC’s interest in the respective associates or joint ventures. Losses are also eliminated to the extent of HSBC’s interest in the associates or joint ventures unless the transaction provides evidence of an impairment of the asset transferred.

 

Critical accounting estimates and judgements

 

 

Impairment of interests in associates

 

Impairment testing involves significant judgement in determining the value in use, and in particular estimating the present values of cash flows expected to arise from continuing to hold the investment.

 

The most significant judgements relate to the impairment testing of our investment in Bank of Communications (‘BoCom’). Key assumptions used in estimating BoCom’s value in use, the sensitivity of the value in use calculation to different assumptions and a sensitivity analysis that shows the changes in key assumptions that would reduce the excess of value in use over the carrying amount (the ‘headroom’) to nil are described in the Note below.

 

Associates

At 31 December 2014, the carrying amount of HSBC’s interests in associates was US$17,940m (2013: US$16,417m).

Principal associates of HSBC

 

         2014          2013  
      
 
Carrying
amount
  
  
      

 

Fair

value

  

1 

      
 
Carrying
amount
  
  
      

 

Fair

value

  

1 

         US$m          US$m          US$m          US$m  

Listed

                   

Bank of Communications Co., Limited

       14,590           13,140           13,412           9,954   

The Saudi British Bank

       2,811           6,220           2,437           4,693   

At 31 December

                   17,401                       19,360                       15,849                       14,647   

 

  1 Principal associates are listed on recognised stock exchanges. The fair values are based on the quoted market prices of the shares held (Level 1 in the fair value hierarchy).

 

         At 31 December 2014  
        

Country of

incorporation

and principal

place of business

        

Principal

activity

        

HSBC’s

interest

in equity

capital

        

Issued

equity

capital

 

Bank of Communications Co., Limited

       PRC 1         Banking services           19.03%           RMB74,263m   

The Saudi British Bank

       Saudi Arabia           Banking services           40.00%           SR10,000m   

 

  1 People’s Republic of China.

Details of all HSBC associates and joint ventures, as required under Section 409 of the Companies Act 2006, will be annexed to the next Annual Return of HSBC Holdings filed with the UK Registrar of Companies.

HSBC had US$14,590m (2013: US$13,412m) of interests in associates listed in Hong Kong.

 

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Notes on the Financial Statements (continued)

 

 

Bank of Communications Co., Limited (‘BoCom’)

HSBC’s investment in BoCom was equity accounted with effect from August 2004. HSBC’s significant influence in BoCom was established as a result of representation on the Board of Directors and, in accordance with the Technical Cooperation and Exchange Programme, HSBC is assisting in the maintenance of financial and operating policies and a number of staff has been seconded to assist in this process.

Impairment testing

At 31 December 2014, the fair value of HSBC’s investment in BoCom had been below the carrying amount for approximately 32 months, apart from a short period in 2013. As a result, we performed an impairment test on the carrying amount of the investment in BoCom. The test confirmed that there was no impairment at 31 December 2014. The recoverable amount was US$15.7bn (2013: US$14.0bn), an excess over carrying amount (‘headroom’) of US$1.1bn at 31 December 2014 (2013: US$0.6bn). The increase in headroom is due to the improved capital position of BoCom.

 

         At 31 December 2014          At 31 December 2013  
         VIU          Carrying
value
         Fair
value
         VIU          Carrying
value
         Fair
value
 
             US$bn          US$bn              US$bn              US$bn          US$bn              US$bn  

Bank of Communications Co., Limited

       15.7           14.6           13.1           14.0           13.4           10.0   

Basis of recoverable amount

The impairment test was performed by comparing the recoverable amount of BoCom, determined by a value in use (‘VIU’) calculation, with its carrying amount. The VIU calculation uses discounted cash flow projections based on management’s estimates of earnings. Cash flows beyond the short- to medium-term are then extrapolated in perpetuity using a long-term growth rate. An imputed capital maintenance charge (‘CMC’) is included to meet the expected regulatory capital requirements, and calculated as a deduction from forecast cash flows. The principal inputs to the CMC calculation include estimates of asset growth, the ratio of risk-weighted assets to total assets, and the expected regulatory capital requirements. Management judgement is required in estimating the future cash flows of BoCom.

Key assumptions in VIU calculation

Long-term growth rate: the growth rate used was 5% (2013: 5%) for periods after 2018 and does not exceed forecast GDP growth in China.

Discount rate: the discount rate of 13% (2013: 13%) is derived from a range of values obtained by applying a Capital Asset Pricing Model (‘CAPM’) calculation for BoCom, using market data. Management supplements this by comparing the rates derived from the CAPM with discount rates available from external sources, and HSBC’s discount rate for evaluating investments in China. The discount rate used was within the range of 11.4% to 14.2% (2013: 10.5% to 15.0%) indicated by the CAPM and external sources.

Loan impairment charge as a percentage of customer advances: the ratio used ranges from 0.73% to 1% (2013: 0.64% to 1%) in the short- to medium-term. The long-term ratio was assumed to revert to a historical rate of 0.65% (2013: 0.64%). The rates were within the short- to medium-term range forecasts of 0.51% to 1.08% (2013: 0.55% to 1.20%) disclosed by external analysts.

Risk-weighted assets as a percentage of total assets: the ratio used ranges from 70% to 72% in the short- to medium-term. The long-term ratio reverts to a rate of 70% (2013: 68.7%).

Cost-income ratio: the ratio used ranges from 40.0% to 42.4% (2013: 39.7% to 43.2%) in the short- to medium-term. The ratios were within the short- to medium-term range forecasts of 37.2% to 44.5% (2013: 38.0% to 44.2%) disclosed by external analysts.

Sensitivity analyses were performed on each key assumption to ascertain the impact of reasonably possible changes in assumptions. The following change to each key assumption used on its own in the VIU calculation would reduce the headroom to nil.

 

 

Key assumption

  

 

Changes to key assumption to reduce headroom to nil

•   Long-term growth rate

 

•   Discount rate

 

•   Loan impairment charge as a percentage of customer advances

 

•   Risk-weighted assets as a percentage of total assets

 

•   Cost-income ratio

 

  

•   Decrease by 43 basis points

 

•   Increase by 53 basis points

 

•   Increase by 8 basis points

 

•   Increase by 3.3%

 

•   Increase by 1.6%

The following table illustrates the effect on VIU of reasonably possible changes to key assumptions. This reflects the sensitivity of VIU to each key assumption on its own and it is possible that more than one favourable and/or unfavourable change will occur at the same time.

 

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Notes on the Financial Statements (continued)

 

 

        Favourable change         Current model   Unfavourable change  
    US$bn     US$bn     US$bn   US$bn     US$bn  

At 31 December 2014

Carrying amount: US$14.6bn

Long-term growth rate

  +50bp      +100bp    5%   -50bp      -100bp   

VIU

  17.0      18.6    15.7   14.5      13.4   

Increase/(decrease) in VIU

  1.3      2.9      (1.2   (2.3

Discount rate

  -50bp      -100bp    13%   +50bp      +100bp   

VIU

  16.8      18.1    15.7   14.7      13.9   

Increase/(decrease) in VIU

  1.1      2.4      (1.0   (1.8

Loan impairment charge as a percentage of customer advances

  0.65% throughout

2014-18: 0.73% – 1%

2019 onwards: 0.65%

 

 

1% from 2014-18

2019 onwards: 0.65%

  

  

VIU

  16.2 15.7   14.9   

Increase/(decrease) in VIU

  0.5   (0.8)   

Risk-weighted assets as a percentage of total assets

  -100bp      -200bp   

2014-18: 70% – 72%

2019 onwards: 70.0%

  +100bp      +200bp   

VIU

  16.0      16.3    15.7   15.4      15.1   

Increase/(decrease) in VIU

  0.3      0.6      (0.3   (0.6

Cost income ratio

  -50bp      -100bp   

2014-18: 40.0% – 42.4%

2019 onwards: 42.4%

  +50bp      +100bp   

VIU

  16.0      16.3    15.7   15.4      15.1   

Increase/(decrease) in VIU

  0.3      0.6      (0.3   (0.6

At 31 December 2013

Carrying amount: US$13.4bn

Long-term growth rate

  +50bp      +100bp    5%   -50bp      -100bp   

VIU

  15.4      16.9    14.0   12.9      11.8   

Increase/(decrease) in VIU

  1.4      2.9      (1.1   (2.2

Discount rate

  -50bp      -100bp    13%   +50bp      +100bp   

VIU

  15.6      17.3    14.0   12.7      11.6   

Increase/(decrease) in VIU

  1.6      3.3      (1.3   (2.4

Loan impairment charge as a percentage of customer advances

  0.64% throughout

2013-18: 0.64% – 1.00%

2019 onwards: 0.64%

  1% from 2014-18   

VIU

  14.8 14.0   13.5   

Increase/(decrease) in VIU

  0.8   (0.5)   

Risk-weighted assets as a percentage of total assets

  -100bp      -200bp    68.7% throughout   +100bp      +200bp   

VIU

  14.4      14.7    14.0   13.7      13.4   

Increase/(decrease) in VIU

  0.4      0.7      (0.3   (0.6

Cost income ratio

  -50bp      -100bp   

2013-18: 39.7% – 43.2%

2019 onwards: 43.2%

  +50bp      +100bp   

VIU

  14.3      14.7    14.0   13.7      13.4   

Increase/(decrease) in VIU

  0.3      0.7      (0.3   (0.6

Selected financial information of BoCom

The statutory accounting reference date of BoCom is 31 December. For the year ended 31 December 2014, HSBC included the associate’s results on the basis of financial statements made up for the 12 months to 30 September 2014, taking into account changes in the subsequent period from 1 October 2014 to 31 December 2014 that would have materially affected the results.

 

    At 30 September  
    2014     2013  
    US$m     US$m  

Selected balance sheet information of BoCom

Cash and balances at central banks

  150,306      142,209   

Loans and advances to banks and other financial institutions

  79,960      88,049   

Loans and advances to customers

  547,706      516,161   

Other financial assets

  178,883      165,521   

Other assets

  45,140      34,392   

Total assets

            1,001,995                   946,332   

Deposits by banks and other financial institutions

  209,935      170,916   

Customer accounts

  663,745      667,588   

Other financial liabilities

  28,860      20,564   

Other liabilities

  25,361      19,655   

Total liabilities

  927,901      878,723   

Total equity

  74,094      67,609   

 

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Notes on the Financial Statements (continued)

 

 

    At 30 September  
    2014     2013  
    US$m     US$m  

Reconciliation of BoCom’s total shareholders’ equity to the carrying amount in HSBC’s consolidated financial statements as at 31 December

HSBC’s share of total shareholders’ equity

  14,040      12,810   

Add: Goodwill and other intangible assets

  550      602   

Carrying amount

                14,590                    13,412   
   

For the 12 months ended

30 September

 
    2014     2013  
    US$m     US$m  

Selected income statement information of BoCom

Net interest income

  22,030      20,768   

Net fee and commission income

  4,792      4,010   

Loan impairment charges

  (3,509   (2,811

Depreciation and amortisation

  (920   (809

Tax expense

  (3,102   (2,823

Profit for the year

  10,626      10,099   

Other comprehensive income

  217      (375

Total comprehensive income

  10,843      9,724   

Dividends received from BoCom

  597      549   

 

Summarised aggregate financial information in respect of all associates excluding BoCom

 

       
    2014     2013  
    US$m     US$m  

Carrying amount

  3,350      3,005   

HSBC’s share of:

– total assets

  20,099      21,007   

– total liabilities

  16,837      18,056   

– revenues

  801      927   

– profit or loss from continuing operations

  519      408   

– other comprehensive income

  2      9   

– total comprehensive income

  521      417   

Joint ventures

At 31 December 2014, the carrying amount of HSBC’s interests in joint ventures was US$241m (2013: US$223m).

Associates and joint ventures

For the year ended 31 December 2014, HSBC’s share of associates and joint ventures’ tax on profit was US$600m (2013: US$556m), which is included within ‘Share of profit in associates and joint ventures’ in the income statement.

Movements in interests in associates and joint ventures

 

    2014     2013  
    US$m     US$m  

At 1 January

  16,640      17,834   

Additions

  30      26   

Disposals

  (133   (3,148

Share of results

  2,532      2,325   

Dividends

  (757   (694

Exchange differences

  (212   396   

Share of other comprehensive income/(expense) of associates and joint ventures

  78      (35

Other movements

  3      (64

At 31 December1

                18,181                    16,640   

 

  1 Includes goodwill of US$621m (2013: US$608m).

 

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Table of Contents

Notes on the Financial Statements (continued)

 

 

21 Goodwill and intangible assets

 

 

         2014          2013  
         US$m          US$m  

Goodwill

       19,169           21,179   

Present value of in-force long-term insurance business

       5,307           5,335   

Other intangible assets

       3,101           3,404   

At 31 December

                   27,577                       29,918   

Goodwill

Accounting policy

 

 

Goodwill arises on the acquisition of subsidiaries, when the aggregate of the fair value of the consideration transferred, the amount of any non-controlling interest and the fair value of any previously held equity interest in the acquiree exceed the amount of the identifiable assets and liabilities acquired. If the amount of the identifiable assets and liabilities acquired is greater, the difference is recognised immediately in the income statement.

 

Goodwill is allocated to cash-generating units (‘CGU’s) for the purpose of impairment testing, which is undertaken at the lowest level at which goodwill is monitored for internal management purposes. HSBC’s CGU’s are based on geographical regions subdivided by global business. Impairment testing is performed at least annually, or whenever there is an indication of impairment, by comparing the recoverable amount of a CGU with its carrying amount. The carrying amount of a CGU is based on its assets and liabilities, including attributable goodwill. The recoverable amount of a CGU is the higher of its fair value less cost to sell and its value in use. VIU is the present value of the expected future CGU cash flows. If the recoverable amount is less than the carrying value, an impairment loss is charged to the income statement. Goodwill is carried on balance sheet at cost less accumulated impairment losses.

 

At the date of disposal of a business, attributable goodwill is included in HSBC’s share of net assets in the calculation of the gain or loss on disposal.

 

Goodwill is included in a disposal group if the disposal group is a CGU to which goodwill has been allocated or it is an operation within such a CGU. The amount of goodwill included in a disposal group is measured on the basis of the relative values of the operation disposed of and the portion of the CGU retained.

 

Critical accounting estimates and judgements

 

 

Goodwill impairment

 

The review of goodwill for impairment reflects management’s best estimate of the future cash flows of the CGUs and the rates used to discount these cash flows, both of which are subject to uncertain factors as follows:

 

•   the future cash flows of the CGUs are sensitive to the cash flows projected for the periods for which detailed forecasts are available and to assumptions regarding the long-term pattern of sustainable cash flows thereafter. Forecasts are compared with actual performance and verifiable economic data, but they reflect management’s view of future business prospects at the time of the assessment; and

 

•   the rates used to discount future expected cash flows can have a significant effect on their valuation and are based on the costs of capital assigned to individual CGUs. The cost of capital percentage is generally derived from a Capital Asset Pricing Model, which incorporates inputs reflecting a number of financial and economic variables, including the risk-free interest rate in the country concerned and a premium for the risk of the business being evaluated. These variables are subject to fluctuations in external market rates and economic conditions beyond management’s control, are subject to uncertainty and require the exercise of significant judgement.

 

A decline in a CGU’s expected cash flows and/or an increase in its cost of capital reduces the CGU’s estimated recoverable amount. If this is lower than the carrying value of the CGU, a charge for impairment of goodwill is recognised in our income statement for the year.

 

The accuracy of forecast cash flows is subject to a high degree of uncertainty in volatile market conditions. In such market conditions, management retests goodwill for impairment more frequently than annually to ensure that the assumptions on which the cash flow forecasts are based continue to reflect current market conditions and management’s best estimate of future business prospects.

 

During 2014, no impairment of goodwill was identified (2013: nil). In addition to the annual impairment test which was performed as at 1 July 2014, management reviewed the current and expected performance of the CGUs as at 31 December 2014 and determined that there was no indication of impairment of the goodwill allocated to them.

 

 

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Notes on the Financial Statements (continued)

 

 

Reconciliation of goodwill

 

        Europe     Asia         MENA     North
    America
    Latin
    America
    Total  
    US$m         US$m     US$m     US$m     US$m         US$m  

Gross amount

At 1 January 2014

  14,977      1,016      55      7,861      3,241      27,150   

Disposals

  (168                       (168

Exchange differences

  (1,594   (30   (1   1      (240   (1,864

Reclassified to held for sale

  (8                  24      16   

Other

       23           (47   (18   (42

At 31 December 2014

  13,207      1,009      54      7,815      3,007      25,092   

Accumulated impairment losses

At 1 January 2014

                 (5,971        (5,971

Exchange differences

                 1           1   

Other

                 47           47   

At 31 December 2014

                 (5,923        (5,923

Net carrying amount at 31 December 2014

  13,207      1,009      54      1,892      3,007      19,169   

Gross amount

At 1 January 2013

  14,660      1,134      60      8,339      3,646      27,839   

Disposals

                      (1   (1

Exchange differences

  596      (129   (5   (2   (132   328   

Reclassified to held for sale1

  (611                  (272   (883

Reinstated from held for sale

  332                          332   

Other

       11           (476        (465

At 31 December 2013

  14,977      1,016      55      7,861      3,241      27,150   

Accumulated impairment losses

At 1 January 2013

                 (6,449        (6,449

Exchange differences

                 2           2   

Other

                 476           476   

At 31 December 2013

                 (5,971        (5,971

Net carrying amount at 31 December 2013

  14,977      1,016      55      1,890      3,241      21,179   

 

  1 During 2013, goodwill in Europe amounting to US$611m was reclassified to assets held for sale following the decision to sell the private banking operations of HSBC Private Bank Holdings (Suisse) S.A. in Monaco. On transfer to held for sale, a write down of the disposal group by US$279m was recorded and allocated to goodwill. Following the later decision to retain the operations, the reclassification of the assets and liabilities out of held for sale resulted in the reinstatement of the remaining goodwill.

Impairment testing

Timing of impairment testing

HSBC’s impairment test in respect of goodwill allocated to each ‘CGU’ is performed as at 1 July each year.

Basis of the recoverable amount

The recoverable amount of all CGUs to which goodwill has been allocated was equal to its VIU at each respective testing date for 2013 and 2014.

For each significant CGU, the VIU is calculated by discounting management’s cash flow projections for the CGU. The discount rate used is based on the cost of capital HSBC allocates to investments in the countries within which the CGU operates. The long-term growth rate is used to extrapolate the cash flows in perpetuity because of the long-term perspective within the Group of the business units making up the CGUs. For the goodwill impairment test conducted at 1 July 2014, management’s cash flow projections until the end of 2018 were used.

 

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Notes on the Financial Statements (continued)

 

 

Key assumptions in VIU calculation

 

                Nominal  
          Goodwill
at 1 July
          Discount
rate
   

growth rate

beyond initial cash

flow projections

 
    US$m     %     %  

Cash-generating unit

Retail Banking and Wealth Management – Europe

  4,298      9.1      4.5   

Commercial Banking – Europe

  3,214      10.1      4.2   

Global Private Banking – Europe

  3,808      7.1      3.4   

Global Banking and Markets – Europe

  3,296      11.0      4.2   

Retail Banking and Wealth Management – Latin America

  1,762      12.8      7.9   

2014

  16,378   

Cash-generating unit

Retail Banking and Wealth Management – Europe

  4,135      8.0      3.9   

Commercial Banking – Europe

  3,062      10.0      3.8   

Global Private Banking – Europe

  3,607      7.3      3.0   

Global Banking and Markets – Europe

  3,101      9.9      3.7   

Retail Banking and Wealth Management – Latin America

  1,812      11.2      8.6   

2013

  15,717   

At 1 July 2014, aggregate goodwill of US$4,526m (1 July 2013: US$4,550m) had been allocated to CGUs that were not considered individually significant. The Group’s CGUs do not carry on their balance sheets any significant intangible assets with indefinite useful lives, other than goodwill.

Nominal long-term growth rate: this growth rate reflects GDP and inflation for the countries within which the CGU operates. The rates are based on IMF forecast growth rates as these rates are regarded as the most relevant estimate of likely future trends. The rates used for 2013 and 2014 do not exceed the long-term growth rate for the countries within which the CGU operates.

Discount rate: the discount rate used to discount the cash flows is based on the cost of capital assigned to each CGU, which is derived using a CAPM. The CAPM depends on inputs reflecting a number of financial and economic variables including the risk-free rate and a premium to reflect the inherent risk of the business being evaluated. These variables are based on the market’s assessment of the economic variables and management’s judgement. For the 1 July 2014 test, the methodology used to determine the discount rate for each CGU was refined to more accurately reflect the rates of inflation for the countries within which the CGU operates. In addition, for the purposes of testing goodwill for impairment, management supplements this process by comparing the discount rates derived using the internally generated CAPM with cost of capital rates produced by external sources. HSBC uses externally-sourced cost of capital rates where, in management’s judgement, those rates reflect more accurately the current market and economic conditions. For 2013 and 2014, internal costs of capital rates were consistent with externally-sourced rates.

Management’s judgement in estimating the cash flows of a CGU: the cash flow projections for each CGU are based on plans approved by the GMB. The key assumptions in addition to the discount rate and nominal long-term growth rate for each significant CGU are discussed below.

Global Private Banking – Europe: the cash flow forecast for GPB – Europe primarily reflects the repositioning of the business that is underway to concentrate on clients aligned with the Group’s priorities. Revenues in GPB – Europe are predominately generated through HSBC’s client relationships and the key assumption in the cash flow forecast is the level of assets under management and profitability therein following the strategic repositioning. The cash flow forecast includes increased profitability in GPB – Europe which is dependent on management achieving the planned strategic repositioning, in the context of the external environment.

At 1 July 2014, GPB – Europe had an excess of recoverable amount over carrying amount (‘headroom’) of US$1.8bn.

The following changes to the key assumptions in the value in use calculation would be necessary in order to reduce headroom to nil:

 

 

Key assumption

Discount rate

Long-term growth rate

Cash flow projection

 

 

Change to key assumption to reduce headroom to nil

Increase by 90 basis points

Decrease by 102 basis points

Decrease by 19.7%

 

The following table illustrates the effect on VIU of reasonably possible changes to key assumptions. This reflects the sensitivity of VIU to each key assumption on its own and it is possible that more than one favourable and/or unfavourable change will occur at the same time.

 

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Notes on the Financial Statements (continued)

 

 

        

        Favourable

change

        

        Current

model

        

    Unfavourable

change

 
         US$bn          US$bn          US$bn  

At 1 July 2014

              

Carrying amount of CGU: US$7.3bn

              

Excess of recoverable amount over carrying amount: $1.8bn

              

Long-term growth rate

       +100bp           3.4%           -100bp   

VIU

       12.2           9.1           7.4   

Increase/(decrease) in VIU

       3.1                (1.7

Discount rate

       -100bp           7.1%           +100bp   

VIU

       12.5           9.1           7.2   

Increase/(decrease) in VIU

       3.4                (1.9

Forecast cash flow

       +20%           378           -20%   

VIU

       10.9           9.1           7.3   

Increase/(decrease) in VIU

       1.8                (1.8

Retail Banking and Wealth Management – Europe and Commercial Banking – Europe: the assumptions included in the cash flow projections for RBWM – Europe and CMB – Europe reflect the economic environment and financial outlook of the European countries within these two CGUs. Key assumptions include the level of interest rates, nominal GDP growth, competitors’ positions within the market and the level and change in unemployment rates. While current economic conditions in Europe continue to be challenging, management’s cash flow projections are based primarily on these prevailing conditions. Risks include slower than expected growth and an uncertain regulatory environment. RBWM – Europe is sensitive to further customer remediation and regulatory actions. Based on the conditions at the balance sheet date, management determined that a reasonably possible change in any of the key assumptions described above would not cause an impairment to be recognised in respect of RBWM – Europe or CMB – Europe.

Global Banking and Markets – Europe: the key assumption included in the cash flow projection for GB&M – Europe is that European markets will continue to recover. Accordingly, recovery in European revenues is assumed to continue over the projection period to 2018. Interest rate fluctuations would put further pressure on European markets revenue recovery. Our ability to achieve the forecast cash flows for GB&M – Europe could be adversely impacted by regulatory change during the forecast period including but not limited to the extent that the recommendations set out in the final report by the Independent Commission on Banking are implemented. Based on the conditions at the balance sheet date, management determined that a reasonably possible change in any of the key assumptions described above would not cause an impairment to be recognised in respect of GB&M Europe.

Retail Banking and Wealth Management – Latin America: the assumptions included in the cash flow projections for RBWM – Latin America reflect the economic environment and financial outlook of the countries within this CGU, with Brazil and Mexico being the two largest. Key assumptions include growth in lending and deposit volumes and the credit quality of the loan portfolios. Potential challenges include unfavourable economic conditions restricting client demand and competitor pricing constraining margins. Based on the conditions at the balance sheet date, management determined that a reasonably possible change in any of the key assumptions described above would not cause an impairment to be recognised in respect of RBWM – Latin America.

Intangible assets

Accounting policy

 

 

Intangible assets are recognised, and those that are acquired in a business combination are distinguished from goodwill, when they are separable or arise from contractual or other legal rights, and their fair value can be measured reliably.

 

Intangible assets include the present value of in-force long-term insurance business and long-term investment contracts with discretionary participating features (‘PVIF’), computer software, trade names, mortgage servicing rights, customer lists, core deposit relationships, credit card customer relationships and merchant or other loan relationships. Computer software includes both purchased and internally generated software. The cost of internally generated software comprises all directly attributable costs necessary to create, produce and prepare the software to be capable of operating in the manner intended by management. Costs incurred in the ongoing maintenance of software are expensed immediately as incurred.

 

Intangible assets are subject to impairment review if there are events or changes in circumstances that indicate that the carrying amount may not be recoverable. Where:

 

•  intangible assets have an indefinite useful life, or are not yet ready for use, they are tested for impairment annually. An intangible asset recognised during the current period is tested before the end of the current year; and where

 

•  intangible assets have a finite useful life, except for PVIF, they are stated at cost less amortisation and accumulated impairment losses and are amortised over their estimated useful lives. Estimated useful life is the lower of legal duration and expected useful life. The amortisation of mortgage servicing rights is included within ‘Net fee income’.

 

 

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Notes on the Financial Statements (continued)

 

 

 

Intangible assets with finite useful lives are amortised, generally on a straight-line basis, over their useful lives as follows:

Trade names    10 years
Mortgage servicing rights    generally between 5 and 12 years
Internally generated software    between 3 and 5 years
Purchased software    between 3 and 5 years
Customer/merchant relationships    generally between 3 and 10 years
Other    generally 10 years

 

Present value of in-force long-term insurance business

 

The value placed on insurance contracts that are classified as long-term insurance business or long-term investment contracts with discretionary participating features (‘DPF’) and are in force at the balance sheet date is recognised as an asset. The asset represents the present value of the equity holders’ interest in the issuing insurance companies’ profits expected to emerge from these contracts written at the balance sheet date. The PVIF is determined by discounting the equity holders’ interest in future profits expected to emerge from business currently in force using appropriate assumptions in assessing factors such as future mortality, lapse rates and levels of expenses, and a risk discount rate that reflects the risk premium attributable to the respective contracts. The PVIF incorporates allowances for both non-market risk and the value of financial options and guarantees. The PVIF asset is presented gross of attributable tax in the balance sheet and movements in the PVIF asset are included in ‘Other operating income’ on a gross of tax basis.

 

Present value of in-force long-term insurance business

Our life insurance business is accounted for using the embedded value approach which, inter alia, provides a risk and valuation framework. The PVIF asset at 31 December 2014 was US$5.3bn (2013: US$5.3bn).

Movements in PVIF

 

         2014          2013  
                 US$m                  US$m  

PVIF at 1 January

       5,335           4,847   
   

Value of new business written during the year1

       870           924   

Movements arising from in-force business:

             

– expected return

       (545        (505

– experience variances2

       62           (20

– changes in operating assumptions

       (69        186   

Investment return variances

       (34        42   

Changes in investment assumptions

       (75        (120

Other adjustments

       52           18   

Change in PVIF of long-term insurance business

       261           525   

Transfer of assets classified as held for sale3

       (122          

Exchange differences and other

       (167        (37

PVIF at 31 December

       5,307           5,335   

 

  1 Value of new business written during the year is the present value of the projected stream of profits from the business.
  2 Experience variances include the effect of the difference between demographic, expense and persistency assumptions used in the previous PVIF calculation and actual experience observed during the year to the extent this affects profits on future business.
  3 Relates to the UK Pensions business which was classified as held for sale in the first half of the year. See page 191 for further details.

In the PVIF calculation, expected cash flows are projected after adjusting for a variety of assumptions made by each insurance operation to reflect local market conditions and management’s judgement of future trends, and after applying risk margins to reflect any uncertainty in the underlying assumptions. The main assumptions relate to economic and non-economic assumptions and policyholder behaviour. Variations in actual experience and changes to assumptions can contribute to volatility in the results of the insurance business.

The key drivers of the movement in the value of the PVIF asset are the expected cash flows from:

 

    new business adjusted for anticipated maturities and assumptions relating to policyholder behaviour (‘value of new business written during the year’);

 

    unwind of the discount rate less the reversal of expected cash flows for the period (‘expected return’);

 

    changes in non-economic operating assumptions such as mortality or lapse rates (‘change in operating assumptions’);

 

    the effects of changes in projected future cash flows associated with operating assumption experience variances compared with those assumed at the start of the period (‘experience variances’);

 

    changes related to future investment returns (‘changes in investment assumptions’); and

 

    the effect of actual investment experience on existing assets compared with the assumptions at the start of the period (‘investment return variances’).

The valuation of the PVIF asset includes explicit risk margins for non-economic risks in the projection assumptions and explicit allowances for financial options and guarantees using stochastic methods. Risk discount rates are set on an active basis with reference to market risk-free yields.

 

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Notes on the Financial Statements (continued)

 

 

Key assumptions used in the computation of PVIF for main life insurance operations

Economic assumptions are either set in a way that is consistent with observable market values or, in certain markets (including those where the risk free curve is not observable at tenors matching the duration of our insurance contract liabilities) we make use of long-term economic assumptions. Setting such assumptions involves the projection of long-term interest rates and the time horizon over which rates in less developed markets will tend towards the norms observed in mature markets. The assumptions are informed by relevant historical data and by research and analysis performed by the Group’s Economic Research team and external experts. The valuation of PVIF will be sensitive to any changes in these long-term assumptions in the same way that it is sensitive to observed market movements, and the impact of such changes is included in the sensitivities presented below.

 

    2014     2013  
                UK         Hong Kong             France1                 UK         Hong Kong             France1  
    %     %     %     %     %     %  

Weighted average risk free rate

  1.65      1.86      1.21      2.45      2.31      2.38   

Weighted average risk discount rate

  2.15      7.42      1.73      2.95      7.41      4.69   

Expense inflation

  4.67      3.00      2.00      3.39      3.00      2.00   

 

  1 For 2014, the calculation of France’s PVIF assumes a risk discount rate of 1.73% plus a risk margin of US$ 63m. For 2013, a composite rate of 4.69% was used. This was equivalent to a rate of 3.08% plus a risk margin of US$64m.

Sensitivity to changes in economic assumptions

The Group sets the risk discount rate applied to the PVIF calculation by starting from a risk-free rate curve and adding explicit allowances for risks not reflected in the best estimate cash flow modelling. Where shareholders provide options and guarantees to policyholders the cost of these options and guarantees is an explicit reduction to PVIF, unless it is already allowed for as an explicit addition to the technical provisions required by regulators. See page 195 for further details of these guarantees.

The following table shows the effect on the PVIF of reasonably possible changes in the main economic assumption, risk-free rates, across all insurance manufacturing subsidiaries. Due to certain characteristics of the contracts, the relationships are non-linear and the results of the sensitivity testing should not be extrapolated to higher levels of stress. The sensitivities shown are before actions that could be taken by management to mitigate effects and before resultant changes in policyholder behaviour. The sensitivities have increased from 2013 to 2014, driven mainly by falling yields and a flattening of the yield curve in France during 2014. In the low yield environment the PVIF asset is particularly sensitive to yield curve movements driven by the projected cost of options and guarantees described on page 195.

 

    2014     2013  
                US$m                 US$m  

Effect on PVIF at 31 December of:

+ 100 basis point shift in risk-free rate

  320      184   

– 100 basis point shift in risk-free rate1

  (589   (289

 

  1 Where a –100 basis point parallel shift in the risk-free rate would result in a negative rate, the effect on PVIF has been calculated using a minimum rate of 0%.

Sensitivity to changes in non-economic assumptions

Policyholder liabilities and PVIF for life manufacturers are determined by reference to non-economic assumptions including mortality and/or morbidity, lapse rates and expense rates. The table below shows the sensitivity of PVIF to reasonably possible changes in these non-economic assumptions at that date across all our insurance manufacturing subsidiaries.

 

    2014     2013  
                US$m                 US$m  

Effect on PVIF at 31 December of:

10% increase in mortality and/or morbidity rates

  (66   (84

10% decrease in mortality and/or morbidity rates

  70      84   

10% increase in lapse rates

  (146   (154

10% decrease in lapse rates

  165      173   

10% increase in expense rates

  (93   (109

10% decrease in expense rates

  94      110   

 

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Notes on the Financial Statements (continued)

 

 

Other intangible assets

Movement of intangible assets excluding goodwill and the PVIF

 

        

Internally

        generated

software

         Other          Total  
         US$m                        US$m                        US$m  

Cost

         

At 1 January 2014

       5,999           2,975           8,974   

Additions

       732           177           909   

Disposals

       (35        (80        (115

Amount written off

       (24        (53        (77

Other changes

       (259        (156        (415

At 31 December 2014

       6,413           2,863           9,276   

Accumulated amortisation

         

At 1 January 2014

       (3,809        (1,761        (5,570

Charge for the year1

       (677        (261        (938

Impairment

       (11        (54        (65

Disposals

       32           77           109   

Amount written off

       24           53           77   

Other changes

       155           57           212   

At 31 December 2014

       (4,286        (1,889        (6,175

Net carrying amount at 31 December 2014

       2,127           974           3,101   

Cost

         

At 1 January 2013

       5,703           3,345           9,048   

Additions

       731           142           873   

Disposals

       (117        (196        (313

Amount written off

       (57        (47        (104

Other changes

       (261        (269        (530

At 31 December 2013

       5,999           2,975           8,974   

Accumulated amortisation

         

At 1 January 2013

       (3,469        (1,963        (5,432

Charge for the year1

       (675        (179        (854

Impairment

       (39        (4        (43

Disposals

       111           167           278   

Amount written off

       57           47           104   

Other changes

       206           171           377   

At 31 December 2013

       (3,809        (1,761        (5,570

Net carrying amount at 31 December 2013

       2,190           1,214           3,404   

 

  1 The amortisation charge for the year is recognised within the income statement under ‘Amortisation and impairment of intangible assets’, with the exception of the amortisation of mortgage servicing rights which is recognised in ‘Net fee income’. The revaluation net of amortisation charge for mortgage servicing rights was US$67m in 2014 (2013: credit of US$34m).

 

22 Investments in subsidiaries

 

Accounting policy

 

 

HSBC classifies investments in entities which it controls as subsidiaries. HSBC consolidation policy is described in Note 1(h). Subsidiaries which are structured entities are covered in Note 39.

 

HSBC Holdings’ investments in subsidiaries are stated at cost less impairment losses. Impairment losses recognised in prior periods are reversed through the income statement if there has been a change in the estimates used to determine the investment’s recoverable amount since the last impairment loss was recognised.

 

 

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Notes on the Financial Statements (continued)

 

 

Principal subsidiaries of HSBC Holdings

 

    At 31 December 2014
   

Country of

incorporation

or registration

   

HSBC’s

interest in

    equity capital

%

   

Issued

equity

capital

   

Share

class

Europe

HSBC Asset Finance (UK) Limited

  England      100      £265m    Ordinary £1

HSBC Bank A.S.

  Turkey      100      TRL652m   

A–Common TRL1

B–Common TRL1

HSBC Bank plc

  England      100      £797m   

Ordinary £1

Preferred Ordinary £1

Series 2 Third Dollar

Preference US$0.01

Third Dollar

Preference US$0.01

HSBC France

  France      99.99      €337m    Shares €5.00

HSBC Private Banking Holdings (Suisse) SA

  Switzerland      100      CHF1,363m    Ordinary CHF1,000

HSBC Trinkaus & Burkhardt AG

  Germany      80.65      €75.4m    Shares of no par value

Asia

Hang Seng Bank Limited1

  Hong Kong      62.14      HK$9, 658m    Ordinary no par value

HSBC Bank Australia Limited

  Australia      100      A$811m    Ordinary no par value

HSBC Bank (China) Company Limited

  PRC 5    100      RMB15,400m    Ordinary CNY1.00

HSBC Bank Malaysia Berhad

  Malaysia      100      RM115m    Ordinary RM0.50

HSBC Bank (Taiwan) Limited

  Taiwan      100      TWD34,800m    Ordinary TWD10.00

HSBC Life (International) Limited

  Bermuda      100      HK$4,178m    Ordinary HK$1.00

The Hongkong and Shanghai Banking Corporation Limited

  Hong Kong      100      HK$96,052m   

Ordinary no par value

CIP2 US$1.00

CRP3 US$1.00

NIP4 US$1.00

Middle East and North Africa

HSBC Bank Middle East Limited

  Jersey      100      US$931m   

Ordinary US$1.00

CRP3 US$1.00

HSBC Bank Egypt S.A.E.

  Egypt      94.53      EGP2,796m    Ordinary EGP84.00

North America

HSBC Bank Canada

  Canada      100      C$1,225m   

Common shares of no

par value

HSBC Bank USA, N.A.

  USA      100      US$2m    Common US$100

HSBC Finance Corporation

  USA      100      6  Common US$0.01

HSBC Securities (USA) Inc.

  USA      100      6  Common US$0.05

Latin America

HSBC Bank Argentina S.A.

  Argentina      99.99      ARS1,244m   

Ordinary–A ARS1.00

Ordinary–B ARS1.00

HSBC Bank Brasil S.A. – Banco Múltiplo

  Brazil      100      BRL6,402m    Shares of no par value

HSBC Mexico, S.A., Institución de Banca Múltiple, Grupo Financiero HSBC

  Mexico      99.99      MXN5,681m    Ordinary MXN2.00

 

1   Listed in Hong Kong. 4   Non-cumulative Irredeemable Preference shares.
2   Cumulative Irredeemable Preference shares. 5   People’s Republic of China.
3   Cumulative Redeemable Preference shares. 6   Issued equity capital is less than US$1m.

Details of the debt, subordinated debt and preference shares issued by the principal subsidiaries to parties external to the Group are included in the Notes 26 ‘Debt securities in issue’, 30 ‘Subordinated liabilities’ and 34 ‘Non-controlling interests’, respectively.

All the above subsidiaries are included in the HSBC consolidated financial statements.

 

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Notes on the Financial Statements (continued)

 

 

Details of all HSBC subsidiaries, as required under Section 409 of the Companies Act 2006, will be annexed to the next Annual Return of HSBC Holdings filed with the UK Registrar of Companies.

The principal countries of operation are the same as the countries of incorporation except for HSBC Bank Middle East Limited, which operates mainly in the Middle East and North Africa, and HSBC Life (International) Limited, which operates mainly in Hong Kong.

HSBC is structured as a network of regional banks and locally incorporated regulated banking entities. Each bank is separately capitalised in accordance with applicable prudential requirements and maintains a capital buffer consistent with the Group’s risk appetite for the relevant country or region. Our capital management process culminates in the annual Group capital plan, which is approved by the Board. HSBC Holdings is the primary provider of equity capital to its subsidiaries and also provides them with non-equity capital where necessary. These investments are substantially funded by HSBC Holdings’ issuance of equity and non-equity capital and by profit retention. As part of its capital management process, HSBC Holdings seeks to maintain a balance between the composition of its capital and its investment in subsidiaries. Subject to the above, there is no current or foreseen impediment to HSBC Holdings’ ability to provide such investments. The ability of subsidiaries to pay dividends or advance monies to HSBC Holdings depends on, among other things, their respective local regulatory capital and banking requirements, statutory reserves, and financial and operating performance. During 2014 and 2013, none of the Group’s subsidiaries experienced significant restrictions on paying dividends or repaying loans and advances. Also, there are no foreseen restrictions envisaged by our subsidiaries on paying dividends or repaying loans and advances.

The amount of guarantees by HSBC Holdings in favour of other HSBC Group entities is set out in Note 37.

Structured entities consolidated by HSBC where HSBC owns less than 50% of the voting rights

 

   

        Carrying value of total        

consolidated assets

    Nature of SPE
    2014     2013      
    US$bn     US$bn      

Solitaire Funding Ltd

  9.0      10.2    Securities investment conduit

Mazarin Funding Limited

  3.9      7.4    Securities investment conduit

Barion Funding Limited

  2.0      3.8    Securities investment conduit

Malachite Funding Limited

  1.4      3.0    Securities investment conduit

HSBC Home Equity Loan Corporation I

  1.9      2.1    Securitisation

HSBC Home Equity Loan Corporation II

  0.9      1.6    Securitisation

Regency Assets Limited

  11.0      13.5    Conduit

Bryant Park Funding LLC

       0.4    Conduit

In addition to the above, HSBC consolidates a number of individually insignificant structured entities with total assets of US$22.9bn (2013: US$26.1bn). For further details, see Note 39.

