HSBC 2005 Annual Report Download - page 102

HSBC HOLDINGS PLC
Financial Review (continued)
100
Incurred but not yet identified impairment
Individually assessed loans for which no evidence of
loss has been identified are grouped together
according to their credit risk characteristics for the
purpose of calculating an estimated collective loss.
This arises from impairment at the balance sheet date
which will only be individually identified in the
future.
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 experienced judgement as to
whether current economic and credit conditions
are such that the actual level of inherent losses 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 local management for
each identified portfolio.
Homogeneous groups of loans
For homogeneous groups of loans that are not
considered individually significant, two alternative
methods are used to calculate allowances on a
portfolio basis:
• When appropriate empirical information is
available, HSBC utilises roll-rate methodology.
This methodology employs a statistical analysis
of historical trends of the probability of default
and the amount of consequential loss, assessed
at each time period for which the customer’s
contractual payments are overdue. The
estimated loss is the difference between the
present value of expected future cash flows,
discounted at the original effective interest rate
of the portfolio, and the carrying amount of the
portfolio. Other historical data and 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.
• In other cases, when the portfolio size is small
or when information is insufficient or not
reliable enough to adopt a roll-rate
methodology, HSBC adopts a formulaic
approach which allocates progressively higher
percentage loss rates in line with the period of
time for which a customer’s loan is overdue.
Loss rates are calculated from the discounted
expected future cash flows from a portfolio.
Roll rates, loss rates and the expected timing of
future recoveries are regularly benchmarked against
actual outcomes to ensure they remain appropriate.
The portfolio approach is applied to accounts in
the following portfolios:
• low value, homogeneous small business
accounts in certain jurisdictions;
• residential mortgages less than 90 days overdue;
• credit cards and other unsecured consumer
lending products; and
• motor vehicle financing.
These portfolio allowances are generally
reassessed monthly and charges for new allowances,
or reversals of existing allowances, are calculated for
each separately identified portfolio.
Loan write-offs
Loans (and the related impairment allowance
accounts) are normally written off, either partially or
in full, when there is no realistic prospect of
recovery of these amounts and, for collateralised
loans, when the proceeds from realising the security
have been received.
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 reversal is recognised in
the income statement.
Assets acquired in exchange for loans
Non-financial assets acquired in exchange for loans
in order to achieve an orderly realisation are
recorded as assets held for sale and reported in
‘Other assets’. 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 provided in respect of assets held for sale. Any
subsequent write-down of the acquired asset to fair