Barclays 2009 Annual Report Download - page 57

www.barclays.com/annualreport09 Barclays PLC Annual Report 2009 55
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Critical accounting estimates
The Group’s accounting policies are set out on pages 193 to 203. Certain of
these policies, as well as estimates made by management, are considered
to be important to an understanding of the Group’s financial condition
since they require management to make difficult, complex or subjective
judgements and estimates, some of which may relate to matters that are
inherently uncertain. The following accounting policies include estimates
which are particularly sensitive in terms of judgements and the extent to
which estimates are used. Other accounting policies involve significant
amounts of judgements and estimates, but the total amounts involved
are not significant to the financial statements. Management has discussed
the accounting policies and critical accounting estimates with the Board
Audit Committee.
Fair value of financial instruments
Some of the Group’s financial instruments are carried at fair value through
profit or loss, such as those held for trading, designated by management
under the fair value option and non-cash flow hedging derivatives.
Other non-derivative financial assets may be designated as available
for sale. Available for sale financial investments are initially recognised at fair
value and are subsequently held at fair value. Gains and losses arising from
changes in fair value of such assets are included as a separate component of
equity. Financial instruments entered into as trading transactions, together
with any associated hedging, are measured at fair value and the resultant
profits and losses are included in net trading income, along with interest and
dividends arising from long and short positions and funding costs relating to
trading activities. Assets and liabilities resulting from gains and losses on
financial instruments held for trading are reported gross in trading portfolio
assets and liabilities or derivative financial instruments, reduced by the
effects of netting agreements where there is an intention to settle net
with counterparties.
The fair value of a financial instrument is the amount at which the
instrument could be exchanged in a current transaction between willing
parties, other than in a forced or liquidation sale. Where a valuation model is
used to determine fair value, it makes maximum use of market inputs. The
classification of these instruments is based on the lowest level input that is
significant to the fair value measurement in its entirety.
Financial instruments with a fair value based on quoted market prices
(Level 1) include valuations which are determined by unadjusted quoted
prices for identical instruments in active markets where the quoted price
is readily available, and the price represents actual and regularly occurring
market transactions on an arm’s length basis.
Financial instruments with a fair value based on observable inputs
(Level 2), other than quoted market prices as described for Level 1, but
which are observable for the instrument, either directly or indirectly.
Financial instruments with a fair value based on significant
unobservable inputs (Level 3), include valuations which incorporate
significant inputs for the instrument that are not based on observable
market data (unobservable inputs). Unobservable inputs are those not
readily available in an active market due to market illiquidity or complexity
of the product. These inputs are generally determined based on observable
inputs of a similar nature, historic observations on the level of the input or
analytical techniques.
An analysis of financial instruments carried at fair value by valuation
hierarchy, particulars of the valuation techniques used and a sensitivity
analysis of valuations using unobservable inputs is included in Note 50.
This note also includes a discussion of the more judgemental aspects of
valuation in the period, including: credit valuation adjustments on monoline
exposures, commercial real estate loans, and private equity investments.
Allowances for loan impairment and other credit risk provisions
Allowances for loan impairment represent management’s estimate of the
losses incurred in the loan portfolios as at the balance sheet date. Changes
to the allowances for loan impairment and changes to the provisions for
undrawn contractually committed facilities and guarantees provided are
reported in the consolidated income statement as part of the impairment
charge. Provision is made for undrawn loan commitments and similar
facilities if it is probable that the facility will be drawn and result in
recognition of an asset at an amount less than the amount advanced.
Within the retail and small businesses portfolios, which comprise large
numbers of small homogeneous assets with similar risk characteristics
where credit scoring techniques are generally used, statistical techniques
are used to calculate impairment allowances on a portfolio basis, based on
historical recovery rates and assumed emergence periods. These statistical
analyses use as primary inputs the extent to which accounts in the portfolio