In each of the above cases, HSBC controls and consolidates an entity when it is exposed, or has rights, to variable returns from its involvement with the entity and has the ability to affect those returns through its power over the entity.

Subsidiaries with significant non-controlling interests

 

    2014     2013  

Hang Seng Bank Limited

Proportion of ownership interests and voting rights held by non-controlling interests

  37.86%      37.86%   

Place of business

      Hong Kong          Hong Kong   
    US$m     US$m  

Profit attributable to non-controlling interests

  760      1,332   

Accumulated non-controlling interests of the subsidiary

  5,765      4,591   

Dividends paid to non-controlling interests

  513      495   

Summarised financial information:

– total assets

  160,769      145,380   

– total liabilities

  144,642      133,253   

– net operating income before loan impairment

  3,687      4,876   

– profit for the year

  2,007      3,517   

– total comprehensive income for the year

  4,460      3,145   

 

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Notes on the Financial Statements (continued)

 

 

23 Prepayments, accrued income and other assets

 

Accounting policy

 

 

Assets held for sale

 

Assets and liabilities of disposal groups and non-current assets are classified as held for sale when their carrying amounts will be recovered principally through sale rather than through continuing use. Held-for-sale assets are generally measured at the lower of their carrying amount and fair value less cost to sell, except for those assets and liabilities that are not within the scope of the measurement requirements of IFRS 5 ‘Non-current Assets Held for Sale and Discontinued Operations’.

 

Immediately before the initial classification as held for sale, the carrying amounts of the relevant assets and liabilities are measured in accordance with applicable IFRSs. On subsequent remeasurement of a disposal group, the carrying amounts of any assets and liabilities that are not within the scope of the measurement requirements of IFRS 5, but are included in a disposal group classified as held for sale, are remeasured under applicable IFRSs before the fair value less costs to sell of the disposal group is determined.

 

Property, plant and equipment

 

Land and buildings are stated at historical cost, or fair value at the date of transition to IFRSs (‘deemed cost’), less impairment losses and depreciation over their estimated useful lives, as follows:

 

•  freehold land is not depreciated;

 

•  freehold buildings are depreciated at the greater of 2% per annum on a straight-line basis or over their remaining useful lives; and

 

•  leasehold land and buildings are depreciated over the shorter of their unexpired terms of the leases or their remaining useful lives.

 

Equipment, fixtures and fittings (including equipment on operating leases where HSBC is the lessor) are stated at cost less impairment losses and depreciation over their useful lives, which are generally between 5 years and 20 years.

 

Property, plant and equipment is subject to an impairment review if their carrying amount may not be recoverable.

 

HSBC holds certain properties as investments to earn rentals or for capital appreciation, or both, and those investment properties are included on balance sheet at fair value.

 

Prepayments, accrued income and other assets

 

         2014
            US$m
         2013
            US$m
 

Prepayments and accrued income

       10,554           11,006   

Assets held for sale

       7,647           4,050   

Bullion

       15,726           22,929   

Endorsements and acceptances

       10,775           11,624   

Reinsurers’ share of liabilities under insurance contracts (Note 28)

       1,032           1,408   

Employee benefit assets (Note 6)

       5,028           2,140   

Other accounts

       13,882           12,838   

Property, plant and equipment

       10,532           10,847   

At 31 December

       75,176           76,842   

 

Prepayments, accrued income and other assets include US$40,622m (2013: US$37,635m) of financial assets, the majority of which are measured at amortised cost.

 

Property, plant and equipment – selected information

 

   

  

        

2014

            US$m

        

2013

            US$m

 

Cost or fair value

       21,831           21,927   

Accumulated depreciation and impairment

       11,299           11,080   

Net carrying amount at 31 December

       10,532           10,847   

Additions at cost

       1,477           1,980   

Disposals at net book value

       69           267   

Property, plant and equipment1:

         

Land and buildings

       5,234           5,661   

– freehold

       1,769           2,062   

– long leasehold

       1,252           1,266   

– medium and short leasehold

       2,213           2,333   

Investment properties2

       2,236           1,945   

 

  1 Includes nil freehold (2013: nil), US$1,306m long leasehold (2013: US$1,309m), US$2,638m medium leasehold (2013: US$2,472m) and nil short leasehold (2013: US$2m) in Hong Kong.
  2 Investment properties are valued on a market value basis as at 31 December each year by independent professional valuers who have recent experience in the location and type of properties. Investment properties in Hong Kong, the Macau Special Administrative Region and mainland China, which represent more than 74% by value of HSBC’s investment properties subject to revaluation, were valued by DTZ Debenham Tie Leung Limited whose valuers are members of the Hong Kong Institute of Surveyors. Properties in other countries, which represent 26% by value of HSBC’s investment properties, were valued by different independent professionally qualified valuers.

 

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Notes on the Financial Statements (continued)

 

 

24 Trading liabilities

 

Accounting policy

 

 

Trading liabilities are classified as held for trading if they have been acquired or incurred principally for the purpose of selling or repurchasing in the near term, or form part of a portfolio of identified financial instruments that are managed together and for which there is evidence of a recent pattern of short-term profit-taking. They are recognised on trade date, when HSBC enters into contractual arrangements with counterparties, and are normally derecognised when extinguished. They are initially measured at fair value, with subsequent changes in fair value and interest paid recognised in the income statement in ‘Net trading income’.

 

The sale of borrowed securities is classified as trading liabilities.

 

Trading liabilities

 

        

2014

US$m

        

2013

US$m

 

Deposits by banks1

       41,453           43,130   

Customer accounts1

       50,600           57,688   

Other debt securities in issue (Note 26)

       33,602           32,155   

Other liabilities – net short positions in securities

       64,917           74,052   

At 31 December

               190,572                   207,025   

 

  1 Deposits by banks and customer accounts include repos, settlement accounts, stock lending and other amounts.

At 31 December 2014, the cumulative amount of change in fair value attributable to changes in HSBC’s credit risk was a loss of US$79m (2013: loss of US$95m).

 

25 Financial liabilities designated at fair value

 

Accounting policy

 

 

The criteria for designating instruments at fair value and their measurement are described in Note 15. The fair value designation, once made, is irrevocable. Designated financial liabilities are recognised when HSBC enters into contracts with counterparties and are normally derecognised when extinguished. This section provides examples of such designations:

 

•  Long-term debt issues. The interest payable on certain fixed rate long-term debt securities issued has been matched with the interest on certain interest rate swaps as part of a documented interest rate risk management strategy. An accounting mismatch would arise if the debt securities issued were accounted for at amortised cost, and this mismatch is eliminated through the fair value designation.

 

•  Financial liabilities under unit-linked and non-linked investment contracts.

 

HSBC issues contracts to customers that contain insurance risk, financial risk or a combination thereof. A contract under which HSBC accepts insignificant insurance risk from another party is not classified as an insurance contract, but is accounted for as a financial liability. See Note 28 for contracts where HSBC accepts significant insurance risk.

 

Customer liabilities under linked and certain non-linked investment contracts issued by insurance subsidiaries and the corresponding financial assets are designated at fair value. Liabilities are at least equivalent to the surrender or transfer value which is calculated by reference to the value of the relevant underlying funds or indices. Premiums receivable and amounts withdrawn are accounted for as increases or decreases in the liability recorded in respect of investment contracts. The incremental costs directly related to the acquisition of new investment contracts or renewing existing investment contracts are deferred and amortised over the period during which the investment management services are provided.

 

Financial liabilities designated at fair value – HSBC

 

        

2014

US$m

        

2013

US$m

 

Deposits by banks and customer accounts

       160           315   

Liabilities to customers under investment contracts

       6,312           13,491   

Debt securities in issue (Note 26)

       46,364           53,363   

Subordinated liabilities (Note 30)

       21,822           18,230   

Preferred securities (Note 30)

       1,495           3,685   

At 31 December

                 76,153                     89,084   

The carrying amount at 31 December 2014 of financial liabilities designated at fair value was US$5,813m more than the contractual amount at maturity (2013: US$4,375m more). The cumulative amount of the change in fair value attributable to changes in credit risk was a loss of US$870m (2013: loss of US$1,334m).

 

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Table of Contents

Notes on the Financial Statements (continued)

 

 

Financial liabilities designated at fair value – HSBC Holdings

 

         2014
          US$m
         2013
          US$m
 

Debt securities in issue (Note 26):

         

– owed to third parties

       8,185           8,106   

Subordinated liabilities (Note 30):

         

– owed to third parties

       9,513           9,760   

– owed to HSBC undertakings

       981           3,161   

At 31 December

       18,679           21,027   

The carrying amount at 31 December 2014 of financial liabilities designated at fair value was US$2,694m more than the contractual amount at maturity (2013: US$2,309m more). The cumulative amount of the change in fair value attributable to changes in credit risk was a loss of US$520m (2013: loss of US$859m).

 

26 Debt securities in issue

 

Accounting policy

 

 

Financial liabilities for debt securities issued are recognised when HSBC enters into contractual arrangements with counterparties and initially measured at fair value, which is normally the consideration received, net of directly attributable transaction costs incurred. Subsequent measurement of financial liabilities, other than those measured at fair value through profit or loss and financial guarantees, is at amortised cost, using the effective interest method to amortise the difference between proceeds received, net of directly attributable transaction costs incurred, and the redemption amount over the expected life of the instrument.

 

Debt securities in issue – HSBC

 

        

2014

US$m

        

2013

US$m

 

Bonds and medium-term notes

       132,539           146,116   

Other debt securities in issue

       43,374           43,482   
         175,913           189,598   

Of which debt securities in issue reported as:

         

– trading liabilities (Note 24)

       (33,602        (32,155

– financial liabilities designated at fair value (Note 25)

       (46,364        (53,363

At 31 December

       95,947           104,080   

 

Debt securities in issue – HSBC Holdings

 

         
         2014
          US$m
         2013
          US$m
 

Debt securities

       9,194           10,897   

Of which debt securities in issue reported as:

         

– financial liabilities designated at fair value (Note 25)

       (8,185        (8,106

At 31 December

       1,009           2,791   

 

27 Accruals, deferred income and other liabilities

 

 

         2014
            US$m
         2013
          US$m
 

Liabilities of disposal groups held for sale

       6,934           2,804   

Accruals and deferred income

       15,075           16,185   

Amounts due to investors in funds consolidated by HSBC

       782           1,008   

Obligations under finance leases

       67           252   

Endorsements and acceptances

       10,760           11,614   

Employee benefit liabilities (Note 6)

       3,208           2,931   

Other liabilities

       16,570           17,547   

At 31 December

       53,396           52,341   

Accruals, deferred income and other liabilities include US$43,840m (2013: US$46,258m) of financial liabilities, the majority of which are measured at amortised cost.

 

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Notes on the Financial Statements (continued)

 

 

28 Liabilities under insurance contracts

 

Accounting policy

 

 

HSBC issues contracts to customers that contain insurance risk, financial risk or a combination thereof. A contract under which HSBC accepts significant insurance risk from another party by agreeing to compensate that party on the occurrence of a specified uncertain future event, is classified as an insurance contract. An insurance contract may also transfer financial risk, but is accounted for as an insurance contract if the insurance risk is significant.

 

Liabilities under insurance contracts

 

Liabilities under non-linked life insurance contracts are calculated by each life insurance operation based on local actuarial principles. Liabilities under unit-linked life insurance contracts are at least equivalent to the surrender or transfer value which is calculated by reference to the value of the relevant underlying funds or indices.

 

A liability adequacy test is carried out on insurance liabilities to ensure that the carrying amount of the liabilities is sufficient in the light of current estimates of future cash flows. When performing the liability adequacy test, all contractual cash flows are discounted and compared with the carrying value of the liability. When a shortfall is identified it is charged immediately to the income statement.

 

Future profit participation on insurance contracts with DPF

 

Where contracts provide discretionary profit participation benefits to policyholders, liabilities for these contracts include provisions for the future discretionary benefits to policyholders. These provisions reflect actual performance of the investment portfolio to date and management expectation of the future performance of the assets backing the contracts, as well as other experience factors such as mortality, lapses and operational efficiency, where appropriate. This benefit may arise from the contractual terms, regulation, or past distribution policy.

 

Investment contracts with DPF

 

While investment contracts with DPF are financial instruments, they continue to be treated as insurance contracts as permitted by IFRS 4. The Group therefore recognises the premiums for those contracts as revenue and recognises as an expense the resulting increase in the carrying amount of the liability.

 

In the case of net unrealised investment gains on these contracts, whose discretionary benefits principally reflect the actual performance of the investment portfolio, the corresponding increase in the liabilities is recognised in either the income statement or other comprehensive income, following the treatment of the unrealised gains on the relevant assets. In the case of net unrealised losses, a deferred participating asset is recognised only to the extent that its recoverability is highly probable. Movements in the liabilities arising from realised gains and losses on relevant assets are recognised in the income statement.

 

Liabilities under insurance contracts

 

         Gross
          US$m
        

Reinsurers’

share
          US$m

         Net
          US$m
 

Non-linked insurance contracts1

              

At 1 January 2014

       33,950           (1,118        32,832   

Claims and benefits paid

       (3,575        175           (3,400

Increase in liabilities to policyholders

       7,764           (409        7,355   

Disposals/transfers to held-for-sale

       (589        527           (62

Exchange differences and other movements

       (577        53           (524

At 31 December 2014

       36,973           (772        36,201   

Investment contracts with discretionary participation features

              

At 1 January 2014

       26,427                     26,427   

Claims and benefits paid

       (2,175                  (2,175

Increase in liabilities to policyholders

       3,188                     3,188   

Exchange differences and other movements2

       (2,372                  (2,372

At 31 December 2014

       25,068                     25,068   

Linked life insurance contracts

              

At 1 January 2014

       13,804           (290        13,514   

Claims and benefits paid

       (1,499        88           (1,411

Increase in liabilities to policyholders

       2,762           33           2,795   

Disposals/transfers to held-for-sale

       (2,547        74           (2,473

Exchange differences and other movements3

       (700        (165        (865

At 31 December 2014

       11,820           (260        11,560   

Total liabilities to policyholders at 31 December 2014

       73,861           (1,032        72,829   

 

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Notes on the Financial Statements (continued)

 

 

         Gross
          US$m
        

Reinsurers’

share
          US$m

         Net
          US$m
 

Non-linked insurance contracts1

              

At 1 January 2013

       30,765           (952        29,813   

Claims and benefits paid

       (3,014        164           (2,850

Increase in liabilities to policyholders

       6,892           (367        6,525   

Disposals/transfers to held-for-sale

       (52        13           (39

Exchange differences and other movements

       (641        24           (617

At 31 December 2013

       33,950           (1,118        32,832   

Investment contracts with discretionary participation features

              

At 1 January 2013

       24,374                     24,374   

Claims and benefits paid

       (2,308                  (2,308

Increase in liabilities to policyholders

       3,677                     3,677   

Exchange differences and other movements2

       684                     684   

At 31 December 2013

       26,427                     26,427   

Linked life insurance contracts

              

At 1 January 2013

       13,056           (455        12,601   

Claims and benefits paid

       (1,976        426           (1,550

Increase in liabilities to policyholders

       3,379           111           3,490   

Exchange differences and other movements3

       (655        (372        (1,027

At 31 December 2013

       13,804           (290        13,514   

Total liabilities to policyholders at 31 December 2013

       74,181           (1,408        72,773   

 

  1 Includes liabilities under non-life insurance contracts.
  2 Includes movement in liabilities relating to discretionary profit participation benefits due to policyholders arising from net unrealised investment gains recognised in other comprehensive income.
  3 Includes amounts arising under reinsurance agreements.

The increase in liabilities to policyholders represents the aggregate of all events giving rise to additional liabilities to policyholders in the year. The key factors contributing to the movement in liabilities to policyholders include death claims, surrenders, lapses, liabilities to policyholders created at the initial inception of the policies, the declaration of bonuses and other amounts attributable to policyholders.

 

29 Provisions

 

Accounting policy

 

 

Provisions are recognised when it is probable that an outflow of economic benefits will be required to settle a present legal or constructive obligation, which has arisen as a result of past events and for which a reliable estimate can be made.

 

Critical accounting estimates and judgements

 

 

Provisions

 

Judgement is involved in determining whether a present obligation exists and in estimating the probability, timing and amount of any outflows. Professional expert advice is taken on the assessment of litigation, property (including onerous contracts) and similar obligations.

 

Provisions for legal proceedings and regulatory matters typically require a higher degree of judgement than other types of provisions. When matters are at an early stage, accounting judgements can be difficult because of the high degree of uncertainty associated with determining whether a present obligation exists, and estimating the probability and amount of any outflows that may arise. As matters progress, management and legal advisers evaluate on an ongoing basis whether provisions should be recognised, revising previous judgements and estimates as appropriate. At more advanced stages, it is typically easier to make judgements and estimates around a better defined set of possible outcomes. However, the amount provisioned can remain very sensitive to the assumptions used. There could be a wide range of possible outcomes for any pending legal proceedings, investigations or inquiries. As a result, it is often not practicable to quantify a range of possible outcomes for individual matters. It is also not practicable to meaningfully quantify ranges of potential outcomes in aggregate for these types of provisions because of the diverse nature and circumstances of such matters and the wide range of uncertainties involved.

 

Provisions for customer remediation also require significant levels of estimation and judgement. The amounts of provisions recognised depend on a number of different assumptions, for example, the volume of inbound complaints, the projected period of inbound complaint volumes, the decay rate of complaint volumes, the population identified as systemically mis-sold and the number of policies per customer complaint.

 

 

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Notes on the Financial Statements (continued)

 

 

Provisions

 

   

Restructuring

costs

US$m

    Contractual
commitments
US$m
   

Legal

proceedings

and regulatory

matters

US$m

   

Customer

remediation
US$m

   

Other

provisions
US$m

    Total
US$m
 

At 1 January 2014

  271      177      1,832      2,382      555      5,217   

Additional provisions/increase in provisions

  147      136      1,752      1,440      154      3,629   

Provisions utilised

  (143   (2   (1,109   (1,769   (112   (3,135

Amounts reversed

  (43   (46   (281   (184   (66   (620

Unwinding of discounts

       1      43      10      11      65   

Exchange differences and other movements

  (35   (32   (53   (48   10      (158

At 31 December 2014

  197      234      2,184      1,831      552      4,998   

At 1 January 2013

  251      301      1,667      2,387      646      5,252   

Additional provisions/increase in provisions

  179      57      1,209      1,536      230      3,211   

Provisions utilised

  (111   (5   (709   (1,487   (167   (2,479

Amounts reversed

  (65   (66   (340   (94   (126   (691

Unwinding of discounts

            38      7      13      58   

Exchange differences and other movements

  17      (110   (33   33      (41   (134

At 31 December 2013

  271      177      1,832      2,382      555      5,217   

Further details of legal proceedings and regulatory matters are set out in Note 40, including the provisions made on foreign exchange rate investigations and litigation. Legal proceedings include civil court, arbitration or tribunal proceedings brought against HSBC companies (whether by way of claim or counterclaim) or civil disputes that may, if not settled, result in court, arbitration or tribunal proceedings. Regulatory matters refer to investigations, reviews and other actions carried out by, or in response to the actions of, regulators or law enforcement agencies in connection with alleged wrongdoing by HSBC.

Customer remediation refers to activities carried out by HSBC to compensate customers for losses or damages associated with a failure to comply with regulations or to treat customers fairly. Customer remediation is initiated by HSBC in response to customer complaints and/or industry developments in sales practices, and is not necessarily initiated by regulatory action.

Payment protection insurance

At 31 December 2014, a provision of US$1,079m (31 December 2013: US$946m) was held relating to the estimated liability for redress in respect of the possible mis-selling of payment protection insurance (‘PPI’) policies in previous years. An increase in provisions of US$960m was recognised during the year, primarily reflecting an increase in inbound complaints by claims management companies compared to previous forecasts. The current projected trend of inbound complaint volumes implies that the redress programme will be complete by the first quarter of 2018. However, this timing is subject to uncertainty as the trend may change over time based on actual experience.

Cumulative provisions made since the Judicial Review ruling in the first half of 2011 amounted to US$4.2bn of which US$3.2bn had been paid as at 31 December 2014.

The estimated liability for redress is calculated on the basis of total premiums paid by the customer plus simple interest of 8% per annum (or the rate inherent in the related loan product where higher). The basis for calculating the redress liability is the same for single premium and regular premium policies. Future estimated redress levels are based on historically observed redress per policy.

A total of approximately 5.4m PPI policies have been sold by HSBC since 2000, generating estimated revenues of US$4.3bn at 2014 average exchange rates. The gross written premiums on these polices was approximately US$5.6bn at 2014 average exchange rates. At 31 December 2014, the estimated total complaints expected to be received was 1.9m, representing 36% of total policies sold. It is estimated that contact will be made with regard to 2.3m policies, representing 42% of total policies sold. This estimate includes inbound complaints as well as HSBC’s proactive contact exercise on certain policies (‘outbound contact’).

The following table details the cumulative number of complaints received at 31 December 2014 and the number of claims expected in the future:

 

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Table of Contents

Notes on the Financial Statements (continued)

 

 

        Cumulative to
31 December
2014
    Future
    expected
 

Inbound complaints1 (000s of policies)

  1,215      344   

Outbound contact (000s of policies)

  448      291   

Response rate to outbound contact

  51%      51%   

Average uphold rate per claim2

  77%      71%   

Average redress per claim (US$)

  2,611      3,115   

 

  1 Excludes invalid claims where the complainant has not held a PPI policy.
  2 Claims include inbound and responses to outbound contact.

The main assumptions involved in calculating the redress liability are the volume of inbound complaints, the projected period of inbound complaints, the decay rate of complaint volumes, the population identified as systemically mis-sold and the number of policies per customer complaint. The main assumptions are likely to evolve over time as root cause analysis continues, more experience is available regarding customer initiated complaint volumes received, and we handle responses to our ongoing outbound contact.

A 100,000 increase/decrease in the total inbound complaints would increase/decrease the redress provision by approximately US$222m at 2014 average exchange rates. Each 1% increase/decrease in the response rate to our outbound contact exercise would increase/decrease the redress provision by approximately US$13m.

In addition to these factors and assumptions, the extent of the required redress will also depend on the facts and circumstances of each individual customer’s case. For these reasons, there is currently a high degree of uncertainty as to the eventual costs of redress.

Interest rate derivatives

At 31 December 2014, a provision of US$312m (31 December 2013: US$776m) was held relating to the estimated liability for redress in respect of the possible mis-selling of interest rate derivatives in the UK. The provision relates to the estimated redress payable to customers in respect of historical payments under derivative contracts, the expected write-off by the bank of open derivative contract balances, and estimated project costs. An increase in the provision of US$288m was recorded during the year, reflecting updated claims experience and the announcement by the FCA on 28 January 2015 of the extension of the scheme to 31 March 2015, and expectation of an additional population who will opt into the scheme following communications to affected customers.

The extent to which HSBC is ultimately required to pay redress depends on the responses of contacted and other customers during the review period and analysis of the facts and circumstances of each individual case, including consequential loss claims received. For these reasons, there is currently a high degree of uncertainty as to the eventual costs of redress related to this programme.

UK Consumer Credit Act

HSBC has undertaken a review of compliance with the fixed-sum unsecured loan agreement requirements of the UK Consumer Credit Act (‘CCA’). US$379m has been recognised at 31 December 2014 within ‘Accruals, deferred income and other liabilities’ for the repayment of interest to customers, primarily where annual statements did not remind them of their right to partially prepay the loan, notwithstanding that the customer loan documentation did refer to this right. The cumulative liability to date is US$591m, of which payments of US$212m have been made to customers. There is uncertainty as to whether other technical requirements of the CCA have been met, for which we have assessed the contingent liability as up to US$0.9bn.

Brazilian labour, civil and fiscal claims

Within ‘Legal proceedings and regulatory matters’ above are labour, civil and fiscal litigation provisions of US$501m (2013: US$500m). Of these provisions, US$246m (2013: US$232m) was in respect of labour and overtime litigation claims brought by past employees against HSBC operations in Brazil following their departure from the bank. The main assumptions involved in estimating the liability are the expected number of departing employees, individual salary levels and the facts and circumstances of each individual case.

 

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Notes on the Financial Statements (continued)

 

 

30 Subordinated liabilities

 

HSBC

 

   

2014

US$m

   

2013

US$m

 

Subordinated liabilities

At amortised cost

  26,664      28,976   

– subordinated liabilities

  22,355      24,573   

– preferred securities

  4,309      4,403   

Designated at fair value (Note 25)

  23,317      21,915   

– subordinated liabilities

  21,822      18,230   

– preferred securities

  1,495      3,685   
           

At 31 December

  49,981      50,891   

Subordinated liabilities

HSBC Holdings

  25,277      22,308   

Other HSBC

  24,704      28,583   

At 31 December

          49,981              50,891   

HSBC’s subordinated liabilities

Subordinated liabilities rank behind senior obligations and generally count towards the capital base of HSBC. Where applicable, capital securities may be called and redeemed by HSBC subject to prior notification to the PRA and, where relevant, the consent of the local banking regulator. If not redeemed at the first call date, coupons payable may step-up or become floating rate based on interbank rates.

Interest rates on the floating rate capital securities are generally related to interbank offered rates. On the remaining capital securities, interest is payable at fixed rates of up to 10.176%.

The balance sheet amounts disclosed below are presented on an IFRSs basis and do not reflect the amount that the instruments contribute to regulatory capital due to the inclusion of issuance costs, regulatory amortisation and regulatory eligibility limits prescribed in the grandfathering provisions under CRD IV.

HSBC’s subordinated liabilities in issue

 

   

First call

date

 

          Maturity

date

   

2014

            US$m

   

2013

            US$m

 

Additional tier 1 capital securities guaranteed by HSBC Holdings plc1

1,400m

        5.3687% non-cumulative step-up perpetual preferred securities2   Mar 2014                 2,022   

£500m

        8.208% non-cumulative step-up perpetual preferred securities   Jun 2015            779      825   

750m

        5.13% non-cumulative step-up perpetual preferred securities   Mar 2016            979      1,129   

US$900m

        10.176% non-cumulative step-up perpetual preferred securities, series 2   Jun 2030            891      891   
  2,649      4,867   

Additional tier 1 capital securities guaranteed by HSBC Bank plc1

£300m

        5.862% non-cumulative step-up perpetual preferred securities   Apr 2020            515      534   

£700m

        5.844% non-cumulative step-up perpetual preferred securities   Nov 2031            1,091      1,157   
  1,606      1,691   

Tier 2 securities issued by HSBC Bank plc

£500m

        4.75% callable subordinated notes3   Sep 2015      Sep 2020      802      866   

£350m

        5.00% callable subordinated notes4   Mar 2018      Mar 2023      605      635   

£300m

        6.50% subordinated notes        Jul 2023      466      494   

£350m

        5.375% callable subordinated step-up notes5   Nov 2025      Nov 2030      620      602   

£500m

        5.375% subordinated notes        Aug 2033      905      884   

£225m

        6.25% subordinated notes        Jan 2041      349      370   

£600m

        4.75% subordinated notes        Mar 2046      924      980   

500m

        Callable subordinated floating rate notes6   Sep 2015      Sep 2020      588      655   

US$300m

        7.65% subordinated notes        May 2025      400      380   

US$750m

        Undated floating rate primary capital notes   Jun 1990            750      751   

US$500m

        Undated floating rate primary capital notes   Sep 1990            500      499   

US$300m    

        Undated floating rate primary capital notes, series 3   Jun 1992            300      299   
  7,209      7,415   

 

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Table of Contents

Notes on the Financial Statements (continued)

 

 

   

First call

date

 

    Maturity

date

   

2014

            US$m

   

2013

            US$m

 

Tier 2 securities issued by The Hongkong and Shanghai Banking Corporation Ltd

US$400m

Primary capital undated floating rate notes   Aug 1990            403      404   

US$400m

Primary capital undated floating rate notes (second series)   Dec 1990            401      402   

US$400m

Primary capital undated floating rate notes (third series)   Jul 1991            400      400   
  1,204      1,206   

Tier 2 securities issued by HSBC Bank Australia Limited

AUD200m

Callable subordinated floating rate notes   Nov 2015      Nov 2020      164      179   
  164      179   

Tier 2 securities issued by HSBC Bank Malaysia Berhad

MYR500m

4.35% subordinated bonds   Jun 2017      Jun 2022      143      152   

MYR500m

5.05% subordinated bonds   Nov 2022      Nov 2027      144      154   
  287      306   

Tier 2 securities issued by HSBC USA Inc.

US$200m

7.808% capital securities   Dec 2006      Dec 2026      200      200   

US$200m

8.38% capital securities   May 2007      May 2027      200      200   

US$150m

9.50% subordinated debt7        Apr 2014           151   

US$150m

7.75% Capital Trust pass through securities   Nov 2006      Nov 2026      150      150   

US$750m

5.00% subordinated notes        Sep 2020      738      746   

US$250m

7.20% subordinated debentures        Jul 2097      216      215   
  Other subordinated liabilities each less than US$150m               297      299   
  1,801      1,961   

Tier 2 securities issued by HSBC Bank USA, N.A.

US$1,000m        

4.625% subordinated notes7        Apr 2014           1,000   

US$500m

6.00% subordinated notes        Aug 2017      508      513   

US$1,250m

4.875% subordinated notes        Aug 2020      1,210      1,262   

US$1,000m

5.875% subordinated notes        Nov 2034      1,245      1,081   

US$750m

5.625% subordinated notes        Aug 2035      934      811   

US$700m

7.00% subordinated notes        Jan 2039      676      696   
  4,573      5,363   

Tier 2 securities issued by HSBC Finance Corporation

US$1,000m

5.911% trust preferred securities8   Nov 2015      Nov 2035      998      996   

US$2,939m

6.676% senior subordinated notes9        Jan 2021      2,185      2,182   
  3,183      3,178   

Tier 2 securities issued by HSBC Bank Brazil S.A.

BRL383m

Subordinated certificates of deposit        Feb 2015      144      162   

BRL500m

Subordinated floating rate certificates of deposit        Dec 2016      188      212   
  Other subordinated liabilities each less than US$150m10               81      224   
  413      598   

Tier 2 securities issued by HSBC Bank Canada

CAD400m

4.80% subordinated debentures   Apr 2017      Apr 2022      367      403   

CAD200m

4.94% subordinated debentures   Mar 2016      Mar 2021      172      188   

CAD39m

Floating rate debentures   Oct 1996      Nov 2083      34      37   
  573      628   

Securities issued by HSBC Mexico, S.A.

MXN1,818m

Non-convertible subordinated obligations11   Sep 2013      Sep 2018      124      138   

MXN2,273m

Non-convertible subordinated obligations11   Dec 2013      Dec 2018      154      173   

US$300m

Non-convertible subordinated obligations11,12   Jun 2014      Jun 2019      240      240   
  518      551   

Securities issued by other HSBC subsidiaries

Other subordinated liabilities each less than US$200m11

              524      640   

Total of subordinated liabilities issued by HSBC subsidiaries

              24,704      28,583   

 

  1 See paragraph below, ‘Guaranteed by HSBC Holdings or HSBC Bank’.
  2 In March 2014, HSBC called and redeemed the €1,400m 5.3687% non-cumulative step-up perpetual preferred securities at par.
  3 The interest rate payable after September 2015 is the sum of the three-month sterling Libor plus 0.82%.
  4 The interest rate payable after March 2018 is the sum of the gross redemption yield of the then prevailing five-year UK gilt plus 1.80%.
  5 The interest rate payable after November 2025 is the sum of the three-month sterling Libor plus 1.50%.
  6 The interest margin increases by 0.5% from September 2015.
  7 In April 2014, HSBC redeemed the $1,000m 4.625% subordinated notes and the 9.5% subordinated debt security at par.
  8 The distributions change in November 2015 to three-month dollar Libor plus 1.926%.
  9 Approximately 25% of the senior subordinated notes are held by HSBC Holdings.
  10 Some securities included here are ineligible for inclusion in the capital base of HSBC in accordance with guidance in PRA’s GENPRU as applied in 2013 and CRD IV rules as applied in 2014.
  11 These securities are ineligible for inclusion in the capital base of HSBC in accordance with guidance in PRA’s GENPRU as applied in 2013 and CRD IV rules as applied in 2014.
  12 Approximately US$60m of the subordinated obligations are held by HSBC Holdings.

 

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Table of Contents

Notes on the Financial Statements (continued)

 

 

HSBC Holdings

 

    2014
        US$m
    2013
      US$m
 

Subordinated liabilities:

– at amortised cost

  17,255      14,167   

– designated at fair value (Note 25)

  10,494      12,921   

At 31 December

    27,749      27,088   

HSBC Holdings’ subordinated liabilities

 

   

First call

date

Maturity  

date  

 

2014

        US$m

   

2013

        US$m

 

Tier 2 securities issued by HSBC Holdings plc

Amounts owed to third parties

   

US$488m

7.625% subordinated notes1 May 2032     538      554   

US$222m

7.35% subordinated notes1 Nov 2032     278      278   

US$2,000m    

6.5% subordinated notes1 May 2036     2,029      2,029   

US$2,500m

6.5% subordinated notes1 Sep 2037     3,278      3,039   

US$1,500m

6.8% subordinated notes1 Jun 2038     1,487      1,487   

US$2,000m

4.25% subordinated notes2,5 Mar 2024     2,069        

US$1,500m

5.25% subordinated notes2,5 Mar 2044     1,735        

£900m

6.375% callable subordinated notes1,3 Oct 2017 Oct 2022     1,558      1,672   

£650m

5.75% subordinated notes2 Dec 2027     1,176      1,158   

£650m

6.75% subordinated notes2 Sep 2028     1,005      1,066   

£750m

7.0% subordinated notes2 Apr 2038     1,217      1,288   

£900m

6.0% subordinated notes2 Mar 2040     1,379      1,464   

1,600m

6.25% subordinated notes2 Mar 2018     1,950      2,210   

1,750m

6.0% subordinated notes2 Jun 2019     2,623      2,884   

700m

3.625% callable subordinated notes1,4 Jun 2015 Jun 2020     878      1,007   

1,500m

3.375% callable subordinated notes1,2,5 Jan 2019     Jan 2024     1,898      2,075   
  25,098      22,211   

Amounts owed to HSBC undertakings

   

1,400m

5.3687% fixed/floating subordinated notes6 Mar 2014 Dec 2043          2,024   

£500m

8.208% subordinated step-up cumulative notes Jun 2015 Jun 2040     779      825   

750m

5.13% fixed/floating subordinated notes Mar 2016 Dec 2044     981      1,137   

US$900m

10.176% subordinated step-up cumulative notes Jun 2030 Jun 2040     891      891   
  2,651      4,877   

At 31 December

      27,749      27,088   

 

  1 Amounts owed to third parties represent securities included in the capital base of HSBC as tier 2 securities in accordance with the grandfathering provisions under CRD IV rules.
  2 These securities are included in the capital base of HSBC as fully CRD IV compliant tier 2 securities on an end point basis.
  3 The interest rate payable after October 2017 is the sum of the three-month sterling Libor plus 1.3%.
  4 The interest rate payable after June 2015 is the sum of the three-month Euribor plus 0.93%.
  5 These subordinated notes are measured at amortised cost in HSBC Holdings, where the interest rate risk is hedged using a fair value hedge, while they are measured at fair value in the Group.
  6 In March 2014, HSBC Holdings called and redeemed the €1,400m 5.3687% fixed/floating subordinated notes at par.

Additional tier 1 capital securities

Additional tier 1 capital securities are included in HSBC’s capital base as tier 1 capital and are perpetual subordinated securities on which investors are entitled, subject to certain conditions, to receive distributions which are non-cumulative. Such securities do not generally carry voting rights but rank above ordinary shares for coupon payments and in the event of a winding-up. The eligibility criteria for tier 1 securities changed on the introduction of CRD IV rules on 1 January 2014. For further guidance on the criteria for additional tier 1 securities, see note 35. Instruments issued before CRD IV comes into effect which do not meet the identifying criteria in full are eligible as regulatory capital subject to grandfathering limits and progressive phase-out. Capital securities that have been issued during 2014 are recognised as fully CRD IV compliant additional tier 1 capital securities on an end point basis and are accounted for as equity and detailed in Note 35.

Guaranteed by HSBC Holdings or HSBC Bank

The six capital securities guaranteed on a subordinated basis by HSBC Holdings or HSBC Bank are non-cumulative step-up perpetual preferred securities issued by Jersey limited partnerships. The proceeds of the issues were on-lent to the respective guarantors by the limited partnerships in the form of subordinated notes. These preferred securities qualify as additional tier 1 capital for HSBC under CRD IV by virtue of application of grandfathering provisions and the two capital securities guaranteed by HSBC Bank also qualify as additional tier 1 capital for HSBC Bank (on a solo and a consolidated basis) under CRD IV by virtue of application of grandfathering provisions.

 

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Notes on the Financial Statements (continued)

 

 

These preferred securities, together with the guarantee, are intended to provide investors with economic rights equivalent to the rights that they would have had if they had purchased non-cumulative perpetual preference shares of the relevant issuer. There are limitations on the payment of distributions if such payments are prohibited under UK banking regulations or other requirements, if a payment would cause a breach of HSBC’s capital adequacy requirements or if HSBC Holdings or HSBC Bank have insufficient distributable reserves (as defined).

HSBC Holdings and HSBC Bank have individually covenanted that if prevented under certain circumstances from paying distributions on the preferred securities in full, they will not pay dividends or other distributions in respect of their ordinary shares, or effect repurchases or redemptions of their ordinary shares, until the distribution on the preferred securities has been paid in full.

With respect to preferred securities guaranteed by HSBC Holdings – if (i) HSBC’s total capital ratio falls below the regulatory minimum ratio required, or (ii) the Directors expect, in view of the deteriorating financial condition of HSBC Holdings, that (i) will occur in the near term, then the preferred securities will be substituted by preference shares of HSBC Holdings which have economic terms which are in all material respects equivalent to those of the preferred securities and the guarantee taken together.

With respect to preferred securities guaranteed by HSBC Bank – if (i) any of the two issues of preferred securities are outstanding in April 2049 or November 2048, respectively, or (ii) the total capital ratio of HSBC Bank on a solo and consolidated basis falls below the regulatory minimum ratio required, or (iii) in view of the deteriorating financial condition of HSBC Bank, the Directors expect (ii) to occur in the near term, then the preferred securities will be substituted by preference shares of HSBC Bank having economic terms which are in all material respects equivalent to those of the preferred securities and the guarantee taken together.

Tier 2 capital securities

These capital securities are included within HSBC’s capital base as tier 2 capital under CRD IV by virtue of application of grandfathering provisions (with the exception of identified HSBC Holding securities which are compliant with CRD IV end point rules). Tier 2 capital securities are either perpetual subordinated securities or dated securities on which there is an obligation to pay coupons. In accordance with CRD IV, the capital contribution of all tier 2 securities is amortised for regulatory purposes in their final five years before maturity.

 

31 Maturity analysis of assets, liabilities and off-balance sheet commitments

 

The table on page 427 provides an analysis of consolidated total assets, liabilities and off-balance sheet commitments by residual contractual maturity at the balance sheet date. Asset and liability balances are included in the maturity analysis as follows:

 

    except for reverse repos, repos and debt securities in issue, trading assets and liabilities (including trading derivatives) are included in the ‘Due not more than 1 month’ time bucket, and not by contractual maturity because trading balances are typically held for short periods of time;

 

    financial assets and liabilities with no contractual maturity (such as equity securities) are included in the ‘Due over 5 years’ time bucket. Undated or perpetual instruments are classified based on the contractual notice period which the counterparty of the instrument is entitled to give. Where there is no contractual notice period, undated or perpetual contracts are included in the ‘Due over 5 years’ time bucket;

 

    non-financial assets and liabilities with no contractual maturity (such as property, plant and equipment, goodwill and intangible assets, current and deferred tax assets and liabilities and retirement benefit liabilities) are included in the ‘Due over 5 years’ time bucket;

 

    financial instruments included within assets and liabilities of disposal groups held for sale are classified on the basis of the contractual maturity of the underlying instruments and not on the basis of the disposal transaction; and

 

    liabilities under insurance contracts are included in the ‘Due over 5 years’ time bucket. Liabilities under investment contracts are classified in accordance with their contractual maturity. Undated investment contracts are classified based on the contractual notice period investors are entitled to give. Where there is no contractual notice period, undated contracts are included in the ‘Due over 5 years’ time bucket.

Loan and other credit-related commitments are classified on the basis of the earliest date they can be drawn down.

