Business Segments

We have five distinct business segments that we utilize for management reporting and analysis purposes, which are aligned with HSBC's global business strategy: Retail Banking and Wealth Management ("RBWM"), Commercial Banking ("CMB"), Global Banking and Markets ("GB&M"), Private Banking ("PB") and a Corporate Center ("CC"). There have been no changes in the basis of our segmentation as compared with the presentation in our Annual Report on Form 10-K for the year ended December 31, 2017 ("2017 Form 10-K").

Net interest income of each segment represents the difference between actual interest earned on assets and interest incurred on liabilities of the segment, adjusted for a funding charge or credit that includes both interest rate and liquidity components. Segments are charged a cost to fund assets (e.g. customer loans) and receive a funding credit for funds provided (e.g. customer deposits) based on equivalent market rates that incorporate both repricing (interest rate risk) and tenor (liquidity) characteristics. The objective of these charges/credits is to transfer interest rate risk from the segments to one centralized unit in Balance Sheet Management, recognize term funding costs/benefits and more appropriately reflect the profitability of the segments.

Certain other revenue and operating expense amounts are also apportioned among the business segments based upon the benefits derived from this activity or the relationship of this activity to other segment activity. These inter-segment transactions are accounted for as if they were with third parties.

Our segment results are presented in accordance with HSBC Group accounting and reporting policies, which apply International Financial Reporting Standards ("IFRSs") as issued by the IASB and endorsed by the EU, and, as a result, our segment results are prepared and presented using financial information prepared on the Group Reporting Basis as operating results are monitored and reviewed, trends are evaluated and decisions about allocating resources, such as employees, are primarily made on this basis. We continue, however, to monitor capital adequacy and report to regulatory agencies on a U.S. GAAP basis.

As discussed more fully below, during 2018, we adopted new accounting guidance under the Group Reporting Basis for the requirements of IFRS 9, "Financial Instruments" ("IFRS 9"), and we also implemented a change in accounting policy under the Group Reporting Basis to classify structured notes and deposits as liabilities designated under the fair value option. There have been no additional changes in the measurement of segment profit as compared with the presentation in our 2017 Form 10-K.

A summary of significant differences between U.S. GAAP and the Group Reporting Basis as they impact our results is presented below:

Net Interest Income

Expected credit losses / loan impairment - As discussed more fully below under "Expected Credit Losses (Provision for Credit Losses)," under the Group Reporting Basis the amount of impairment relating to the discounting of future cash flows unwinds with the passage of time. There is no similar requirement under U.S. GAAP.

Loan origination - Certain loan fees and incremental direct loan origination costs, which would not have been incurred but for the origination of the loans, are deferred and amortized to earnings over the life of the loan under the Group Reporting Basis. Certain loan fees and incremental direct loan origination costs, including internal costs directly attributable to the origination of loans in addition to direct salaries, are deferred and amortized to earnings over the life of the loan under U.S. GAAP. Loan origination deferrals are more stringent under the Group Reporting Basis and generally result in lower costs being deferred than permitted under U.S. GAAP. In addition, all deferred loan origination fees, costs and loan premiums must be recognized based on the expected life of the loan under the Group Reporting Basis as part of the effective interest calculation, while under U.S. GAAP, they may be recognized on either a contractual or expected life basis.

Deposit incentives - Under the Group Reporting Basis, costs associated with cash back incentives offered on customer deposits are deferred and amortized to interest expense over the incentive period, while under U.S. GAAP, such costs are recognized immediately in operating expenses.

Other Operating Income (Total Other Revenues)

Loans held for sale - For loans transferred to held for sale subsequent to origination, the Group Reporting Basis requires these loans to be reported separately on the balance sheet when certain criteria are met which are generally more stringent than those under U.S. GAAP, but does not change the recognition and measurement criteria. Accordingly, for the Group Reporting Basis, such loans continue to be accounted for and credit losses continue to be measured in accordance with IFRS 9 (or for periods prior to 2018, IAS 39, "Financial Instruments: Recognition and Measurement" ("IAS 39")), with any gain or loss recorded at the time of sale. U.S. GAAP requires loans that meet the held for sale classification requirements be transferred to a held for sale category and subsequently be measured at the lower of amortized cost or fair value. Under U.S. GAAP, the component of the lower of amortized cost or fair value adjustment upon transfer to held for sale related to credit risk is recorded in provision for credit losses while the component related to interest rates and liquidity factors is recorded in other revenues. Changes in the lower of amortized cost or fair value after the initial transfer to held for sale are recorded in other revenues to the extent permissible.

