TD Bank 2007 Annual Report Download - page 76

TD BANK FINANCIAL GROUP ANNUAL REPORT 2007 Management’s Discussion and Analysis72
The potential effect of using reasonable possible alternative
assumptions for valuing these financial instruments would
range from a reduction in the fair value by $68 million to
an increase in the fair value by $82 million (before changes
in valuation adjustments).
ACCOUNTING FOR SECURITIZATIONS AND
VARIABLE INTEREST ENTITIES
There are two key determinations relating to accounting for
securitizations. The first key determination is in regard to bank-
originated securitized assets. A decision must be made as to
whether the securitization should be considered a sale under
GAAP. GAAP requires that specific criteria be met in order for
the Bank to have surrendered control of the assets and thus be
able to recognize a gain or loss on sale. For instance, the securi-
tized assets must be isolated from the Bank and placed beyond
the reach of the Bank and its creditors, even in the case of
bankruptcy or receivership. In determining the gain or loss on
sale, management estimates future cash flows by relying on
estimates of the amount of interest that will be collected on the
securitized assets, the yield to be paid to investors, the portion
of the securitized assets that will be prepaid before their sched-
uled maturity, expected credit losses, the cost of servicing the
assets and the rate at which to discount these expected future
cash flows. Actual cash flows may differ significantly from those
estimated by management. If actual cash flows are different
from our estimate of future cash flows then the gains or losses
on the securitization recognized in income will be adjusted.
Effective November 1, 2006, retained interests are classified as
trading securities and are carried at fair value on the Bank’s
Consolidated Balance Sheet. Note 4 to the Bank’s Consolidated
Financial Statements provides additional disclosures regarding
securitizations, including a sensitivity analysis for key assump-
tions. For 2007, there were no significant changes to the key
assumptions used in estimating the future cash flows. These
assumptions are subject to periodic review and may change due
to significant changes in the economic environment.
The second key determination is whether the VIE should
be consolidated. All of the Bank’s securitization trusts are
considered VIEs. Current GAAP requires consolidation of a
VIE only when the Bank is the primary beneficiary, and exposed
to a majority of the VIE’s expected losses or entitled to a
majority of the VIE’s expected residual returns. In addition,
if the VIE is a QSPE then the Bank does not consolidate the
VIE. Management uses judgment to estimate the expected
losses and expected residual returns in order to determine if
the Bank retains substantially all of the residual risk and rewards
of the VIE. Under current GAAP, all of the Bank-originated
assets transferred to VIEs meet the criteria for sale treatment
and non-consolidation. This accounting policy impacts Canadian
Personal and Commercial Banking, Wholesale Banking and
the Corporate segment.
VALUATION OF GOODWILL AND OTHER INTANGIBLES
Under GAAP, goodwill is not amortized, but is instead assessed
for impairment at the reporting unit level annually, and if an
event or change in circumstances indicates that the asset might
be impaired. Goodwill is assessed for impairment by determin-
ing whether the fair value of the reporting unit to which the
goodwill is associated is less than its carrying value. When the
fair value of the reporting unit is less than its carrying value, the
fair value of the goodwill in that reporting unit is compared to
its carrying value. If the fair value of goodwill is less than its
carrying value, goodwill is considered to be impaired and a
charge for impairment is recognized immediately. The fair value
of the Bank’s reporting units are determined from internally
developed valuation models that consider various factors, such
as normalized and projected earnings, price earnings multiples
and discount rates. Management uses judgment in estimating
the fair value of reporting units and imprecision in any assump-
tions and estimates used in the fair value calculations could
influence the determination of goodwill impairment and affect
the valuation of goodwill. Management believes that the
assumptions and estimates used are reasonable and support-
able in the existing environment. Where possible, fair values
generated internally are compared to market information. The
carrying values of the Bank’s reporting units are determined by
management using economic capital models to adjust net
assets and liabilities by reporting unit. These models consider
various factors, such as market risk, credit risk, and operational
risk, and are designed to produce the equity capital a reporting
unit would have if it was a stand-alone entity. The Capital
Management Committee reviews the Bank’s allocation of
economic capital to the reporting unit.
The estimated fair value of each of our groups of reporting
units was significantly greater than the carrying value, including
goodwill. On an individual groups of reporting units basis, the
estimated fair value of any of our groups of reporting units
would have to decline by more than 30% before a detailed
impairment assessment would be required.
Intangible assets that derive their value from contractual
customer relationships or that can be separated and sold, and
have a finite useful life, are amortized over their estimated
useful life. Determining the estimated useful life of these finite
life intangible assets requires an analysis of the circumstances
and management’s judgment. Finite life intangible assets are
tested for impairment whenever circumstances indicate that the
carrying value may not be recoverable. Such circumstances
would indicate potential intangible asset impairment and would
TABLE 37 FINANCIAL ASSETS AND FINANCIAL LIABILITIES CARRIED AT FAIR VALUE BY VALUATION METHODOLOGY
As at October 31, 2007
(millions of Canadian dollars) Financial assets Financial liabilities
Trading
securities
Securities
designated
as trading
under the
fair value
option
Available-
for-sale
securities Derivatives
Loans
designated
as trading
under the
fair value
option
Obligations
related to
securities
sold short Derivatives
Trading
deposits
Fair value $77,637 $2,012 $34,355 $38,918 $1,235 $24,195 $41,621 $45,348
Based on:
Published quoted market prices 48%50%38% 2% –% 53% 2% –%
Valuation techniques with significant observable
market inputs or broker-dealer quotes 51%50%62%98%100%47%97%99%
Valuation techniques with significant non-observable
market inputs 1% –% – % – % – % – % 1% 1%
Total % 100%100%100%100%100%100%100%100%