 

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Table of Contents

Notes on the Financial Statements (continued)

 

 

HSBC

Maturity analysis of assets and liabilities

 

    At 31 December 2014    
   

Due not

more than

1 month

   

Due over

1 month

but not

more than

3 months

   

Due over

3 months

but not

more than

6 months

   

Due over

6 months

but not

more than

9 months

   

Due over

9 months

but not

more than

1 year

   

Due over

1 year

but not

more than

2 years

   

Due over

2 years

but not

more than

5 years

   

Due over

5 years

    Total    
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m    

Financial assets

Cash and balances at central banks

  129,957                                         129,957   

Items in the course of collection from other banks

  4,927                                         4,927   

Hong Kong Government certificates of indebtedness

  27,674                                         27,674   

Trading assets

  303,463                               730           304,193   

– reverse repos

  567                               730           1,297   

– other trading assets

  302,896                                         302,896   

Financial assets designated at fair value

  244      399      417      346      208      1,825      4,634      20,964      29,037   

Derivatives

  341,558      56      463      220      32      1,003      1,033      643      345,008   

– trading

  341,416                                         341,416   

– non-trading

  142      56      463      220      32      1,003      1,033      643      3,592   

Loans and advances to banks1

  73,758      17,649      5,682      1,934      1,850      7,371      1,981      1,924      112,149   

Loans and advances to customers1

  203,130      76,236      55,018      35,347      37,674      91,300      187,728      288,227      974,660   

– personal

  42,170      9,673      8,911      7,486      8,672      27,305      54,439      230,298      388,954   

– corporate and commercial

  146,250      61,809      41,924      23,720      23,697      56,398      124,796      56,590      535,184   

– financial

  14,710      4,754      4,183      4,141      5,305      7,597      8,493      1,339      50,522   

Reverse repurchase agreements – non-trading1

  116,002      30,490      9,076      2,230      582      868      2,465           161,713   

Financial investments

  28,237      50,445      41,503      14,577      17,011      48,392      96,891      118,411      415,467   

Accrued income and other financial assets

  17,870      7,572      2,415      605      327      748      1,282      9,803      40,622   

Financial assets at 31 December 2014

  1,246,820      182,847      114,574      55,259      57,684      151,507      296,744      439,972      2,545,407   

Non-financial assets

                                     88,732      88,732   

Total assets at 31 December 2014

  1,246,820      182,847      114,574      55,259      57,684      151,507      296,744      528,704        2,634,139   

 

HSBC HOLDINGS PLC

427


Table of Contents

Notes on the Financial Statements (continued)

 

 

Maturity analysis of assets and liabilities (continued)

 

    At 31 December 2014    
   

Due not
more than

1 month

    Due over
1 month
but not
more than
3 months
    Due over
3 months
but not
more than
6 months
    Due over
6 months
but not
more than
9 months
    Due over
9 months
but not
more than
1 year
    Due over
1 year
but not
more than
2 years
    Due over
2 years
but not
more than
5 years
   

Due

over

5 years

    Total    
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m    

Financial liabilities

Hong Kong currency notes in circulation

  27,674                                         27,674   

Deposits by banks1

  66,829      2,890      2,539      511      810      621      2,963      263      77,426   

Customer accounts1,2

  1,216,574      57,127      32,925      15,023      13,586      9,278      5,819      310      1,350,642   

– personal

  572,459      28,580      16,728      10,609      9,625      7,220      3,967      125      649,313   

– corporate and commercial

  465,990      21,841      10,688      3,716      2,894      1,615      1,316      150      508,210   

– financial

  178,125      6,706      5,509      698      1,067      443      536      35      193,119   

Repurchase agreements – non-trading1

  95,243      5,029      4,054      1,392      714                1,000      107,432   

Items in the course of transmission to other banks

  5,990                                         5,990   

Trading liabilities

  155,604      2,041      2,636      1,439      2,918      5,744      9,603      10,587      190,572   

– repos

  746      909      224      264      1,249      406                3,798   

– debt securities in issue

  1,686      1,132      2,412      1,175      1,669      5,338      9,603      10,587      33,602   

– other trading liabilities

  153,172                                         153,172   

Financial liabilities designated at fair value

  981      912      4,264      972      1,557      8,500      15,037      43,930      76,153   

– debt securities in issue: covered bonds

                 205                2,705      2,942      5,852   

– debt securities in issue: otherwise secured

                                            

– debt securities in issue: unsecured

  942      868      4,242      742      1,409      8,500      9,576      14,233      40,512   

– subordinated liabilities and preferred securities

       36                18           2,623      20,640      23,317   

– other

  39      8      22      25      130           133      6,115      6,472   

Derivatives

  335,802      23      86      223      54      621      1,121      2,739      340,669   

– trading

  335,400                                         335,400   

– non-trading

  402      23      86      223      54      621      1,121      2,739      5,269   

Debt securities in issue

  14,741      15,424      13,027      7,854      6,050      14,209      19,481      5,161      95,947   

– covered bonds

                                81           81   

– otherwise secured

  8,807      1,063      60      283      272      912      1,562      1,008      13,967   

– unsecured

  5,934      14,361      12,967      7,571      5,778      13,297      17,838      4,153      81,899   

Accruals and other financial liabilities

  21,084      9,198      3,069      1,221      1,820      1,568      2,225      3,655      43,840   

Subordinated liabilities

       150           3      167      113      3,607      22,624      26,664   

Total financial liabilities at 31 December 2014

  1,940,522      92,794      62,600      28,638      27,676      40,654      59,856      90,269      2,343,009   

Non-financial liabilities

                                     91,152      91,152   

Total liabilities at 31 December 2014

  1,940,522      92,794      62,600      28,638      27,676      40,654      59,856      181,421      2,434,161   

 

HSBC HOLDINGS PLC

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Table of Contents

Notes on the Financial Statements (continued)

 

 

    At 31 December 2013    
   

Due not

more than

1 month

   

Due over

1 month

but not

more than

3 months

   

Due over

3 months

but not

more than

3 months

   

Due over

6 months

but not

more than

9 months

   

Due over

9 months

but not

more than

1 year

   

Due over

1 year

but not

more than

2 years

   

Due over

2 years

but not

more than

5 years

   

Due over

5 years

    Total    
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m    

Financial assets

Cash and balances at central banks

  166,599                                         166,599   

Items in the course of collection from other banks

  6,021                                         6,021   

Hong Kong Government certificates of indebtedness

  25,220                                         25,220   

Trading assets

  296,396      3,098      1,536      2,062      100                     303,192   

– reverse repos

  3,324      3,098      1,536      2,062      100                     10,120   

– other trading assets

  293,072                                         293,072   

Financial assets designated at fair value

  1,929      254      494      426      328      2,145      2,819      30,035      38,430   

Derivatives

  277,747      48      88      389      552      716      1,486      1,239      282,265   

– trading

  277,709                                         277,709   

– non-trading

  38      48      88      389      552      716      1,486      1,239      4,556   

Loans and advances to banks1

  76,551      22,107      5,397      1,429      1,290      6,129      2,779      4,364      120,046   

Loans and advances to customers1

  230,736      73,463      56,053      29,273      32,194      87,942      182,525      299,903      992,089   

– personal

  43,805      8,929      8,561      6,603      7,578      26,915      58,611      243,124      404,126   

– corporate and commercial

  171,713      60,827      43,723      19,505      21,093      53,183      113,897      53,981      537,922   

– financial

  15,218      3,707      3,769      3,165      3,523      7,844      10,017      2,798      50,041   

Reverse repurchase agreements – non-trading

  134,242      35,329      5,287      1,239      2,072      1,136      385           179,690   

Financial investments

  34,331      48,053      35,877      22,353      18,816      50,711      105,340      110,444      425,925   

Accrued income and other financial assets

  18,719      7,684      2,467      1,369      700      1,133      1,027      4,536      37,635   

Total financial assets at 31 December 2013

  1,268,491      190,036      107,199      58,540      56,052      149,912      296,361      450,521      2,577,112   

Non-financial assets

                                     94,206      94,206   

Total assets at 31 December 2013

  1,268,491      190,036      107,199      58,540      56,052      149,912      296,361      544,727      2,671,318   

 

HSBC HOLDINGS PLC

429


Table of Contents

Notes on the Financial Statements (continued)

 

 

Maturity analysis of assets and liabilities (continued)

 

    At 31 December 2013    
   

Due not
more than

1 month

    Due over
1 month
but not
more than
3 months
    Due over
3 months
but not
more than
6 months
    Due over
6 months
but not
more than
9 months
    Due over
9 months
but not
more than
1 year
    Due over
1 year
but not
more than
2 years
    Due over
2 years
but not
more than
5 years
   

Due

over

5 years

    Total    
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m    

Financial liabilities

Hong Kong currency notes in circulation

  25,220                                         25,220   

Deposits by banks1

  76,298      3,931      1,796      858      318      737      1,922      647      86,507   

Customer accounts1,2

  1,229,694      60,683      26,940      13,704      15,384      8,717      5,937      238      1,361,297   

– personal

  572,514      33,956      16,953      10,544      10,520      6,093      5,138      59      655,777   

– corporate and commercial

  494,612      18,084      3,414      1,717      1,786      1,643      674      140      522,070   

– financial

  162,568      8,643      6,573      1,443      3,078      981      125      39      183,450   

Repurchase agreements – non-trading

  136,137      13,058      6,583      3,711      4,231                500      164,220   

Items in the course of transmission to other banks

  6,910                                         6,910   

Trading liabilities

  161,231      11,405      4,886      2,844      3,653      6,323      7,979      8,704      207,025   

– repos

  2,565      9,763      2,715      1,012      1,279      87                17,421   

– debt securities in issue

  1,217      1,642      2,171      1,832      2,374      6,236      7,979      8,704      32,155   

– other trading liabilities

  157,449                                         157,449   

Financial liabilities designated at fair value

  4,907      157      92      2,266      68      9,348      21,544      50,702      89,084   

– debt securities in issue: covered bonds

                 1,268           230      2,841      3,257      7,596   

– debt securities in issue: otherwise secured

                                            

– debt securities in issue: unsecured

  3,511      5      45      945      11      8,876      18,117      14,256      45,766   

– subordinated liabilities and preferred securities

       121                     21           21,773      21,915   

– other

  1,396      31      47      53      57      221      586      11,416      13,807   

Derivatives

  269,816      33      95      84      61      563      1,978      1,654      274,284   

– trading

  269,739                                         269,739   

– non-trading

  77      33      95      84      61      563      1,978      1,654      4,545   

Debt securities in issue

  20,739      8,280      15,734      7,442      8,106      18,552      19,850      5,377      104,080   

– covered bonds

                           6      92           98   

– otherwise secured

  10,450      1,051      675      1,260      764      1,857      2,313      1,013      19,383   

– unsecured

  10,289      7,229      15,059      6,182      7,342      16,689      17,445      4,364      84,599   

Accruals and other financial liabilities

  25,267      10,475      3,278      1,280      1,599      1,831      1,592      936      46,258   

Subordinated liabilities

  21      28      1,171      144      6      1,435      3,406      22,765      28,976   

Total financial liabilities at 31 December 2013

  1,956,240      108,050      60,575      32,333      33,426      47,506      64,208      91,523      2,393,861   

Non-financial liabilities

                                     86,998      86,998   

Total liabilities at 31 December 2013

  1,956,240      108,050      60,575      32,333      33,426      47,506      64,208      178,521      2,480,859   

 

  1 See footnote 3 on page 344.
  2 Includes US$342,927m (2013: US$355,980m) insured by guarantee schemes.

 

HSBC HOLDINGS PLC

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Table of Contents

Notes on the Financial Statements (continued)

 

 

Maturity analysis of off-balance sheet commitments received

 

   

Due not

more than

1 month

   

Due over

1 month

but not

more than

3 months

   

Due over

3 months

but not

more than

6 months

   

Due over

6 months

but not

more than

9 months

   

Due over

9 months

but not

more than

1 year

   

Due over

1 year

but not

more than

2 years

   

Due over

2 years

but not

more than

5 years

   

Due over

5 years

    Total    
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m    

At 31 December 2014

Loan and other credit-related commitments

  3,313           4,312      607                          8,232   

At 31 December 2013

Loan and other credit-related commitments

  953                                         953   

Maturity analysis of off-balance sheet commitments given

 

   

Due not

more than

1 month

   

Due over

1 month

but not

more than

3 months

   

Due over

3 months

but not

more than

6 months

   

Due over

6 months

but not

more than

9 months

   

Due over

9 months

but not

more than

1 year

   

Due over

1 year

but not

more than

2 years

   

Due over

2 years

but not

more than

5 years

   

Due over

5 years

    Total    
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m    

At 31 December 2014

Loan and other credit-related commitments

  455,319      52,398      8,919      14,163      41,500      13,979      48,333      16,769      651,380   

Of which:

                                                     

– personal

  179,088      15,784      452      305      14,036      1,432      1,003      955      213,055   

– corporate and commercial

  239,646      34,657      7,595      12,556      23,519      9,926      36,918      12,185      377,002   

– financial

  36,585      1,957      872      1,302      3,945      2,621      10,412      3,629      61,323   

At 31 December 2013

Loan and other credit-related commitments

  404,598      45,255      18,770      16,927      20,242      13,320      46,652      21,839      587,603   

Of which:

                                                     

– personal

  148,541      14,700      454      10,683      12,131      1,273      704      6,469      194,955   

– corporate and commercial

  225,333      29,191      17,794      5,662      4,879      9,009      41,851      12,096      345,815   

– financial

  30,724      1,364      522      582      3,232      3,038      4,097      3,274      46,833   

 

HSBC HOLDINGS PLC

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Table of Contents

Notes on the Financial Statements (continued)

 

 

HSBC Holdings

Maturity analysis of assets, liabilities and off-balance sheet commitments

 

   

Due not

more than

1 month

   

Due over

1 month

but not

more than

3 months

   

Due over

3 months

but not

more than

6 months

   

Due over

6 months

but not

more than

9 months

   

Due over

9 months

but not

more than

1 year

   

Due over

1 year

but not

more than

2 years

   

Due over

2 years

but not

more than

5 years

   

Due over

5 years

    Total    
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m    

Financial assets

Cash at bank and in hand:

– balances with HSBC undertakings

  249                                         249   

Derivatives

  2,287                               127      357      2,771   

– trading

  2,287                                         2,287   

– non-trading

                                127      357      484   

Loans and advances to HSBC undertakings

  7,007      858      7,676           14                28,355      43,910   

Financial investments in HSBC undertakings

  26      6                               4,041      4,073   

Accrued income and other financial assets

  8                                         8   

Total financial assets at 31 December 2014

  9,577      864      7,676           14           127      32,753      51,011   

Non-financial assets

                                     96,853      96,853   

Total assets at 31 December 2014

  9,577      864      7,676           14           127      129,606      147,864   

Financial liabilities

Amounts owed to HSBC undertakings

  2,423           32           1      436                2,892   

Financial liabilities designated at fair value

                           1,110      2,623      14,946      18,679   

– debt securities in issue

                           1,110           7,075      8,185   

– subordinated liabilities and preferred securities

                                2,623      7,871      10,494   

Derivatives

  1,066                               103           1,169   

– trading

  1,066                                         1,066   

– non-trading

                                103           103   

Debt securities in issue

                                     1,009      1,009   

Accruals and other financial liabilities

  924      208      137      21                          1,290   

Subordinated liabilities

                                1,951      15,304      17,255   

Total financial liabilities at 31 December 2014

  4,413      208      169      21      1      1,546      4,677      31,259      42,294   

Non-financial liabilities

                                     125      125   

Total liabilities at 31 December 2014

  4,413      208      169      21      1      1,546      4,677      31,384      42,419   

Off-balance sheet commitments given

Undrawn formal standby facilities, credit lines and other commitments to lend

  16                                         16   

 

HSBC HOLDINGS PLC

432


Table of Contents

Notes on the Financial Statements (continued)

 

 

   

Due not

more than

1 month

   

Due over

1 month

but not

more than

3 months

   

Due over

3 months

but not

more than

6 months

   

Due over

6 months

but not

more than

9 months

   

Due over

9 months

but not

more than

1 year

   

Due over

1 year

but not

more than

2 years

   

Due over

2 years

but not

more than

5 years

   

Due over

5 years

    Total    
    US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m     US$m    

Financial assets

Cash at bank and in hand:

– balances with HSBC undertakings

  407                                         407   

Derivatives

  2,729                                    60      2,789   

– trading

  2,729                                         2,729   

– non-trading

                                     60      60   

Loans and advances to HSBC undertakings

  8,394      4,374      7,595      14      16                32,951      53,344   

Financial investments in HSBC undertakings

  23           8                     330      849      1,210   

Accrued income and other financial assets

  10                                         10   

Total financial assets at 31 December 2013

  11,563      4,374      7,603      14      16           330      33,860      57,760   

Non-financial assets

                                     93,076      93,076   

Total assets at 31 December 2013

  11,563      4,374      7,603      14      16           330      126,936      150,836   

Financial liabilities

Amounts owed to HSBC undertakings

  3,770      12      2,234           1           463      5,205      11,685   

Financial liabilities designated at fair value

                                1,283      19,744      21,027   

– debt securities in issue

                                1,283      6,823      8,106   

– subordinated liabilities and preferred securities

                                     12,921      12,921   

Derivatives

  704                                         704   

– trading

  704                                         704   

– non-trading

                                            

Debt securities in issue

            1,721                          1,070      2,791   

Accruals and other financial liabilities

  777      109      261      22                          1,169   

Subordinated liabilities

                                2,210      11,957      14,167   

Total financial liabilities at 31 December 2013

  5,251      121      4,216      22      1           3,956      37,976      51,543   

Non-financial liabilities

                                     206      206   

Total liabilities at 31 December 2013

  5,251      121      4,216      22      1           3,956      38,182      51,749   

Off-balance sheet commitments given

Undrawn formal standby facilities, credit lines and other commitments to lend

  1,245                                         1,245   

 

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Notes on the Financial Statements (continued)

 

 

32 Offsetting of financial assets and financial liabilities

 

Accounting policy

 

 

Financial assets and financial liabilities are offset and the net amount is reported in the balance sheet when there is a legally enforceable right to offset the recognised amounts and there is an intention to settle on a net basis, or realise the asset and settle the liability simultaneously (‘the offset criteria’).

 

Financial assets subject to offsetting, enforceable master netting arrangements and similar agreements

 

        

Gross

amounts of

        

Gross

amounts

        

Amounts

    presented

        

Amounts not set off in

the balance sheet

                
      

 

 

recognised

financial

assets

  

  

  

      

 

 

offset in the

balance

sheet

  

  

  

      

 

 

in the

balance

sheet

  

  

  

      

 

Financial

instruments

  

1 

      

 

 

Cash

collateral

received

  

  

  

      

 

Net

    amount

  

  

 
         US$m          US$m          US$m          US$m          US$m          US$m      

Derivatives2 (Note 16)

 

       595,473           (250,465        345,008           (271,040        (42,260        31,708     

Reverse repos, stock borrowing and similar agreements3

       259,655           (88,676        170,979           (166,958        (249        3,772     

Classified as:

                                                                   

– trading assets

       9,656           (390        9,266           (9,256                  10     

– non-trading assets

       249,999           (88,286        161,713           (157,702        (249        3,762     

Loans and advances to customers at amortised cost4

       101,220           (37,527        63,693           (55,989        (310        7,394     

At 31 December 2014

       956,348           (376,668        579,680           (493,987        (42,819        42,874     

Derivatives2 (Note 16)

       569,595           (287,330        282,265           (215,957        (36,387        29,921     

Reverse repos, stock borrowing and similar agreements3

       288,903           (88,775        200,128           (197,287        (57        2,784     

Classified as:

                                                                   

– trading assets

       39,008           (18,570        20,438           (20,438                      

– non-trading assets

       249,895           (70,205        179,690           (176,849        (57        2,784     

Loans and advances to customers at amortised cost4

       192,437           (92,654        99,783           (89,419                  10,364     

At 31 December 2013

       1,050,935           (468,759        582,176           (502,663        (36,444        43,069     

 

  1 Including non-cash collateral.
  2 Including amounts that are both subject to and not subject to enforceable master netting agreements and similar agreements.
  3 For the amount of reverse repos, stock borrowing and similar agreements recognised in the balance sheet, see the ‘Funding sources and uses’ table on page 168. In the analysis above, the US$9,266m (31 December 2013: US$20,438m) of trading assets presented in the balance sheet comprised US$1,297m of reverse repos (31 December 2013: US$10,120m) and US$7,969m of stock borrowing (31 December 2013: US$10,318m).
  4 At 31 December 2014, the total amount of loans and advances to customers at amortised cost was US$974,660m (31 December 2013: US$992,089m) of which US$63,693m (31 December 2013: US$99,783m) was subject to offsetting. For the amount of loans and advances to customers at amortised cost recognised in the balance sheet, see the ‘Funding sources and uses’ table on page 168.

 

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Notes on the Financial Statements (continued)

 

 

Financial liabilities subject to offsetting, enforceable master netting arrangements and similar agreements

 

   

Gross

amounts of

   

Gross

amounts

   

Amounts

    presented

   

Amounts not set off in

the balance sheet

         
 

 

 

recognised

financial

liabilities

  

  

  

 

 

 

offset in the

balance

sheet

  

  

  

 

 

 

in the

balance

sheet

  

  

  

 

 

Financial

instruments

  

1 

 

 

 

Cash

collateral

pledged

  

  

  

 

 

Net

    amount

  

  

    US$m     US$m     US$m     US$m     US$m     US$m    

Derivatives2 (Note 16)

  591,134      (250,465   340,669      (272,815   (40,291   27,563   

Repos, stock lending and similar agreements3

  211,938      (88,676   123,262      (121,722   (105   1,435   

Classified as:

                                   

– trading liabilities

  16,220      (390   15,830      (15,828        2   

– non-trading liabilities

  195,718      (88,286   107,432      (105,894   (105   1,433   

Customer accounts at amortised cost4

  107,088      (37,527   69,561      (55,989        13,572   

At 31 December 2014

  910,160      (376,668   533,492      (450,526   (40,396   42,570   

Derivatives2 (Note 16)

  561,614      (287,330   274,284      (216,596   (29,093   28,595   

Repos, stock lending and similar agreements3

  282,634      (88,775   193,859      (193,354   (81   424   

Classified as:

                                   

– trading liabilities

  48,209      (18,570   29,639      (29,625        14   

– non-trading liabilities

  234,425      (70,205   164,220      (163,729   (81   410   

Customer accounts at amortised cost4

  195,153      (92,654   102,499      (89,394        13,105   

At 31 December 2013

  1,039,401      (468,759   570,642      (499,344   (29,174   42,124   

 

  1 Including non-cash collateral.
  2 Including amounts that are both subject to and not subject to enforceable master netting agreements and similar agreements.
  3 For the amount of repos, stock lending and similar agreements recognised in the balance sheet, see the ‘Funding sources and uses’ table on page 168. In the analysis above, the US$15,830m (31 December 2013: US$29,639m) of trading liabilities presented in the balance sheet comprised US$3,798m of repos (31 December 2013: US$17,421m) and US$12,032m of stock lending (31 December 2013: US$12,218m).
  4 At 31 December 2014, the total amount of customer accounts at amortised cost was US$1,350,642m (31 December 2013: US$1,361,297m) of which US$69,561m (31 December 2013: US$102,499m) was subject to offsetting. For the amount of customer accounts at amortised cost recognised in the balance sheet, see the ‘Funding sources and uses’ table on page 168.

The ‘Amounts not set off in the balance sheet’ for derivatives and reverse repurchase/repurchase, stock borrowing/ lending and similar agreements include transactions where:

 

    the counterparty has an offsetting exposure with HSBC and a master netting or similar arrangement is in place with a right of set off only in the event of default, insolvency or bankruptcy, or the offset criteria are otherwise not satisfied; and

 

    cash and non-cash collateral received/pledged in respect of the transactions described above.

For loans and advances to customers and Customer accounts at amortised cost the amounts included in the table above typically relate to transactions entered into with corporate and commercial customers for working capital management purposes. The ‘Amounts not set off in the balance sheet’ relate to transactions where the customer has an offsetting exposure with HSBC and an agreement is in place with the right of offset but the offset criteria are otherwise not satisfied. For risk management purposes, the net amounts of such exposures are subject to limits which are monitored and the relevant customer agreements are subject to review and updated, as necessary, to ensure the legal right of offset remains appropriate.

 

33 Foreign exchange exposures

 

Structural foreign exchange exposures

HSBC’s structural foreign exchange exposures are represented by the net asset value of its foreign exchange equity and subordinated debt investments in subsidiaries, branches, joint ventures and associates with non-US dollar functional currencies. Gains or losses on structural foreign exchange exposures are recognised in other comprehensive income. HSBC’s management of its structural foreign exchange exposures is discussed on page 181.

 

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Notes on the Financial Statements (continued)

 

 

Net structural foreign exchange exposures

 

    2014     2013  
                    US$m                     US$m  

Currency of structural exposure

Pound sterling1

  30,071      28,403   

Chinese renminbi

  24,578      20,932   

Hong Kong dollars

  24,028      18,974   

Euros

  20,378      22,014   

Mexican pesos

  5,249      5,932   

Brazilian real

  4,910      5,581   

Canadian dollars

  4,187      4,372   

Indian rupees

  3,466      3,222   

Saudi riyals

  2,910      2,531   

Malaysian ringgit

  2,219      2,194   

UAE dirhams

  2,199      3,069   

Swiss francs

  1,864      1,940   

Taiwanese dollars

  1,721      1,527   

Australian dollars

  1,516      1,515   

Turkish lira

  1,366      1,533   

Korean won

  1,360      1,373   

Indonesian rupiah

  1,352      1,244   

Singapore dollars

  1,185      849   

Argentine pesos

  1,059      1,067   

Egyptian pounds

  868      739   

Others, each less than US$700m

  5,918      6,157   

At 31 December

  142,404      135,168   

 

  1 During 2014, we entered into a forward foreign exchange contract amounting to US$1.6bn in order to manage our sterling structural foreign exchange exposure.

Shareholders’ equity would decrease by US$2,522m (2013: US$2,521m) if euro and sterling foreign currency exchange rates weakened by 5% relative to the US dollar.

 

34 Non-controlling interests

 

 

    2014     2013  
                    US$m                     US$m  

Non-controlling interests attributable to holders of ordinary shares in subsidiaries

  7,104      5,900   

Preferred securities issued by subsidiaries

  2,427      2,688   

At 31 December

  9,531      8,588   

Preferred securities issued by subsidiaries

Preferred securities are securities for which there is no obligation to pay a dividend and, if the dividend is not paid, it may not be cumulative. Such securities do not generally carry voting rights but rank higher than ordinary shares for dividend payments and in the event of a winding-up. These securities have no stated maturity date but may be called and redeemed by the issuer, subject to prior notification to the PRA and, where relevant, the consent of the local banking regulator. Dividends on floating rate preferred securities are generally related to interbank offer rates.

Included in the capital base of HSBC are non-cumulative preferred securities classified as additional tier 1 capital and cumulative preferred securities classified as tier 2 capital in accordance with CRD IV rules, by virtue of the application of grandfathering provisions.

Preferred securities issued by HSBC’s subsidiaries

 

   

First call

date

   

2014

            US$m

   

2013

            US$m

 

HSBC USA Inc.

US$150m

Depositary shares each representing 25% interest in a share of adjustable-rate cumulative preferred stock, series D

  Jul 1999      150      150   

US$150m

Cumulative preferred stock

  Oct 2007      150      150   

US$518m

Floating rate non-cumulative preferred stock, series F

  Apr 2010      518      518   

US$374m

Floating rate non-cumulative preferred stock, series G

  Jan 2011      374      374   

US$374m

6.50% non-cumulative preferred stock, series H

  Jul 2011      374      374   

HSBC Finance Corporation.

US$575m

6.36% non-cumulative preferred stock, series B

  Jun 2010      559      559   

HSBC Bank Canada

CAD175m

Non-cumulative redeemable class 1 preferred shares, series C

  Jun 2010      151      164   

CAD175m            

Non-cumulative class 1 preferred shares, series D

  Dec 2010      151      164   

CAD250m1

Non-cumulative 5 year rate reset class 1 preferred shares, series E

  Jun 2014           235   

At 31 December

        2,427      2,688   

 

  1 In June 2014, HSBC redeemed its non-cumulative 5 year reset class 1 preferred shares series E for US$234m.

 

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Notes on the Financial Statements (continued)

 

 

35 Called up share capital and other equity instruments

 

Accounting policy

 

 

Financial instruments issued are classified as equity when there is no contractual obligation to transfer cash, other financial assets or issue a variable number of own equity instruments. Incremental costs directly attributable to the issue of equity instruments are shown in equity as a deduction from the proceeds, net of tax.

 

HSBC Holdings shares held by HSBC are recognised in equity as a deduction from retained earnings until they are cancelled. When such shares are subsequently sold, reissued or otherwise disposed of, any consideration received is included in equity, net of any directly attributable incremental transaction costs and related income tax effects.

 

Issued and fully paid

HSBC Holdings ordinary shares of US$0.50 each

 

         2014          2013  
         US$m                      US$m  

HSBC Holdings ordinary shares1 at 31 December

       9,609           9,415   
         
         Number          US$m  

At 1 January 2014

       18,830,007,039           9,415   

Shares issued under HSBC employee share plans

       119,391,238           60   

Shares issued in lieu of dividends

       268,475,983           134   

At 31 December 2014

       19,217,874,260           9,609   

At 1 January 2013

       18,476,008,664           9,238   

Shares issued under HSBC employee share plans

       120,033,493           60   

Shares issued in lieu of dividends

       233,964,882           117   

At 31 December 2013

       18,830,007,039           9,415   

 

HSBC Holdings non-cumulative preference shares of US$0.01 each

 

         
         Number          US$m  

At 1 January 2014 and 31 December 20142

       1,450,000             

At 1 January 2013 and 31 December 2013

       1,450,000             

 

  1 All HSBC Holdings ordinary shares in issue confer identical rights, including in respect of capital, dividends and voting.
  2 Included in the capital base of HSBC as additional tier 1 capital in accordance with the CRD IV rules, by virtue of the application of grandfathering provisions.

Dividends on the HSBC Holdings non-cumulative dollar preference shares in issue (‘dollar preference shares’) are paid quarterly at the sole and absolute discretion of the Board of Directors. The Board of Directors will not declare a dividend on the dollar preference shares if payment of the dividend would cause HSBC Holdings not to meet the applicable capital adequacy requirements of the PRA or the profit of HSBC Holdings available for distribution as dividends is not sufficient to enable HSBC Holdings to pay in full both dividends on the dollar preference shares and dividends on any other shares that are scheduled to be paid on the same date and that have an equal right to dividends. HSBC Holdings may not declare or pay dividends on any class of its shares ranking lower in the right to dividends than the dollar preference shares nor redeem nor purchase in any manner any of its other shares ranking equal with or lower than the dollar preference shares unless it has paid in full, or set aside an amount to provide for payment in full, the dividends on the dollar preference shares for the then current dividend period. The dollar preference shares carry no rights to conversion into ordinary shares of HSBC Holdings. Holders of the dollar preference shares will only be entitled to attend and vote at general meetings of shareholders of HSBC Holdings if the dividend payable on the dollar preference shares has not been paid in full for four consecutive dividend payment dates. In such circumstances, holders of the dollar preference shares will be entitled to vote on all matters put to general meetings until such time as HSBC Holdings has paid a full dividend on the dollar preference shares. HSBC Holdings may redeem the dollar preference shares in whole at any time on or after 16 December 2010, subject to prior notification to the PRA.

HSBC Holdings non-cumulative preference share of £0.01

The one non-cumulative sterling preference share of £0.01 in issue (‘sterling preference share’) has been in issue since 29 December 2010 and is held by a subsidiary of HSBC Holdings. Dividends on the sterling preference share are paid quarterly at the sole and absolute discretion of the Board. The sterling preference share carries no rights of conversion into ordinary shares of HSBC Holdings and no rights to attend and vote at general meetings of shareholders of HSBC Holdings. HSBC Holdings may redeem it in whole at any time at the option of the Company.

Other equity instruments

Other equity instruments which have been included in the capital base of HSBC comprise of additional tier 1 capital securities and additional tier 1 – contingent convertible securities.

 

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Notes on the Financial Statements (continued)

 

 

Additional tier 1 capital securities

Additional tier 1 capital securities are perpetual subordinated securities on which coupon payments may be deferred at the discretion of HSBC Holdings. While any coupon payments are unpaid or deferred, HSBC Holdings will not declare, pay dividends or make distributions or similar periodic payments in respect of, or repurchase, redeem or otherwise acquire any securities of lower or equal rank. Such securities do not generally carry voting rights but rank higher than ordinary shares for coupon payments and in the event of a winding-up. These securities have been included in the capital base of HSBC in accordance with CRD IV rules by virtue of the application of grandfathering provisions.

At HSBC Holdings’ discretion, and subject to certain conditions being satisfied, the capital securities may be exchanged on any coupon payment date for non-cumulative preference shares to be issued by HSBC Holdings and ranking pari passu with the dollar and sterling preference shares in issue. The preference shares would be issued at a nominal value of US$0.01 per share and a premium of US$24.99 per share, with both such amounts being subscribed and fully paid. These securities may be called and redeemed by HSBC subject to prior notification to the PRA.

HSBC’s additional tier 1 capital securities in issue which are accounted for in equity

 

   

First call

date

   

2014

            US$m

   

2013

            US$m

 

US$2,200m

8.125% perpetual subordinated capital securities

  Apr 2013      2,133      2,133   

US$3,800m            

8.00% perpetual subordinated capital securities, Series 2

  Dec 2015      3,718      3,718   

At 31 December

        5,851      5,851   

Additional tier 1 capital – contingent convertible securities

During 2014, HSBC issued new contingent convertible securities that are included in HSBC’s capital base as fully CRD IV compliant additional tier 1 capital securities on an end point basis. The net proceeds of the issuances will be used for general corporate purposes and to further strengthen the capital base pursuant to requirements under CRD IV. These securities bear a fixed rate of interest until their initial call dates. After the initial call dates, in the event they are not redeemed, the securities will bear interest at rates which are fixed periodically in advance for five year periods based on prevailing market rates. Interest on the contingent convertible securities will be due and payable only at the sole discretion of HSBC, and HSBC has sole and absolute discretion at all times and for any reason to cancel (in whole or in part) any interest payment that would otherwise be payable on any interest payment date. There are limitations on the payment of distributions if such payments are prohibited under UK banking regulations, or other requirements, if HSBC Holdings has insufficient reserves available for distribution or if HSBC fails to satisfy the solvency condition as defined in the securities’ terms.

The contingent convertible securities are undated and are repayable, at the option of HSBC, in whole at the initial call date, or on any fifth anniversary after the initial call date. In addition, the securities are repayable at the option of HSBC in whole for certain regulatory or tax reasons. Any repayments require the prior consent of the PRA. These securities rank pari passu with HSBC’s dollar and sterling preference shares and are therefore ahead of ordinary shares. The contingent convertible securities will be converted into ordinary shares of HSBC, at a pre-determined price, should HSBC’s consolidated, end-point CET1 ratio fall below 7.0%. Therefore, per the terms of the securities, on bail-in the securities will convert into ordinary shares at a conversion price of £2.70 subject to certain anti-dilution and foreign exchange adjustments and will rank pari passu with the fully paid ordinary shares in issue.

HSBC’s additional tier 1 capital – contingent convertible securities in issue which are accounted for in equity

 

   

First call

date

   

2014

            US$m

   

2013

            US$m

 

US$2,250m

6.375% perpetual subordinated contingent convertible securities

  Sep 2024      2,244        

US$1,500m            

5.625% perpetual subordinated contingent convertible securities

  Jan 2020      1,494        

1,500m

5.25% perpetual subordinated contingent convertible securities

  Sep 2022      1,943        

At 31 December

        5,681        

Shares under option

For details of the options outstanding to subscribe for HSBC Holdings ordinary shares under the HSBC Holdings Group Share Option Plan, the HSBC Share Plan and HSBC Holdings savings-related share option plans, see Note 6.

 

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Notes on the Financial Statements (continued)

 

 

Aggregate options outstanding under these plans

 

   

Number of

HSBC Holdings
              ordinary shares

                    Period of exercise                               Exercise  price  

31 December 2014

  63,918,042      2014 to 2020      £3.3116 – 7.9911   
  6,468,782      2014 to 2018      HK$37.8797 – 63.9864   
  571,502      2014 to 2018      €3.6361 – 6.0657   
    1,867,328      2014 to 2018      US$4.8876 – 8.2094   

31 December 2013

  119,085,250      2013 to 2019      £3.3116 – 7.9911   
  24,215,341      2013 to 2018      HK$37.8797 – 92.5881   
  1,574,652      2013 to 2018      3.6361 – 7.5571   
    3,997,069      2013 to 2018      US$4.8876 – 11.8824   

31 December 2012

  159,703,771      2013 to 2018      £3.3116 – 7.9911   
  31,637,840      2013 to 2018      HK$37.8797 – 94.5057   
  2,180,263      2013 to 2018      3.6361 – 9.5912   
    6,488,894      2013 to 2018      US$4.8876 – 12.0958   

Maximum obligation to deliver HSBC Holdings ordinary shares

At 31 December 2014, the maximum obligation to deliver HSBC Holdings ordinary shares under all of the above option arrangements, together with GPSP awards and restricted share awards granted under the HSBC Share Plan and/or the HSBC Share Plan 2011, was 193,154,512 (2013: 265,534,885). The total number of shares at 31 December 2014 held by employee benefit trusts that may be used to satisfy such obligations to deliver HSBC Holdings ordinary shares was 7,943,191 (2013: 12,068,136).

 

36 Notes on the statement of cash flows

 

Other non-cash items included in profit before tax

 

    HSBC     HSBC Holdings  
   

2014

        US$m

   

2013

        US$m

   

2012

        US$m

   

2014

        US$m

   

2013

        US$m

 

Depreciation, amortisation and impairment

  2,251      2,330      2,531      39      35   

(Gains)/losses arising from dilution of interests in associates

  32      (1,051               

Revaluations on investment property

  (120   (113   (72          

Share-based payment expense

  732      630      988      74      49   

Loan impairment losses gross of recoveries and other credit risk provisions

  5,125      7,356      9,358             

Provisions

  3,074      2,578      5,732             

Impairment/(release of impairment) of financial investments

  54      (36   519             

Charge/(credit) for defined benefit plans

  535      121      476             

Accretion of discounts and amortisation of premiums

  (421   180      246      (62   (10

Year ended 31 December

  11,262      11,995      19,778      51      74   

 

Change in operating assets

 

    HSBC     HSBC Holdings  
   

2014

US$m

   

2013

US$m

   

2012

US$m

   

2014

US$m

   

2013

US$m

 

Change in loans to HSBC undertakings

                 1,364      (11,669

Change in net trading securities and net derivatives

  (18,498   (24,870   (36,829   483      923   

Change in loans and advances to banks

  5,147      (4,739   1,174             

Change in loans and advances to customers

  12,666      (46,551   (79,388          

Change in reverse repurchase agreements – non-trading

  18,900      (70,403   6,678             

Change in financial assets designated at fair value

  3,269      (4,922   (2,698          

Change in other assets

  4,393      2,586      (5,458   7      (49

Year ended 31 December

  25,877      (148,899   (116,521   1,854      (10,795

 

Change in operating liabilities

 

    HSBC     HSBC Holdings  
    2014
US$m
    2013
US$m
    2012
US$m
    2014
US$m
    2013
US$m
 
 

Change in deposits by banks

  (9,081   (7,781   274             

Change in customer accounts

  (8,362   57,365      92,238             

Change in repurchase agreements – non-trading

  (56,788   123,653      (7,834          

Change in debt securities in issue

  (8,133   (15,381   (11,552   (149   98   

Change in financial liabilities designated at fair value

  (10,734   994      2,549      (694   (550

Change in other liabilities

  (716   5,907      13,395      (9,071   (609

Year ended 31 December

  (93,814   164,757      89,070      (9,914   (1,061

 

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Notes on the Financial Statements (continued)

 

 

Cash and cash equivalents

Accounting policy

 

 

Cash and cash equivalents include highly liquid investments that are readily convertible to known amounts of cash and which are subject to an insignificant risk of change in value. Such investments are normally those with less than three months’ maturity from the date of acquisition.

 

Cash and cash equivalents

 

         HSBC          HSBC Holdings  
        

2014

        US$m

        

2013

        US$m

        

2012

        US$m

        

2014

        US$m

        

2013

        US$m

 

Cash at bank with HSBC undertakings

                                     249           407   

Cash and balances at central banks

       129,957           166,599           141,532                       

Items in the course of collection from other banks

       4,927           6,021           7,303                       

Loans and advances to banks of one month or less

       89,285           96,584           119,400                       

Reverse repurchase agreements with banks of one month or less

       68,930           68,007           28,832                       

Treasury bills, other bills and certificates of deposit less than three months

       14,192           15,980           25,379                       

Less: items in the course of transmission to other banks

       (5,990        (6,910        (7,138                    

At 31 December

       301,301           346,281           315,308           249           407   

 

1   Measured at amortised cost from 2013.

 

Interest and dividends

 

                        
         HSBC          HSBC Holdings  
         2014
US$m
         2013
US$m
         2012
US$m
         2014
US$m
         2013
US$m
 

Interest paid

       (15,633        (17,262        (18,412        (2,463        (2,705

Interest received

       51,522           50,823           61,112           1,945           1,986   

Dividends received

       1,199           1,133           766           9,077           20,925   

The amount of cash and cash equivalents not available for use by HSBC at 31 December 2014 was US$43,738m (2013: US$38,019m), of which US$29,883m (2013: US$21,811m) related to mandatory deposits at central banks.

Disposal of subsidiaries and businesses

During 2014, we completed the disposals of HSBC Bank Middle East Limited’s banking business in Jordan and operations in Pakistan. This resulted in a net US$303m outflow of cash and cash equivalents which is included under ‘Cash flow from investing activities’ in the Consolidated statement of cash flows on page 338.

In October 2013, we completed the disposal of HSBC Bank (Panama) S.A., receiving total cash consideration of US$2,210m which is included under ‘Cash flow from investing activities’ in the Consolidated statement of cash flows on page 338.

The effect of disposals of subsidiaries and businesses in 2012 is tabulated below.