For loans originated with the intent to sell, the Group Reporting Basis requires these loans to be classified as trading assets and recorded at their fair value, with gains and losses recorded in trading revenue. Under U.S. GAAP, such loans are classified as loans held for sale and, with the exception of certain loans accounted for under FVO accounting, are recorded at the lower of amortized cost or fair value, with changes in the lower of amortized cost or fair value adjustment recorded in other revenues to the extent permissible.

Structured notes and deposits - Beginning January 1, 2018, HSBC concluded that a change in accounting policy and presentation from trading liabilities to liabilities designated under the fair value option for structured notes and deposits under the Group Reporting Basis would be appropriate since it would better align with the presentation of similar financial instruments by peers under IFRSs and therefore provide more relevant information about the effect of these financial liabilities on reported financial position and performance. As a result, the fair value movement on structured notes and deposits attributable to our own credit spread is now being recorded in other comprehensive income (loss) under the Group Reporting Basis, consistent with U.S. GAAP as discussed further below. Prior to January 1, 2018, structured notes and deposits were classified as trading liabilities under the Group Reporting Basis and carried at fair value with changes in fair value recorded in earnings. During 2017 and 2016, total other revenues under the Group Reporting Basis in GB&M included losses of $85 million and $33 million, respectively, from the fair value movement on structured notes and deposits attributable to our own credit spread.

Under U.S. GAAP, we elected to apply fair value option accounting to these structured notes and deposits. Beginning January 1, 2017, the adoption of new accounting guidance under U.S. GAAP required the fair value movement on fair value option liabilities, including structured notes and deposits, attributable to our own credit spread to be recorded in other comprehensive income (loss). Prior to January 1, 2017, the fair value movement on fair value option liabilities, including structured notes and deposits, attributable to our own credit spread was recorded in earnings.

Low income housing tax credit investments - Under the Group Reporting Basis, the amortization of our investment balance and associated tax benefits are presented net in other operating income. Under U.S. GAAP, amortization of our investment balance and associated tax benefits are presented net in income tax expense.

Renewable energy tax credit investments - Renewable energy tax credit investments are reported as available-for-sale securities and measured at fair value under the Group Reporting Basis, with changes in fair value recognized in equity. Under U.S. GAAP, these investments are accounted for under the equity method, with the amortization of our investment balance presented in other revenues and the tax benefits obtained presented in income tax expense.

Servicing assets - Under the Group Reporting Basis, servicing assets are initially recorded on the balance sheet at cost and amortized over the projected life of the assets. Servicing assets are periodically tested for impairment with impairment adjustments charged against current earnings. Under U.S. GAAP, servicing assets are initially recorded on the balance sheet at fair value. All subsequent adjustments to fair value are reflected in other revenues. During the fourth quarter of 2016, we sold our remaining MSRs portfolio.

Expected Credit Losses (Provision for Credit Losses)

Expected credit losses / loan impairment - On January 1, 2018, we adopted new accounting guidance under the Group Reporting Basis in conjunction with HSBC's adoption of the requirements of IFRS 9 with the exception of the provisions relating to the presentation of gains and losses on financial instruments designated at fair value which were previously adopted in 2017.

Under IFRS 9, expected credit losses ("ECL") are recognized for a) financial assets measured at amortized cost, including loans, securities purchased under agreements to resell and certain debt securities; b) financial assets measured at fair value with changes in fair value recorded through other comprehensive income (loss), primarily debt securities; and c) certain loan commitments and financial guarantee contracts. Financial assets which have not experienced a significant increase in credit risk since initial recognition are considered to be in 'stage 1'; financial assets which are considered to have experienced a significant increase in credit risk are in 'stage 2'; and financial assets for which there is objective evidence of impairment so are considered to be in default or otherwise credit-impaired are in 'stage 3'. At initial recognition and for financial assets that remain in stage 1, an allowance (or provision in the case of some loan commitments and financial guarantees) is required for 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, an allowance (or provision) is required for ECL resulting from all possible default events over the expected life of the financial instrument ("lifetime ECL") and financial assets are moved to stage 2 or stage 3.

