HSBC 2011 Annual Report Download - page 298

HSBC HOLDINGS PLC
Notes on the Financial Statements (continued)
2 – Summary of significant accounting policies
296
and currency rates. When such evidence exists, HSBC recognises a trading gain or loss on inception of the
financial instrument, being the difference between the transaction price and the fair value. When unobservable
market data have a significant impact on the valuation of financial instruments, the entire initial difference in
fair value from the transaction price as indicated by the valuation model, is not recognised immediately in the
income statement. Instead, it is recognised over the life of the transaction on an appropriate basis, when the
inputs become observable, the transaction matures or is closed out, or when HSBC enters into an offsetting
transaction.
Subsequent to initial recognition, the fair values of financial instruments measured at fair value are measured in
accordance with HSBC’s valuation methodologies, which are described in Notes 16 and 17.
(e) Reclassification of financial assets
Non-derivative financial assets (other than those designated at fair value through profit or loss upon initial
recognition) may be reclassified out of the fair value through profit or loss category in the following
circumstances:
− financial assets that would have met the definition of loans and receivables at initial recognition (if the
financial asset had not been required to be classified as held for trading) may be reclassified out of the fair
value through profit or loss category if there is the intention and ability to hold the financial asset for the
foreseeable future or until maturity; and
− financial assets (except financial assets that would have met the definition of loans and receivables at initial
recognition) may be reclassified out of the fair value through profit or loss category and into another
category in rare circumstances.
When a financial asset is reclassified as described in the above circumstances, the financial asset is reclassified at
its fair value on the date of reclassification. Any gain or loss already recognised in the income statement is not
reversed. The fair value of the financial asset on the date of reclassification becomes its new cost or amortised
cost, as applicable.
(f) Loans and advances to banks and customers
Loans and advances to banks and customers include loans and advances originated by HSBC which are not
classified either as held for trading or designated at fair value. Loans and advances are recognised when cash is
advanced to a borrower. They are derecognised when either the borrower repays its obligations, or the loans are
sold or written off, or substantially all the risks and rewards of ownership are transferred. They are reclassified as
held for sale when their carrying amounts are to be recovered principally through sale, they are available for sale
in their present condition and their sale is highly probable (Note 2ad). 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 any reduction for impairment or uncollectibility. Where exposures are hedged by
derivatives designated and qualifying as fair value hedges, the carrying value of the loans and advances so
hedged includes a fair value adjustment relating only to the hedged risk.
HSBC may commit to underwrite loans on fixed contractual terms for specified periods of time, where the
drawdown of the loan is contingent upon certain future events outside the control of HSBC. Where the loan
arising from the lending commitment is expected to be held for trading, the commitment to lend is recorded as
a derivative and measured at fair value through profit or loss. On drawdown, the loan is classified as held for
trading and measured at fair value through profit or loss. Where it is not HSBC’s intention to trade but hold the
loan, a provision on the loan commitment is only recorded where it is probable that HSBC will incur a loss. This
may occur, for example, where a loss of principal is probable or the interest rate charged on the loan is lower
than the cost of funding. On inception of the loan, the loan to be held is recorded at its fair value and
subsequently measured at amortised cost using the effective interest method. For certain transactions, such as
leveraged finance and syndicated lending activities, the cash advanced is not necessarily 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 (for
example, due to the rate of interest charged on the loan being below the market rate of interest), the write-down
is charged to the income statement. The write-down will be recovered over the life of the loan, through the
recognition of interest income using the effective interest method, unless the loan becomes impaired. The write-
down is recorded as a reduction to other operating income.