 

         2012  
        

      US cards

business
US$m

        

      US branch

network
US$m

        

Other

      disposals
US$m

         Total
      US$m
 

Total assets excluding cash and cash equivalents

       28,007           2,166           7,302           37,475   

Total liabilities

       161           13,206           8,463           21,830   

Aggregate net assets at date of disposal, excluding cash and cash equivalents

       27,846           (11,040        (1,161        15,645   

Non-controlling interests disposed

                           (81        (81

Gain on disposal including costs to sell

       3,148           864           355           4,367   

Add back: costs to sell

       72           15           56           143   

Selling price

       31,066           (10,161        (831        20,074   

Satisfied by:

                   

Cash and cash equivalents received/(paid) as consideration

       31,066           (10,091        (542        20,433   

Cash and cash equivalents sold

                 (70        (321        (391

Cash consideration received/(paid) up to 31 December 2012

       31,066           (10,161        (863        20,042   

Cash still to be received at 31 December 2012

                           32           32   

Total cash consideration

       31,066           (10,161        (831        20,074   

 

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Notes on the Financial Statements (continued)

 

 

37 Contingent liabilities, contractual commitments and guarantees

 

Accounting policy

 

 

Contingent liabilities

 

Contingent liabilities, which include certain guarantees and letters of credit pledged as collateral security and contingent liabilities related to legal proceedings or regulatory matters (see Note 40), are possible obligations that arise from past events whose existence will be confirmed only by the occurrence, or non-occurrence, of one or more uncertain future events not wholly within the control of HSBC; or are present obligations that have arisen from past events but are not recognised because it is not probable that settlement will require the outflow of economic benefits, or because the amount of the obligations cannot be reliably measured. Contingent liabilities are not recognised in the financial statements but are disclosed unless the probability of settlement is remote.

 

Financial guarantee contracts

 

Liabilities under financial guarantee contracts which are not classified as insurance contracts are recorded initially at their fair value, which is generally the fee received or present value of the fee receivable. Subsequently, financial guarantee liabilities are measured at the higher of the initial fair value, less cumulative amortisation, and the best estimate of the expenditure required to settle the obligations.

 

HSBC Holdings has issued financial guarantees and similar contracts to other Group entities. HSBC elects to account for certain guarantees as insurance contracts in HSBC Holdings’ financial statements, in which case they are measured and recognised as insurance liabilities. This election is made on a contract by contract basis, and is irrevocable.

 

Contingent liabilities, contractual commitments and guarantees

 

         HSBC          HSBC Holdings  
         2014
              US$m
         2013
              US$m
        

2014

              US$m

         2013
              US$m
 

Guarantees and contingent liabilities

                   

Guarantees

       86,385           84,554           52,023           52,836   

Other contingent liabilities

       346           182                       

At 31 December

       86,731           84,736           52,023           52,836   

Commitments

                   

Documentary credits and short-term trade-related transactions

       12,082           12,154                       

Forward asset purchases and forward forward deposits placed

       823           1,005                       

Undrawn formal standby facilities, credit lines and other commitments to lend

       638,475           574,444           16           1,245   

At 31 December

       651,380           587,603           16           1,245   

The above table discloses the nominal principal amounts of commitments, guarantees and other contingent liabilities. Contingent liabilities arising from legal proceedings, regulatory and other matters against Group companies are disclosed in Notes 29 and 40. Nominal principal amounts represent the amounts at risk should the contracts be fully drawn upon and clients default. As a significant portion of guarantees and commitments is expected to expire without being drawn upon, the total of the nominal principal amounts is not indicative of future liquidity requirements.

Social Security tax claims in Brazil

In April 2008, a final judicial decision was issued in favour of HSBC insurance and leasing companies in Brazil, clarifying that the Profit participation contribution (‘PIS’) and the Social security financing contribution (‘COFINS’) should only be levied on the revenues from the sale of goods and services and not on income derived from insurance premiums and financial revenue. The resulting reduction of the tax basis and the offsetting of tax credits was made by HSBC at that time, in accordance with this decision, but later challenged by the Brazilian tax authority claiming that the basis of those taxes should include all revenues from the corporate activity of the tax payer. With the enactment of a new law in force from 1 January 2015, the tax base for PIS and COFINS has been expanded to include all revenue from corporate activity, including insurance and financing income; therefore, any possible obligation for HSBC to pay any additional taxes only relates to tax years up to the end of 2014. These tax assessments are in various stages of the administrative process. Based on the facts currently known, it is not practicable for HSBC to predict the timing of the resolution of these matters.

 

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Notes on the Financial Statements (continued)

 

 

Guarantees

 

         2014          2013  
        

    Guarantees

    in favour of

third parties

US$m

        

Guarantees by

    HSBC Holdings

in favour of

other

Group entities

US$m

        

Guarantees

in favour of

    third parties

US$m

        

Guarantees by

    HSBC Holdings

in favour of

other

Group entities

US$m

 

Guarantee type

                   

Financial guarantees1

       30,406           36,800           31,224           36,800   

Credit-related guarantees2

       16,672           15,223           15,076           16,036   

Other guarantees

       39,307                     38,254             

At 31 December

       86,385           52,023           84,554           52,836   

 

  1 Financial guarantees are contracts that require HSBC to make specified payments to reimburse the holder for a loss incurred because a specified debtor fails to make payment when due.
  2 Credit-related guarantees are contracts that have similar features to financial guarantee contracts but fail to meet the definition of a financial guarantee contract under IAS 39.

The amounts disclosed in the above table are nominal principal amounts and reflect HSBC’s maximum exposure under a large number of individual guarantee undertakings. The risks and exposures arising from guarantees are captured and managed in accordance with HSBC’s overall credit risk management policies and procedures. Approximately half of the above guarantees have a term of less than one year. Guarantees with terms of more than one year are subject to HSBC’s annual credit review process.

Financial Services Compensation Scheme

The Financial Services Compensation Scheme (‘FSCS’) has provided compensation to consumers following the collapse of a number of deposit takers. The compensation paid out to consumers is currently funded through loans from the Bank of England and HM Treasury which at 31 December 2014 stood at approximately £16bn (US$24.9bn).

In order to repay the loan principal which is not expected to be recovered, the FSCS levies participating financial institutions. In January 2015, the FSCS announced that the expected levy on participating financial institutions for Scheme Year 2015/2016 would be £347m (US$541m) (2014/2015: £399m (US$660m)).

The ultimate FSCS levy to the industry as a result of the collapses cannot currently be estimated reliably as it is dependent on various uncertain factors including the potential recoveries of assets by the FSCS and changes in the level of protected deposits and the population of FSCS members at the time.

Capital commitments

In addition to the commitments disclosed on page 441, at 31 December 2014 HSBC had US$656m (2013: US$401m) of capital commitments contracted but not provided for and US$101m (2013: US$112m) of capital commitments authorised but not contracted for.

Associates

HSBC’s share of associates’ contingent liabilities amounted to US$47,593m at 31 December 2014 (2013: US$46,574m). No matters arose where HSBC was severally liable.

 

38 Lease commitments

 

Accounting policy

 

 

Agreements which transfer substantially all the risks and rewards incidental to the ownership of assets are classified as finance leases.

 

As a lessor under finance leases, HSBC presents the amounts due under the leases, after deduction of unearned charges, in ‘Loans and advances to banks’ or ‘Loans and advances to customers’. As a lessee under finance leases, HSBC presents the leased assets in ‘Property, plant and equipment’ with the corresponding liability included in ‘Other liabilities’. A finance lease asset and its corresponding liability are recognised initially at the fair value of the asset or, if lower, the present value of the minimum lease payments.

 

All other leases are classified as operating leases. As lessor, HSBC presents assets subject to operating leases in ‘Property, plant and equipment’. Impairment losses are recognised to the extent that carrying values are not fully recoverable. As a lessee, leased assets are not recognised on the balance sheet.

 

Finance income or charges on the finance lease are recognised in ‘Net interest income’ over the lease periods so as to give a constant rate of return. Rentals payable or receivable under operating leases are spread on a straight-line basis over the lease periods and are recognised in ‘General and administrative expenses’ or in ‘Other operating income’.

 

Operating lease commitments

At 31 December 2014, future minimum lease payments under non-cancellable operating leases for land, buildings and equipment were US$5,372m (2013 US$5,496m).

 

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Notes on the Financial Statements (continued)

 

 

Finance lease receivables

HSBC leases a variety of assets to third parties under finance leases, including transport assets (such as aircraft), property and general plant and machinery. At the end of lease terms, assets may be sold to third parties or leased for further terms. Rentals are calculated to recover the cost of assets less their residual value, and earn finance income.

 

         2014          2013  
        

    Total future
minimum

payments

US$m

        

    Unearned

finance

income

US$m

        

    Present

value

US$m

        

    Total future
minimum

payments

US$m

        

    Unearned

finance

income

US$m

        

    Present

value

US$m

 

Lease receivables:

                             

– no later than one year

       3,383           (374        3,009           3,370           (360        3,010   

– later than one year and no later than five years

       8,089           (980        7,109           7,933           (990        6,943   

– later than five years

       5,013           (744        4,269           5,064           (856        4,208   

At 31 December

       16,485           (2,098        14,387           16,367           (2,206        14,161   

 

39 Structured entities

 

Accounting policy

 

 

A structured entity is an entity that has been designed so that voting or similar rights are not the dominant factor in deciding who controls the entity, for example when any voting rights relate to administrative tasks only, and key activities are directed by contractual arrangements. Structured entities often have restricted activities and a narrow and well defined objective.

 

Structured entities are assessed for consolidation in accordance with the accounting policy set out in Note 1(h).

 

HSBC is involved with structured entities, mainly through securitisation of financial assets, conduits and investment funds.

HSBC arrangements that involve structured entities are authorised centrally when they are established to ensure appropriate purpose and governance. The activities of structured entities administered by HSBC are closely monitored by senior management. HSBC has involvement with both consolidated and unconsolidated structured entities, which may be established by HSBC or by a third party, as detailed below.

Consolidated structured entities

Total assets of HSBC’s consolidated structured entities, split by entity type

 

             Conduits
US$bn
             Securitisations
US$bn
        

HSBC

    managed

funds
US$bn

         Other
    US$bn
         Total
    US$bn
 

At 31 December 2014

       27.2           7.9           11.2           6.7           53.0   

At 31 December 2013

       38.9           7.1           13.9           8.2           68.1   

Conduits

HSBC has established and manages two types of conduits: securities investment conduits (‘SIC’s) and multi-seller conduits. These entities have been designed so that voting or similar rights are not the dominant factor in deciding who has control; in such cases, the relevant activities are directed by means of contractual arrangement. The conduits are consolidated as HSBC is exposed or has the right to variable returns from its involvement with the entity and has the ability to affect its returns through its power over the entity.

Securities investment conduits

Solitaire, HSBC’s principal SIC, purchases highly rated ABSs to facilitate tailored investment opportunities. At 31 December 2014, Solitaire held US$8.0bn of ABSs (2013: US$9.0bn). These are included within the disclosures of ABSs ‘held through consolidated structured entities’ on page 162. HSBC’s other SICs, Mazarin, Barion and Malachite, evolved from the restructuring of HSBC’s structured investment vehicles in 2008.

 

    SolitaireSolitaire is currently funded entirely by commercial paper ‘CP’ issued to HSBC. Although HSBC continues to provide a liquidity facility, Solitaire has no need to draw on it so long as HSBC purchases the CP issued, which it intends to do for the foreseeable future. At 31 December 2014, HSBC held US$9.5bn of CP (2013: US$11.0bn).

 

    MazarinHSBC is exposed to the par value of Mazarin’s assets through the provision of a liquidity facility equal to the lesser of the amortised cost of issued senior debt and the amortised cost of non-defaulted assets. At 31 December 2014, this amounted to US$3.9bn (2013: US$7.4bn). First loss protection is provided through the capital notes issued by Mazarin, which are substantially all held by third parties.

At 31 December 2014, HSBC held 1.2% of Mazarin’s capital notes (2013: 1.3%) with a par value of US$10m (2013: US$17m) and a carrying amount of US$1.4m (2013: US$0.3m).

 

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Notes on the Financial Statements (continued)

 

 

    Barion and Malachite – HSBC’s primary exposure to these SICs is represented by the amortised cost of the debt required to support the non-cash assets of the vehicles. At 31 December 2014, this amounted to US$3.0bn (2013: US$6.3bn). First loss protection is provided through the capital notes issued by these vehicles, which are substantially all held by third parties.

At 31 December 2014, HSBC held 9.9% of the capital notes (2013: 3.8%) issued by these vehicles with a par value of US$54.8m (2013: US$37m) and a carrying amount of US$10.1m (2013: US$3.3m).

Multi-seller conduits

These vehicles were established for the purpose of providing access to flexible market-based sources of finance for HSBC’s clients. HSBC bears risk equal to transaction-specific liquidity facilities offered to the multi-seller conduits amounting to US$15.4bn at 31 December 2014 (2013: US$15.7bn). First loss protection is provided by the originator of the assets, and not by HSBC, through transaction-specific credit enhancements. A layer of secondary loss protection is provided by HSBC in the form of programme-wide enhancement facilities.

Securitisations

HSBC uses structured entities to securitise customer loans and advances that it has originated in order to diversify its sources of funding for asset origination and capital efficiency purposes. The loans and advances are transferred by HSBC to the structured entities for cash or synthetically through credit default swaps, and the structured entities issue debt securities to investors.

HSBC managed funds

HSBC has established a number of money market and non-money market funds. Where it is deemed to be acting as principal rather than agent in its role as investment manager, HSBC controls and hence consolidates these funds.

Other

HSBC has also entered into a number of transactions in the normal course of business which include asset and structured finance transactions where it has control of the structured entity. In addition, HSBC is deemed to control a number of third-party managed funds through its involvement as a principal in the funds.

Unconsolidated structured entities

The term ‘unconsolidated structured entities’ refers to all structured entities that are not controlled by HSBC. HSBC enters into transactions with unconsolidated structured entities in the normal course of business to facilitate customer transactions and for specific investment opportunities.

The table below shows the total assets of unconsolidated structured entities in which HSBC had an interest at the reporting date and its maximum exposure to loss in relation to those interests.

Nature and risks associated with HSBC interests in unconsolidated structured entities

 

   

Securitisations

US$bn

   

HSBC

    managed

funds

US$bn

   

    Non-HSBC

managed

funds

US$bn

   

Other

        US$bn

   

Total

        US$bn

 

At 31 December 2014

Total assets of the entities

  11.0      308.5      2,899.9      32.8      3,252.2   

HSBC’s interest – assets

Trading assets

       0.1      0.1      4.6      4.8   

Financial assets designated at fair value

       5.2      2.3           7.5   

Derivatives

                 1.3      1.3   

Loans and advances to banks

                 0.1      0.1   

Loans and advances to customers

  0.8                1.5      2.3   

Financial investments

       2.5      5.9      0.1      8.5   

Other assets

                 0.1      0.1   

Total assets in relation to HSBC’s interests in the unconsolidated structured entities

  0.8      7.8      8.3      7.7      24.6   

HSBC’s interest – liabilities

Other liabilities

                 0.1      0.1   

Total liabilities in relation to HSBC’s interests in the unconsolidated structured entities

                 0.1      0.1   

HSBC’s maximum exposure

  0.8      7.8      8.3      11.1      28.0   

Total income from HSBC interests1

       0.1      0.3      0.4      0.8   

 

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Notes on the Financial Statements (continued)

 

 

             Securitisations
US$bn
        

HSBC

    managed

funds
US$bn

        

Non-HSBC

managed

    funds

US$bn

        

Other

        US$bn

         Total
        US$bn
 

At 31 December 2013

                        

Total assets of the entities

       9.6           290.3           2,843.3           26.7           3,169.9   

HSBC’s interest – assets

                        

Trading assets

                 0.1           0.2           3.8           4.1   

Financial assets designated at fair value

                 5.1           1.4                     6.5   

Derivatives

                                     1.2           1.2   

Loans and advances to customers

       0.9                               1.5           2.4   

Financial investments

                 2.3           5.4           0.1           7.8   

Other assets

                 0.1                               0.1   

Total assets in relation to HSBC’s interests in the unconsolidated structured entities

       0.9           7.6           7.0           6.6           22.1   

HSBC’s interest – liabilities

                        

Trading liabilities

                                     0.1           0.1   

Total liabilities in relation to HSBC’s interests in the unconsolidated structured entities

                                     0.1           0.1   

HSBC’s maximum exposure

       1.0           7.6           7.0           10.6           26.2   

Total income from HSBC interests1

                 0.1           0.3           0.3           0.7   

 

  1 Income includes recurring and non-recurring fees, interest, dividends, gains or losses on the re-measurement or derecognition of interests in structured entities, any mark-to-market gains/losses on a net basis and gains or losses from the transfer of assets and liabilities to the structured entity.

The maximum exposure to loss from HSBC’s interests in unconsolidated structured entities represents the maximum loss that HSBC could incur as a result of HSBC’s involvement with unconsolidated structured entities regardless of the probability of the loss being incurred.

 

    For commitments and guarantees, and written credit default swaps, the maximum exposure to loss is the notional amount of potential future losses.
    For retained and purchased investments in and loans to unconsolidated structured entities, the maximum exposure to loss is the carrying value of these interests at the balance sheet reporting date.

The maximum exposure to loss is stated gross of the effects of hedging and collateral arrangements entered into to mitigate HSBC’s exposure to loss.

Securitisations

HSBC has interests in unconsolidated securitisation vehicles through holding notes issued by these entities. In addition, HSBC has investments in asset-backed securities issued by third party structured entities as set out on page 162.

HSBC managed funds

HSBC establishes and manages money market funds and non-money market investment funds to provide customers with investment opportunities. Further information on ‘Funds under management’ is provided on page 106.

HSBC, as fund manager, may be entitled to receive management and performance fees based on the assets under management. HSBC may also retain units in these funds.

Non-HSBC managed funds

HSBC purchases and holds units of third-party managed funds in order to facilitate both business and customer needs.

In addition, HSBC enters into derivative contracts to facilitate risk management solutions for non-HSBC managed funds. At 31 December 2014, the fair value of HSBC’s derivative exposures to non-HSBC managed funds was US$6.5bn. Note 16 sets out information in respect of derivatives entered into by HSBC.

Other

HSBC has established structured entities in the normal course of business such as structured credit transactions for customers, to provide finance to public and private sector infrastructure projects, and for asset and structured finance transactions.

HSBC sponsored structured entities

Accounting policy

 

 

HSBC is considered to sponsor another entity if, in addition to ongoing involvement with the entity, it had a key role in establishing that entity or in bringing together the relevant counterparties so that the transaction, which is the purpose of the entity, could occur. HSBC is generally not considered a sponsor if the only involvement with the entity is merely administrative in nature.

 

 

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Notes on the Financial Statements (continued)

 

 

The amount of assets transferred to and income received from such sponsored entities during 2014 and 2013 was not significant.

 

40 Legal proceedings and regulatory matters

 

HSBC is party to legal proceedings and regulatory matters in a number of jurisdictions arising out of its normal business operations. Apart from the matters described below, HSBC considers that none of these matters are material. The recognition of provisions is determined in accordance with the accounting policies set out in Note 29. While the outcome of legal proceedings and regulatory matters is inherently uncertain, management believes that, based on the information available to it, appropriate provisions have been made in respect of these matters as at 31 December 2014 (see Note 29). Where an individual provision is material, the fact that a provision has been made is stated and quantified. Any provision recognised does not constitute an admission of wrongdoing or legal liability. It is not practicable to provide an aggregate estimate of potential liability for our legal proceedings and regulatory matters as a class of contingent liabilities.

Securities litigation

As a result of an August 2002 restatement of previously reported consolidated financial statements and other corporate events, including the 2002 settlement with 46 states and the District of Columbia relating to real estate lending practices, Household International and certain former officers were named as defendants in a class action lawsuit, Jaffe v. Household International, Inc., et al., filed in August 2002 in the US District Court for the Northern District of Illinois (the ‘Illinois District Court’). The complaint asserted claims under the US Securities Exchange Act and alleged that the defendants knowingly or recklessly made false and misleading statements of material fact relating to Household International’s Consumer Lending operations, including collections, sales and lending practices, some of which ultimately led to the 2002 state settlement agreement, and facts relating to accounting practices evidenced by the restatement. Ultimately, a class was certified on behalf of all persons who acquired and disposed of Household International common stock between July 1999 and October 2002.

A jury trial concluded in April 2009, which was decided partly in favour of the plaintiffs. Various legal challenges to the verdict were raised in post-trial briefing.

In December 2011, following the submission of claim forms by class members, the court-appointed claims administrator to the Illinois District Court reported that the total number of claims that generated an allowed loss was 45,921, and that the aggregate amount of these claims was approximately US$2.2bn. The defendants filed legal challenges regarding the presumption of reliance as to the class and compliance with the claim form requirements, which the Illinois District Court, in September 2012, rejected for the most part. The Illinois District Court directed further proceedings before a court-appointed Special Master to address certain claims submission issues.

In October 2013, the Illinois District Court denied the defendants’ additional post-trial motions for judgement as a matter of law or, in the alternative, for a new trial, and granted plaintiffs’ motions for a partial final judgement and awarded pre-judgement interest at the prime rate, compounded annually. Subsequently, in October 2013, the Illinois District Court entered a partial final judgement against the defendants in the amount of approximately US$2.5bn (including pre-judgement interest). In addition to the partial judgement that has been entered, there also remain approximately US$625m in claims, prior to imposition of pre-judgement interest, that still are subject to objections that have not yet been ruled upon by the Illinois District Court.

The defendants filed a Notice of Appeal of the partial final judgement, and oral argument was heard by the US Court of Appeals for the Seventh Circuit (the ‘Court of Appeals’) in May 2014. We await a decision from the Court of Appeals. The defendants have also filed a supersedeas bond in the approximate amount of the partial final judgement (US$2.5bn) in order to stay execution on the judgement pending appeal. Despite the jury verdict, the various rulings of the Illinois District Court, and the partial final judgement, we continue to believe that we have meritorious grounds for relief on appeal.

The timing and outcome of the ultimate resolution of this matter is uncertain. Given the complexity and uncertainties associated with the actual determination of damages, including the outcome of any appeals, there is a wide range of possible outcomes. If the Court of Appeals rejects or only partially accepts our arguments, the amount of damages, based upon that partial final judgement, and other pending claims and the application of pre-judgement interest on those pending claims, may lie in a range from a relatively insignificant amount to an amount up to or exceeding US$3.6bn. Once a judgement is entered (such as the approximately US$2.5bn partial final judgement entered in October 2013), post-judgement interest accrues on the judgement at a rate equal to the weekly average of the one-year constant maturity treasury yield as published by the Federal Reserve System. A provision has been made based on management’s best estimate of probable outflows.

 

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Bernard L. Madoff Investment Securities LLC

Bernard L. Madoff (‘Madoff’) was arrested in December 2008, and ultimately pleaded guilty to running a Ponzi scheme. He has acknowledged, in essence, that while purporting to invest his customers’ money in securities, he in fact never invested in securities and used other customers’ money to fulfil requests to return investments. His firm, Bernard L. Madoff Investment Securities LLC (‘Madoff Securities’), is being liquidated by a trustee (the ‘Trustee’).

Various non-US HSBC companies provided custodial, administration and similar services to a number of funds incorporated outside the US whose assets were invested with Madoff Securities. Based on information provided by Madoff Securities, as at 30 November 2008, the purported aggregate value of these funds was US$8.4bn, an amount that includes fictitious profits reported by Madoff. Based on information available to HSBC, we have estimated that the funds’ actual transfers to Madoff Securities minus their actual withdrawals from Madoff Securities during the time that HSBC serviced the funds totalled approximately US$4bn. Various HSBC companies have been named as defendants in lawsuits arising out of Madoff Securities’ fraud.

US/UK Litigation: The Trustee has brought suits against various HSBC companies in the US Bankruptcy Court and in the English High Court. The Trustee’s US actions included common law claims, alleging that HSBC aided and abetted Madoff’s fraud and breach of fiduciary duty. Those claims were dismissed on grounds of lack of standing. The Trustee’s remaining US claims seek recovery of prepetition transfers pursuant to US bankruptcy law. The amount of these remaining claims has not been pleaded or determined as against HSBC.

Alpha Prime Fund Ltd (‘Alpha Prime’) and Senator Fund SPC, co-defendants in the Trustee’s US actions, have brought cross-claims against HSBC. These funds have also sued HSBC in Luxembourg (discussed below).

The Trustee’s English action seeks recovery of unspecified transfers from Madoff Securities to or through HSBC. HSBC has not yet been served with the Trustee’s English action. The Trustee’s deadline for serving the claim has been extended through the third quarter of 2015.

Fairfield Sentry Limited, Fairfield Sigma Limited and Fairfield Lambda Limited (collectively, ‘Fairfield’), funds whose assets were invested with Madoff Securities, commenced multiple suits in the US and the British Virgin Islands (the ‘BVI’) against fund shareholders, including various HSBC companies that acted as nominees for HSBC clients, seeking restitution of payments made in connection with share redemptions. The US actions brought by Fairfield are stayed pending the outcome of the Fairfield cases in the BVI (discussed below).

In September 2013, the US Court of Appeals for the Second Circuit affirmed the dismissal of purported class action claims against HSBC and others brought by investors in three Madoff-invested funds on grounds of forum non conveniens. The plaintiffs’ petitions for certiorari to the US Supreme Court were filed in December 2014. The Supreme Court’s decision on whether to grant certiorari review is expected in the first half of 2015.

In December 2014, three new Madoff-related actions were filed. The first is a purported class action brought by direct investors in Madoff Securities who were holding their investments as of December 2008, asserting various common law claims and seeking to recover damages lost to Madoff Securities’ fraud on account of HSBC’s purported knowledge and alleged furtherance of the fraud. The other two actions were filed by SPV Optimal SUS Ltd (‘SPV Optimal’), the purported assignee of the Madoff Securities-invested company, Optimal Strategic US Equity Ltd. One of these actions was filed in New York state court and the other in US federal district court. In January 2015, SPV Optimal dismissed its federal lawsuit against HSBC. The state court action against HSBC remains pending.

BVI Litigation: Beginning in October 2009, the Fairfield funds, whose assets were directly or indirectly invested with Madoff Securities, commenced multiple suits in the BVI against numerous fund shareholders, including various HSBC companies that acted as nominees for clients of HSBC’s private banking business and other clients who invested in the Fairfield funds. The Fairfield funds are seeking restitution of redemption payments made by the funds to defendants on the grounds that they were mistakenly based on inflated net asset values. In April 2014, the UK Privy Council issued a ruling on two preliminary issues in favour of other defendants in the BVI actions, and issued its order in October 2014. There is also a pending motion brought by other defendants before the BVI court challenging the Fairfield liquidator’s authorisation to pursue its claims in the US. The BVI court has adjourned the hearing on that pending motion until March 2015.

Bermuda Litigation: In January 2009, Kingate Global Fund Limited and Kingate Euro Fund Limited (collectively, ‘Kingate’), funds whose assets were directly or indirectly invested with Madoff Securities, commenced an action in Bermuda against HSBC Bank Bermuda Limited for recovery of funds held in Kingate’s accounts, fees and dividends. This action is currently pending, but is not expected to move forward until there is a resolution as to the Trustee’s separate US actions against Kingate and HSBC Bank Bermuda Limited.

Thema Fund Limited (‘Thema’) and Hermes International Fund Limited (‘Hermes’), funds invested with Madoff Securities, each also brought three actions in Bermuda in 2009. The first set of actions were brought against HSBC Institutional Trust Services (Bermuda) Limited and seek recovery of funds in frozen accounts held at HSBC. The second set of actions asserts liability against HSBC Institutional Trust Services (Bermuda) Limited in relation to claims for mistake, recovery of fees and damages for breach of contract. The third set of actions seeks return of fees from HSBC Bank Bermuda Limited and HSBC Securities Services (Bermuda). There has been little progress in these actions for several years, although in January 2015, Thema and Hermes served notice of intent to proceed in respect of the second set of actions referred to above.

 

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Cayman Islands Litigation: In February 2013, Primeo Fund, a Cayman Islands-based fund invested in Madoff Securities, brought an action against the fund administrator, Bank of Bermuda (Cayman), and the fund custodian, HSBC Securities Services (Luxembourg) (‘HSSL’), alleging breaches of contract. Primeo Fund claims damages from defendants to compensate it for alleged losses, including loss of profit and any liability to the Trustee. Trial has been postponed to January 2016.

Luxembourg Litigation: In April 2009, Herald Fund SPC (‘Herald’) (in official liquidation since July 2013) commenced action against HSSL before the Luxembourg District Court seeking restitution of all cash and securities Herald purportedly lost because of Madoff Securities’ fraud, or in the alternative, money damages in the same amount. In March 2013, the Luxembourg District Court dismissed Herald’s restitution claim for the return of the securities. Herald’s restitution claim for return of the cash and claim for money damages were reserved. Herald appealed this judgement in May 2013. Judgement on the issue of a judicial bond is expected to be rendered in May 2015. Proceedings on the reserved restitution claim were suspended pending resolution of the appeal.

In October 2009, Alpha Prime sued HSSL before the Luxembourg District Court, alleging breach of contract and negligence in the appointment of Madoff Securities as a sub-custodian of Alpha Prime’s assets. Alpha Prime was ordered to provide a judicial bond. Alpha Prime requested a stay of these proceedings pending its negotiations with the Trustee in the US proceedings. The matter has been temporarily suspended.

In March 2010, Herald (Lux) SICAV (‘Herald (Lux)’) (in official liquidation since April 2009) brought an action against HSSL before the Luxembourg District Court seeking restitution of securities, or the cash equivalent, or money damages in the alternative. Herald (Lux) has also requested the restitution of fees paid to HSSL as custodian and service agent of the fund. The last preliminary hearing is scheduled to take place in March 2015.

In December 2014, Senator Fund SPC commenced an action against HSSL before the Luxembourg District Court, seeking the restitution of securities held as of the latest net asset value statement from November 2008, or in the alternative, money damages. The first preliminary hearing is scheduled to take place in February 2015.

HSSL has been sued in various actions by shareholders in the Primeo Select Fund, Herald, Herald (Lux), and Hermes funds. These actions are in different stages, most of which have been dismissed, suspended or postponed.

Ireland Litigation: In November 2013, Defender Limited, a fund invested with Madoff securities, commenced an action against HSBC Institutional Trust Services (Ireland) Limited (‘HTIE’), alleging breach of the custodian agreement and claiming damages and indemnification for claims against Defender Limited for fund losses. The action also includes four non-HSBC parties, who served as directors and investment managers to Defender Limited.

In July 2013 and December 2013, settlements were reached in respect of claims filed against HTIE in the Irish High Court by Thema International Fund plc (‘Thema International’) and Alternative Advantage Plc (‘AA’), respectively. Five actions by individual Thema International shareholders remain pending.

In December 2014, a new proceeding against HTIE and HSBC Securities Services (Ireland) Limited was brought by SPV Optimal, alleging breach of the custodian agreement and claiming damages and indemnification for fund losses.

There are many factors that may affect the range of possible outcomes, and the resulting financial impact, of the various Madoff-related proceedings described above, including but not limited to the multiple jurisdictions in which the proceedings have been brought and the number of different plaintiffs and defendants in such proceedings. For these reasons, amongst others, it is not practicable at this time for HSBC to estimate reliably the aggregate liabilities, or ranges of liabilities, that might arise as a result of all claims in the various Madoff-related proceedings, but they could be significant.

US mortgage-related investigations

In April 2011, following completion of a broad horizontal review of industry residential mortgage foreclosure practices, HSBC Bank USA N.A. (‘HSBC Bank USA’) entered into a consent cease-and-desist order with the Office of the Comptroller of the Currency (the ‘OCC’). HSBC Finance Corporation (‘HSBC Finance’) and HSBC North America Holdings Inc. (‘HNAH’) also entered into a similar consent order with the Federal Reserve Board (the ‘FRB’) (together with the OCC order, the ‘Servicing Consent Orders’). The Servicing Consent Orders require prescribed actions to address the deficiencies noted in the joint examination and described in the consent orders. HSBC Bank USA, HSBC Finance and HNAH continue to work with the OCC and the FRB to align their processes with the requirements of the consent orders and are implementing operational changes as required.

Pursuant to the Servicing Consent Orders, an independent consultant was retained to conduct an independent review of foreclosures pending or completed between January 2009 and December 2010 (the ‘Independent Foreclosure Review’) to determine if any borrower was financially injured as a result of an error in the foreclosure process. In February 2013, HSBC Bank USA entered into an agreement with the OCC, and HSBC Finance and HNAH entered into an agreement with the FRB (together, the ‘IFR Settlement Agreements’), pursuant to which the Independent Foreclosure Review was replaced by a broader framework under which HSBC and 12 other participating servicers agreed to provide, in the aggregate, over

 

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US$9.3bn in cash payments and other assistance to help eligible borrowers. Pursuant to the IFR Settlement Agreements, HNAH made a cash payment of US$96m into a fund used to make payments to borrowers that were in active foreclosure during 2009 and 2010, and in addition, is providing other assistance (e.g. loan modifications) to help eligible borrowers. Borrowers who receive compensation will not be required to execute a release or waiver of rights and will not be precluded from pursuing litigation concerning foreclosure or other mortgage servicing practices. For participating servicers, including HSBC Bank USA and HSBC Finance, fulfilment of the terms of the IFR Settlement Agreements will satisfy the Independent Foreclosure Review requirements of the Servicing Consent Orders, including the wind-down of the Independent Foreclosure Review.

The Servicing Consent Orders do not preclude additional enforcement actions against HSBC Bank USA, HSBC Finance or HNAH by bank regulatory, governmental or law enforcement agencies, such as the US Department of Justice (the ‘DoJ’) or state Attorneys General, which could include the imposition of civil money penalties and other sanctions relating to the activities that are the subject of the Servicing Consent Orders. Pursuant to the IFR Settlement Agreement with the OCC, however, the OCC has agreed that it will not assess civil money penalties or initiate any further enforcement action with respect to past mortgage servicing and foreclosure-related practices addressed in the Servicing Consent Orders, provided the terms of the IFR Settlement Agreements are fulfilled. The OCC’s agreement not to assess civil money penalties is further conditioned on HNAH making payments or providing borrower assistance pursuant to any agreement that may be entered into with the DoJ in connection with the servicing of residential mortgage loans. The FRB has agreed that any assessment of civil money penalties by the FRB will reflect a number of adjustments, including amounts expended in consumer relief and payments made pursuant to any agreement that may be entered into with the DoJ in connection with the servicing of residential mortgage loans. The IFR Settlement Agreements do not preclude private litigation concerning these practices.

Separate from the Servicing Consent Orders and the settlements related to the Independent Foreclosure Review discussed above, in February 2012, five of the largest US mortgage servicers (not including any HSBC companies) reached a settlement with the DoJ, the US Department of Housing and Urban Development and state Attorneys General of 49 states with respect to foreclosure and other mortgage servicing practices. Following the February 2012 settlement, these government agencies initiated discussions with other mortgage industry servicers, including HSBC, HSBC Bank USA, HSBC Finance and HNAH have had discussions with US bank regulators and other governmental agencies regarding a potential resolution. Any such settlement, however, may not completely preclude other enforcement actions by state or federal agencies, bank regulators or law enforcement bodies related to foreclosure and other mortgage servicing practices, including, but not limited to, matters relating to the securitisation of mortgages for investors. These practices have in the past resulted in private litigation, and such a settlement would not preclude further private litigation concerning these practices.

US mortgage securitisation activity and litigation

HSBC Bank USA has been involved as a sponsor/seller of loans used to facilitate whole loan securitisations underwritten by HSBC Securities (USA) Inc. (‘HSI’). From 2005 to 2007, HSBC Bank USA purchased and sold US$24bn of such loans to HSI which were subsequently securitised and sold by HSI to third parties. The outstanding principal balance on these loans was approximately US$5.7bn as at 31 December 2014.

Participants in the US mortgage securitisation market that purchased and repackaged whole loans have been the subject of lawsuits and governmental and regulatory investigations and inquiries, which have been directed at groups within the US mortgage market such as servicers, originators, underwriters, trustees or sponsors of securitisations, and at particular participants within these groups. As the industry’s residential mortgage foreclosure issues continue, HSBC Bank USA has taken title to an increasing number of foreclosed homes as trustee on behalf of various securitisation trusts. As nominal record owner of these properties, HSBC Bank USA has been sued by municipalities and tenants alleging various violations of law, including laws regarding property upkeep and tenants’ rights. While HSBC believes and continues to maintain that the obligations at issue and any related liabilities are properly those of the servicer of each trust, HSBC continues to receive significant adverse publicity in connection with these and similar matters, including foreclosures that are serviced by others in the name of ‘HSBC, as trustee’.

Between June and December 2014, a number of lawsuits were filed in state and federal court in New York against HSBC Bank USA as trustee of over 250 mortgage securitisation trusts. These lawsuits are brought derivatively on behalf of the trusts by a class of investors including, amongst others, BlackRock and PIMCO funds. Similar lawsuits were filed simultaneously against other non-HSBC financial institutions that served as mortgage securitisation pool trustees. The complaints against HSBC Bank USA allege that the trusts have sustained losses in collateral value of over US$34bn. The lawsuits seek unspecified damages resulting from alleged breaches of the US Trust Indenture Act, breach of fiduciary duties, negligence, breach of contract and breach of the common law duty of trust. HSBC filed a motion to dismiss three of these lawsuits in January 2015.

Various HSBC companies have also been named as defendants in a number of actions in connection with residential mortgage-backed securities (‘RMBS’) offerings, which generally allege that the offering documents for securities issued by securitisation trusts contained material misstatements and omissions, including statements regarding the underwriting standards governing the underlying mortgage loans. In September 2011, an action was filed by the Federal Housing

 

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Finance Agency (‘FHFA’), acting in its capacity as conservator for the Federal National Mortgage Association (‘Fannie Mae’) and the Federal Home Loan Mortgage Corporation (‘Freddie Mac’) in the US District Court for the Southern District of New York (the ‘New York District Court’) against HSBC Bank USA, HNAH, HSI and HSI Asset Securitization (‘HASCO’), as well as five former and current officers and directors of HASCO. FHFA sought money damages or rescission of mortgage-backed securities purchased by Fannie Mae and Freddie Mac that were either underwritten or sponsored by HSBC companies. As announced in September 2014, this matter was resolved between the parties by final settlement requiring HSBC to pay a total of US$550m to FHFA.

HSBC Bank USA, HSBC Finance and Decision One Mortgage Company LLC (an indirect subsidiary of HSBC Finance) have been named as defendants in various mortgage loan repurchase actions brought by trustees of securitisation trusts. In the aggregate, these actions seek to have the HSBC defendants repurchase mortgage loans, or pay compensatory damages in lieu of repurchase totalling at least US$1bn. Motions to dismiss have been filed and are fully briefed and pending in two of these actions.

Since 2010, various HSBC entities have received subpoenas and requests for information from US authorities seeking the production of documents and information regarding HSBC’s involvement, and the involvement of its affiliates, in particular private-label RMBS transactions as an issuer, sponsor, underwriter, depositor, trustee, custodian or servicer. HSBC continues to cooperate with these US authorities. In November 2014, HNAH, on behalf of itself and various subsidiaries including, but not limited to, HSBC Bank USA, HASCO, HSI, HSI Asset Loan Obligation, HSBC Mortgage Corporation (USA), HSBC Finance and Decision One Mortgage Company LLC, received a subpoena from the US Attorney’s Office for the District of Colorado, pursuant to the Financial Industry Reform, Recovery and Enforcement Act, concerning the origination, financing, purchase, securitisation and servicing of subprime and non-subprime residential mortgages. This matter is at an early stage and HSBC is cooperating fully.

Based on the facts currently known, it is not practicable at this time for HSBC to predict the resolution of these matters, including the timing or any possible impact on HSBC.

HSBC expects the focus on mortgage securitisations to continue. As a result, HSBC companies may be subject to additional claims, litigation and governmental or regulatory scrutiny relating to its participation in the US mortgage securitisation market, either as a member of a group or individually.

Anti-money laundering and sanctions-related matters

In October 2010, HSBC Bank USA entered into a consent cease-and-desist order with the OCC, and HNAH entered into a consent cease-and-desist order with the FRB (the ‘Orders’). These Orders required improvements to establish an effective compliance risk management programme across HSBC’s US businesses, including risk management related to US Bank Secrecy Act (the ‘BSA’) and anti-money laundering (‘AML’) compliance. Steps continue to be taken to address the requirements of the Orders.

In December 2012, HSBC Holdings plc (‘HSBC Holdings’), HNAH and HSBC Bank USA entered into agreements with US and UK government agencies regarding past inadequate compliance with the BSA, AML and sanctions laws. Among those agreements, HSBC Holdings and HSBC Bank USA entered into a five-year deferred prosecution agreement with the DoJ, the US Attorney’s Office for the Eastern District of New York, and the US Attorney’s Office for the Northern District of West Virginia (the ‘US DPA’); HSBC Holdings entered into a two-year deferred prosecution agreement with the New York County District Attorney (the ‘DANY DPA’); and HSBC Holdings consented to a cease-and-desist order and HSBC Holdings and HNAH consented to a civil money penalty order with the FRB. In addition, HSBC Bank USA entered into a civil money penalty order with FinCEN and a separate civil money penalty order with the OCC. HSBC Holdings also entered into an agreement with the Office of Foreign Assets Control (‘OFAC’) regarding historical transactions involving parties subject to OFAC sanctions and an undertaking with the UK Financial Conduct Authority (the ‘FCA’) to comply with certain forward-looking AML and sanctions-related obligations.