The adoption of the new accounting guidance on January 1, 2018 on our customer loan portfolio resulted in an increase to our customer loan allowance for ECL of approximately $60 million with a corresponding charge to equity under the Group Reporting Basis. The impact of adoption on the allowance for other financial assets was not significant. Prior to 2018, impairment under the Group Reporting Basis was measured in accordance with IAS 39 and recognized when there was objective evidence of impairment.

Under U.S. GAAP, we maintain an allowance for credit losses that reflects our estimate of probable incurred losses in the existing loan portfolio. For commercial loans collectively evaluated for impairment, we utilize a loss emergence period greater than 12 months for calculating the allowance for credit losses under U.S. GAAP, while under the Group Reporting Basis, a loss emergence period is not applicable under IFRS 9. Under IFRS 9, a majority of our commercial loans are considered to be in stage 1 and a 12-month ECL is recorded for these loans under the Group Reporting Basis. As a result of the different approaches, the allowance for credit losses for commercial loans is currently higher under U.S. GAAP than under the Group Reporting Basis. Prior to 2018, we utilized different loss emergence periods for calculating the allowance for credit losses under U.S. GAAP and the Group Reporting Basis. On an annual basis, we conduct reviews of our loss emergence period estimate used for U.S. GAAP reporting purposes based upon regulatory guidance and bank industry practice in the United States and, prior to 2018, we separately conducted annual reviews of the loss emergence period estimate under the Group Reporting Basis. These reviews resulted in a longer emergence period under U.S. GAAP than under the Group Reporting Basis and, therefore, the allowance for credit losses for commercial loans collectively evaluated for impairment was higher under U.S. GAAP than under the Group Reporting Basis. This difference in loss emergence period was primarily attributable to the different approaches used for U.S. GAAP and the Group Reporting Basis. We determined that, based on the judgment involved and the practice which had evolved in different jurisdictions, both approaches for estimating loss emergence periods resulted in an appropriate allowance for credit losses under the reporting basis to which each was being applied.

In addition to the differences discussed above related to loss emergence period and from using an ECL approach under the Group Reporting Basis, beginning in 2018, compared with an incurred loss approach under U.S. GAAP, the Group Reporting Basis utilizes discounting for estimating credit losses on customer loans including recovery estimates. The amount of impairment relating to the discounting unwinds with the passage of time. Under U.S. GAAP, discounting is applied only to the extent loans are considered TDR Loans. Also under the Group Reporting Basis, if the fair value on secured loans previously written down increases because collateral values have improved and the improvement can be related objectively to an event occurring after recognition of the write-down, such write-down is reversed, which is not permitted under U.S. GAAP. Additionally under the Group Reporting Basis, future recoveries on charged-off loans or loans written down to fair value less cost to obtain title and sell are accrued for on a discounted basis and a recovery asset is recorded. Subsequent recoveries are recorded to earnings when received under U.S. GAAP, but are adjusted against the recovery asset under the Group Reporting Basis.

Loans held for sale - As discussed more fully above under "Other Operating Income (Total Other Revenues)," under U.S. GAAP, the credit risk component of the lower of amortized cost of fair value adjustment related to the transfer of loans to held for sale is recorded in provision for credit losses. There is no similar requirement under the Group Reporting Basis.

Operating Expenses

Property - The sale and leaseback of our 452 Fifth Avenue property, including the 1 W. 39th Street building, in 2010 resulted in the recognition of a gain under the Group Reporting Basis, while under U.S. GAAP, such gain is deferred and was being recognized over the lease term (which was ten years) due to our continuing involvement. During 2017, we extended the lease for an additional five years as well as the amortization of the deferred gain to reflect the new lease term.

