Capital One 2012 Annual Report Download - page 167

CAPITAL ONE FINANCIAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
The component of the allowance for credit card and other consumer loans that we collectively evaluate for
impairment is based on a statistical calculation, which is supplemented by management judgment as described
above. Because of the homogenous nature of our consumer loan portfolios, the allowance is based on the
aggregated portfolio segment evaluations. The allowance is established through a process that begins with
estimates of incurred losses in each pool based upon various statistical analyses. Loss forecast models are utilized
to estimate incurred losses and consider several portfolio indicators including, but not limited to, historical loss
experience, account seasoning, the value of collateral underlying secured loans, estimated foreclosures or
defaults based on observable trends, delinquencies, bankruptcy filings, unemployment, credit bureau scores and
general economic and business trends. Management believes these factors are relevant in estimating incurred
losses and also considers an evaluation of overall portfolio credit quality based on indicators such as changes in
our credit evaluation, underwriting and collection management policies, changes in the legal and regulatory
environment, general economic conditions and business trends and uncertainties in forecasting and modeling
techniques used in estimating our allowance. We update our consumer loss forecast models and portfolio
indicators on a quarterly basis to incorporate information reflective of the current economic environment.
The component of the allowance for commercial loans that we collectively evaluate for impairment is based on our
historical loss experience for loans with similar risk characteristics and consideration of the current credit quality of the
portfolio, which is supplemented by management judgment as described above. We apply internal risk ratings to
commercial loans, which we use to assess credit quality and derive a total loss estimate based on an
estimated probability of default (default rate) and loss given default (loss severity). We generally use the prior three-
year actual portfolio credit loss experience to develop our estimate of credit losses inherent in the portfolio as of each
balance sheet date. Management may also apply judgment to adjust the loss factors derived, taking into consideration
both quantitative and qualitative factors, including general economic conditions, specific industry and geographic
trends, portfolio concentrations, trends in internal credit quality indicators and current and past underwriting standards
that have occurred but are not yet reflected in the historical data underlying our loss estimates.
The asset-specific component of the allowance covers smaller-balance homogenous credit card and other consumer
loans whose terms have been modified in a TDR and larger balance nonperforming, non-homogenous commercial
loans. As discussed above under “Impaired Loans,” we generally measure the asset-specific component of the
allowance based on the difference between the recorded investment of individually impaired loans and the present
value of expected future cash flows. When the present value is lower than the carrying value of the loan, impairment is
recognized through the provision for credit losses. If the loan is collateral dependent, we measure impairment based
upon the fair value of the underlying collateral, which we determine based on the current fair value of the collateral less
estimated selling costs, instead of discounted cash flows. The asset-specific component of the allowance for smaller-
balance impaired loans is calculated on a pool basis using historical loss experience for the respective class of assets.
The asset-specific component of the allowance for larger-balance commercial loans is individually calculated for each
loan. Key considerations in determining the allowance include the borrower’s overall financial condition, resources
and payment history, prospects for support from financially responsible guarantors, and when applicable, the estimated
realizable value of any collateral.
We record purchased loans at fair value at acquisition. Applicable accounting guidance prohibits the carry over
or creation of valuation allowances in the initial accounting for impaired loans acquired in a transfer. Subsequent
to acquisition, decreases in expected principal cash flows of acquired loans would trigger the recognition of
impairment through our provision for credit losses. Subsequent increases in expected cash flows would first
result in a recovery of any previously recorded allowance for loan and lease losses, to the extent applicable, and
then increase the accretable yield. Write-downs on purchased impaired loans in excess of the nonaccretable
difference are charged against the allowance for loan and lease losses. See “Note 5—Loans” for information on
loan portfolios associated with acquisitions.
148