Under these agreements, HSBC Holdings and HSBC Bank USA made payments totalling US$1.9bn to US authorities and are continuing to comply with ongoing obligations. In July 2013, the US District Court for the Eastern District of New York approved the US DPA and retained authority to oversee implementation of that agreement. Under the agreements with the DoJ, FCA, and FRB, an independent monitor (who is, for FCA purposes, a ‘skilled person’ under Section 166 of the Financial Services and Markets Act) is evaluating and regularly assessing the effectiveness of HSBC’s AML and sanctions compliance function and HSBC’s progress in implementing its remedial obligations under the agreements.

HSBC Holdings has fulfilled all of the requirements imposed by the DANY DPA, which expired by its terms at the end of the two-year period of that agreement in December 2014. If HSBC Holdings and HSBC Bank USA fulfil all of the requirements imposed by the US DPA, the DoJ charges against those entities will be dismissed at the end of the five-year period of that agreement. The DoJ may prosecute HSBC Holdings or HSBC Bank USA in relation to any matters that are the subject of the US DPA if HSBC Holdings or HSBC Bank USA breaches the terms of the US DPA.

HSBC Bank USA also entered into a separate consent order with the OCC, requiring it to correct the circumstances and conditions as noted in the OCC’s then most recent report of examination, and imposing certain restrictions on HSBC Bank USA directly or indirectly acquiring control of, or holding an interest in, any new financial subsidiary, or commencing a new activity in its existing financial subsidiary, unless it receives prior approval from the OCC. HSBC Bank USA also entered into a separate consent order with the OCC requiring it to adopt an enterprise-wide compliance programme.

 

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These settlements with US and UK authorities have led to private litigation, and do not preclude further private litigation related to HSBC’s compliance with applicable BSA, AML and sanctions laws or other regulatory or law enforcement actions for BSA, AML, sanctions or other matters not covered by the various agreements.

In May 2014, a shareholder derivative action was filed by a shareholder of HSBC Holdings purportedly on behalf of HSBC Holdings, HSBC Bank USA, HNAH and HSBC USA Inc. (the ‘Nominal Corporate Defendants’) in New York State Supreme Court against certain current and former directors and officers of those HSBC companies (the ‘Individual Defendants’). The complaint alleges that the Individual Defendants breached their fiduciary duties to the Nominal Corporate Defendants and caused a waste of corporate assets by allegedly permitting and/or causing the conduct underlying the US DPA. In October 2014, the Nominal Corporate Defendants moved to dismiss the action, and the Individual Defendants who had been served also responded to the complaint. Plaintiff filed an amended complaint in February 2015.

In July 2014, a claim was filed in the Ontario Superior Court of Justice against HSBC Holdings and a former employee purportedly on behalf of a class of persons who purchased HSBC common shares and ADSs between July 2006 and July 2012. The complaint, which seeks monetary damages of up to CA$20bn, alleges that the defendants made statutory and common law misrepresentations in documents released by HSBC Holdings and its wholly owned subsidiary, HSBC Bank Canada, relating to HSBC’s compliance with BSA, AML, sanctions and other laws.

In November 2014, a complaint was filed in the US District Court for the Eastern District of New York on behalf of representatives of US persons killed or injured in Iraq between April 2004 and November 2011. The complaint was filed against HSBC Holdings, HSBC Bank plc, HSBC Bank USA and HSBC Bank Middle East, as well as other non-HSBC banks and the Islamic Republic of Iran (together, the ‘Defendants’). The plaintiffs allege that defendants conspired to violate the US Anti-Terrorism Act, by altering or falsifying payment messages involving Iran, Iranian parties and Iranian banks for transactions processed through the US. Defendants’ motion to dismiss is due to be filed in March 2015.

These private lawsuits are at an early stage. Based on the facts currently known, it is not practicable at this time for HSBC to predict the resolution of these private lawsuits, including the timing or any possible impact on HSBC.

Tax and broker-dealer investigations

HSBC continues to cooperate in ongoing investigations by the DoJ and the US Internal Revenue Service regarding whether certain HSBC companies and employees acted appropriately in relation to certain customers who had US tax reporting obligations. In connection with these investigations, HSBC Private Bank (Suisse) SA (‘HSBC Swiss Private Bank’), with due regard for Swiss law, has produced records and other documents to the DoJ. In August 2013, the DoJ informed HSBC Swiss Private Bank that it was not eligible for the ‘Program for Non-Prosecution Agreements or Non-Target Letters for Swiss Banks’ since a formal investigation had previously been authorised. The DoJ has requested additional information from HSBC Swiss Private Bank and other Swiss banks regarding the transfer of assets to and from US person-related accounts and employees who serviced those accounts. HSBC Swiss Private Bank is preparing this data, in a manner consistent with Swiss law.

Other HSBC companies have received subpoenas and requests for information from US and other authorities, including with respect to US-based clients of an HSBC company in India.

In November 2014, HSBC Swiss Private Bank reached a final settlement with the SEC relating to cross-border brokerage and advisory services provided by HSBC Swiss Private Bank and its predecessor entities to US resident clients between 2003 and 2011.

In addition, various tax administration, regulatory and law enforcement authorities around the world, including in Belgium, France, Argentina, Switzerland and India, are conducting investigations and reviews of HSBC Swiss Private Bank in connection with allegations of tax evasion or tax fraud, money laundering and unlawful cross-border banking solicitation. HSBC Swiss Private Bank has been placed under formal criminal examination by magistrates in both Belgium and France. In February 2015, HSBC was informed that the French magistrates are of the view that they have completed their investigation with respect to HSBC Swiss Private Bank and have referred the matter to the public prosecutor for a recommendation on any potential charges to be brought, whilst reserving the right to continue investigating other conduct at HSBC. In addition, in November 2014, the Argentine tax authority filed a complaint alleging an unlawful association between HSBC Swiss Private Bank, HSBC Bank Argentina, HSBC Bank USA and certain current and former HSBC officers, which allegedly enabled HSBC customers to evade Argentine tax obligations. In February 2015, a public prosecutor in Switzerland commenced an investigation of HSBC Swiss Private Bank, and the Indian tax authority issued a summons and request for information to an HSBC company in India.

With respect to each of these ongoing matters, HSBC is cooperating with the relevant authorities. Based on the facts currently known, there is a high degree of uncertainty as to the terms on which they will be resolved and the timing of such resolutions, including the amounts of fines, penalties and/or forfeitures imposed on HSBC, which could be significant.

 

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In light of the recent media attention regarding these matters, it is possible that other tax administration, regulatory or law enforcement authorities will also initiate or enlarge similar investigations or regulatory proceedings.

London interbank offered rates, European interbank offered rates and other benchmark interest rate investigations and litigation

Various regulators and competition and law enforcement authorities around the world, including in the UK, the US, the EU, Switzerland and elsewhere, are conducting investigations and reviews related to certain past submissions made by panel banks and the processes for making submissions in connection with the setting of London interbank offered rates (‘Libor’), European interbank offered rates (‘Euribor’) and other benchmark interest rates. As certain HSBC companies are members of such panels, HSBC has been the subject of regulatory demands for information and is cooperating with those investigations and reviews.

In December 2013, the European Commission (the ‘Commission’) announced that it had imposed fines on eight financial institutions under its cartel settlement procedure for their participation in illegal activity related to euro interest rate derivatives and/or yen interest rate derivatives. Although HSBC was not one of the financial institutions fined, the Commission announced that it had opened proceedings against HSBC in connection with its Euribor-related investigation of euro interest rate derivatives only. This investigation will continue under the standard Commission cartel procedure. In May 2014, HSBC received a Statement of Objections from the Commission, alleging anti-competitive practices in connection with the pricing of euro interest rate derivatives. The Statement of Objections sets out the Commission’s preliminary views and does not prejudge the final outcome of its investigation. HSBC responded partially to the Commission’s Statement of Objections in November 2014, and will have the opportunity to complete its response on a date to be decided by the Commission, once various procedural issues are resolved.

Based on the facts currently known, with respect to each of these ongoing investigations, there is a high degree of uncertainty as to the terms on which they will be resolved and the timing of such resolution, including the amounts of fines and/or penalties, which could be significant.

In addition, HSBC and other US dollar Libor panel banks have been named as defendants in a number of private lawsuits filed in the US with respect to the setting of US dollar Libor. The complaints assert claims under various US laws, including US antitrust and racketeering laws, the US Commodity Exchange Act (‘CEA’), and state law. The lawsuits include individual and putative class actions, most of which have been transferred and/or consolidated for pre-trial purposes before the New York District Court.

In March 2013, the New York District Court overseeing the consolidated proceedings related to US dollar Libor issued a decision in the six oldest actions, dismissing the plaintiffs’ federal and state antitrust claims, racketeering claims, and unjust enrichment claims in their entirety, but allowing certain of their CEA claims that were not barred by the applicable statute of limitations to proceed. Some of those plaintiffs appealed the New York District Court’s decision to the US Court of Appeals for the Second Circuit, which later dismissed those appeals. In January 2015, the US Supreme Court reversed the Court of Appeals’ decision and remanded the case to the Court of Appeals for consideration of the merits of the plaintiffs’ appeal.

Other plaintiffs sought to file amended complaints in the New York District Court to assert additional allegations. In June 2014, the New York District Court issued a decision that, amongst other things, denied the plaintiffs’ request for leave to amend their complaints to assert additional theories of Libor manipulation against HSBC and certain non-HSBC banks, but granted leave to assert such manipulation claims against two other banks; and granted defendants’ motion to dismiss certain additional claims under the CEA as barred by the applicable statute of limitations. Proceedings with respect to all other actions in the consolidated proceedings were stayed pending this decision. The stay was lifted in September 2014. Amended complaints were filed in previously stayed non-class actions in October 2014; and amended complaints were filed in several of the previously stayed class actions in November 2014. Motions to dismiss were filed in November 2014 and January 2015, respectively, and remain pending.

Separately, HSBC and other panel banks have also been named as defendants in a putative class action filed in the New York District Court on behalf of persons who transacted in euroyen futures and options contracts related to the euroyen Tokyo interbank offered rate (‘Tibor’). The complaint alleges, amongst other things, misconduct related to euroyen Tibor, although HSBC is not a member of the Japanese Bankers Association’s euroyen Tibor panel, as well as Japanese yen Libor, in violation of US antitrust laws, the CEA, and state law. In March 2014, the New York District Court issued an opinion dismissing the plaintiffs’ claims under US antitrust law and state law, but sustaining their claims under the CEA. In June 2014, the plaintiffs moved for leave to file a third amended complaint. HSBC has opposed that motion, which remains pending.

In November 2013, HSBC and other panel banks were also named as defendants in a putative class action filed in the New York District Court on behalf of persons who transacted in euro futures contracts and other financial instruments related to Euribor. The complaint alleges, amongst other things, misconduct related to Euribor in violation of US antitrust laws, the CEA and state law. The plaintiffs filed a second and later third amended complaint in May 2014 and October 2014, respectively. HSBC intends to respond to the third amended complaint once a court-ordered stay expires, currently set for May 2015.

 

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In September and October 2014, HSBC Bank plc and other panel banks were named as defendants in a number of putative class actions that were filed and consolidated in the New York District Court on behalf of persons who transacted in interest rate derivative transactions or purchased or sold financial instruments that were either tied to USD ISDAfix rates or were executed shortly before, during, or after the time of the daily ISDAfix setting window. The complaint alleges, amongst other things, misconduct related to these activities in violation of US antitrust laws, the CEA and state law. In October 2014, the plaintiffs filed a consolidated amended complaint. A motion to dismiss that complaint was filed in December 2014 and remains pending. In February 2015, plaintiffs filed a second consolidated amended complaint replacing HSBC Bank plc with HSBC Bank USA.

Based on the facts currently known, it is not practicable at this time for HSBC to predict the resolution of these private lawsuits, including the timing or any possible impact on HSBC.

Foreign exchange rate investigations and litigation

Various regulators and competition and law enforcement authorities around the world, including in the UK, the US, the EU and elsewhere, are conducting investigations and reviews into a number of firms, including HSBC, related to trading on the foreign exchange markets.

In November 2014, HSBC Bank plc entered into regulatory settlements with the FCA and the US Commodity Futures Trading Commission (‘CFTC’) in connection with their respective investigations of HSBC’s trading and other conduct involving foreign exchange benchmark rates. Under the terms of those settlements, HSBC Bank plc agreed to pay a financial penalty of £216m (US$336m) to the FCA and a civil monetary penalty of US$275m to the CFTC, and to undertake various remedial actions.

In December 2014, the Hong Kong Monetary Authority (‘HKMA’) announced the completion of its investigation into the foreign exchange trading operations of The Hongkong and Shanghai Banking Corporation Limited (‘HBAP’). The investigation found no evidence of market manipulation by HBAP and no monetary penalty was imposed. HBAP was required to implement various remedial actions.

The remaining investigations and reviews in the UK, the US and elsewhere are ongoing. Based on the facts currently known there is a high degree of uncertainty as to the terms on which they will be resolved and the timing of such resolutions, including the amounts of fines and/or penalties, which could be significant. As at 31 December 2014, HSBC has recognised a provision in the amount of US$550m in respect of these matters.

In addition, in late 2013 and early 2014, HSBC Holdings, HSBC Bank plc, HNAH and HSBC Bank USA were named as defendants, amongst other banks, in various putative class actions filed in the New York District Court. In March 2014, the plaintiffs filed a consolidated amended complaint alleging, amongst other things, that defendants conspired to manipulate the WM/ Reuters foreign exchange benchmark rates by sharing customers’ confidential order flow information, thereby injuring plaintiffs and others by forcing them to pay artificial and non-competitive prices for products based on these foreign currency rates (‘the Consolidated Action’). Separate putative class actions were also brought on behalf of non-US plaintiffs (the ‘Foreign Actions’). Defendants moved to dismiss all actions. In January 2015, the court denied defendants’ motion to dismiss as to the Consolidated Action, but granted defendants’ motion to dismiss as to the Foreign Actions.

Based on the facts currently known, it is not practicable at this time for HSBC to predict the resolution of these private lawsuits, including the timing or any possible impact on HSBC.

Precious metals fix-related litigation and investigations

Since March 2014, numerous putative class actions have been filed in the US District Courts for the Southern District of New York, the District of New Jersey and the Northern District of California naming HSBC Bank USA, HSBC Bank plc, HSI and other members of The London Gold Market Fixing Limited as defendants. The complaints allege that, from January 2004 to the present, defendants conspired to manipulate the price of gold and gold derivatives during the afternoon London gold fix in order to reap profits on proprietary trades. These actions have been assigned to and consolidated in the New York District Court. An amended consolidated class action complaint was filed in December 2014, and HSBC’s response was filed in February 2015.

Since July 2014, putative class actions were filed in the US District Court for the Southern District of New York and the Eastern District of New York naming HSBC Holdings, HNAH, HSBC Bank USA, HSBC USA Inc. and other members of The London Silver Market Fixing Ltd as defendants. The complaints allege that, from January 2007 to the present, defendants conspired to manipulate the price of physical silver and silver derivatives for their collective benefit in violation of US antitrust laws and the CEA. These actions have been assigned to and consolidated in the New York District Court. An amended consolidated class action complaint was filed in January 2015, and HSBC’s response is due in March 2015.

Between late 2014 and early 2015, numerous putative class actions were filed in the New York District Court naming HSBC Bank USA and other members of The London Platinum and Palladium Fixing Company Limited as defendants. The complaints allege that, from January 2007 to the present, defendants conspired to manipulate the price of physical Platinum Group Metals (‘PGM’) and PGM-based financial products for their collective benefit in violation of US antitrust laws and the CEA.

 

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In November 2014, the DoJ issued a document request to HSBC Holdings, seeking the voluntary production of certain documents relating to a criminal antitrust investigation that the DoJ is conducting in relation to precious metals. In January 2015, the CFTC issued a subpoena to HSBC Bank USA, seeking the production of certain documents related to HSBC Bank USA’s precious metals trading operations. HSBC is cooperating with the US authorities in their respective investigations.

These matters are at an early stage. Based on the facts currently known, it is not practicable at this time for HSBC to predict the resolution of these matters, including the timing or any possible impact on HSBC.

Credit default swap regulatory investigation and litigation

In July 2013, HSBC received a Statement of Objections from the Commission relating to its ongoing investigation of alleged anti-competitive activity by a number of market participants in the credit derivatives market between 2006 and 2009. The Statement of Objections sets out the Commission’s preliminary views and does not prejudge the final outcome of its investigation. HSBC has submitted a response and attended an oral hearing in May 2014. Following the oral hearing, the Commission decided to conduct a further investigation phase before deciding whether or how to proceed with the case. HSBC is cooperating with this further investigation. Based on the facts currently known, it is not practicable at this time for HSBC to predict the resolution of this matter, including the timing or any possible impact on HSBC.

In addition, HSBC Bank USA, HSBC Holdings and HSBC Bank plc have been named as defendants, amongst others, in numerous putative class actions filed in the New York District Court and the Illinois District Court. These class actions allege that the defendants, which include ISDA, Markit and several other financial institutions, conspired to restrain trade in violation of US antitrust laws by, amongst other things, restricting access to credit default swap pricing exchanges and blocking new entrants into the exchange market, with the purpose and effect of artificially inflating the bid/ask spread paid to buy and sell credit default swaps in the US. The plaintiffs in these suits purport to represent a class of all persons who purchased credit default swaps from or sold credit default swaps to defendants primarily in the US.

In October 2013, these cases were consolidated in the New York District Court. An amended consolidated complaint was filed in January 2014, naming HSBC Bank USA and HSBC Bank plc as defendants, amongst other non-HSBC defendants. Following the filing of defendants’ initial motions to dismiss in March 2014, plaintiffs filed a second amended consolidated complaint, which defendants also moved to dismiss. In September 2014, the court granted in part and denied in part the defendants’ motion to dismiss. Discovery is in process.

Based on the facts currently known, it is not practicable at this time for HSBC to predict the resolution of these private lawsuits, including the timing or any possible impact on HSBC.

Economic plans: HSBC Bank Brasil S.A.

In the mid-1980s and early 1990s, certain economic plans were introduced by the government of Brazil to reduce escalating inflation. The implementation of these plans adversely impacted savings account holders, thousands of which consequently commenced legal proceedings against financial institutions in Brazil, including HSBC Bank Brasil S.A. (‘HSBC Brazil’), alleging, amongst other things, that savings account balances were adjusted by a different price index than that contractually agreed, which caused them a loss of income. Certain of these cases have reached the Brazilian Supreme Court (the ‘Supreme Court’). The Supreme Court has suspended all cases pending before lower courts until it delivers a final judgement on the constitutionality of the changes resulting from the economic plans. It is anticipated that the outcome of the Supreme Court’s final judgement will set a precedent for all cases pending before the lower courts. Separately, the Brazilian Superior Civil Court (the ‘Superior Civil Court’) is considering matters relating to, amongst other things, contractual and punitive interest rates to be applied to calculate any loss of income.

There is a high degree of uncertainty as to the terms on which the proceedings in the Supreme Court and Superior Civil Court will be resolved and the timing of such resolutions, including the amount of losses that HSBC Brazil may be liable to pay in the event of an unfavourable judgement. Such losses may lie in a range from a relatively insignificant amount to an amount up to US$800m, although the upper end of this range is considered unlikely.

Regulatory Review of Consumer ‘Enhancement Services Products’

HSBC Finance, through its legacy Cards and Retail Services business, offered or participated in the marketing, distribution, or servicing of products, such as identity theft protection and credit monitoring products, that were ancillary to the provision of credit to the consumer. HSBC Finance ceased offering these products by May 2012. The offering and administration of these and other enhancement services products, such as debt protection products, has been the subject of enforcement actions against other institutions by regulators, including the Consumer Financial Protection Bureau, the OCC, and the Federal Deposit Insurance Corporation. Such enforcement actions have resulted in orders to pay restitution to customers and the assessment of penalties in substantial amounts. We have made restitution to certain customers in connection with certain enhancement services products, and we continue to cooperate with our regulators in connection with their on-going review. In light of the actions that regulators have taken in relation to other non-HSBC credit card issuers regarding their enhancement services products, one or more regulators may order us to pay additional restitution to customers and/or impose civil money penalties or other relief arising from the prior offering and administration of such enhancement services products by HSBC Finance. There is a high degree of uncertainty as to the terms on which this matter will be resolved and the timing of such resolution, including the amount of any additional remediation which may lie in a range from zero to an amount up to US$500m.

 

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41 Related party transactions

 

Related parties of the Group and HSBC Holdings include subsidiaries, associates, joint ventures, post-employment benefit plans for HSBC employees, Key Management Personnel, close family members of Key Management Personnel and entities which are controlled or jointly controlled by Key Management Personnel or their close family members.

Key Management Personnel are defined as those persons having authority and responsibility for planning, directing and controlling the activities of HSBC Holdings, being the Directors and Group Managing Directors of HSBC Holdings.

Compensation of Key Management Personnel

 

    HSBC  
    2014
            US$m
    2013
            US$m
    2012
            US$m
 

Short-term employee benefits

  41      38      37   

Post-employment benefits

  1      2      1   

Other long-term employee benefits

  7      10      10   

Share-based payments

  54      35      43   

Year ended 31 December

  103      85      91   

Transactions, arrangements and agreements involving related parties

Particulars of advances (loans and quasi-loans), credits and guarantees entered into by subsidiaries of HSBC Holdings during 2014 with Directors, disclosed pursuant to section 413 of the Companies Act 2006, are shown below:

 

   

2014  

        US$m  

   

2013

        US$m

 

Advances and credits at 31 December

  5        7   

Particulars of transactions with related parties, disclosed pursuant to the requirements of IAS 24, are shown below. The disclosure of the year-end balance and the highest amounts outstanding during the year in the table below is considered to be the most meaningful information to represent the amount of the transactions and the amount of outstanding balances during the year.

 

    2014     2013  
    Balance at
    31 December
US$m
   

Highest amounts
outstanding

during year
US$m

    Balance at
    31 December
US$m
   

Highest amounts
outstanding

during year
US$m

 

Key Management Personnel1

Advances and credits

  194      227      146      171   

Guarantees

                 8   

 

  1 Includes Key Management Personnel, close family members of Key Management Personnel and entities which are controlled or jointly controlled by Key Management Personnel or their close family members.

Some of the transactions were connected transactions, as defined by the Rules Governing The Listing of Securities on The Stock Exchange of Hong Kong Limited but were exempt from any disclosure requirements under the provisions of those rules. The above transactions were made in the ordinary course of business and on substantially the same terms, including interest rates and security, as for comparable transactions with persons of a similar standing or, where applicable, with other employees. The transactions did not involve more than the normal risk of repayment or present other unfavourable features.

Shareholdings, options and other securities of Key Management Personnel

 

   

2014

      (000s)

   

2013

      (000s)

 

Number of options held over HSBC Holdings ordinary shares under employee share plans

  28      225   

Number of HSBC Holdings ordinary shares held beneficially and non-beneficially

  17,533      14,704   

Number of HSBC Bank 2.875% Notes 2015 held beneficially and non-beneficially

  5      5   

At 31 December

              17,566                  14,934   

Transactions with other related parties of HSBC

Associates and joint ventures

The Group provides certain banking and financial services to associates and joint ventures, including loans, overdrafts, interest and non-interest bearing deposits and current accounts. Details of the interests in associates and joint ventures are given in Note 20. Transactions and balances during the year with associates and joint ventures were as follows:

 

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Notes on the Financial Statements (continued)

 

 

    2014     2013  
 

 

Highest balance

during the year

  

1 

 

 

Balance at

31 December

  

1 

 

 

Highest balance

during the year

  

1 

 

 

Balance at

31 December

  

1 

  US$m      US$m      US$m      US$m   

Amounts due from joint ventures:

– subordinated

            1        

– unsubordinated

  205      205      300      300   

Amounts due from associates:

– subordinated

  58                  

– unsubordinated

  5,451      4,273      4,884      4,084   

At 31 December

  5,714      4,478      5,185      4,384   

Amounts due to joint ventures

            7      7   

Amounts due to associates

  650      162      1,178      290   

At 31 December

  650      162      1,185      297   

Commitments

  17           70      17   

 

  1 The disclosure of the year-end balance and the highest balance during the year is considered the most meaningful information to represent transactions during the year.

The above outstanding balances arose from the ordinary course of business and on substantially the same terms, including interest rates and security, as for comparable transactions with third-party counterparties.

Post-employment benefit plans

At 31 December 2014, US$4.5bn (2013: US$5.2bn) of HSBC post-employment benefit plan assets were under management by HSBC companies. Fees of US$12m (2013: US$23m) were earned by HSBC companies for these management services provided to its post-employment benefit plans. HSBC’s post-employment benefit plans had placed deposits of US$223m (2013: US$620m) with its banking subsidiaries, on which interest payable to the schemes amounted to US$6m (2013: US$1m). The above outstanding balances arose from the ordinary course of business and on substantially the same terms, including interest rates and security, as for comparable transactions with third-party counterparties.

HSBC Bank (UK) Pension Scheme entered into swap transactions with HSBC as part of the management of the inflation and interest rate sensitivity of its liabilities. At 31 December 2014, the gross notional value of the swaps was US$24bn (2013: US$38bn), the swaps had a positive fair value of US$0.9bn (2013: positive fair value of US$2.8bn) to the scheme and HSBC had delivered collateral of US$2.0bn (2013: US$3.8bn) to the scheme in respect of these swaps, on which HSBC earned US$5m of interest (2013: US$33m). All swaps were executed at prevailing market rates and within standard market bid/offer spreads. Over the year, the Scheme reduced its level of swap transactions with HSBC.

The International Staff Retirement Benefit Scheme entered into swap transactions with HSBC to manage the inflation and interest rate sensitivity of the liabilities and selected assets. At 31 December 2014, the gross notional value of the swaps was US$1.9bn (2013: US$1.8bn) and the swaps had a net negative fair value of US$107m to the scheme (2013: US$399m positive). All swaps were executed at prevailing market rates and within standard market bid/offer spreads.

 

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HSBC Holdings

Details of HSBC Holdings’ principal subsidiaries are shown in Note 22. Transactions and balances during the year with subsidiaries were as follows:

 

    2014     2013  
 

 

  Highest balance

during the year

  

1 

 

 

Balance at

    31 December

  

1 

 

 

  Highest balance

during the year

  

1 

 

 

Balance at

    31 December

  

1 

  US$m      US$m      US$m      US$m   

Assets

Cash at bank

  436      249      420      407   

Derivatives

  3,179      2,771      3,768      2,789   

Loans and advances

  55,026      43,910      53,344      53,344   

Financial investments

  4,073      4,073      1,220      1,210   

Investments in subsidiaries

  96,264      96,264      92,695      92,695   

Total related party assets at 31 December

  158,978      147,267      151,447      150,445   

Liabilities

Amounts owed to HSBC undertakings

  12,046      2,892      12,856      11,685   

Derivatives

  1,169      1,169      1,154      704   

Subordinated liabilities:

– at amortised cost

  1,743      1,670      1,716      1,716   

– designated at fair value

  3,186      981      4,350      3,161   

Total related party liabilities at 31 December

  18,144      6,712      20,076      17,266   

Guarantees

  53,180      52,023      52,836      52,836   

Commitments

  1,245      16      1,245      1,245   

 

  1 The disclosure of the year-end balance and the highest balance during the year is considered the most meaningful information to represent transactions during the year. The above outstanding balances arose in the ordinary course of business and were on substantially the same terms, including interest rates and security, as for comparable transactions with third-party counterparties.

Some employees of HSBC Holdings are members of the HSBC Bank (UK) Pension Scheme, which is sponsored by a separate Group company. HSBC Holdings incurs a charge for these employees equal to the contributions paid into the scheme on their behalf. Disclosure in relation to the scheme is made in Note 6 to the accounts.

 

42 Events after the balance sheet date

 

A fourth interim dividend for 2014 of US$0.20 per ordinary share (a distribution of approximately US$3,844m) was declared by the Directors after 31 December 2014.

These accounts were approved by the Board of Directors on 23 February 2015 and authorised for issue.

 

43 Non-statutory accounts

 

The information set out in these accounts does not constitute the company’s statutory accounts for the years ended 31 December 2014 or 2013. These accounts have been reported on by the Company’s auditors: their reports were unqualified and did not contain a statement under section 498 (2) or (3) of the Companies Act 2006. The accounts for 2013 have been delivered to the Registrar of Companies and those for 2014 will be delivered in due course.

 

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Shareholder Information

 

 

 

 

 

Shareholder information

 

 

Fourth interim dividend for 2014

 

 

 

458

 

  

 

Interim dividends for 2015

 

 

 

458

 

  

 

Shareholder profile

 

 

 

458

 

  

 

2014 Annual General Meeting

 

 

 

459

 

  

 

Interim Management Statements and Interim Results

 

 

 

459

 

  

 

Shareholder enquiries and communications

 

 

 

460

 

  

 

Stock symbols

 

 

 

461

 

  

 

Investor relations

 

 

 

461

 

  

 

Where more information about HSBC is available

 

 

 

461

 

  

 

Simplified structure chart

 

 

 

462

 

  

 

Taxation of shares and dividends

 

 

 

463

 

  

 

Information about the enforceability of judgements made in the US

 

 

 

465a

 

  

 

 

 

Fourth interim dividend for 2014

The Directors have declared a fourth interim dividend for 2014 of US$0.20 per ordinary share. Information on the scrip dividend scheme and currencies in which shareholders may elect to have the cash dividend paid will be sent to shareholders on or about 20 March 2015. The timetable for the dividend is:

 

Announcement

  23 February 2015   

ADSs quoted ex-dividend in New York

  4 March 2015   

Shares quoted ex-dividend in London, Hong Kong, Paris and Bermuda

  5 March 2015   

Record date – London, Hong Kong, New York, Paris, Bermuda1

  6 March 2015   

Mailing of Annual Report and Accounts 2014 and/or Strategic Report 2014, Notice of Annual General Meeting and dividend documentation

  20 March 2015   

Final date for receipt by registrars of forms of election, Investor Centre electronic instructions and revocations of standing instructions for scrip dividends

  16 April 2015   

Exchange rate determined for payment of dividends in sterling and Hong Kong dollars

  20 April 2015   

Payment date: dividend warrants, new share certificates or transaction advices and notional tax vouchers mailed and shares credited to stock accounts in CREST

  30 April 2015   

 

1 Removals to and from the Overseas Branch register of shareholders in Hong Kong will not be permitted on this date.

Interim dividends for 2015

The Board has adopted a policy of paying quarterly interim dividends on the ordinary shares. Under this policy it is intended to have a pattern of three equal interim dividends with a variable fourth interim dividend. It is envisaged that the first interim dividend in respect of 2015 will be US$0.10 per ordinary share.

Dividends are declared in US dollars and, at the election of the shareholder, paid in cash in one of, or in a combination of, US dollars, sterling and Hong Kong dollars, or, subject to the Board’s determination that a scrip dividend is to be offered in respect of that dividend, may be satisfied in whole or in part by the issue of new shares in lieu of a cash dividend.

Shareholder profile

At 31 December 2014 the share register recorded the following details:

 

   

Number of

shareholders

    Total ordinary
shares held
 

1 - 100

  37,254      1,086,273   

101 - 400

  28,970      7,109,335   

401 - 500

  7,269      3,294,206   

501 - 1,000

  30,675      22,589,447   

1,001 - 5,000

  70,515      166,806,864   

5,001 - 10,000

  18,455      130,271,174   

10,001 - 20,000

  10,964      152,651,126   

20,001 - 50,000

  6,616      203,096,923   

50,001 - 200,000

  3,229      296,665,889   

200,001 - 500,000

  713      223,855,824   

500,001 and above

  1,092      18,010,447,199   

Total

  215,752      19,217,874,260   

 

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Shareholder Information (continued)

 

 

2014 Annual General Meeting

All resolutions considered at the 2014 Annual General Meeting held at 11.00am on 23 May 2014 at The Barbican Centre, London EC2 were passed on a poll as follows:

 

        Votes  
Resolution   For 1    %      Against      %      Total      % 2    Withheld 3 
1      

To receive the Annual Report and Accounts 2013

  9,757,667,883      98.77      121,991,215      1.23      9,879,659,098      51.81      67,631,467   
2  

To approve the Directors’ remuneration policy

  7,762,051,505      79.35      2,019,902,686      20.65      9,781,954,191      51.29      167,509,544   
3  

To approve the Directors’ Remuneration Report

  8,180,579,271      83.95      1,563,541,883      16.05      9,744,121,154      51.10      205,528,859   
4  

To approve the variable pay cap

  9,722,737,304      98.01      197,867,631      1.99      9,920,604,935      52.06      29,824,365   
5  

To elect or re-elect the following as Directors:

   

(a)   Kathleen Casey

  9,919,351,912      99.90      9,703,995      0.10      9,929,055,907      52.07      22,579,886   
   

(b)   Safra Catz

  9,907,586,080      99.79      21,027,161      0.21      9,928,613,241      52.06      22,549,669   
   

(c)   Laura Cha

  9,780,982,617      99.65      34,767,318      0.35      9,815,749,935      51.47      134,402,361   
   

(d)   Marvin Cheung

  9,896,844,476      99.68      32,093,388      0.32      9,928,937,864      52.07      22,444,096   
   

(e)   Sir Jonathan Evans

       (now Lord Evans of Weardale)

  9,919,562,434      99.90      9,445,023      0.10      9,929,007,457      52.07      22,647,584   
   

(f)    Joachim Faber

  9,777,856,091      99.57      41,751,739      0.43      9,819,607,830      51.49      130,404,838   
   

(g)   Rona Fairhead

  9,850,526,539      99.23      75,986,608      0.77      9,926,513,147      52.05      23,410,104   
   

(h)   Renato Fassbind

  8,877,803,961      89.45      1,047,345,520      10.55      9,925,149,481      52.05      26,491,483   
   

(i)    Douglas Flint

  9,648,640,713      97.44      253,257,525      2.56      9,901,898,238      51.92      49,764,237   
   

(j)    Stuart Gulliver

  9,901,917,449      99.73      27,013,216      0.27      9,928,930,665      52.07      22,318,409   
   

(k)   Sam Laidlaw

  9,905,841,880      99.76      23,398,827      0.24      9,929,240,707      52.07      22,425,383   
   

(l)    John Lipsky

  9,916,726,269      99.88      11,952,583      0.12      9,928,678,852      52.06      22,478,974   
   

(m)  Rachel Lomax

  9,907,427,658      99.78      21,476,877      0.22      9,928,904,535      52.07      22,307,009   
   

(n)   Iain Mackay

  9,896,296,230      99.67      32,591,433      0.33      9,928,887,663      52.06      22,328,752   
   

(o)   Marc Moses

  9,903,345,079      99.76      24,023,003      0.24      9,927,368,082      52.06      22,605,039   
   

(p)   Sir Simon Robertson

  8,879,523,428      89.43      1,049,218,853      10.57      9,928,742,281      52.06      22,459,665   
   

(q)   Jonathan Symonds

  9,909,069,564      99.80      19,845,278      0.20      9,928,914,842      52.07      22,747,741   
6  

To reappoint KPMG Audit Plc as auditor to the Company

  9,858,281,428      99.29      70,691,207      0.71      9,928,972,635      52.07      22,181,297   
7  

To authorise the Group Audit Committee to determine the auditor’s remuneration

  9,899,311,128      99.70      30,047,667      0.30      9,929,358,795      52.07      22,178,082   
8  

To authorise the Directors to allot shares

  8,960,671,117      90.89      898,368,702      9.11      9,859,039,819      51.70      92,477,179   
9  

To disapply pre-emption rights

  9,782,952,816      98.97      101,914,263      1.03      9,884,867,079      51.83      66,129,918   
10  

To authorise the Directors to allot repurchased shares

  9,397,626,368      95.18      475,964,720      4.82      9,873,591,088      51.77      77,459,228   
11  

To authorise the Company to purchase its own ordinary shares

  9,785,002,326      99.58      41,076,933      0.42      9,826,079,259      51.53      123,932,000   
12  

To authorise the Directors to allot equity securities in relation to Contingent Convertible Securities

  9,558,599,010      97.49      246,293,361      2.51      9,804,892,371      51.41      142,376,638   
13  

To disapply pre-emption rights in relation to the issue of Contingent Convertible Securities

  8,915,406,730      89.85      1,007,452,174      10.15      9,922,858,904      52.03      25,542,467   
14  

To approve general meetings (other than annual general meetings) being called on a minimum of 14 clear days’ notice

  8,798,744,951      88.64      1,127,707,377      11.36      9,926,452,328      52.05      23,437,179   

 

1 Includes discretionary votes.
2 Percentage of Issued Share Capital voted.
3 A ‘vote withheld’ is not a vote in law and is not counted in the calculation of the votes ‘For’ and ‘Against’ the resolution.

Interim Management Statements and Interim Results

Interim Management Statements are expected to be issued on or around 5 May 2015 and 2 November 2015. The Interim Results for the six months to 30 June 2015 are expected to be issued on 3 August 2015.

 

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Shareholder enquiries and communications

Enquiries

Any enquiries relating to shareholdings on the share register, for example transfers of shares, change of name or address, lost share certificates or dividend cheques, should be sent to the Registrars at the address given below. The Registrars offer an online facility, Investor Centre, which enables shareholders to manage their shareholding electronically.

 

Principal Register: Hong Kong Overseas Branch Register: Bermuda Overseas Branch Register:

Computershare Investor Services PLC

The Pavilions

Bridgwater Road

Bristol BS99 6ZZ

United Kingdom

Telephone: 44 (0) 870 702 0137

Email via website:

www.investorcentre.co.uk/contactus

Computershare Hong Kong Investor
Services Limited

Rooms 1712-1716, 17th Floor

Hopewell Centre

183 Queen’s Road East

Hong Kong

Telephone: 852 2862 8555

Email: hsbc.ecom@computershare.com.hk

Investors Relations Team

HSBC Bank Bermuda Limited

6 Front Street

Hamilton HM 11

Bermuda

Telephone: 1 441 299 6737

Email: hbbm.shareholder.services@hsbc.bm

Investor Centre:

www.investorcentre.co.uk

Investor Centre:

www.investorcentre.com/hk

Investor Centre:

www.investorcentre.com/bm

Any enquiries relating to ADSs should be sent to the depositary:

The Bank of New York Mellon

Depositary Receipts

PO Box 43006

Providence, RI 02940-3006

USA

Telephone (US): 1 877 283 5786

Telephone (International): 1 201 680 6825

Email: shrrelations@bnymellon.com

Website: www.bnymellon.com/shareowner

Any enquiries relating to shares held through Euroclear France, the settlement and central depositary system for NYSE Euronext Paris, should be sent to the paying agent:

HSBC France

103, avenue des Champs Elysées

75419 Paris Cedex 08

France

Telephone: 33 1 40 70 22 56

Email: ost-agence-des-titres-hsbc-reims.hbfr-do@hsbc.fr

Website: www.hsbc.fr

If you have been nominated to receive general shareholder communications directly from HSBC Holdings, it is important to remember that your main contact for all matters relating to your investment remains the registered shareholder, or perhaps custodian or broker, who administers the investment on your behalf. Therefore any changes or queries relating to your personal details and holding (including any administration thereof) must continue to be directed to your existing contact at your investment manager or custodian. HSBC Holdings cannot guarantee dealing with matters directed to it in error.

Further copies of this Annual Report and Accounts 2014 may be obtained by writing to the following departments:

 

For those in Europe, the Middle East

and Africa:

For those in Asia-Pacific: For those in the Americas:

Global Communications

HSBC Holdings plc

8 Canada Square

London E14 5HQ

United Kingdom

Communications (Asia)

The Hongkong and Shanghai Banking

Corporation Limited

1 Queen’s Road Central

Hong Kong

Global Publishing Services

HSBC – North America

SC1 Level, 452 Fifth Avenue

New York, NY 10018

USA

 

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Electronic communications

Shareholders may at any time choose to receive corporate communications in printed form or to receive notifications of their availability on HSBC’s website. To receive future notifications of the availability of a corporate communication on HSBC’s website by email, or revoke or amend an instruction to receive such notifications by email, go to www.hsbc.com/ecomms. If you provide an email address to receive electronic communications from HSBC, we will also send notifications of your dividend entitlements by email. If you received a notification of the availability of this document on HSBC’s website and would like to receive a printed copy or, if you would like to receive future corporate communications in printed form, please write or send an email (quoting your shareholder reference number) to the appropriate Registrars at the address given above. Printed copies will be provided without charge.

Chinese translation

A Chinese translation of this Annual Report and Accounts 2014 is available upon request after 20 March 2015 from the Registrars:

 

Computershare Hong Kong Investor Services Limited

Rooms 1712-1716, 17th Floor

Hopewell Centre

183 Queen’s Road East

Hong Kong

  

Computershare Investor Services PLC

The Pavilions

Bridgwater Road

Bristol BS99 6ZZ

United Kingdom

Please also contact the Registrars if you wish to receive Chinese translations of future documents or if you have received a Chinese translation of this document and do not wish to receive such translations in future.

 

LOGO

 

LOGO

Stock symbols

HSBC Holdings ordinary shares trade under the following stock symbols:

 

London Stock Exchange       HSBA   Euronext Paris   HSB
Hong Kong Stock Exchange       5   Bermuda Stock Exchange   HSBC.BH
New York Stock Exchange (ADS)       HSBC    

Investor relations

Enquiries relating to HSBC’s strategy or operations may be directed to:

 

Senior Manager Investor Relations

HSBC Holdings plc

8 Canada Square

London E14 5HQ

United Kingdom

  

SVP Investor Relations

HSBC North America Holdings Inc.