Pension and other postretirement benefit costs - Pension expense under U.S. GAAP is generally higher than under the Group Reporting Basis as a result of the amortization of the amount by which actuarial losses exceeds the higher of 10 percent of the projected benefit obligation or fair value of plan assets (the corridor). In addition, under the Group Reporting Basis, pension expense is determined using a finance cost component comprising the net interest on the net defined benefit liability which does not reflect the benefit from the expectation of higher returns on plan assets. In 2018, pension expense was higher under U.S. GAAP due primarily to the impact of an immaterial out of period adjustment which increased pension expense under U.S. GAAP by $10 million in connection with pension valuation changes related to prior years. Under the Group Reporting Basis, this expense was recorded directly to retained earnings. In 2017, pension expense was higher under U.S. GAAP due primarily to the impact of HSBC North America completing a limited-time lump sum offer to former vested HSBC North America Pension Plan employees. Under the Group Reporting Basis, completion of the offer resulted in a benefit from reducing HSBC North America's net under-funded status, while under U.S. GAAP, this benefit was more than offset by expense from an acceleration of a portion of the Plan's actuarial losses which had been reflected in HSBC North America's accumulated other comprehensive income. Under the Group Reporting Basis, these actuarial losses are recorded directly to retained earnings.

Loan origination - As discussed more fully above under "Net interest income," loan origination cost deferrals are more stringent under the Group Reporting Basis and generally result in lower costs being deferred than permitted under U.S. GAAP.

Deposit incentives - As discussed more fully above under "Net interest income," incentive costs on customer deposits are deferred and amortized to interest expense under the Group Reporting Basis, while under U.S. GAAP, such costs are recognized immediately in operating expenses.

Litigation expense - Under U.S. GAAP, litigation accruals are recorded when it is probable a liability has been incurred and the amount is reasonably estimable. Under the Group Reporting Basis, a present obligation and a probable outflow of economic benefits must exist for an accrual to be recorded. This may create differences in the timing of accrual recognition between the Group Reporting Basis and U.S. GAAP. Additionally, under the Group Reporting Basis, legal costs to defend litigation are accrued at the time that a liability is recorded for the related litigation, while under U.S. GAAP, these costs are recognized as services are performed.

Assets

Derivatives - Under U.S. GAAP, derivative receivables and payables with the same counterparty may be reported on a net basis in the balance sheet when there is a legally enforceable netting agreement in place. In addition, under U.S. GAAP, fair value amounts recognized for the obligation to return cash collateral received or the right to reclaim cash collateral paid are offset against the fair value of derivative instruments. Under the Group Reporting Basis, these agreements do not necessarily meet the requirements for offset, and therefore such derivative receivables and payables are presented gross on the balance sheet.

Securities transferred to held-to-maturity - During 2014, we transferred securities from available-for-sale to held-to-maturity and, as a result, AOCI under both the Group Reporting Basis and U.S. GAAP included net pretax unrealized losses related to the transferred securities which were being amortized over the remaining contractual life of each security as an adjustment of yield. As a result of adopting IFRS 9 under the Group Reporting Basis, effective January 1, 2018, the remaining unamortized net pretax unrealized losses were reclassified out of AOCI and adjusted against the carrying value of the securities held-to-maturity, while under U.S. GAAP, such unrealized losses remain in AOCI and continue to amortize as an adjustment to yield.

Unquoted equity securities - Under the Group Reporting Basis, the Visa Class B Shares were classified as available-for-sale securities and measured at fair value, with changes in fair value recognized in equity. Under U.S. GAAP, the Visa Class B Shares were measured at cost and classified in other assets. Beginning in 2016 and into 2017, we sold substantially all of our remaining Visa Class B Shares to a third party.

Loans - As discussed more fully above under "Other Operating Income (Total Other Revenues)," on a Group Reporting Basis, loans designated as held for sale at the time of origination and accrued interest are classified as trading assets. However, the accounting requirements governing when loans previously held for investment are transferred to a held for sale category are more stringent under the Group Reporting Basis than under U.S. GAAP which results in loans generally being reported as held for sale later than under U.S. GAAP.

Precious metal loans - Under U.S. GAAP, precious metals leased or loaned to customers are reclassified from trading precious metals into loans and are carried at amortized cost, while under the Group Reporting Basis, precious metals leased or loaned to customers continue to be part of the precious metal inventory recorded in other assets and are carried at fair value.

Loan allowance - As discussed more fully above under "Expected Credit Losses (Provision for Credit Losses)," beginning in 2018, we use an ECL approach for estimating credit losses under the Group Reporting Basis compared with an incurred loss approach under U.S. GAAP. In addition, for commercial loans collectively evaluated for impairment, we utilize a loss emergence period greater than 12 months for calculating the allowance for credit losses under U.S. GAAP, while under the Group Reporting Basis, a loss emergence period is no longer used beginning in 2018 under IFRS 9. Prior to 2018, we utilized different loss emergence periods for U.S. GAAP and the Group Reporting Basis.