26525 N Riverwoods Boulevard, Suite 100

Mettawa, Illinois 60045

USA

  

Head of Investor Relations, Asia

The Hongkong and Shanghai Banking

Corporation Limited

1 Queen’s Road Central

Hong Kong

Telephone: 44 (0) 20 7991 3643    1 224 880 8008    852 2822 4908
Email: investorrelations@hsbc.com    investor.relations.usa@us.hsbc.com    investorrelations@hsbc.com.hk

Where more information about HSBC is available

This Annual Report and Accounts 2014, and other information on HSBC, may be viewed on HSBC’s website: www.hsbc.com.

Reports, statements and information that HSBC Holdings files with the Securities and Exchange Commission are available at www.sec.gov. Investors can also request hard copies of these documents upon payment of a duplicating fee by writing to the SEC at the Office of Investor Education and Advocacy, 100 F Street N.E., Washington, DC 20549-0123 or by emailing PublicInfo@sec.gov. Investors should call the Commission at (202) 551 8090 if they require further assistance. Investors may also obtain the reports and other information that HSBC Holdings files at www.nyse.com (telephone number (1) 212 656 3000).

HM Treasury has transposed the requirements set out under CRD IV and issued the Capital Requirements Country-by-Country Reporting Regulations 2013, effective 1 January 2014. The legislation will require HSBC Holdings to publish additional information, in respect of the year ended 31 December 2014, by 1 July 2015. This information will be available at the time on HSBC’s website: www.hsbc.com.

 

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Simplified Structure Chart of HSBC Holdings plc                                                                                                                      

 

LOGO

 

  This simplified Group structure of principal subsidiaries is at 31 December 2014.
  Not all intermediate holding companies are shown.
  Unless shown otherwise, all subsidiaries are wholly owned.

 

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Taxation of shares and dividends

Taxation – UK residents

The following is a summary, under current law, of certain UK tax considerations that are likely to be material to the ownership and disposition of HSBC Holdings ordinary shares. The summary does not purport to be a comprehensive description of all the tax considerations that may be relevant to a holder of shares. In particular, the summary deals principally with shareholders who are resident solely in the UK for UK tax purposes and only with holders who hold the shares as investments and who are the beneficial owners of the shares, and does not address the tax treatment of certain classes of holders such as dealers in securities. Holders and prospective purchasers should consult their own advisers regarding the tax consequences of an investment in shares in light of their particular circumstances, including the effect of any national, state or local laws.

Taxation of dividends

Currently no tax is withheld from dividends paid by HSBC Holdings. However, dividends are paid with an associated tax credit which is available for set-off by certain shareholders against any liability they may have to UK income tax. Currently, the associated tax credit is equivalent to 10% of the combined cash dividend and tax credit, i.e. one-ninth of the cash dividend.

For individual shareholders who are resident in the UK for taxation purposes and liable to UK income tax at the basic rate, no further UK income tax liability arises on the receipt of a dividend from HSBC Holdings. Individual shareholders who are liable to UK income tax at the higher rate or additional rate are taxed on the combined amount of the dividend and the tax credit at the dividend upper rate (currently 32.5%) and the dividend additional rate (currently 37.5%), respectively. The tax credit is available for set-off against the dividend upper rate and the dividend additional rate liability. Individual UK resident shareholders are not entitled to any tax credit repayment.

Although non-UK resident shareholders are generally not entitled to any repayment of the tax credit in respect of any UK dividend received, some such shareholders may be so entitled under the provisions of a double taxation agreement between their country of residence and the UK. However, in most cases no amount of the tax credit is, in practice, repayable.

Information on the taxation consequences of the HSBC Holdings scrip dividends offered in lieu of the 2013 fourth interim dividend and the first, second and third interim dividends for 2014 was set out in the Secretary’s letters to shareholders of 25 March, 5 June, 3 September and 5 November 2014. In no case was the difference between the cash dividend foregone and the market value of the scrip dividend in excess of 15% of the market value. Accordingly, the amount of the dividend

income chargeable to tax, and, the acquisition price of the HSBC Holdings ordinary shares for UK capital gains tax purposes, was the cash dividend foregone.

Taxation of capital gains

The computation of the capital gains tax liability arising on disposals of shares in HSBC Holdings by shareholders subject to UK tax on capital gains can be complex, partly depending on whether, for example, the shares were purchased since April 1991, acquired in 1991 in exchange for shares in The Hongkong and Shanghai Banking Corporation Limited, or acquired subsequent to 1991 in exchange for shares in other companies.

For capital gains tax purposes, the acquisition cost for ordinary shares is adjusted to take account of subsequent rights and capitalisation issues. Any capital gain arising on a disposal by a UK company may also be adjusted to take account of indexation allowance. If in doubt, shareholders are recommended to consult their professional advisers.

Stamp duty and stamp duty reserve tax

Transfers of shares by a written instrument of transfer generally will be subject to UK stamp duty at the rate of 0.5% of the consideration paid for the transfer, and such stamp duty is generally payable by the transferee.

An agreement to transfer shares, or any interest therein, normally will give rise to a charge to stamp duty reserve tax at the rate of 0.5% of the consideration. However, provided an instrument of transfer of the shares is executed pursuant to the agreement and duly stamped before the date on which the stamp duty reserve tax becomes payable, under the current practice of UK HM Revenue and Customs (‘HMRC’) it will not be necessary to pay the stamp duty reserve tax, nor to apply for such tax to be cancelled. Stamp duty reserve tax is generally payable by the transferee.

Paperless transfers of shares within CREST, the UK’s paperless share transfer system, are liable to stamp duty reserve tax at the rate of 0.5% of the consideration. In CREST transactions, the tax is calculated and payment made automatically. Deposits of shares into CREST generally will not be subject to stamp duty reserve tax, unless the transfer into CREST is itself for consideration. Following the case HSBC pursued before the European Court of Justice (Case C-569/07 HSBC Holdings plc and Vidacos Nominees Ltd v The Commissioners for HM Revenue & Customs) and a subsequent case in relation to depositary receipts, HMRC now accepts that the charge to stamp duty reserve tax at 1.5% on the issue of shares to a depositary receipt issuer or a clearance service is prohibited.

Taxation – US residents

The following is a summary, under current law, of the principal UK tax and US federal income tax considerations that are likely to be material to the ownership and disposition of shares or American

 

 

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Depositary Shares (‘ADS’s) by a holder that is a resident of the US for US federal income tax purposes (a ‘US holder’) and who is not resident in the UK for UK tax purposes.

The summary does not purport to be a comprehensive description of all of the tax considerations that may be relevant to a holder of shares or ADSs. In particular, the summary deals only with US holders that hold shares or ADSs as capital assets, and does not address the tax treatment of holders that are subject to special tax rules, such as banks, tax-exempt entities, insurance companies, dealers in securities or currencies, persons that hold shares or ADSs as part of an integrated investment (including a ‘straddle’) comprised of a share or ADS and one or more other positions, and persons that own, directly or indirectly, 10% or more of the voting stock of HSBC Holdings. This discussion is based on laws, treaties, judicial decisions and regulatory interpretations in effect on the date hereof, all of which are subject to change.

Holders and prospective purchasers should consult their own advisers regarding the tax consequences of an investment in shares or ADSs in light of their particular circumstances, including the effect of any national, state or local laws.

Any US federal tax advice included in this Annual Report and Accounts is for informational purposes only; it was not intended or written to be used, and cannot be used, for the purpose of avoiding US federal tax penalties.

Taxation of dividends

Currently no tax is withheld from dividends paid by HSBC Holdings. For US tax purposes, a US holder must include cash dividends paid on the shares or ADSs in ordinary income on the date that such holder or the ADS depositary receives them, translating dividends paid in UK pounds sterling into US dollars using the exchange rate in effect on the date of receipt. A US holder that elects to receive shares in lieu of a cash dividend must include in ordinary income the fair market value of such shares on the dividend payment date, and the tax basis of those shares will equal such fair market value.

Subject to certain exceptions for positions that are held for less than 61 days or are hedged, and subject to a foreign corporation being considered a ‘qualified foreign corporation’ (which includes not being classified for US federal income tax purposes as a passive foreign investment company), certain dividends (‘qualified dividends’) received by an individual US holder generally will be subject to US taxation at preferential rates. Based on the company’s audited financial statements and relevant market and shareholder data, HSBC Holdings does not anticipate being classified as a passive foreign investment company. Accordingly, dividends paid on the shares or ADSs generally should be treated as qualified dividends.

Taxation of capital gains

Gains realised by a US holder on the sale or other disposition of shares or ADSs normally will not be subject to UK taxation unless at the time of the sale or other disposition the holder carries on a trade, profession or vocation in the UK through a branch or agency or permanent establishment and the shares or ADSs are or have been used, held or acquired for the purposes of such trade, profession, vocation, branch or agency or permanent establishment. Such gains will be included in income for US tax purposes, and will be long-term capital gains if the shares or ADSs were held for more than one year. A long-term capital gain realised by an individual US holder generally will be subject to US tax at preferential rates.

Inheritance tax

Shares or ADSs held by an individual whose domicile is determined to be the US for the purposes of the United States-United Kingdom Double Taxation Convention relating to estate and gift taxes (the ‘Estate Tax Treaty’) and who is not for such purposes a national of the UK will not, provided any US federal estate or gift tax chargeable has been paid, be subject to UK inheritance tax on the individual’s death or on a lifetime transfer of shares or ADSs except in certain cases where the shares or ADSs (i) are comprised in a settlement (unless, at the time of the settlement, the settlor was domiciled in the US and was not a national of the UK), (ii) is part of the business property of a UK permanent establishment of an enterprise, or (iii) pertains to a UK fixed base of an individual used for the performance of independent personal services. In such cases, the Estate Tax Treaty generally provides a credit against US federal tax liability for the amount of any tax paid in the UK in a case where the shares or ADSs are subject to both UK inheritance tax and to US federal estate or gift tax.

Stamp duty and stamp duty reserve tax – ADSs

If shares are transferred to a clearance service or American Depositary Receipt (‘ADR’) issuer (which will include a transfer of shares to the Depositary) under the current HMRC practice UK stamp duty and/or stamp duty reserve tax will be payable. The stamp duty or stamp duty reserve tax is generally payable on the consideration for the transfer and is payable at the aggregate rate of 1.5%.

The amount of stamp duty reserve tax payable on such a transfer will be reduced by any stamp duty paid in connection with the same transfer.

No stamp duty will be payable on the transfer of, or agreement to transfer, an ADS, provided that the ADR and any separate instrument of transfer or written agreement to transfer remain at all times outside the UK, and provided further that any such transfer or written agreement to transfer is not executed in the UK. No stamp duty reserve tax will be payable on a transfer of, or agreement to transfer, an ADS effected by the transfer of an ADR.

 

 

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US backup withholding tax and information reporting

Distributions made on shares or ADSs and proceeds from the sale of shares or ADSs that are paid within the US, or through certain financial intermediaries to US holders, are subject to information reporting and may be subject to a US ‘backup’ withholding tax unless, in general, the US holder complies with certain certification procedures or is a corporation or other person exempt from such

withholding. Holders that are not US persons generally are not subject to information reporting or backup withholding tax, but may be required to comply with applicable certification procedures to establish that they are not US persons in order to avoid the application of such information reporting requirements or backup withholding tax to payments received within the US or through certain financial intermediaries.

 

 

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Information about the enforceability of judgements made in the US

HSBC Holdings is a public limited company incorporated in England and Wales. Most of the Directors and executive officers live outside the US. As a result, it may not be possible to serve process on such persons or HSBC Holdings in the US or to enforce judgements obtained in US courts against them or HSBC Holdings based on civil liability provisions of the securities laws of the US. There is doubt as to whether English courts would enforce:

 

  civil liabilities under US securities laws in original actions; or

 

  judgements of US courts based upon these civil liability provisions.

In addition, awards of punitive damages in actions brought in the US or elsewhere may be unenforceable in the UK. The enforceability of any judgement in the UK will depend on the particular facts of the case as well as the laws and treaties in effect at the time.

Exchange controls and other limitations affecting equity security holders

Other than certain economic sanctions which may be in force from time to time, there are currently no UK laws, decrees or regulations which would prevent the import or export of capital or remittance of distributable profits by way of dividends and other payments to holders of HSBC Holdings’ equity securities who are not residents of the UK. There are also no restrictions under the laws of the UK or the terms of the Memorandum and Articles of Association concerning the right of non-resident or foreign owners to hold HSBC Holdings’ equity securities or, when entitled to vote, to do so.

Dividends on the ordinary shares of HSBC Holdings

HSBC Holdings has paid dividends on its ordinary shares every year without interruption since it became the HSBC Group holding company by a scheme of arrangement in 1991. The dividends declared, per ordinary share, in respect of each of the last five years were:

 

 

 
 
First
            interim
  
  
 

 

            Second

interim

  

  

 

 

Third

            interim

  

  

 

 

Fourth

            interim

  

1 

              Total 2 

2014

US$

  0.100      0.100      0.100      0.200      0.500   

£

  0.059      0.062      0.064      0.128      0.313   

HK$

  0.775      0.777      0.776      1.551      3.879   

2013

US$

  0.100      0.100      0.100      0.190      0.490   

£

  0.066      0.064      0.062      0.114      0.306   

HK$

  0.776      0.775      0.775      1.473      3.799   

2012

US$

  0.090      0.090      0.090      0.180      0.450   

£

  0.058      0.056      0.056      0.111      0.281   

HK$

  0.698      0.698      0.698      1.395      3.489   

2011

US$

  0.090      0.090      0.090      0.140      0.410   

£

  0.056      0.058      0.058      0.090      0.262   

HK$

  0.701      0.702      0.699      1.088      3.190   

2010

US$   0.080      0.080      0.080      0.120      0.360   
£   0.053      0.051      0.051      0.077      0.232   

HK$

  0.622      0.621      0.622      0.933      2.798   

 

1 The fourth interim dividend for 2014 of US$0.20 per share has been translated into pounds sterling and Hong Kong dollars at the closing rate on 31 December 2014. The dividend will be paid on 30 April 2015.
2 The above dividends declared are accounted for as disclosed in Note 9 on the Financial Statements.

 

American Depositary Shares

A holder of HSBC Holdings’ American Depositary Shares (‘ADSs’) may have to pay, either directly or indirectly (via the intermediary through whom their ADSs are held) fees to the Bank of New York Mellon as depositary.

Fees may be paid or recovered in several ways: by deduction from amounts distributed; by selling a portion of distributable property; by deduction from dividend distributions; by directly invoicing the holder; or by charging the intermediaries who act for them. The fees for which the holders of the HSBC ADSs will be responsible include:

 

 

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For: HSBC ADS holders must pay:
Each issuance of HSBC ADSs, including as a result of a distribution of shares (including through a stock dividend, stock split or distribution of rights or other property) US$5.00 (or less) per 100 HSBC ADSs or portion thereof
Each cancellation of HSBC ADSs, including if the deposit agreement terminates US$5.00 (or less) per 100 HSBC ADSs or portion thereof
Transfer and registration of shares on our share register to/from the holder’s name to/from the name of The Bank of New York Mellon or its agent when the holder deposits or withdraws shares Registration or transfer fees (of which there currently are none)
Conversion of non-US currency to US dollars Charges and expenses incurred by The Bank of New York Mellon with respect to the conversion
Each cash distribution to HSBC ADS holders US$0.02 or less per ADS
Transfers of HSBC ordinary shares to the depositary in exchange for HSBC ADSs Any applicable taxes and/or other governmental charges
Distribution of securities by the Depository to HSBC ADS holders A fee equivalent to the fee that would be payable if securities distributed to you had been shares and those shares had been deposited for issuance of ADSs
Any other charges incurred by the depositary or its agents for servicing shares or other securities deposited As applicable

 

The depositary may generally refuse to provide fee-attracting services until its fees for those services are paid.

The depositary has agreed to reimburse us for expenses we incur, and to pay certain out-of-pocket expenses and waive certain fees, in connection with the administration, servicing and maintenance of our ADS programme. There are limits on the amount of expenses

for which the depositary will reimburse us. The amount of reimbursement available is not tied to the amount of fees the depositary collects from holders of ADSs. During the year ended 31 December 2014, the depositary reimbursed, paid and/or waived fees and expenses totalling US$710,714.54 in connection with the administration, servicing and maintenance of the programme, as detailed below:

 

 

Category of expense/fees  

2014

US$

 

Fees relating to stock exchange listing

        240,310.00   

Fulfilment costs including shareholder meeting costs (printing and distribution of materials and vote tabulation) and beneficial holder searches

  367,208.64   

Fees and expenses paid and/or waived including: account servicing fees, postage and envelopes for mailing annual and interim financial reports, dividend warrants, electronic filing of US Federal tax information, mailing required tax forms, stationery, postage, facsimile and telephone calls

  103,195.90   

Total

  710,714.54   

 

Nature of trading market

HSBC Holdings ordinary shares are listed or admitted to trading on the London Stock Exchange, the Hong Kong Stock Exchange (‘HKSE’), Euronext Paris, the Bermuda Stock Exchange, and the New York Stock Exchange (‘NYSE’) in the form of ADSs. HSBC Holdings maintains its principal share register in England and overseas branch share registers in Hong Kong and Bermuda (collectively, the ‘share register’).

As at 31 December 2014, there were a total of 215,752 holders of record of HSBC Holdings ordinary shares on the share register.

As at 31 December 2014, a total of 20,224,926 of the HSBC Holdings ordinary shares were registered in the HSBC Holdings’ share register in the name of 14,067 holders of record with addresses in the US. These shares represented 0.11% of the total HSBC Holdings ordinary shares in issue.

As at 31 December 2014, there were 7,188 holders of record of ADSs holding approximately 166.3m ADSs, representing approximately 831m HSBC Holdings ordinary shares, 7,038 of these holders had addresses in the US, holding approximately 166.2m ADSs, representing 831m HSBC Holdings ordinary shares. As at 31 December 2014, approximately 4.3% of the HSBC Holdings ordinary shares were represented by ADSs held by holders of record with addresses in the US.

The following table shows, for the years, calendar quarters and months indicated, the highest and lowest prices for the HSBC Holdings ordinary shares and ADSs. These are based on mid-market prices at close of business on the London Stock Exchange, HKSE, Euronext Paris, NYSE and the Bermuda Stock Exchange, as adjusted for the 5-for-12 rights issue completed in April 2009.

Past share price performance should not be regarded as a guide to future performance.

 

 

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High and low mid-market closing prices

 

          London
    US$0.50 shares    
   Hong Kong
    US$0.50 shares    
           New York        
ADSs1
   Paris
    US$0.50 shares     
   Bermuda
    US$0.50 shares    
 
          High           Low           High           Low           High           Low           High           Low           High           Low    
          pence           pence           HK$           HK$           US$           US$           euro           euro           US$           US$    

2014

        681            589            86.1            72.2            56.0            46.5            8.4            7.1            11.0            9.4     

2013

        770            647            90.4            79.3            58.6            50.7            9.1            7.7            11.4            10.5     

2012

        655            491            82.0            59.5            53.1            38.3            8.0            5.8            10.5            7.6     

2011

        731            464            91.8            56.1            59.0            35.8            8.7            5.4            11.8            7.0     

2010

        740            596            92.4            69.6            59.3            44.4            8.3            7.2            11.6            8.8     

2014

                                                           

4th Quarter

        643            592            79.8            72.2            51.4            46.5            8.2            7.4            10.6            9.4     

3rd Quarter

        664            589            84.2            78.6            54.3            50.6            8.4            7.4            10.7            10.1     

2nd Quarter

        633            593            82.5            77.9            53.2            50.3            7.8            7.2            10.4            10.0     

1st Quarter

        681            592            86.1            76.0            56.0            49.2            8.2            7.1            11.0            9.9     

2013

                                                           

4th Quarter

        703            647            87.1            81.8            56.5            53.0            8.4            7.7            11.3            10.5     

3rd Quarter

        755            670            89.6            79.8            58.0            52.2            8.7            7.9            11.3            10.6     

2nd Quarter

        770            656            90.4            79.3            58.6            50.7            9.1            7.7            11.4            10.5     

1st Quarter

        740            647            88.3            81.3            57.1            52.8            8.6            7.9            11.4            10.5     

2015

                                                           

January

        627            590            74.0            70.0            47.3            45.2            8.4            7.5            9.4            9.4     

2014

                                                           

December

        643            592            77.4            72.2            50.1            46.5            8.1            7.4            10.0            9.4     

November

        643            624            78.7            76.5            50.6            49.1            8.2            7.9            10.0            10.0     

October

        640            614            79.8            77.6            51.4            49.6            8.2            7.7            10.6            10.0     

September

        664            626            84.2            79.6            54.1            50.9            8.4            8.0            10.7            10.5     

August

        652            626            83.9            81.9            54.3            52.5            8.2            7.8            10.7            10.5     

July

        642            589            83.6            78.6            54.2            50.6            8.0            7.4            10.7            10.1     

 

1 In New York each ADS represents five underlying ordinary shares.

 

Memorandum and Articles of Association

The disclosure under the caption ‘Memorandum and Articles of Association’ contained in Form 20-F for the years ended 31 December 2000 and 2001 is incorporated by reference herein, together with the disclosure below.

Directors’ interests

Subject to the provisions of the Companies Act 2006 and provided that the Articles are complied with, a Director, notwithstanding his office:

 

  may enter into or otherwise be interested in any contract, arrangement, transaction or proposal with HSBC Holdings or in which HSBC Holdings is otherwise interested;

 

  may hold any other office or place of profit under HSBC Holdings (except that of auditor or auditor of a subsidiary of HSBC Holdings) in conjunction with the office of Director and may act by himself or through his firm in a professional capacity for HSBC Holdings, and in any such case on such terms as to remuneration and otherwise as the Board may arrange;

 

  may be a director or other officer, or employed by, or a party to any transaction or arrangement with or otherwise interested in, any company promoted by HSBC Holdings or in which HSBC Holdings is otherwise interested or as regards which HSBC Holdings has any powers of appointment; and
  shall not be liable to account to HSBC Holdings for any profit, remuneration or other benefit realised by any such office, employment, contract, arrangement, transaction or proposal or from any interest in any body corporate and no such contract, arrangement, transaction, proposal or interest shall be avoided on the grounds of any such interest or benefit nor shall the receipt of any such profit, remuneration or any other benefit constitute a breach of his or her duty under the Companies Act 2006 not to accept benefits from third parties.

Since 1 October 2008, the Board may authorise any matter proposed to it which would, if not so authorised, involve a breach by a Director of his or her duty to avoid conflicts of interest under the Companies Act 2006, including, without limitation, any matter which relates to a situation in which a Director has, or can have, an interest which conflicts, or possibly may conflict, with the interest of HSBC Holdings (including the exploitation of any property, information or opportunity, whether or not HSBC Holdings could take advantage of it, but excluding any situation which cannot reasonably be regarded as likely to give rise to a conflict of interest). Any such authorisation will be effective only if:

 

  any requirement as to quorum at the meeting at which the matter is considered is met without counting the Director in question or any other interested Director; and

 

  the matter was agreed to without their voting or would have been agreed to if their votes had not been counted.
 

 

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Shareholder Information (continued)

 

 

The Board may (whether at the time of the giving of the authorisation or subsequently) make any such authorisation subject to any limits or conditions it expressly imposes but such authorisation is otherwise given to the fullest extent permitted. The Board may vary or terminate any such authorisation at any time.

A Director shall be under no duty to HSBC Holdings with respect to any information which he obtains or has obtained otherwise than as a Director of HSBC Holdings and in respect of which he has a duty of confidentiality to another person.

Retirement

There is no mandatory retirement age for Directors of HSBC Holdings.

History and development of HSBC

 

1865 The founding member of the HSBC Group, The Hongkong and Shanghai Banking Corporation, is established in both Hong Kong and Shanghai.
1959 The Mercantile Bank of India Limited and The British Bank of the Middle East, now HSBC Bank Middle East Limited, are purchased.
1965 We acquire a 51% interest (subsequently increased to 62.14%) in Hang Seng Bank Limited. Hang Seng Bank is the fourth-largest listed bank in Hong Kong by market capitalisation.
1980 We acquire a 51% interest in Marine Midland Banks, Inc., now HSBC USA, Inc, (with the remaining interest acquired in 1987).
1981 The Hongkong and Shanghai Banking Corporation incorporates its then existing Canadian operations. HSBC Bank Canada subsequently makes numerous acquisitions, expanding rapidly to become the largest foreign-owned bank in Canada.
1987 We purchase a 14.9% interest in Midland Bank plc, now HSBC Bank plc, one of the UK’s principal clearing banks.
1991 HSBC Holdings plc is established as the parent company of the HSBC Group.
1992 We purchase the remaining interest in Midland Bank plc.
1993 As a consequence of the Midland acquisition, our Head Office is transferred from Hong Kong to London in January.
1997 We assume selected assets, liabilities and subsidiaries of Banco Bamerindus do Brasil S.A., now HSBC Bank Brazil, following the intervention of the Central Bank of Brazil, and in Argentina complete the acquisition of Grupo Roberts, now part of HSBC Bank Argentina S.A.
1999 We acquire Republic New York Corporation, subsequently merged with HSBC USA, Inc., and Safra Republic Holdings S.A.
2000 We complete our acquisition of 99.99% of the issued share capital of Crédit Commercial de France S.A., now HSBC France.
2002 We acquire 99.59% of Grupo Financiero Bital, S.A. de C.V., the holding company of what is now HSBC Mexico.
2003 We acquire Household International, Inc., now HSBC Finance Corporation.
2003 We acquire Banco Lloyds TSB S.A.–Banco Múltiplo in Brazil and the country’s leading consumer finance company, Losango Promotora de Vendas Limitada.
2004 HSBC Bank USA, Inc. merges with HSBC Bank & Trust (Delaware) N.A. to form HSBC Bank USA, N.A.
2004 We complete the acquisition of The Bank of Bermuda Limited.
2004 We acquire Marks and Spencer Retail Financial Services Holdings Limited, which trades as Marks and Spencer Money (‘M&S Money’) in the UK.
2004 We acquire 19.9% of Bank of Communications, and Hang Seng Bank acquires 15.98% of Industrial Bank.
2005 We increase our holding in Ping An to 19.9%, having made our initial investment in 2002. Ping An is the second-largest life insurer and the third-largest property and casualty insurer in mainland China.
2005 HSBC Finance completes the acquisition of Metris Companies Inc., making HSBC the fifth-largest issuer of MasterCard and Visa cards in the USA.
2006 We acquire Grupo Banistmo S.A. (‘Banistmo’), the leading banking group in Central America, through a tender offer to acquire 99.98% of the outstanding shares of Banistmo.
2007 Our three associates in mainland China, Industrial Bank, Ping An and Bank of Communications, issue new shares. We do not subscribe and, as a result, our interests in the associates’ equity decrease.
2008 We acquire the assets, liabilities and operations of The Chinese Bank in Taiwan.
2008 We complete the sale of our seven French regional banks.
2009 We complete the acquisition of 88.89% of PT Bank Ekonomi Raharja Tbk in Indonesia.
2012 In May, we complete the sale of our US Card and Retail Services business, together with certain real estate and other assets and liabilities.
2012 In May, we complete the sale of 138 retail branches in upstate New York. The disposal of a further 57 branches is completed in August.
2012 In December, we complete the sale we announced in January of our businesses in Costa Rica, El Salvador and Honduras to the Colombian banking group, Banco Davivienda, for US$801m.
2012 In December, we announce the disposal of our shares in Ping An to Charoen Pokphand Group Company for approximately US$9,385m in cash.
2012 In December, we announce an agreement to sell our 18% shareholding in Bao Viet Holdings to Sumitomo Life Insurance Company for US$340m in cash.
2013 In November, we sell HSBC Bank (Panama) S.A. to Bancolombia S.A. for US$2.1bn in cash.

Differences in HSBC Holdings/New York Stock Exchange corporate governance practices

Under the NYSE’s corporate governance rules for listed companies and the applicable rules of the SEC, as a NYSE-listed foreign private issuer, HSBC Holdings must disclose any significant ways in which its corporate governance practices differ from those followed by US companies subject to NYSE listing standards. HSBC Holdings believes the following to be the significant differences between its corporate governance practices and NYSE corporate governance rules applicable to US companies.

US companies listed on the NYSE are required to adopt and disclose corporate governance guidelines. The Listing Rules of the FCA require each listed company incorporated in the UK to include in its Annual Report

 

 

HSBC HOLDINGS PLC

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Shareholder Information (continued)

 

 

and Accounts a statement of how it has applied the principles of The UK Corporate Governance Code issued by the Financial Reporting Council and a statement as to whether or not it has complied with the code provisions of The UK Corporate Governance Code throughout the accounting period covered by the Annual Report and Accounts. A company that has not complied with the code provisions, or complied with only some of the code provisions or (in the case of provisions whose requirements are of a continuing nature) complied for only part of an accounting period covered by the report, must specify the code provisions with which it has not complied, and (where relevant) for what part of the reporting period such non-compliance continued, and give reasons for any non-compliance. As stated above, HSBC Holdings complied throughout 2014 with the applicable code provisions of The UK Corporate Governance Code. The UK Corporate Governance Code does not require HSBC Holdings to disclose the full range of corporate governance guidelines with which it complies.

Under NYSE standards, companies are required to have a nominating/corporate governance committee composed entirely of directors determined to be independent in accordance with the NYSE’s corporate governance rules. All of the members of the Nomination Committee during 2014 were independent non-executive Directors, as determined in accordance with the UK Corporate Governance Code. The terms of reference of our Nomination Committee, which comply with the UK Corporate Governance Code, require a majority of members to be independent. In addition to identifying individuals qualified to become Board members, a nominating/corporate governance committee must develop and recommend to the Board a set of corporate governance principles. The Nomination Committee’s terms of reference do not require it to develop and recommend corporate governance principles for HSBC Holdings. As stated above, HSBC Holdings is subject to the corporate governance principles of The UK Corporate Governance Code. The Board of Directors is responsible under its terms of reference for the development and review of Group policies and practices on corporate governance.

Under the NYSE standards, companies are required to have a compensation committee composed entirely of directors determined to be independent in accordance with the NYSE’s corporate governance rules. All of the members of the Group Remuneration Committee during 2014 were independent non-executive Directors, as determined in accordance with the UK Corporate Governance Code. The terms of reference of our Group Remuneration Committee, which comply with the UK Corporate Governance Code, require at least three members to be independent. A compensation committee must review and approve corporate goals and objectives relevant to chief executive officer compensation and evaluate a chief executive officer’s performance in light of these goals and objectives. The Group Remuneration Committee’s terms of reference require it to review and approve performance-based

remuneration of the executive Directors by reference to corporate goals and objectives which are set by the Board of Directors.

Pursuant to NYSE listing standards, non-management directors must meet on a regular basis without management present and independent directors must meet separately at least once per year.

During 2014, the non-executive Directors and the Group Chairman met once without the other executive Directors. The non-executive Directors also met four times without the Group Chairman, including to appraise the Group Chairman’s performance. HSBC Holdings’ practice, in this regard, complies with The UK Corporate Governance Code.

In accordance with the requirements of The UK Corporate Governance Code, HSBC Holdings discloses in its Annual Report and Accounts how the Board, its committees and the Directors are evaluated (on pages 273 to 274) and provides extensive information regarding Directors’ compensation in the Directors’ Remuneration Report (on pages 300 to 327). The terms of reference of HSBC Holdings’ Group Audit, Group Nomination, Group Remuneration and Group Risk Committees are available at www.hsbc.com/investor-relations/governance/boardcommittees.

NYSE listing standards require US companies to adopt a code of business conduct and ethics for directors, officers and employees, and promptly disclose any waivers of the code for directors or executive officers. In 2009, the Board endorsed three HSBC Values statements underpinned by the continued use of our Business Principles, in replacement of the Group Business Principles and Values. In addition to the HSBC Values statements and Business Principles (and previously the Group Business Principles and Values), which apply to the employees of all our companies, pursuant to the requirements of the Sarbanes-Oxley Act the Board of HSBC Holdings has adopted a Code of Ethics applicable to the Group Chairman and the Group Chief Executive, as the principal executive officers, and to the Group Finance Director and Group Chief Accounting Officer. HSBC Holdings’ Code of Ethics is available on www.hsbc.com/codeofethics or from the Group Company Secretary at 8 Canada Square, London E14 5HQ. If the Board amends or waives the provisions of the Code of Ethics, details of the amendment or waiver will appear at the same website address. During 2014, HSBC Holdings made no amendments to its Code of Ethics and granted no waivers from its provisions. The references to the standards to be followed by all employees reflect the Board’s endorsement of HSBC Values statements underpinned by the continued use of our Business Principles. The HSBC Values statements and Business Principles are available on www.hsbc.com/groupvalues.

Under NYSE listing rules applicable to US companies, independent directors must comprise a majority of the board of directors. Currently, more than three-quarters of HSBC Holdings’ Directors are independent.

 

 

HSBC HOLDINGS PLC

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Shareholder Information (continued)

 

 

Under The UK Corporate Governance Code the HSBC Holdings Board determines whether a Director is independent in character and judgement and whether there are relationships or circumstances which are likely to affect, or could appear to affect, the Director’s judgement. Under the NYSE rules a director cannot qualify as independent unless the board affirmatively determines that the director has no material relationship with the listed company; in addition the NYSE rules prescribe a list of circumstances in which a director cannot be independent. The UK Corporate Governance Code requires a company’s board to assess director independence by affirmatively concluding that the director is independent of management and free from any business or other relationship that could materially interfere with the exercise of independent judgement. Lastly, a chief executive officer of a US company listed on the NYSE must annually certify that he or she is not aware of any violation by the company

of NYSE corporate governance standards. In accordance with NYSE listing rules applicable to foreign private issuers, HSBC Holdings’ Group Chief Executive is not required to provide the NYSE with this annual compliance certification. However, in accordance with rules applicable to both US companies and foreign private issuers, the Group Chief Executive is required promptly to notify the NYSE in writing after any executive officer becomes aware of any material non-compliance with the NYSE corporate governance standards applicable to HSBC Holdings.

HSBC Holdings is required to submit annual and interim written affirmations of compliance with applicable NYSE corporate governance standards, similar to the affirmations required of NYSE-listed US companies.

 

 

HSBC HOLDINGS PLC

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Reconciliations

 

 

Form 20-F Item Number and Caption    Location    Page  

PART I

     

1. Identity of Directors, Senior Management and Advisers

  

Not required for Annual Report

       

2. Offer Statistics and Expected Timetable

  

Not required for Annual Report

       

3. Key Information

     

A. Selected Financial Data

  

Consolidated income statement, Consolidated balance sheet, Shareholder information

     45, 57, 458   

B. Capitalisation and Indebtedness

  

Not required for Annual Report

       

C. Reasons for the Offer and use of Proceeds

  

Not required for Annual Report

       

D. Risk Factors

  

Report of the Directors: Financial Review

     111a-111k   

4. Information on the Company

     

A. History and Development of the Company

  

Strategic Report

     9-18   
  

Report of the Directors: Financial Review

     40-110p   
  

Shareholder Information

     458-459, 485, 465f   

B. Business Overview

  

Strategic Report

     9-20   
  

Financial Review: Regulation and Supervision

     110b-110n   
  

Report of the Directors: Financial Review

     40-110p   

C. Organisational Structure

  

Note 22 – Notes on the Financial Statements

     414   
  

Strategic Report

     13, 16-18   
  

Shareholder Information – Simplified structure chart of HSBC Holdings

     462   

D. Property, Plants and Equipment

  

Financial Review –Property

     107   
  

Note 23 – Notes on the Financial Statements

     416   

4 A. Unresolved Staff Comments

  

Not Applicable

       

5. Operating and Financial Review and Prospects

     

A. Operating Results

  

Report of the Directors: Financial Review

     40-110p   

B. Liquidity and Capital Resources

  

Financial Review: Liquidity and Funding

Financial Review: Risk management of insurance operations

Financial Review: Appendix to Risk

    

 

 

163-174

197-198

215-221

  

  

  

C. Research and Development, Patents and Licences, etc.

  

Not Applicable

       

D. Trend Information

  

Strategic Report

     11   
  

Report of the Directors: Financial Review

     40-110p   

E. Off-Balance Sheet Arrangements

  

Note 31 – Notes on the Financial Statements

     426-433   
  

Note 37 – Notes on the Financial Statements

     441-442   
  

Note 39 – Notes on the Financial Statements

     443-445   

F. Tabular disclosure of Contractual Obligations

  

Report of the Directors: Financial Review

     601   

6. Directors, Senior Management and Employees

     

A. Directors and Senior Management

  

Report of the Directors: Corporate Governance

     263-269   

B. Compensation

  

Directors’ Remuneration Report

     300-327   

C. Board Practices

  

Report of the Directors: Corporate Governance

    

 

264-268, 276,

277-280, 284,

  

  

  

Directors’ Remuneration Report

     307-309   

D. Employees

  

Strategic Report

     18   

E. Share Ownership

  

Report of the Directors: Corporate Governance

     292-293, 297-298   
  

Directors’ Remuneration Report

Note 6 – Notes on the Financial Statements

Note 35 – Notes on the Financial Statements

    

 

 

303-323

356-360

437-438

  

  

  

7. Major Shareholders and Related Party Transactions

     

A. Major Shareholders

  

Report of the Directors: Corporate Governance

     298-299   

B. Related Party Transactions

  

Note 41 – Notes on the Financial Statements

     455-457   

C. Interests of Experts and Counsel

  

Not required for Annual Report

       

8. Financial Information

     

A. Consolidated Statements and Other Financial Information

  

Financial Statements

     329-457   
  

Shareholder Information

     458   

B. Significant Changes

  

Not Applicable

       

9. The Offer and Listing

     

A. Offer and Listing Details

  

Shareholder Information

     465b-465c   

B. Plan of Distribution

  

Not required for Annual Report

       

C. Markets

  

Shareholder Information

     465b-465c   

D. Selling Shareholders

  

Not required for Annual Report

       

E. Dilution

  

Not required for Annual Report

       

F. Expenses of the Issue

  

Not required for Annual Report

       

 

HSBC HOLDINGS PLC

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Table of Contents

Reconciliations (continued)

 

 

Form 20-F Item Number and Caption    Location    Page  

10. Additional Information

     

A. Share Capital

  

Not required for Annual Report

       

B. Memorandum and Articles of Association

  

Shareholder Information

     465c-465d   

C. Material Contracts

  

Note 40 – Notes on the Financial Statements

     450-451   

D. Exchange Controls

  

Shareholder Information

     465a   

E. Taxation

  

Shareholder Information

     463-465   

F. Dividends and Paying Agents

  

Not required for Annual Report

       

G. Statements by Experts

  

Not required for Annual Report

       

H. Documents on Display

  

Shareholder Information

     461   

I. Subsidiary Information

  

Not Applicable

       

11. Quantitative and Qualitative Disclosures About Market Risk

  

Report of the Directors: Financial Review

     175-185   
  

Note 16 and 33 – Notes on the Financial Statements

     394-398, 435   

12. Description of Securities Other than Equity Securities

     

A. Debt Securities

  

Not required for Annual Report

       

B. Warrants and Rights

  

Not required for Annual Report

       

C. Other Securities

  

Not required for Annual Report

       

D. American Depositary Shares

  

Shareholder Information

     465a-b   

PART II

     

13. Defaults, Dividends Arrearages and Delinquencies

  

Not Applicable

       

14. Material Modifications to the Rights of Securities Holders and Use of Proceeds

  

Not Applicable

       

15. Controls and Procedures

  

Report of Independent Registered Public Accounting Firm to the Board of Directors and Shareholders of HSBC Holdings plc

     329   
  

Report of the Directors: Financial Review

     108a   

16. [Reserved]

     

A. Audit Committee Financial Expert

  

Report of the Directors: Corporate Governance

     277   

B. Code of Ethics

  

Shareholder Information

     465f   

C. Principal Accountant Fees and Services

  

Report of the Directors: Corporate Governance

     279   
  

Note 7 – Notes on the Financial Statements

     364-365   

D. Exemptions from the Listing Standards for Audit Committees

  

Not Applicable

       

E. Purchases of Equity Securities by the Issuer and Affiliated Purchasers

  

Report of the Directors: Corporate Governance

     298-299   

F. Change in Registrant’s Certifying Accountant

  

Report of the Directors: Financial Review

     108a   

G. Corporate Governance

  

Shareholder Information

     465e-465f   

PART III

     

17. Financial Statements

  

Not Applicable

       

18. Financial Statements

  

Financial Statements

     329-457   

19. Exhibits (including Certifications)

        *   

 

HSBC HOLDINGS PLC

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Table of Contents

Shareholder Information (continued)

 

 

Glossary of accounting terms and US equivalents

 

Accounting term    US equivalent or brief description

Accounts

  

Financial Statements

Articles of Association

  

Articles of incorporation

Called up share capital

  

Shares issued and fully paid

Creditors

  

Payables

Debtors

  

Receivables

Deferred tax

  

Deferred income tax

Finance lease

  

Capital lease

Freehold

  

Ownership with absolute rights in perpetuity

Interests in associates and
joint ventures

  

Interests in entities over which we have significant influence or joint control, which are accounted for using the equity method

Loans and advances

  

Loans

Loan capital

  

Long-term debt

Nominal value

  

Par value

One-off

  

Non-recurring

Ordinary shares

  

Common stock

Overdraft

  

A line of credit, contractually repayable on demand unless a fixed-term has been agreed, established through a customer’s current account

Preference shares

  

Preferred stock

Premises

  

Property

Provisions

  

Liabilities of uncertain timing or amount

Share premium account

  

Additional paid-in capital

Shares in issue

  

Shares outstanding

Write-offs

  

Charge-offs

 

HSBC HOLDINGS PLC

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Shareholder Information (continued)

 

 

Abbreviations

 

Abbreviation

 

  

Brief description

 

A     
A$    Australian dollar
ABCP    Asset-backed commercial paper
ABS1    Asset-backed security
ACF    Advances to core funding
ADR    American Depositary Receipt
ADS    American Depositary Share
AED    United Arab Emirates dirham
AIEA    Average interest-earning assets
ALCM    Asset, Liability and Capital Management
ALCO    Asset and Liability Management Committee
AML    Anti-money laundering
ARM1    Adjustable-rate mortgage
ARS    Argentine peso
B     
Basel Committee    Basel Committee on Banking Supervision
Basel II1    2006 Basel Capital Accord
Basel III1    Basel Committee’s reforms to strengthen global capital and liquidity rules
BBA    British Bankers’ Association
BoCom    Bank of Communications Co., Limited, one of China’s largest banks
Bps1    Basis points. One basis point is equal to one-hundredth of a percentage point
BRRD1    Bank Recovery and Resolution Directive (EU)
BRL    Brazilian real
BSA    Bank Secrecy Act (US)
BSM    Balance Sheet Management
C     
C$    Canadian dollar
CAPM    Capital Asset Pricing Model
CCA    Consumer Credit Act (UK)
CCB1    Capital conservation buffer
CCR1    Counterparty credit risk
CCyB1    Countercyclical capital buffer
CD    Certificate of deposit
CDO1    Collateralised debt obligation
CDS1    Credit default swap
CET11    Common equity tier 1
CGU    Cash-generating unit
CHF    Swiss franc
CMB    Commercial Banking, a global business
CML1    Consumer and Mortgage Lending (US)
CNY    Chinese yuan
COSO    2013 Committee of the Sponsors of the Treadway Commission (US)
CP1    Commercial paper
CPB1    Capital planning buffer
CPI    Consumer price index
CRD1    Capital Requirements Directive
CRR1    Customer risk rating
CRR/CRD IV    Capital Requirements Regulation and Directive
CRS    Card and Retail Services
CVA1    Credit valuation adjustment
D     
DANY DPA    Two-year deferred prosecution agreement with the New York County District Attorney (US)
Dodd-Frank    Dodd-Frank Wall Street Reform and Consumer Protection Act (US)
DoJ    Department of Justice (US)
DPA    Deferred Prosecution Agreement (US)
DPF    Discretionary participation feature of insurance and investment contracts
DVA1    Debit valuation adjustment

 

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Abbreviation

 

  

Brief description

 

E     
EAD1    Exposure at default
EBA    European Banking Authority
ECB    European Central Bank
EDTF    Enhanced Disclosure Task Force
EGP    Egyptian pound
EL1    Expected loss
EMIR    European Market Infrastructure Regulation (EU)
EU    European Union
Euribor    European Interbank Offered Rate
F     
Fannie Mae    Federal National Mortgage Association (US)
FCA    Financial Conduct Authority (UK)
FCA Direction    Undertaking originally with the FSA to comply with certain forward-looking obligations with respect to AML and sanctions requirements
FFVA    Funding fair value adjustment estimation methodology on derivative contracts
First Direct    A division of HSBC Bank plc
FPC    Financial Policy Committee (UK)
FRB    Federal Reserve Board (US)
Freddie Mac    Federal Home Loan Mortgage Corporation (US)
FSA    Financial Services Authority (UK)
FSB    Financial Stability Board
FSC    Forestry Stewardship Council
FSVC    Financial System Vulnerabilities Committee
FTE    Full-time equivalent staff
FTSE    Financial Times – Stock Exchange index
FuM    Funds under management
G     
GAAP    Generally accepted accounting principles
GAC    Group Audit Committee
GB&M    Global Banking and Markets, a global business
GDP    Gross domestic product
GENPRU    PRA’s rules, as set out in the General Prudential Sourcebook
GLBA    Gramm-Leach-Bliley Act (US)
GMB    Group Management Board
GPB    Global Private Banking, a global business
GPSP    Group Performance Share Plan
GRC    Group Risk Committee
Group    HSBC Holdings together with its subsidiary undertakings
G-SIB1    Global systemically important bank
G-SII    Global systemically important institution
H     
Hang Seng Bank    Hang Seng Bank Limited, one of Hong Kong’s largest banks
HK$    Hong Kong dollar
HNAH    HSBC North America Holdings Inc.
Hong Kong    Hong Kong Special Administrative Region of the People’s Republic of China
HSBC    HSBC Holdings together with its subsidiary undertakings
HSBC Bank    HSBC Bank plc
HSBC Bank Middle East    HSBC Bank Middle East Limited
HSBC Bank USA    HSBC Bank USA, N.A., HSBC’s retail bank in the US
HSBC Canada    The sub-group, HSBC Bank Canada, HSBC Trust Company Canada, HSBC Mortgage Corporation Canada and HSBC Securities Canada, consolidated for liquidity purposes
HSBC Finance    HSBC Finance Corporation, the US consumer finance company (formerly Household International, Inc.)
HSBC France    HSBC’s French banking subsidiary, formerly CCF S.A.
HSBC Holdings    HSBC Holdings plc, the parent company of HSBC

 

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Abbreviation

 

  

Brief description

 

HSBC Premier    HSBC’s premium personal global banking service
HSBC Private Bank (Suisse)    HSBC Private Bank (Suisse) SA, HSBC’s private bank in Switzerland
HSBC USA    The sub-group, HSBC USA Inc (the holding company of HSBC Bank USA) and HSBC Bank USA, consolidated for liquidity purposes
HSI    HSBC Securities (USA) Inc.
HSSL    HSBC Securities Services (Luxembourg)
I     
IAS    International Accounting Standards
IASB    International Accounting Standards Board
ICB    Independent Commission on Banking (UK)
IFRSs    International Financial Reporting Standards
Industrial Bank    Industrial Bank Co. Limited, a national joint-stock bank in mainland China in which Hang Seng Bank Limited has a shareholding
IRB1    Internal ratings-based
ISDA    International Swaps and Derivatives Association
K     
KPMG    KPMG Audit Plc and its affiliates
L     
LCR    Liquidity coverage ratio
LFRF    Liquidity and funding risk management framework
LGD1    Loss given default
Libor    London Interbank Offer Rate
LIC    Loan impairment charge and other credit risk provision
LMU    Loan Management Unit, part of Wholesale Credit and Market Risk
LTV1    Loan-to-value ratio
M     
Madoff Securities    Bernard L Madoff Investment Securities LLC
Mainland China    People’s Republic of China excluding Hong Kong
Markets    HSBC’s treasury and capital markets services in Global Banking and Markets
Mazarin    Mazarin Funding Limited, an asset-backed CP conduit
MBS    US mortgage-backed security
MENA    Middle East and North Africa
MME    Mid-market enterprise
Monoline1    Monoline insurance company
MSCI    Morgan Stanley Capital International index
MTN    Medium-term notes
MXN    Mexican peso
N     
NII    Net interest income
NSFR    Net stable funding ratio
NYSE    New York Stock Exchange
O     
OCC    Office of the Comptroller of the Currency (US)
OIS    Overnight index swap
ORMF    Operational risk management framework
OTC1    Over-the-counter
P     
PD1    Probability of default
PEFC    Programme for the Endorsement of Forest Certification
Performance Shares1    Awards of HSBC Holdings ordinary shares under employee share plans that are subject to corporate performance conditions
Ping An    Ping An Insurance (Group) Company of China, Ltd, the second-largest life insurer in the PRC
PPI    Payment protection insurance product
PRA    Prudential Regulation Authority (UK)

 

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Abbreviation

 

  

Brief description

 

PRC    People’s Republic of China
Premier    HSBC Premier, HSBC’s premium personal global banking service
PVIF    Present value of in-force long-term insurance business and long-term investment contracts with DPF
PwC    PricewaterhouseCoopers LLP and its network of firms
Q     
QIS    Quantitative Impact Study
R     
RBWM    Retail Banking and Wealth Management, a global business
Repo1    Sale and repurchase transaction
Restricted Shares    Awards of Restricted Shares define the number of HSBC Holdings ordinary shares to which the employee will become entitled, generally between one and three years from the date of the award, and normally subject to the individual remaining in employment
Reverse repo    Security purchased under commitments to sell
Risk Management Meeting    A meeting of the Group Management Board providing oversight of enterprise-wide management of all risks
RM    Malaysian ringgit
RMB    Renminbi
RMBS    Residential mortgage-backed securities
RMs    Relationship managers
RNIV    Risk not in Var
RoRWA    Return on average risk-weighted assets
ROTE    Return on tangible equity
RPI    Retail price index (UK)
RSPO    Roundtable on Sustainable Palm Oil
RTS    Regulatory Technical Standards
RWA1    Risk-weighted assets
S     
SE    Structured entity
SEC    Securities and Exchange Commission (US)
SIC    Securities investment conduit
SME    Small and medium-sized enterprise
Solitaire    Solitaire Funding Limited, a special purpose entity managed by HSBC
SPE1    Special purpose entity
SRB1    Systemic Risk Buffer
T     

The Hongkong and Shanghai Banking Corporation

   The Hongkong and Shanghai Banking Corporation Limited, the founding member of HSBC
TLAC1    Total loss absorbing capacity
TRL    Turkish lira
TSA    Transaction Services Agreement – relating to the sale of the CRS business in the US
TSR    Total shareholder return
U     
UAE    United Arab Emirates
UK    United Kingdom
US$    United States dollar
US    United States of America
US DPA    Five-year deferred prosecution agreement with the Department of Justice and others (US)
US run-off portfolio    Includes our CML, vehicle finance and Taxpayer Financial Services businesses and insurance, commercial, corporate and treasury activities in HSBC Finance on an IFRSs management basis
V     
VaR1    Value at risk
Visa    Visa Inc.
VIU    Value in use

 

1 Full definition included in Glossary on page 470.

 

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Glossary

 

Term

 

  

Definition

 

A     

Adjustable-rate mortgages (‘ARM’s)

  

Mortgage loans in the US on which the interest rate is periodically changed based on a reference price. These are included within ‘affordability mortgages’.

Affordability mortgages

  

Mortgage loans where the customer’s monthly payments are set out at a low initial rate, either variable or fixed, before resetting to a higher rate once the introductory period is over.

Agency exposures

  

Exposures to near or quasi-government agencies including public sector entities fully owned by government carrying out non-commercial activities, provincial and local government authorities, development banks and funds set up by government.

Alt-A

  

A US description for loans regarded as lower risk than sub-prime, but with higher risk characteristics than lending under normal criteria.

Arrears

  

Customers are said to be in arrears (or in a state of delinquency) when they are behind in fulfilling their obligations, with the result that an outstanding loan is unpaid or overdue. When a customer is in arrears, the total outstanding loans on which payments are overdue are described as delinquent.

Asset-backed securities (‘ABS’s)

  

Securities that represent an interest in an underlying pool of referenced assets. The referenced pool can comprise any assets which attract a set of associated cash flows but are commonly pools of residential or commercial mortgages.

B

    

Back-testing

  

A statistical technique used to monitor and assess the accuracy of a model, and how that model would have performed had it been applied in the past.

Bail-inable debt

  

Bail-in refers to imposition of losses at the point of non viability (but before insolvency) on bank liabilities (bail-inable debt) that are not exposed to losses while the institution remains a viable, going concern. Whether by way of write-down or conversion into equity, this has the effect of recapitalising the bank (although it does not provide any new funding).

Bank levy

  

A levy that applies to UK banks, building societies and the UK operations of foreign banks from 1 January 2011. The amount payable is based on a percentage of the group’s consolidated liabilities and equity as at 31 December after deducting certain items the most material of which are those related to insured deposit balances, tier 1 capital, insurance liabilities, high quality liquid assets and items subject to a legally enforceable net settlement agreement.

Bank Recovery and Resolution

Directive (‘BRRD’)

  

A European legislative package issued by the European Commission and adopted by EU Member States. This directive was finalised in July 2014 with the majority of provisions coming into effect 1 January 2015. This introduces a common EU framework for how authorities should intervene to address banks which are failing or are likely to fail. The framework includes early intervention and measures designed to prevent failure and in the event of bank failure for authorities to ensure an orderly resolution.

Basel II

  

The capital adequacy framework issued by the Basel Committee on Banking Supervision in June 2006 in the form of the ‘International Convergence of Capital Measurement and Capital Standards’, amended by subsequent changes to the capital requirements for market risk and re-securitisations, commonly known as Basel 2.5, which took effect from 31 December 2011.

Basel III

  

In December 2010, the Basel Committee issued ‘Basel III rules: a global regulatory framework for more resilient banks and banking systems’ and ‘International framework for liquidity risk measurement, standards and monitoring’. Together these documents present the Basel Committee’s reforms to strengthen global capital and liquidity rules with the goal of promoting a more resilient banking sector. In June 2011, the Basel Committee issued a revision to the former document setting out the finalised capital treatment for counterparty credit risk in bilateral trades.

Basis point (‘bps’)

  

One hundredth of a per cent (0.01%), so 100 basis points is 1%. For example, this is used in quoting movements in interest rates or yields on securities.

C

    

Capital conservation buffer (‘CCB’)

  

A capital buffer prescribed by regulators under Basel III and designed to ensure banks build up capital buffers outside periods of stress which can be drawn down as losses are incurred. Should a bank’s capital levels fall within the capital conservation buffer range, capital distributions will be constrained by the regulators.

Capital planning buffer (‘CPB’)

  

A capital buffer, prescribed by the PRA under Basel II, and designed to ensure banks build up capital buffers outside periods of stress which can be drawn down as losses are incurred. Should a bank’s capital levels fall within the capital planning buffer range, a period of heightened regulatory interaction would be triggered.

Capital requirements directive (‘CRD’)

  

A capital adequacy legislative package issued by the European Commission and adopted by EU member states. The first CRD legislative package gave effect to the Basel II proposals in the EU and came into force on 20 July 2006. CRD II, which came into force on 31 December 2010, subsequently updated the requirements for capital instruments, large exposure, liquidity risk and securitisation. A further CRD III amendment, updated market risk capital and additional securitisation requirements, and came into force on 31 December 2011.

 

CRD IV package comprises a recast Capital Requirements Directive and a new Capital Requirements Regulation. The package implements the Basel III capital proposals together with transitional arrangements for some of its requirements. CRD IV came into force on 1 January 2014.

Capital securities

  

Capital securities include perpetual subordinated capital securities and contingent convertible capital securities.

Central counterparty (‘CCP’)

  

An intermediary between a buyer and a seller (generally a clearing house).

Clawback

  

Remuneration already paid to an individual, which has to be returned to an organisation under certain circumstances.

Collateralised debt obligation (‘CDO’)

  

A security issued by a third-party which references ABSs and/or certain other related assets purchased by the issuer. CDOs may feature exposure to sub-prime mortgage assets through the underlying assets.

 

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Term

 

  

Definition

 

Collectively assessed impairment

  

Impairment assessment on a collective basis for homogeneous groups of loans that are not considered individually significant and to cover losses which have been incurred but have not yet been identified on loans subject to individual assessment.

Commercial paper (‘CP’)

  

An unsecured, short-term debt instrument issued by a corporation, typically for the financing of accounts receivable, inventories and meeting short-term liabilities. The debt is usually issued at a discount, reflecting prevailing market interest rates.

Commercial real estate

  

Any real estate, comprising buildings or land, intended to generate a profit, either from capital gain or rental income.

Common equity tier 1 capital (‘CET1’)

  

The highest quality form of regulatory capital under Basel III that comprises common shares issued and related share premium, retained earnings and other reserves excluding the cash flow hedging reserve, less specified regulatory adjustments.

CET 1 ratio

  

A Basel III measure, of CET 1 capital expressed as percentage of total risk exposure amount.

Common reporting (‘COREP’)

  

Harmonised European reporting framework established in the Capital Requirements Directives, to be mandated by the European Banking Authority.

Compliance risk

  

The risk that the Group fails to observe the letter and spirit of all relevant laws, codes, rules, regulations and standards of good market practice, and incurs fines and penalties and suffers damage to its business as a consequence.

Comprehensive Capital Analysis and Review (‘CCAR’)

  

CCAR is an annual exercise by the Federal Reserve to ensure that institutions have robust, forward-looking capital planning processes that account for their unique risks and sufficient capital to continue operations throughout times of economic and financial stress.

Conduits

  

HSBC sponsors and manages multi-seller conduits and ‘SIC’s. The multi-seller conduits hold interests in diversified pools of third-party assets such as vehicle loans, trade receivables and credit card receivables funded through the issuance of short-dated commercial paper and supported by a liquidity facility. The SICs hold predominantly asset-backed securities referencing such items as commercial and residential mortgages, vehicle loans and credit card receivables funded through the issuance of both long-term and short-term debt.

Constant currency

  

A non-GAAP financial measure that adjusts for the year-on-year effects of foreign currency translation differences by comparing reported results for the reported period with reported results for comparative period retranslated at exchange rates for the reported period. The foreign currency translation differences reflect the movements of the US dollar against most major currencies during the reported period.

Constant net asset value fund (‘CNAV’)

  

A fund that prices its assets on an amortised cost basis, subject to the amortised book value of the portfolio remaining within 50 basis points of its market value.

Consumer and Mortgage Lending (‘CML’)

  

In the US, the CML portfolio consists of our Consumer Lending and Mortgage Services businesses, which are in run-off.

 

The Consumer Lending business offered secured and unsecured loan products, such as first and second lien mortgage loans, open-ended home equity loans and personal non-credit card loans through branch locations and direct mail. The majority of the mortgage lending products were for refinancing and debt consolidation rather than home purchases. In the first quarter of 2009, we discontinued all originations by our Consumer Lending business.

 

Prior to the first quarter of 2007, when we ceased loan purchase activity, the Mortgage Services business purchased non-conforming first and second lien real estate secured loans from unaffiliated third parties. The business also included the operations of Decision One Mortgage Company (‘Decision One’), which historically originated mortgage loans sourced by independent mortgage brokers and sold these to secondary market purchasers. Decision One ceased originations in September 2007.

Contractual maturities

  

The date on which the final payment (principal or interest) of any financial instrument is due to be paid, at which point all the remaining outstanding principal and interest have been repaid.

Core tier 1 capital

  

The highest quality form of regulatory capital, under Basel II, that comprises total shareholders’ equity and related non-controlling interests, less goodwill and intangible assets and certain other regulatory adjustments.

Core tier 1 capital ratio

  

A Basel II measure, of core tier 1 capital expressed as a percentage of the total risk-weighted assets.

Countercyclical capital buffer (‘CCyB’)

  

A capital buffer prescribed by regulators under Basel III which aims to ensure that capital requirements take account of the macro-financial environment in which banks operate. This will provide the banking sector with additional capital to protect it against potential future losses, when excess credit growth in the financial system as a whole is associated with an increase in system-wide risk.

Counterparty credit risk (‘CCR’)

  

Counterparty credit risk, in both the trading and non-trading books, is the risk that the counterparty to a transaction may default before completing the satisfactory settlement of the transaction.

Credit default swap (‘CDS’)

  

A derivative contract whereby a buyer pays a fee to a seller in return for receiving a payment in the event of a defined credit event (e.g. bankruptcy, payment default on a reference asset or assets, or downgrades by a rating agency) on an underlying obligation (which may or may not be held by the buyer).

Credit enhancements

  

Facilities used to enhance the creditworthiness of financial obligations and cover losses due to asset default.

Credit risk

  

Risk of financial loss if a customer or counterparty fails to meet an obligation under a contract. It arises mainly from direct lending, trade finance and leasing business, but also from products such as guarantees, derivatives and debt securities.

Credit risk mitigation

  

A technique to reduce the credit risk associated with an exposure by application of credit risk mitigants such as collateral, guarantee and credit protection.

Credit risk spread

  

The premium over the benchmark or risk-free rate required by the market to accept a lower credit quality. The yield spread between securities with the same coupon rate and maturity structure but with different associated credit risks. The yield spread rises as the credit rating worsens.

Credit spread risk

  

The risk that movements in credit spreads will affect the value of financial instruments.

Credit valuation adjustment (‘CVA’)

  

An adjustment to the valuation of OTC derivative contracts to reflect the creditworthiness of OTC derivative counterparties.

Customer deposits

  

Money deposited by account holders. Such funds are recorded as liabilities.

 

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Term

 

  

Definition

 

Customer remediation

  

Activities carried out by HSBC to compensate customers for losses or damages associated with a failure to comply with regulations. Customer remediation is initiated by HSBC in response to customer complaints, and not specifically initiated by regulatory action.

Customer risk rating (‘CRR’)

  

A scale of 23 grades measuring obligor PD.

CVA risk capital charge

  

A capital charge under CRDIV to cover the risk of mark-to-market losses on expected counterparty risk to derivatives.

D

    

Debit valuation adjustment (‘DVA’)

  

An adjustment made by an entity to the valuation of OTC derivative liabilities to reflect within fair value the entity’s own credit risk.

Debt restructuring

  

A restructuring by which the terms and provisions of outstanding debt agreements are changed. This is often done in order to improve cash flow and the ability of the borrower to repay the debt. It can involve altering the repayment schedule as well as debt or interest charge reduction.

Debt securities

  

Financial assets on the Group’s balance sheet representing certificates of indebtedness of credit institutions, public bodies or other undertakings, excluding those issued by central banks.

Debt securities in issue

  

Transferable certificates of indebtedness of the Group to the bearer of the certificates. These are liabilities of the Group and include certificates of deposits.

Deed-in-lieu

  

An arrangement in which a borrower surrenders the deed for a property to the lender without going through foreclosure proceedings and is subsequently released from any further obligations on the loan.

Defined benefit obligation

  

The present value of expected future payments required to settle the obligations of a defined benefit plan resulting from employee service.

Deposits by banks

  

All deposits received from domestic and foreign banks, excluding deposits or liabilities in the form of debt securities or for which transferable certificates have been issued.

Down-shock

  

Term given to the effect on our future net interest income of an incremental parallel fall in all yield curves worldwide at the beginning of each quarter during the 12 months from 1 January 2015, assuming no management response. An equivalent rise in yield curves is referred to as an up-shock.

E

    

Economic capital

  

The internally calculated capital requirement which is deemed necessary by HSBC to support the risks to which it is exposed.

Economic profit

  

The difference between the return on financial capital invested by shareholders and the cost of that capital. Economic profit may be expressed as a whole number or as a percentage.

Economic Value of Equity (‘EVE’) sensitivity

  

Considers all re-pricing mismatches in the current balance sheet and calculates the change in market value that would result from a set of defined interest rate shocks.

Encumbered assets

  

Assets on our balance sheet which have been pledged as collateral against an existing liability.

Enhanced Variable Net Asset Value Fund (‘ENAV’)

  

A fund that prices its assets on a fair value basis. Consequently, process may change from one day to the next.

Equator Principles

  

The Equator Principles are used by financial institutions to reduce the potential impact of large projects, which they finance, on people or on the environment.

Equity risk

  

The risk arising from positions, either long or short, in equities or equity-based instruments, which create exposure to a change in the market price of the equities or equity instruments.

Eurozone

  

The 18 European Union countries using the euro as their common currency. The 18 countries are Austria, Belgium, Cyprus, Estonia, Finland, France, Germany, Greece, Ireland, Italy, Latvia, Luxembourg, Malta, Netherlands, Portugal, Slovakia, Slovenia and Spain.

Expected loss (‘EL’)

  

A regulatory calculation of the amount expected to be lost on an exposure using a 12-month time horizon and downturn loss estimates. EL is calculated by multiplying the PD (a percentage) by the EAD (an amount) and LGD (a percentage).

Exposure

  

A claim, contingent claim or position which carries a risk of financial loss.

Exposure at default (‘EAD’)

  

The amount expected to be outstanding after any credit risk mitigation, if and when the counterparty defaults. EAD reflects drawn balances as well as allowance for undrawn amounts of commitments and contingent exposures.

F

    

Fair value adjustment

  

An adjustment to the fair value of a financial instrument which is determined using a valuation technique (level 2 and level 3) to include additional factors that would be considered by a market participant that are not incorporated within the valuation model.

Fiduciary risk

  

The risk to the Group of breaching its fiduciary duties where it acts in a fiduciary capacity as trustee, investment manager or as mandated by law or regulation.

Financial Conduct Authority (‘FCA’)

  

The Financial Conduct Authority regulates the conduct of financial firms and, for certain firms, prudential standards in the UK. It has a strategic objective to ensure that the relevant markets function well.

Financial Policy Committee (‘FPC’)

  

The Financial Policy Committee, at the Bank of England, is charged with a primary objective of identifying, monitoring and taking action to remove or reduce systemic risks with a view to protecting and enhancing the resilience of the UK financial system. The FPC has a secondary objective to support the economic policy of the UK Government.

Financial Reporting (‘FINREP’)

  

Harmonised European financial reporting framework, proposed by the European Union, which will be used to obtain a comprehensive view of a firm’s risk profile.

First lien

  

A security interest granted over an item of property to secure the repayment of a debt that places its holder first in line to collect repayment from the sale of the underlying collateral in the event of a default on the debt.

 

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Term

 

  

Definition

 

Forbearance strategies

  

Employed in order to improve the management of customer relationships, maximise collection opportunities and, if possible, avoid default, foreclosure or repossession. Such arrangements include extended payment terms, a reduction in interest or principal repayments, approved external debt management plans, debt consolidations, the deferral of foreclosures, other modifications and re-ages.

Funded exposure

  

A situation where the notional amount of a contract is or has been exchanged.

Funding risk

  

A form of liquidity risk arising when the liquidity needed to fund illiquid asset positions cannot be obtained at the expected terms and when required.

G

    

Gap risk

  

The risk of financial loss arising from a significant change in market price with no accompanying trading opportunity.

Global systemically important bank (‘G-SIB’)

  

The FSB established in November 2011 a methodology to identify G-SIBs based on 12 principal indicators. Designation will result in the application of a CET1 buffer between 1% and 3.5%, to be phased in by 1 January 2019.

 

The list of G-SIBs is re-assessed through annual re-scoring of banks and a triennial review of the methodology. National regulators have discretion to introduce higher charges than the minima. In CRD IV this is implemented via the Global Systemically Important Institutions (G-SII) Buffer.

Government-sponsored enterprises (‘GSE’s)

  

A group of financial services enterprises created by the US Congress to reduce the cost of capital for certain borrowing sectors of the economy, and to make them more efficient and transparent. Examples in the residential mortgage borrowing segment are Freddie Mac and Fannie Mae. GSEs carry the implicit backing, but are not direct obligations, of the US government.

GPSP Awards

  

Awards that define the number of HSBC Holdings ordinary shares to which the employee will become entitled, generally five years from the date of the award, and normally subject to individual remaining in employment. The shares to which the employee becomes entitled are subject to a retention requirement until cessation of employment.

Guarantee

  

An undertaking by a party to pay a creditor should a debtor fail to do so.

H

    

Haircut

  

A discount applied by management when determining the amount at which an asset can be realised. The discount takes into account the method of realisation including the extent to which an active market for the asset exists.

Historical rating transition matrices

  

The probability of a counterparty with a particular rating moving to a different rating over a defined time horizon.

Home equity lines of credit (‘HELoC’s)

  

A form of revolving credit facility provided to US customers, which is supported in the majority of cases by a second lien or lower ranking charge over residential property. Holdings of HELoCs are classified as sub-prime.

I

    

Impaired loans

  

Loans where the Group does not expect to collect all the contractual cash flows or expects to collect them later than they are contractually due.

Impairment allowances

  

Management’s best estimate of losses incurred in the loan portfolios at the balance sheet date.

Individually assessed impairment

  

Exposure to loss is assessed on all individually significant accounts and all other accounts that do not qualify for collective assessment.

Insurance Manufacturing

  

The writing of contracts that fall within the scope of insurance regulation by a Group subsidiary authorised to write such business. The risks and rewards of writing the insurance business are retained by HSBC (or reinsured in line with our reinsurance strategy). The balance sheet analysis presented in the Risk Management of Insurance Operations section shows the aggregated full balance sheets of these entities.

Insurance risk

  

A risk, other than a financial risk, transferred from the holder of a contract to the insurance provider. The principal insurance risk is that, over time, the combined cost of claims, administration and acquisition of the contract may exceed the aggregate amount of premiums received and investment income.

Internal Capital Adequacy Assessment Process

  

The Group’s own assessment of the levels of capital that it needs to hold through an examination of its risk profile from regulatory and economic capital viewpoints.

Internal Model Method

  

One of three approaches defined in the Basel Framework to determine exposure values for counterparty credit risk.

Internal ratings-based approach (‘IRB’)

  

A method of calculating credit risk capital requirements using internal, rather than supervisory, estimates of risk parameters.

Invested capital

  

Equity capital invested in HSBC by its shareholders, adjusted for certain reserves and goodwill previously amortised or written off.

Investment grade

  

Represents a risk profile similar to a rating of BBB- or better, as defined by an external rating agency.

IRB advanced approach (‘AIRB’)

  

A method of calculating credit risk capital requirements using internal PD, LGD and EAD models.

IRB foundation approach (‘FIRB’)

  

A method of calculating credit risk capital requirements using internal PD models but with supervisory estimates of LGD and conversion factors for the calculation of EAD.

ISDA Master agreement

  

Standardised contract developed by ISDA used as an umbrella contract under which bilateral derivatives contracts are entered into.

K

    

Key management personnel

  

Directors and Group Managing Directors of HSBC Holdings.

L

    

Legacy credit in GB&M

  

A separately identifiable, discretely managed business comprising Solitaire Funding Limited, the securities investment conduits, the asset-backed securities trading portfolios and credit correlation portfolios, derivative transactions entered into directly with monoline insurers, and certain other structured credit transactions.

 

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Term

 

  

Definition

 

Legal proceedings

  

Civil court, arbitration or tribunal proceedings brought against HSBC companies (whether by way of claim or counterclaim) or civil disputes that may, if not settled, result in court, arbitration or tribunal proceedings.

Legal risk

  

The risk of financial loss, sanction and/or reputational damage resulting from contractual risk (the risk that the rights and/or obligations of a Group member within a contractual relationship are defective); dispute risk (the risk due to an adverse dispute environment or the management of potential or actual disputes); legislative risk (the risk that a Group member fails to adhere to laws of the jurisdiction in which it operates); and non-contractual rights risk (the risk that a Group member’s assets are not properly owned or are infringed by others or the infringement by a Group member of another party’s rights).

Level 1 – quoted market price

  

Financial instruments with quoted prices for identical instruments in active markets.

Level 2 – valuation technique using observable inputs

  

Financial instruments with quoted prices for similar instruments in active markets or quoted prices for identical or similar instruments in inactive markets and financial instruments valued using models where all significant inputs are observable.

Level 3 – valuation technique with significant unobservable inputs

  

Financial instruments valued using valuation techniques where one or more significant inputs are unobservable.

Leveraged finance

  

Funding provided for entities with higher than average indebtedness, which typically arises from sub-investment grade acquisitions or event-driven financing.

Leverage ratio

  

A measure, prescribed by regulators under Basel III, which is the ratio of tier 1 capital to total exposures. Total exposures include on-balance sheet items, off-balance sheet items and derivatives, and should generally follow the accounting measure of exposure. This supplementary measure to the risk-based capital requirements is intended to constrain the build-up of excess leverage in the banking sector.

Liquidity coverage ratio (‘LCR’)

  

The ratio of the stock of high quality liquid assets to expected net cash outflows over the following 30 days. High quality liquid assets should be unencumbered, liquid in markets during a time of stress and, ideally, be central bank eligible. The Basel III rules require this ratio to be at least 100% with effect from 2015. The LCR is still subject to an observation period and review to address any unintended consequences.

Liquidity enhancement

  

Liquidity enhancement makes funds available if required for reasons other than asset default, e.g. to ensure timely repayment of maturing commercial paper.

Liquidity risk

  

The risk that HSBC does not have sufficient financial resources to meet its obligations as they fall due, or will have to do so at an excessive cost. This risk arises from mismatches in the timing of cash flows.

Loan modification

  

An account management action that results in a change to the original terms and conditions of a loan either temporarily or permanently without resetting its delinquency status, except in case of a ‘modification re-age’ where delinquency status is also reset to up-to-date. Account modifications may include revisions to one or more terms of the loan including, but not limited to, a change in interest rate, extension of the amortisation period, reduction in payment amount and partial forgiveness or deferment of principal.

Loan re-age

  

An account management action that results in the resetting of the contractual delinquency status of an account to up-to-date upon fulfilment of certain requirements which indicate that payments are expected to be made in accordance with the contractual terms.

Loans past due

  

Loans on which repayments are overdue.

Loan to value ratio (‘LTV’)

  

A mathematical calculation that expresses the amount of the loan as a percentage of the value of security. A high LTV indicates that there is less cushion to protect the lender against house price falls or increases in the loan if repayments are not made and interest is added to the outstanding loan balance.

Loss given default (‘LGD’)

  

The estimated ratio (percentage) of the loss on an exposure to the amount outstanding at default (EAD) upon default of a counterparty.

Loss severity

  

The realised amount of losses incurred (including ancillary amounts owed) when a loan is foreclosed or disposed of through the arrangement with the borrower. The loss severity is represented as a percentage of the outstanding loan balance.

M

    

Malus

  

An arrangement that permits an organisation to prevent vesting of all or part of the amount of a deferred remuneration award in relation to risk outcomes or performance.

Market risk

  

The risk that movements in market risk factors, including foreign exchange rates and commodity prices, interest rates, credit spreads and equity prices will reduce income or portfolio values.

Medium term notes (‘MTN’s)

  

Issued by corporates across a range of maturities. Under MTN Programmes notes are offered on a regular and continuous basis to investors.

Mortgage-backed securities (‘MBS’s)

  

Securities that represent interests in groups of mortgages, which may be on residential or commercial properties. Investors in these securities have the right to cash received from future mortgage payments (interest and/or principal). When the MBS references mortgages with different risk profiles, the MBS is classified according to the highest risk class.

Mortgage-related assets

  

Referenced to underlying mortgages.

Mortgage vintage

  

The year a mortgage was originated.

N

    

Negative equity mortgages

  

Equity is the value of the asset less the outstanding balance on the loan. Negative equity arises when the value of the property purchased is below the balance outstanding on the loan.

Net asset value per share

  

Total shareholders’ equity, less non-cumulative preference shares and capital securities, divided by the number of ordinary shares in issue.

Net interest income

  

The amount of interest received or receivable on assets net of interest paid or payable on liabilities.

Net interest income sensitivity

  

Considers all pricing mismatches in the current balance sheet, with suitable assumptions for balance sheet growth in the future, and calculates the change in net interest income that would result from a set of defined interest rate shocks.

 

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Term

 

  

Definition

 

Net principal exposure

  

The gross principal amount of a financial asset after taking account of credit protection purchased but excluding the effect of any counterparty credit valuation adjustment to that protection. It includes assets that benefit from monoline protection, except where this protection is purchased with a CDS.

Net stable funding ratio (‘NSFR’)

  

The ratio of available stable funding to required stable funding over a one year time horizon, assuming a stressed scenario. Available stable funding would include items such as equity capital, preferred stock with a maturity of over one year and liabilities with an assessed maturity of over one year. The Basel III rules require this ratio to be over 100% with effect from 2018. The NSFR is still subject to an observation period and review to address any unintended consequences.

Non-conforming mortgages

  

US mortgages that do not meet normal lending criteria. Examples include mortgages where the expected level of documentation is not provided (such as with income self-certification), or where poor credit history increases the risk and results in pricing at a higher than normal lending rate.

Non-trading portfolios

  

Portfolios that comprise positions that primarily arise from the interest rate management of our retail and commercial banking assets and liabilities, financial investments designated as available for sale and held to maturity, and exposures arising from our insurance operations.

Non-trading risk

  

The market risk arising from non-trading portfolios.

O

    

Offset mortgages

  

A flexible type of mortgage where a borrower’s savings balance(s) held at the same institution can be used to offset the mortgage balance outstanding. The borrower pays interest on the net balance which is calculated by subtracting the credit balance(s) from the debit balance. As part of the offset mortgage a total facility limit is agreed and the borrower may redraw up to a pre-agreed limit.

Overnight Index Swap (‘OIS’) discounting

  

A method of valuing collateralised interest rate derivatives which uses a discount curve that reflects the overnight interest rate typically earned or paid in respect of collateral received.

Operational risk

  

The risk of loss resulting from inadequate or failed internal processes, people and systems or from external events, including legal risk.

Over-the-counter (‘OTC’)

  

A bilateral transaction (e.g. derivatives) that is not exchange traded and that is valued using valuation models.

P

    

Pension risk

  

The risk that contributions from Group companies and members fail to generate sufficient funds to meet the cost of accruing benefits for the future service of active members, and the risk that the performance of assets held in pension funds is insufficient to cover existing pension liabilities.

Performance shares

  

Awards of HSBC Holdings ordinary shares under employee share plans that are subject to the achievement of corporate performance conditions.

Personal lending

  

See ‘Retail loans’.

PRA standard rules

  

The method prescribed by the PRA for calculating market risk capital requirements in the absence of VaR model approval.

Prime

  

A US description for mortgages granted to the most creditworthy category of borrowers.

Private equity investments

  

Equity securities in operating companies not quoted on a public exchange, often involving the investment of capital in private companies or the acquisition of a public company that results in its delisting.

Probability of default (‘PD’)

  

The probability that an obligor will default within one year.

Profit participation contribution (‘PIS’)

  

A federal tax which is imposed monthly on gross revenue earned by legal entities in Brazil. It is a mandatory employer contribution to an employee savings initiative.

Prudential Regulation Authority (‘PRA’)

  

The Prudential Regulation Authority in the UK is responsible for prudential regulation and supervision of banks, building societies, credit unions, insurers and major investment firms.

R

    

Refi rate

  

The refi (or refinancing) rate is set by the European Central Bank (‘ECB’) and is the price banks pay to borrow from ECB.

Regulatory capital

  

The capital which HSBC holds, determined in accordance with rules established by the PRA for the consolidated Group and by local regulators for individual Group companies.

Regulatory matters

  

Investigations, reviews and other actions carried out by, or in response to the actions of, regulators or law enforcement agencies in connection with alleged wrongdoing by HSBC.

Renegotiated loans

  

Loans for which the contractual payment terms have been changed because of significant concerns about the borrower’s ability to meet the contractual payments when due.

Repo/reverse repo (or sale and repurchase agreement)

  

A short-term funding agreement that allows a borrower to create a collateralised loan by selling a financial asset to a lender. As part of the agreement the borrower commits to repurchase the security at a date in the future repaying the proceeds of the loan. For the party on the other end of the transaction (buying the security and agreeing to sell in the future) it is reverse repurchase agreement or a reverse repo.

Reputational risk

  

The risk that illegal, unethical or inappropriate behaviour by the Group itself, members of staff or clients or representatives of the Group will damage HSBC’s reputation, leading, potentially, to a loss of business, fines or penalties.

Restricted Shares

  

Awards that define the number of HSBC Holdings ordinary shares to which the employee will become entitled, generally between one and three years from the date of the award, and normally subject to the individual remaining in employment. The shares to which the employee becomes entitled may be subject to retention requirement.

Retail loans

  

Money lent to individuals rather than institutions. This includes both secured and unsecured loans such as mortgages and credit card balances.

Return on equity

  

Profit attributable to ordinary shareholders of the parent company divided by average ordinary shareholders’ equity.

 

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Term

 

  

Definition

 

Risk appetite

  

The aggregate level and types of risk a firm is willing to assume within its risk capacity to achieve its strategic objectives and business plan.

Risk capacity

  

The maximum level of risk the firm can assume before breaching constraints determined by regulatory capital and liquidity needs and its obligations, also from a conduct perspective, to depositors, policyholders, other customers and shareholders.

Risk-weighted assets (‘RWA’s)

  

Calculated by assigning a degree of risk expressed as a percentage (risk weight) to an exposure value in accordance with the applicable Standardised or IRB approach rules.

Run-off portfolios

  

Legacy credit in GB&M, the US CML portfolio and other US run-off portfolios, including the treasury services related to the US CML businesses and commercial operations in run-off. Origination of new business in the run-off portfolios has been discontinued and balances are being managed down through attrition and sale.

S

    

Sale and repurchase agreement

  

See repo above.

Second lien

  

A security interest granted over an item of property to secure the repayment of a debt that is issued against the same collateral as a first lien but that is subordinate to it. In the case of default, repayment for this debt will only be received after the first lien has been repaid.

Securitisation

  

A transaction or scheme whereby the credit risk associated with an exposure, or pool of exposures, is tranched and where payments to investors in the transaction or scheme are dependent upon the performance of the exposure or pool of exposures. A traditional securitisation involves the transfer of the exposures being securitised to an SE which issues securities. In a synthetic securitisation, the tranching is achieved by the use of credit derivatives and the exposures are not removed from the balance sheet of the originator.

Securitisation swap

  

An interest rate or cross currency swap with notional linked to the size of the outstanding asset portfolio in a securitisation. Securitisation swaps are typically executed by securitisation vehicles to hedge interest rate risk arising from mismatches between the interest rate risk profile of the asset portfolio and that of the securities issued by the vehicle.

Short sale

  

In relation to credit risk management, a ‘short sale’ is an arrangement in which a bank permits the borrower to sell the property for less than the amount outstanding under a loan agreement. The proceeds are used to reduce the outstanding loan balance and the borrower is subsequently released from any further obligations on the loan.