Goodwill - The Group Reporting Basis and U.S. GAAP require goodwill to be tested for impairment at least annually, or more frequently if circumstances indicate that goodwill may be impaired. Under the Group Reporting Basis, goodwill was amortized until 2005, however goodwill was amortized under U.S. GAAP until 2002, which resulted in a lower carrying amount of goodwill under the Group Reporting Basis.

The following table summarizes the results for each segment on a Group Reporting Basis, as well as provides a reconciliation of total results under the Group Reporting Basis to U.S. GAAP consolidated totals:



	Group Reporting Basis Consolidated Amounts
	RBWM			CMB			GB&M			PB			CC			Adjustments/ Reconciling Items			Total			Group Reporting Basis Adjustments⁽²⁾			Group Reporting Basis Reclassi- fications⁽³⁾			U.S. GAAP Consolidated Totals
	(in millions)
Year Ended December 31, 2018
Net interest income	$	889		$	797		$	610		$	172		$	91		$	—		$	2,559		$	(16	)	$	(291	)	$	2,252
Other operating income	297			226			751			73			257			—			1,604			(9		)	304			1,899
Total operating income	1,186			1,023			1,361			245			348			—			4,163			(25		)	13			4,151
Expected credit losses / provision for credit losses	38			(43		)	(194		)	(4		)	4			—			(199		)	115			11			(73		)
	1,148			1,066			1,555			249			344			—			4,362			(140		)	2			4,224
Operating expenses	1,286			589			834			236			688			—			3,633			3			2			3,638
Profit (loss) before income tax expense	$	(138	)	$	477		$	721		$	13		$	(344	)	$	—		$	729		$	(143	)	$	—		$	586
Balances at end of period:
Total assets	$	19,000		$	25,047		$	73,187		$	6,797		$	79,344		$	—		$	203,375		$	(30,927	)	$	—		$	172,448
Total loans, net⁽¹⁾	16,918			23,913			18,895			5,715			1,599			—			67,040			(2,428		)	3,825			68,437
Goodwill	581			358			—			321			—			—			1,260			347			—			1,607
Total deposits⁽¹⁾	32,612			23,604			30,181			8,193			2,781			—			97,371			(2,017		)	15,601			110,955

Year Ended December 31, 2017
Net interest income	$	886		$	739		$	585		$	217		$	(40	)	$	—		$	2,387		$	(48	)	$	(66	)	$	2,273
Other operating income	526			216			617			94			274			—			1,727			200			75			2,002
Total operating income	1,412			955			1,202			311			234			—			4,114			152			9			4,275
Expected credit losses / provision for credit losses	25			(52		)	(94		)	2			—			—			(119		)	(72		)	26			(165		)
	1,387			1,007			1,296			309			234			—			4,233			224			(17		)	4,440
Operating expenses	1,185			558			881			244			465			—			3,333			75			(17		)	3,391
Profit (loss) before income tax expense	$	202		$	449		$	415		$	65		$	(231	)	$	—		$	900		$	149		$	—		$	1,049
Balances at end of period:
Total assets	$	18,707		$	23,644		$	72,734		$	8,190		$	97,038		$	—		$	220,313		$	(33,078	)	$	—		$	187,235
Total loans, net	16,685			22,444			19,125			6,405			3,556			—			68,215			(1,397		)	5,064			71,882
Goodwill	581			358			—			321			—			—			1,260			347			—			1,607
Total deposits	34,186			24,239			25,476			8,470			4,923			—			97,294			(3,261		)	24,669			118,702

Year Ended December 31, 2016
Net interest income	$	818		$	749		$	567		$	207		$	132		$	(2	)	$	2,471		$	(76	)	$	89		$	2,484
Other operating income	363			229			785			89			127			2			1,595			(104		)	(87		)	1,404
Total operating income	1,181			978			1,352			296			259			—			4,066			(180		)	2			3,888
Expected credit losses / provision for credit losses	70			50			383			—			(9		)	—			494			(78		)	(44		)	372
	1,111			928			969			296			268			—			3,572			(102		)	46			3,516
Operating expenses	1,131			591			986			232			338			—			3,278			(26		)	46			3,298
Profit (loss) before income tax expense	$	(20	)	$	337		$	(17	)	$	64		$	(70	)	$	—		$	294		$	(76	)	$	—		$	218
Balances at end of period:
Total assets	$	19,618		$	25,082		$	85,215		$	7,714		$	108,877		$	—		$	246,506		$	(45,234	)	$	29		$	201,301
Total loans, net	16,889			24,125			21,914			6,024			3,512			—			72,464			(405		)	799			72,858
Goodwill	581			358			—			325			—			—			1,264			348			—			1,612
Total deposits	32,472			22,005			22,260			11,618			6,989			—			95,344			(4,379		)	38,283			129,248

⁽¹⁾

In addition to the changes discussed above, in conjunction with HSBC's adoption of the requirements of IFRS 9 HUSI also adopted changes in presentation under the Group Reporting Basis related to affiliate loans and deposits as well as cash collateral posted and received. Beginning January 1, 2018, affiliate loans have been reclassified from other assets to loans, affiliate deposits have been reclassified from other liabilities to deposits, cash collateral posted has been reclassified from loans to other assets and cash collateral received has been reclassified from deposits to other liabilities. As a result of these changes, total loans, net and total deposits in the GB&M segment decreased $0.1 billion and increased $8.3 billion, respectively, and total loans, net and total deposits in the CC segment decreased $2.2 billion and increased $0.3 billion, respectively, at December 31, 2018.


⁽²⁾	Represents adjustments associated with differences between U.S. GAAP and the Group Reporting Basis. These adjustments, which are more fully described above, consist of the following:



	Net Interest Income			Other Revenues			Provision for Credit Losses			Operating Expenses			Profit (Loss) before Income Tax Expense			Total Assets
	(in millions)
December 31, 2018
Deposit incentives	$	9		$	—		$	—		$	20		$	(11	)	$	(10	)
Derivatives	—			—			—			—			—			(30,866		)
Expected credit losses / loan impairment	(6		)	—			118			—			(124		)	(386		)
Goodwill	—			—			—			—			—			347
Loan origination	(29		)	(3		)	—			(14		)	(18		)	45
Loans held for sale	9			6			(3		)	—			18			45
Pension and other postretirement benefit costs	—			—			—			8			(8		)	(44		)
Property	—			—			—			(8		)	8			7
Securities transferred to held-to-maturity	—			—			—			—			—			(76		)
Other	1			(12		)	—			(3		)	(8		)	11
Total adjustments	$	(16	)	$	(9	)	$	115		$	3		$	(143	)	$	(30,927	)

December 31, 2017
Derivatives	$	—		$	—		$	—		$	—		$	—		$	(32,900	)
Expected credit losses / loan impairment	(43		)	—			(72		)	—			29			(332		)
Goodwill	—			(1		)	—			—			(1		)	347
Loan origination	(19		)	—			—			(14		)	(5		)	42
Loans held for sale	9			141			—			—			150			21
Pension and other postretirement benefit costs	—			—			—			94			(94		)	(263		)
Property	—			—			—			(11		)	11			8
Structured notes and deposits	—			85			—			—			85			—
Other	5			(25		)	—			6			(26		)	(1		)
Total adjustments	$	(48	)	$	200		$	(72	)	$	75		$	149		$	(33,078	)

December 31, 2016
Derivatives	$	—		$	—		$	—		$	—		$	—		$	(44,911	)
Expected credit losses / loan impairment	(57		)	7			(58		)	1			7			(326		)
Goodwill	—			—			—			—			—			348
Loan origination	(21		)	—			—			(19		)	(2		)	35
Loans held for sale	—			(80		)	(20		)	—			(60		)	(31		)
Pension and other postretirement benefit costs	—			—			—			19			(19		)	(191		)
Property	—			—			—			(19		)	19			16
Unquoted equity securities	—			—			—			—			—			(163		)
Other	2			(31		)	—			(8		)	(21		)	(11		)
Total adjustments	$	(76	)	$	(104	)	$	(78	)	$	(26	)	$	(76	)	$	(45,234	)


⁽³⁾	Represents differences in financial statement presentation between U.S. GAAP and the Group Reporting Basis.