Single-issuer liquidity facility

  

A liquidity or stand-by line provided to a corporate customer which is different from a similar line provided to a conduit funding vehicle.

Six filters

  

An internal measure designed to improve capital deployment across the Group. Five of the filters examine the strategic relevance of each business in each country, in terms of connectivity and economic development, and the current returns, in terms of profitability, cost efficiency and liquidity. The sixth filter requires adherence to global risk standards.

Social security financing contribution (‘COFINS’)

  

A federal tax imposed monthly on gross revenue earned by legal entities in Brazil. It is a contribution to finance the social security system.

Sovereign exposures

  

Exposures to governments, ministries, departments of governments, embassies, consulates and exposures on account of cash balances and deposits with central banks.

Special Purpose Entity (‘SPE’)

  

A corporation, trust or other non-bank entity, established for a narrowly defined purpose, including for carrying on securitisation activities. The structure of the SPE and its activities are intended to isolate its obligations from those of the originator and the holders of the beneficial interests in the securitisation.

Structured entities (‘SE’s)

  

An entity that has been designed so that voting or similar rights are not the dominant factor in deciding who controls the entity, such as when voting rights relate to administrative tasks only and the relevant activities are directed by means of contractual arrangements.

Standardised approach (‘STD’)

  

In relation to credit risk, a method for calculating credit risk capital requirements using External Credit Assessment Institutions (‘ECAI’) ratings and supervisory risk weights. In relation to operational risk, a method of calculating the operational capital requirement by the application of a supervisory defined percentage charge to the gross income of eight specified business lines.

Stressed VaR

  

A market risk measure based on potential market movements for a continuous one-year period of stress for a trading portfolio

Structured finance/notes

  

An instrument whose return is linked to the level of a specified index or the level of a specified asset. The return on a structured note can be linked to equities, interest rates, foreign exchange, commodities or credit. Structured notes may or may not offer full or partial capital protection in the event of a decline in the underlying index or asset.

Student loan-related assets

  

Securities with collateral relating to student loans.

Subordinated liabilities

  

Liabilities which rank after the claims of other creditors of the issuer in the event of insolvency or liquidation.

Sub-prime

  

A US description for customers with high credit risk, for example those who have limited credit histories, modest incomes, high debt-to-income ratios, high loan-to-value ratios (for real estate secured products) or have experienced credit problems caused by occasional delinquencies, prior charge-offs, bankruptcy or other credit-related problems.

Sustainability risk

  

The risk that the environmental and social effects of providing financial services outweigh the economic benefits.

Sustainable cost savings

  

Permanent cost reductions at a given level of business activity. Sustainable cost savings exclude cost avoidance and revenue and loan impairment charge benefits as these do not represent operational expense reductions. Cost savings resulting from business disposals are not classified as sustainable.

 

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Term

 

  

Definition

 

Systemic Risk Buffer (‘SRB’)

  

A capital buffer prescribed in the EU under CRD IV, to address risks in the financial sector as a whole, or one or more sub-sectors, to be deployed as necessary by each EU member state with a view to mitigate structural macro-prudential risk. In the UK this was transposed in January 2015 and is to be applied to ring-fenced banks and building societies over a certain threshold.

Systems risk

  

The risk of failure or other deficiency in the automated platforms that support the Group’s daily execution and the systems infrastructure on which they reside, including data centres, networks and distributed computers.

T

    

Tier 1 capital

  

A component of regulatory capital, comprising common equity tier 1 and additional tier 1. Additional tier 1 capital includes eligible non-common equity capital securities and any related share premium.

 

Under Basel II, Tier 1 capital comprises of core tier 1 and other tier 1 capital. Other tier 1 capital includes qualifying capital instruments such as non-cumulative perpetual preference shares and hybrid capital securities.

Tier 2 capital

  

A component of regulatory capital, comprising eligible capital securities and any related share premium.

 

Under Basel II, Tier 2 capital comprises of qualifying subordinated loan capital, related non-controlling interests, allowable collective impairment allowances and unrealised gains arising on the fair valuation of equity instruments held as available-for-sale. Tier 2 capital also includes reserves arising from the revaluation of properties.

Total Loss Absorbing Capacity (‘TLAC’)

  

A proposal by the FSB and not yet finalised for global systemically important banks to have a sufficient amount of specific types of liabilities which can be used to absorb losses and recapitalise a bank in resolution. These proposals are intended to facilitate an orderly resolution that minimises any impact on financial stability, ensures the continuity of critical functions, and avoids exposing taxpayers to loss.

Trading portfolios

  

Positions arising from market-making and warehousing of customer-derived positions.

Trading risk

  

Market risk arising from trading portfolios.

Troubled debt restructuring

  

A US description for restructuring a debt whereby the creditor for economic or legal reasons related to a debtor’s financial difficulties grants a concession to the debtor that it would not otherwise consider.

U

    

Unencumbered assets

  

Assets on our balance sheet which have not been pledged as collateral against an existing liability.

Unfunded exposures

  

An exposure where the notional amount of a contract has not been exchanged.

Up-shock

  

See down-shock.

US government agency and US government sponsored enterprises mortgage-related assets

  

Securities that are guaranteed by US government agencies such as Ginnie Mae, or by US government sponsored entities including Fannie Mae and Freddie Mac.

V

    

Value-at-risk (‘VaR’)

  

A measure of the loss that could occur on risk positions as a result of adverse movements in market risk factors (e.g. rates, prices, volatilities) over a specified time horizon and to a given level of confidence.

W

    

Wholesale loans

  

Money lent to sovereign borrowers, banks, non-bank financial institutions and corporate entities.

Write-down/write-off

  

When a financial asset is written down or written off, a customer balance is partially or fully removed, respectively, from the balance sheet. Loans (and related impairment allowance accounts) are normally written off, either partially or in full, when there is no realistic prospect of recovery. Where loans are secured, this is generally after receipt of any proceeds from the realisation of security. In circumstances where the net realisable value of any collateral has been determined and there is no reasonable expectation of further recovery, write-off may be earlier.

Wrong-way risk

  

An adverse correlation between the counterparty’s PD and the mark-to-market value of the underlying transaction.

 

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Index

 

A
Abbreviations 466

Accounting

developments (future) 345

estimates and judgements 349, 366, 378, 403, 407, 420

policies (critical) 62

policies 345, 354, 355, 357, 359, 365, 371, 377, 378, 392, 394, 398, 399, 402, 403, 407, 410, 413, 416, 417, 418, 419, 420, 434, 437, 440, 441, 442, 443, 445

Accounts

approval 457

basis of preparation 63, 345

consolidation and related disclosures 348

presentation of information 347

Accruals, deferred income and other liabilities 418
Acquisitions and disposals 41, 105v, 241, 244, 260
Actuarial assumptions 363
Adjusted performance 29, 40, 105u
Advances to core funding ratio 165, 169, 216
Ageing analysis 136
American Depository Shares 465a
Annual General Meeting 293, 459
Anniversary (150th) 6,8
Anti-money laundering and sanctions 110m, 450
Areas of special interest 124

Asia 84

adjusted performance 87

adjusted/reported reconciliation 105l

balance sheet data 89, 375

certificates of deposit 61a

collateral 147

constant currency/reported reconciliation 158

country business highlights 86

customer accounts 60o, 82

deposits by banks 60n

economic background 84, 88a

financial overview 85, 88a

impaired loans 137

lending 131, 132, 160

loan impairment charges/allowances 141, 142

mortgage loans 156

operating expenses 88

personal lending 151

principal operations 84

profit 84, 89, 374

profit/(loss) by country 85, 86

renegotiated loans 139, 140

reported/constant currency reconciliation 105an

reported/underlying/adjusted reconciliation 105ao

reverse repos 151

risk-weighted assets 240

staff numbers 84

wholesale lending 144, 145

Asset-backed securities 214

Assets

average balance sheet 46

by country 376

by geographical region 78, 82, 89, 94, 99, 104, 375

by global business 63, 82, 89, 94, 99, 104

charged as security 401

constant currency/reported reconciliation 59

customer accounts 61

deferred tax 331, 365, 366, 367, 368

distribution 60g

encumbered/unencumbered 171, 220, 472

financial accounting/regulatory reconciliation 249

five years 57

held for sale 349, 352, 416

held in custody and under administration 106

intangible 407, 410, 413

interest earning 60c

liquid assets of principal operating entities 166

maturity analysis 426

movement in 2014 58

other 416

risk-weighted 31, 62, 63, 78, 239-244, 476

total 30, 57, 59, 76, 82, 89, 94, 99, 104, 337, 341, 427

trading 377

transferred (accounting policy) 402

Associates and joint ventures 403

accounting policy 403

Bank of Communications 404

contingent liabilities 442

critical accounting estimates and judgements 403

interests in 332, 406

reported/adjusted reconciliation 44

share of profit in 30, 55, 56g

transactions with other related parties 456

Auditor

arrangements 279

remuneration 364

report 329

B
Back-testing 177, 224, 470

Balance sheet

average 46, 60a

consolidated 57, 337

constant currency/reported reconciliation 59

data 57, 76, 82, 89, 94, 99, 104

HSBC Holdings 341

insurance manufacturing subsidiaries 191

linkages 179

movement in 2014 30, 58

regulatory 248

Balance Sheet Management 181, 227
Bancassurance 190
Banking standards 5
Basel 31, 123, 164, 218, 239, 251, 470
Behaviouralisation 181, 218, 226

Board of Directors 270

balance and independence 272

changes 6

committees 15, 276

information and support 272

meetings 271

powers 271

Brand 32
Brazilian labour claims 422
Brazilian social security claims 441
Buffers (capital) 239, 252
Business model 12
C

Capital 239

generation 245, 258

management 257

measurement and allocation 258

movement in regulatory capital in 2014 245

overview 239

ratios 31, 239, 471

regulatory 245, 247

resources 57

risks to capital 257

strength 3, 31

structure 245

Carbon dioxide emissions 38

Cash and cash equivalents 440

accounting policy 440

Cash flow

consolidated statement 338

Hedges 397

HSBC Holdings 342

notes 439

payable by contractual maturities 173

Cautionary statement regarding forward-looking statements 2
Certificates of deposit 61a
Certifying accountant (change in registrant’s) 108b
Chairman’s Committee 15, 288
Chinese translation 461
Client assets 73
Climate business 37

Collateral and credit enhancements 146, 150, 156, 171, 213

management 220

Commercial Banking 16, 17, 22, 67

adjusted/reported reconciliation 105e

 

 

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reported/constant currency reconciliation 105ad

reported/underlying/adjusted reconciliation 105ae

Commercial real estate 145
Committees (Board) 276
Communication with shareholders 298, 460
Compliance risk 115, 189
Concentration of exposure 132
Conduct & Values committee 15, 286
Conduits 443
Consent orders 120
Constant currency 41
Consumer Credit Act 422
Contents inside front cover

Contingent liabilities, contractual commitments and guarantees 441

accounting policy 441

Contractual maturity of financial liabilities 173
Contractual obligations 60l, 110o

Corporate governance 263

codes report 275

Cost efficiency ratio 3, 28, 55, 79, 84, 91, 96, 101
Counterparty credit risk 243
Country business highlights 80, 86, 92
Country distribution of outstandings 162d
Credit default swap regulatory investigation 454
Credit exposure 130, 149

Credit quality 207

classifications 207

Credit risk 129, 206, 258, 260

in 2014 129

insurance 196

management thereof 206

policies and practices 206

risk-weighted assets 240

Credit valuation adjustment 382

Critical accounting estimates and judgements 349, 366, 378, 403,

407, 420

Cross-border exposures 169
Customer accounts 30, 60e, 60j, 61, 82, 89, 94, 99, 104
Customers 16, 17, 18
Customer deposit markets 164
Customer lending and deposit (combined) 60
Customers service and satisfaction 17
D
Dealings in HSBC Holdings plc shares 299
Debit valuation adjustment 382

Debt securities in issue 60e, 418

accounting policy 418

Defined terms inside front cover

Deposits 60bn

by banks 60d, 60j

combined view 60

core 216

average balances and average rates 46

Derivatives 149, 382, 394, 422

accounting policy 394

Differences in HSBC Holdings/New York Stock Exchange corporate

governance practices 465d

Directors 270

Directors 270

appointments and re-election 271

benefits 318

biographies 264

conflicts of interest 274

emoluments 324, 364

executive 270

exit payments 318

fees 318

induction 273

interests 297, 320

loss of office 318

non-executive 270

other directorships 307

pensions 318

performance evaluation 274

relations with shareholders 274

remuneration (executive) 34, 300, 303, 311, 313

remuneration (non-executive) 306

service contracts 306

training and development 273

variable pay 303, 309, 310

Disclosure controls 108a
Disclosure philosophy 107
Disclosures pursuant to Section 13(r) of the Securities Exchange Act 110n
Disposal gains/groups 41, 105v
Disposals 440
Dispute risk 122
Diversity and inclusion 19, 291

Dividends 298, 370, 458, 465a

income 353

payout ratio 32

per share 3, 45

Donations 38
E
Earnings per share 29, 45, 371
Earnings to fixed charges ratio 61b
Economic background

Asia 84, 88a

Europe 79, 81a

Latin America 101, 103a

Middle East and North Africa 91, 93a

North America 96, 98a

Economic contribution 33
Economic plans: HSBC Bank Brazil 454

Employees

compensation and benefits 356

development 19, 291

disabled 291

diversity and inclusion 19, 291

engagement 21, 288

gender balance 20

health, welfare and safety 20, 291

highest paid 325

material risk takers 327

numbers 1, 18, 54, 79, 84, 91, 96, 101

profile of leadership 19

relations 291

remuneration policy 34, 292

reward 291

risk 112

share plans 292

sign-on and severance 327

volunteering 37

whistleblowing 20

Encumbered assets 171, 220, 472
Enforceability of judgements in the US 465a
Enhanced Disclosure Task Force 108
Enquiries (from shareholders) 460

Equity

constant currency/reported reconciliation 59

movement in 2014 59

Equity securities 179, 226

Europe 79

adjusted performance 81

adjusted/reported reconciliation 105k

balance sheet data 82, 375

certificates of deposit 61a

collateral 147

constant currency/reported reconciliation 158

country business highlights 80

customer accounts 60o, 61

deposits by banks 60n

economic background 79, 81a

financial overview 79, 81a

impaired loans 137

lending 131, 132, 160

loan impairment charges/allowances 141, 142

mortgage loans 156

operating expenses 81

personal lending 151

principal operations 79

profit/(loss) 79, 82, 374

profit/(loss) by country 80

regulatory update 110m, 254

reported/constant currency reconciliation 105al

reported/underlying/adjusted reconciliation 105am

profit/(loss) by country 80

 

 

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renegotiated loans 139, 140

reverse repos 151

risk-weighted assets 240

staff numbers 79

wholesale lending 144, 145

Eurozone 126

Events after the balance sheet date 457

Executive risk 122

Exchange controls 465a

F

Fair value

accounting policy 378

adjustments 381

control framework 378

reconciliation 384

valuation bases 383

Fee income (net) 48, 56c, 353

Fiduciary risk 115, 200

Filters (six) 12

Financial assets 392

accounting policy 392, 402

designated at fair value 181

not qualifying for de-recognition 402

Financial crime compliance and regulatory compliance 124

Financial guarantee contracts 442

accounting policy 441

Financial instruments 378, 390

accounting policy (fair value) 378

accounting policy (valuation) 354

at fair value 330

credit quality 133, 207

critical accounting estimates and judgements (valuation) 378

net income from 50, 56c, 354

not at fair value 390

past due but not impaired 136

Financial investments 60, 60b,60i, 399

accounting policy 399

gains less losses from 51

Financial liabilities designated at fair value 60d, 60k, 181, 379, 417

accounting policy 417

contractual maturities 173

Financial overview 79, 85, 91, 96, 101

Financial risks (insurance) 194

Financial Services Compensation Scheme 442

Financial System Vulnerabilities Committee 15, 282

Financial statements 334

changes to presentation 346

Five-year comparison 45, 57, 157, 159

Fixed pay 39, 40, 303, 311

Footnotes 39, 109, 202, 256, 344

Forbearance 139, 208, 350

Foreclosures 208, 449

Foreign currencies/exchange

accounting policy 348

exposures 435

investigations and litigation 453

rates 57

translation differences 41

Frozen accounts 110p

Funding fair value adjustments 353

Funding sources (diversity) 168, 215

Funds transfer pricing 219

Funds under management 106

G

Gains on disposal of US branch network, US cards business and

Ping An 56d

Geographical regions 13,78

Global businesses 16, 63

Glossary of accounting terms and US equivalents 456k

Global Banking and Markets 16, 17, 22, 70, 381

adjusted/reported reconciliation 105f, 105h

reported/constant currency reconciliation 105af

reported/underlying/adjusted reconciliation 105ag

Global functions 13

Global People Survey 19

Global Private Banking 4, 16, 18, 22, 72, 124

adjusted reported reconciliation 105i

reported/constant currency reconciliation 105ah

reported/underlying /adjusted reconciliation 105ai

Glossary 470

Going concern 290, 348

Goodwill 407

accounting policy 407

critical accounting estimates and judgements 407

impairment 331

Governance 15, 27

Group Audit Committee 15, 277, 290

Group CEO

annual performance 316

biography 264

bonus scorecard 264

interests in shares 320

remuneration 313

remuneration history 319

responsibilities 270

review 7

Group Chairman

biography 264

interest in shares 320

letter 263

responsibilities 270

statement 4

Group Chief Risk Officer

annual performance 317

biography 267

bonus scorecard 323

interests in shares 320

remuneration 311, 313

Group Company Secretary

biography 268

role 272

Group Finance Director

annual performance 317

biography 267

bonus scorecard 323

interests in shares 320

remuneration 311, 313

Group Management Board 15, 276

Group Remuneration Committee 15, 284, 300, 307

Group Risk Committee 15, 280, 290

Growth priorities 66, 68, 71, 74

Guarantees 442

H

Health and safety 291

Held for sale assets 349, 352

accounting policy 416

Highlights 3

History and development of HSBC 465d

Home markets 12, 105p, 105q

Hong Kong regulation and supervision 110g

HSBC Finance

foreclosures 153

loan modifications 154

reported/underlying/adjusted reconciliation 105ac

HSBC Holdings plc

balance sheet 341

cash flow 174, 221, 342

credit risk 161

deferred tax 370

Directors’ emoluments 364

dividends 370

employee compensation 364

financial assets and liabilities 389

financial instruments not at fair value 392

foreign exchange VaR 183

liquidity and funding 174

market risk 183

maturity analysis of assets and liabilities 432

net income from financial instruments 354

operating model 13

related parties 457

repricing gap maturities 185

share capital 439

statement of changes in equity 343

structural foreign exchange exposures 435

subordinated liabilities 425

 

 

HSBC HOLDINGS PLC

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Shareholder Information (continued)

 

 

Human rights 38

I

Impairment

accounting policy 350

allowances 142, 159

assessment 212

available-for-sale financial assets 352

charges 29, 53, 56e, 141, 159

constant currency/reported reconciliation 158

critical accounting estimates and judgements 349

goodwill 407

impaired loans 137, 162a, 329

methodologies 213

movement by industry and geographical region 142

reported/adjusted reconciliation 44

Income statement (consolidated) 45, 56a, 335

Information on HSBC (availability thereof) 461

Insurance 190

accounting policy 354, 355

asset and liability matching 191

balance sheet of manufacturing subsidiaries 193

bancassurance model 190

claims incurred (net) and movements in liabilities to policyholders 53, 56e, 355

in 2014 191

net earned premiums 51, 56d

premium income 354

PVIF business 52

reinsurers’ share of liabilities 197

risk 116, 117, 194, 198

Intangible assets 410

accounting policy 410

movements 413

Interest income/expense (net) 46, 56b, 60a, 60h, 353

accounting policy 354

average balance sheet 46, 60a

margin 60g

sensitivities 181, 184

Interest rate derivatives 422

Interim management statements 459

Interim results 459

Internal control 288

Internet crime 123

IFRSs and Hong Kong Financial Reporting Standards comparison 345

Investment criteria 12

Investment properties 416

Investor relations 461

Iranian banks 110o

J

Joint ventures 403, 406, 456

K

Key management personnel 455

Key performance indicators 29, 30, 31, 32

L

Latin America 101

adjusted performance 102

adjusted/reported reconciliation 105o

balance sheet data 104, 375

certificates of deposit 61a

collateral 147

constant currency/reported reconciliation 158

country business highlights 102

customer accounts 60o, 61

deposits by banks 60n

economic background 101, 103a

financial overview 101, 103a

impaired loans 137

lending 131, 132, 160

loan impairment charges/allowances 141, 142

mortgage loans 156

operating expenses 103

personal lending 151

principal operations 101

profit 101, 104, 374

profit/(loss) by country 102

renegotiated loans 139, 140

reported/constant currency reconciliation 105at

reported/underlying/adjusted reconciliation 105au

reverse repos 151

risk-weighted assets 240

staff numbers 101

wholesale lending 144, 145

Lease commitments 442

accounting policy 442

Legacy credit 105g

Legal

proceedings and regulatory matters 330, 446

risk 229

Lending – combined view 60

Leveraged finance transactions 383, 474

Leverage ratio 251, 255, 261

Liabilities

average balance sheet 46

by geographical region 375

constant currency/reported reconciliation 59

deferred tax 367

financial accounting/regulatory reconciliations 249

five years 57

interest bearing 60f

maturity analysis 426

movement in 2014 58

of disposal groups 418

other 418

retirement benefits 359

subordinated 423, 476

total 57, 59, 337, 341, 427

trading 417

under insurance contracts 28, 419

Libor, Euribor and other rates investigations 452

Liquidity and funding 163, 215

assets 166

behaviouralisation 218

description 164

funds transfer pricing 219

in 2014 164

insurance 197

management of risk 114, 165

net contractual cash flows 166

policies and procedures 215

primary sources of funding 168

regulation 164

Loans and advances

accounting policy 349

by country 160

by geographical region 131

by industry over 5 years 157

collateral 146, 150, 156, 171, 213

concentration of exposure 132

credit quality of 133

delinquency in the US 153

impairment 137, 141

maturity and interest sensitivity analysis 60m

past due but not impaired 136

renegotiated 138

to banks 60a, 60h, 291

to customers 30, 60b, 60h, 132

write-off 212

Loans Management Unit 213

M

Madoff 447

Management’s assessment of internal controls over financial reporting

108a

Market capitalisation 1, 33

Market risk 114, 175, 221, 259

balance sheet linkages 179

description 176

governance 222

in 2014 176

insurance 194

measures 223

risk-weighting assets 244

sensitivity analysis 181

Material risk takers 300, 327

Maturity analysis of assets and liabilities 426

 

 

HSBC HOLDINGS PLC

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Table of Contents

Shareholder Information (continued)

 

 

Maximum exposure to credit risk 130

Memorandum and Articles of Association 465c

Middle East and North Africa 91

adjusted performance 92

adjusted/reported reconciliation 105m

balance sheet data 94, 375

certificates of deposit 61a

collateral 147

constant currency/reported reconciliation 158

country business highlights 92

customer accounts 60o, 61

deposits by banks 60n

economic background 91, 93a

financial overview 91, 93a

impaired loans 137

lending 131, 132, 160

loan impairment charges/allowances 141, 142

mortgage loans 156

operating expenses 93

personal lending 151

principal operations 91

profit 91, 94, 374

profit/(loss) by country 92

renegotiated loans 139, 140

reported/constant currency reconciliation 105ap

reported/underlying/adjusted reconciliation 105aq

risk-weighted assets 240

staff numbers 91

wholesale lending 144, 145

Model risk 25, 122, 223

Monitor 27

Mortgages

lending 152

mortgage-backed securities 214, 474

US mortgage-related investigations 449

N

Nature of trading market 465b

Nomination Committee 15, 284

Non-controlling interests 436

Non-GAAP measures 40, 105s

Non-interest income 353

Non-statutory accounts 457

Non-trading portfolios 178, 221, 225

North America 96

adjusted performance 97

adjusted/reported reconciliation 105n

balance sheet data 99, 375

certificates of deposit 61a

collateral 147

constant currency/reported reconciliation 158

country business highlights 97

customer accounts 60o, 61

delinquency trends in the US 153

deposits by banks 60n

economic background 96, 98a

financial overview 96, 98a

impaired loans 137

lending 131, 132, 160

loan impairment charges/allowances 141, 142

mortgage lending 156

operating expenses 98

personal lending 151

principal operations 96

profit 96, 99, 374

profit/(loss) by country 97

renegotiated loans 139, 140

reported/constant currency reconciliation 105ar

reported/underlying/adjusted reconciliation 105as

reverse repos 151

risk-weighted assets 240

staff numbers 96

wholesale lending 144

O

Offsetting 130, 434

accounting policy 434

Oil and gas prices 125

Operating expenses 30, 42, 54, 56f

by geographical region 81, 88, 93, 96, 103

by global business 65, 68, 71, 73, 75

reported/adjusted reconciliation 44

Operating income 52, 56e, 353, 375, 376

Operating profit 356

Operational risk 115, 186, 259

in 2014 187

losses/incidents 188

Ordinary shares 294

Organisation 13

Organisational structure chart 462

Other 75

adjusted/reported constant currency reconciliation 105j

reported/constant currency reconciliation 105aj

reported/underlying/adjusted reconciliation 105ak

Outlook 6

P

Paper use 37

Payment protection insurance 421

Pension plans 200, 237

accounting policy 359

defined benefit plans 183, 361

for directors 318

risk 116, 200

People risk 122

Performance 1, 5, 56b, 64

adjusted 29, 40, 65, 67, 70, 73, 75, 87, 92, 97, 102

reported 29, 64, 67, 70, 73, 75

Perpetual subordinated capital securities 370

Personal lending 151

Philanthropic and Community Investment Oversight Committee 15, 288

Pillar I, II and III 253, 258, 259, 260, 326

Ping An 77

Post-employment benefit plans 359, 456

accounting policy 359

Precious metals fix-related litigation and investigations 454

Preference shares 294, 437

Preferred securities 57

Prepayment, accrued income and other assets 416

accounting policy 416

Products and services 16, 371

Profit before tax 3, 28, 63, 76

reported/adjusted reconciliation 44

by country 80, 85, 86, 92, 97, 102

by country 80, 85, 86, 92, 97, 102

by geographical region 44, 78, 79, 82, 84, 85, 89, 94, 96, 99, 101, 102, 104

by global business 44, 64, 65, 67, 70, 72, 73, 75, 76, 82, 89, 94, 99, 104

consolidated 45

reported/constant currency reconciliation 105t

reported/underlying reconciliation 105w, 105x

Profit for the year 28, 335, 372

Property plant and equipment 107, 416

accounting policy 416

Provisions 420

accounting policy 420

critical accounting estimates and judgements 420

Purpose 1

PVIF 52, 411

R

Ratios

advances to core funding 165, 169, 216

capital 239

capital strength 3, 31

common equity tier 1 31

core tier 1 (CET 1) 471

cost efficiency 3, 28, 55, 79, 84, 91, 96, 101, 104

customer advances to deposits 30

dividend payout 32

dividends per share 3

earnings per share 29, 45, 371

earnings to fixed charges 61b

leverage 31, 251, 255, 261

return on average ordinary shareholders’ equity 3

return on average total assets 30

return on equity 44a

return on risk-weighted assets 32, 79, 84, 91, 96, 101

return on tangible equity 29, 44a

stressed coverage 165, 216

 

 

HSBC HOLDINGS PLC

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Table of Contents

Shareholder Information (continued)

 

 

Reconciliation of reported and adjusted items 44

Reconciliation of RoRWA 62

Reconciliation table 465g

Recovery and resolution 14, 110l, 255

Regulation and supervision 110b

Regulatory

balance sheet 248

capital 239, 258

capital buffers 252

CRD IV 470

developments 110k, 252

landscape 5

reconciliation to financial accounting 248

review of consumer enhancement services products 455

risk 119, 120

stress tests 125, 254, 257

structured banking reform 14, 255

systemically important banks 15, 252, 473

UK update 254

Related party transactions 455

Remuneration

adjustment, malus & clawback 306

benefits 311

bonus scorecards 323

business context 301

committee 284, 300

committee members 284, 307

Directors 73

exit factors 318

fixed pay 39, 40, 303, 311

GPSP 314

in 2014 318

in 2015/16 302, 322

letter 300

Pillar 3 remuneration policy 326

policy 35, 303, 304, 305, 306

report 307

reward strategy 34, 300

scenarios 313

single figure 311

variable pay 34, 309

Renegotiated loans 138, 154, 208

Renewable energy 37

Representations and warranties 162

Repricing gap 185

Repurchase and reverse repurchase agreements 48, 60b, 60e, 60i, 60k,

    60l, 151, 219, 398

accounting policy 398

Reputational risk 115, 199

Resolution strategy 14

Retail Banking and Wealth Management 16, 22, 64

adjusted/reported reconciliation 105b

reported/constant currency reconciliation 105aa

reported/underlying/adjusted reconciliation 105ab

principal RBWM business 63

adjusted/reported reconciliation 105c, 105d

reported/constant currency reconciliation 105ac

Revenue 29, 42

by country 81, 87, 92, 97, 102

by geographical region 81, 87, 92, 97, 102

by global business 65, 67, 70, 73, 75

Ring-fencing (UK) 14

Risk 111

appetite 25, 27, 205

banking risks 114

committee 16, 276, 280

compliance 115, 189

conduct of business 121

contingent liquidity 167

counterparty 150, 243, 261, 471

credit 114, 129, 196, 206

credit spread 178, 226

cross-currency 221

data management 123

de-peg 225

dispute 122

economic outlook 118

elements in loan portfolio 162a

eurozone 126

execution 122

factors 111a, 113

fiduciary 115, 200

financial (insurance) 116, 194

foreign exchange 183

gap risk 225

geopolitical 118

governance 111, 204

in 2014 21

information security 123

insurance operations 116, 117, 190, 198

interest rate 181, 226

internet crime 123

investigations 120

legal 229

liquidity and funding 114, 197

management 24, 112, 117, 215

market 114

model 25, 122, 223

oil and gas prices 125

operational 115

overview 21

people 122

pension 116, 200

policies and practices 204

profile 111, 117

refinance 214

regulatory 119, 120

reputational 115, 199

Russia 126

security and fraud 187, 230

stress testing 117

sustainability 116, 201

systems 231

third party 124

top and emerging 22, 111, 118

vendor 190, 231

Risk-weighted assets 31, 62, 260, 476

adjusted/reported reconciliation 62, 105c-f, 105i

by geographical region 78

by global businesses 63

developments 254

five year trend 57

movement in 2014 239-244

run-off portfolios 32

targets 257

underlying/reported reconciliation 105x, 105av

RoRWA (reconciliation of measures) 62, 79, 84

Russia 126

S

Sale and repurchase agreements 398, 476

accounting policy 398

Securities litigation 446

Securitisation

exposures 161, 214, 445

litigation 449

Security and fraud risk 187, 230

Segmental analysis 371

accounting policy 371

Senior management

biographies 268

emoluments 324

Sensitivities to non-economic assumptions (insurance) 198

Share-based payments 357

accounting policy 357

Share capital 294, 437

accounting policy 437

five year trend 57

in 2014 296

notifiable interests 298

rights and obligations 294

treasury shares 297

Share information 33

Share options 321, 359

Share plans

for directors 297, 320

for employees 292, 296

Shareholder (communications with) 460

 

 

HSBC HOLDINGS PLC

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Table of Contents

Shareholder Information (continued)

 

 

numbers 1

profile 458

Short-term borrowings 60l

Short-term funds 60a, 60h

Significant items (other) 42, 47, 49, 51, 52, 54, 105y, 105z

Sources of funds 168

Standards (Global) 26, 27

Statement of changes in equity 339

Statement of comprehensive income 336

Stock symbols 461

Strategy 1, 11, 26, 64, 67, 70, 72

Streamlining 27

Stress testing 117, 125, 216, 224

Stressed coverage ratios 165, 216

Structural banking reform 14, 255

Structural foreign exchange exposure 181, 226, 435

Structured entities 415, 443, 476

accounting policy 443

Subordinated loan capital 57

Subsidiaries 413, 440

accounting policy 413

Sustainable savings 32

Sustainability 9, 36

committee 286

risk 116, 201

Systemically important banks 15, 255, 473

Systems risk 231, 477

T

Targets 32

Tax 365

accounting policy 365

collected for government 33

critical accounting estimates and judgements 366

deferred tax 331, 365, 366, 367, 368

expense 56, 56g

of shares and dividends 463

paid 33

paid by region and country 106

reconciliation 366

tax and broker-dealer investigations 451

Three lines of defence 112, 186

Tier 1 capital 258, 425, 438, 477

Total loss absorbing capacity 256

Total shareholder return 33, 319

Trading assets 377

accounting policy 377

Trading income (net) 49, 56c, 353

Trading liabilities 417

accounting policy 417

Trading portfolios 176, 221, 225

Troubled debt restructurings 162b

U

Underlying performance 105u

Unobservable inputs 386

US Executive Orders 110p

US regulation and supervision 110g

V

Value at risk 176, 178, 223

Value creation 9

Values (HSBC) 10, 19

Vendor risk management 231

Volunteering 37

W

Whistleblowing 20, 287

Wholesale funding 169, 218

Wholesale lending 144

 

 

HSBC HOLDINGS PLC

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Table of Contents

HSBC HOLDINGS PLC

Incorporated in England on 1 January 1959 with limited

liability under the UK Companies Act

Registered in England: number 617987

REGISTERED OFFICE AND GROUP HEAD OFFICE

8 Canada Square

London E14 5HQ

United Kingdom

Telephone: 44 020 7991 8888

Facsimile: 44 020 7992 4880

Web: www.hsbc.com

REGISTRARS

Principal Register

Computershare Investor Services PLC

The Pavilions

Bridgwater Road

Bristol BS99 6ZZ

United Kingdom

Telephone: 44 0870 702 0137

Email: via website

Web: www.investorcentre.co.uk/contactus

Hong Kong Overseas Branch Register

Computershare Hong Kong Investor Services Limited

Rooms 1712-1716, 17th floor

Hopewell Centre

183 Queen’s Road East

Hong Kong

Telephone: 852 2862 8555

Email: hsbc.ecom@computershare.com.hk

Web: www.computershare.com/hk/investors

Bermuda Overseas Branch Register

Investor Relations Team

HSBC Bank Bermuda Limited

6 Front Street

Hamilton HM11

Bermuda

Telephone: 1 441 299 6737

Email: hbbm.shareholder.services@hsbc.bm

Web: www.computershare.com/investor/bm

ADR Depositary

The Bank of New York Mellon

Depositary Receipts

PO Box 43006

Providence, RI 02940-3006

USA

Telephone (US): 1 877 283 5786

Telephone (International): 1 201 680 6825

Email: shrrelations@bnymellon.com

Web: www.bnymellon.com/shareowner

Paying Agent (France)

HSBC France

103 avenue des Champs Elysées

75419 Paris Cedex 08

France

Telephone: 33 1 40 70 22 56

Email: ost-agence-des-titres-hsbc-reims.hbfr-do@hsbc.fr

Web: www.hsbc.fr

STOCKBROKERS

Goldman Sachs International

Peterborough Court

133 Fleet Street

London EC4A 2BB

United Kingdom

Credit Suisse Securities (Europe) Limited

1 Cabot Square

London E14 4QT

United Kingdom

HSBC Bank plc

8 Canada Square

London E14 5HQ

United Kingdom

 

 

HSBC HOLDINGS PLC

485


Table of Contents

 

 

© Copyright HSBC Holdings plc 2015

 

All rights reserved

 

No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of HSBC Holdings plc.

 

Published by Group Finance, HSBC Holdings plc, London

 

Cover designed by Black Sun Plc, London; text pages designed by Black Sun Plc and Group Finance, HSBC Holdings plc, London

 

Printed by DG3 Group (Holdings) Limited, London

 

Photography

Cover: (top) HSBC Archives; (bottom) Matthew Mawson

 

Group Chairman and Group Chief Executive

by George Brooks

 


Table of Contents

Item 19. Exhibits

Documents files as exhibits to this Form 20-F:

 

Exhibit
Number
   Description
1.1    Memorandum and Articles of Association of HSBC Holdings plc (incorporated by reference to Exhibit 1.1 to HSBC Holdings plc’s Form 20-F filed with the Securities and Exchange Commission on March 8, 2011).
2.1    The total amount of long-term debt securities of HSBC Holdings plc authorized under any instrument does not exceed 10 percent of the total assets of the Group on a consolidated basis. HSBC Holdings plc hereby agrees to furnish to the Commission, upon its request, a copy of any instrument defining the rights of holders of long-term debt of HSBC Holdings plc or of its subsidiaries for which consolidated or unconsolidated financial statements are required to be filed.
4.1    Service Agreement dated December 9, 2010 between HSBC Holdings plc and Marc Moses, as amended by a letter agreement dated November 1, 2013 by HSBC Holdings plc (incorporated by reference to Exhibit 4.1 to HSBC Holdings plc’s Form 20-F filed with the Securities and Exchange Commission on February 28, 2014).
4.2    Deferred Prosecution Agreement dated December 11, 2012, between HSBC Holdings plc, HSBC Bank USA, N.A., HSBC North America Holdings, Inc., the United States Department of Justice, the United States Attorney’s Office for the Eastern District of New York and the United States Attorney’s Office for the Northern District of West Virginia (incorporated by reference to Exhibit 99.1 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on December 12, 2012).
4.3    Consent to the Assessment of a Civil Money Penalty dated December 11, 2012, of the United States Department of Treasury Financial Crimes Enforcement Network in the Matter of HSBC Bank USA, N.A. (incorporated by reference to Exhibit 99.2 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on December 12, 2012).
4.4    Undertaking by HSBC Holdings plc to the Financial Services Authority (incorporated by reference to Exhibit 99.3 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on December 12, 2012), as replaced by the Direction by the Financial Conduct Authority to HSBC Holdings plc (incorporated by reference to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on April 12, 2013).
4.5    Cease and Desist Order issued by the Board of Governors of the United States Federal Reserve System in the Matter of HSBC Holdings plc (incorporated by reference to Exhibit 99.5 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on December 12, 2012).
4.6    Order of Assessment of a Civil Money Penalty Issued Upon Consent Issued by the Board of Governors of the U.S. Federal Reserve System in the Matter of HSBC Holdings plc and HSBC North America Holdings, Inc. (incorporated by reference to Exhibit 99.6 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on December 12, 2012).


Table of Contents
4.7 Settlement Agreement between HSBC Holdings plc, and the United States Department of the Treasury’s Office of Foreign Assets Control (incorporated by reference to Exhibit 99.7 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on December 12, 2012).
4.8 Consent Order dated December 11, 2012, of the Comptroller of the Currency of the United States in the Matter of HSBC Bank USA, N.A. (incorporated by reference to Exhibit 99.8 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on December 12, 2012).
4.9 Consent Order for the Assessment of a Civil Money Penalty dated December 11, 2012, of the Comptroller of the Currency of the United States in the Matter of HSBC Bank USA, N.A. (incorporated by reference to Exhibit 99.9 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on December 12, 2012).
4.10 Agreement by and between HSBC Bank USA, N.A. McLean, Virginia and the Office of the Comptroller of the Currency dated December 11, 2012 (incorporated by reference to Exhibit 99.10 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on December 12, 2012).
4.11 Final Notice from the Financial Conduct Authority to HSBC Bank plc dated November 11, 2014 (incorporated by reference to Exhibit 99.1 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on November 13, 2014).
4.12 Order Instituting Proceedings Pursuant to Sections 6(c)(4)(A) and 6(d) of the Commodity Exchange Act, Making Findings, and Imposing Remedial Sanctions dated 11 November 2014 of the CFTC in the Matter of HSBC Bank plc (incorporated by reference to Exhibit 99.2 to HSBC Holdings plc’s Form 6-K filed with the Securities and Exchange Commission on November 13, 2014).
7.1 Computation of ratios of earnings to combined fixed charges (and preference share dividends).
8.1 Subsidiaries of HSBC Holdings plc (set forth in Note 22 to the consolidated financial statements included in this Form 20-F).
12.1 Certificate of HSBC Holdings plc’s Group Chief Executive pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
12.2 Certificate of HSBC Holdings plc’s Group Finance Director pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
13.1 Annual Certification of HSBC Holdings plc’s Group Chief Executive and Group Finance Director pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
15.1 Consent of KPMG Audit Plc.
15.2 Pages of HSBC Holdings plc’s 2000 Form 20-F/A dated February 26, 2001 relating to the Memorandum and Articles of Association of HSBC Holdings plc (incorporated by reference to Exhibit 14.2 to HSBC Holdings plc’s Form 20-F filed with the Securities and Exchange Commission on March 20, 2006).
15.3 Pages of HSBC Holdings plc’s 2001 Form 20-F dated March 13, 2002 relating to the Memorandum and Articles of Association of HSBC Holdings plc (incorporated by reference to Exhibit 14.3 to HSBC Holdings plc’s Form 20-F filed with the Securities and Exchange Commission on March 20, 2006).
15.4 Consent of C G Singer.
15.5 Letter from KPMG Audit Plc, dated February 26, 2015.


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SIGNATURES

The registrant hereby certifies that it meets all of the requirements for filing on Form 20-F and that it has duly caused and authorized the undersigned to sign this annual report on its behalf.

 

HSBC Holdings plc
By: /s/ Iain J Mackay
Name: Iain J Mackay
Title:   Group Finance Director

Dated: 26 February 2015